It’s been two months since Securities and Exchange Commission Chairman Gary Gensler announced proposed regulatory changes to the SPAC sector, and the repercussions continue to rock the market.
Gensler’s proposal, which adopted a 3-to-1 margin, would require more disclosures from sponsors of special purpose acquisition companies related to conflicts of interest. Additional information would also be required regarding de-SPACs, including those examining the fairness of transactions. Projections of the future performance of companies going public would be better informed. The regulator also wants the financial statements of private companies in SPAC deals to more closely resemble the financial statements of the initial public offering. Private companies would have greater responsibility for deal information, while underwriters would be given additional responsibilities and obligations related to SPAC IPOs as well as business combinations on which they advise.
The comment period on the draft regulations was extended from May 31 to June 13, as the agency had received only 27 comments by June 1. The comments are notable in that retail investors object to the SEC’s idea that they should be protected in SPAC offerings. Several comments note that the agency has created an uncertain environment that continues to hurt SPAC deals and the retail investors the SEC seeks to help.
While the new rules are only proposals, SPAC market participants are anticipating the SEC’s wish list.
According to PrivateRaise, The Deal’s proprietary data service covering US-based SPAC businesses, only 14 SPACs have been made public since the March 30 SEC meeting where the proposals were unveiled. Before that, 54 SPAC IPOs had taken place.
A seasoned PSPC lawyer predicted several changes to how PSPCs will be treated and noted that such changes are already underway. He said the projections, if used, will cover shorter time periods and parties will ensure they are based on reasonable and supportable assumptions. Many more SPACs will get fairness opinions. “We see that already starting to happen.”
The attorney went on to say that most deals on his desk currently include fairness notices, but the trend of seeking such a notice won’t become public until proxies for those deals are filed with the SEC. .
Doug Ellenoff, who leads the SPAC practice at Ellenoff Grossman & Schole LLP, said the SEC’s proposals will bring the SPAC market into practices that are no different from traditional IPOs and direct listings. “The SEC’s proposed rules have accelerated this trendline,” Ellenoff said.
Gensler has long been critical of SPAC’s structure, noting that sponsors often benefit from deals whether they negotiate well after the merger or not, and that view is reflected in the committee’s proposed changes. But even before they were offered, staff began contacting SPAC sponsors whose vehicles had signed up in the first quarter of 2021 but had not yet priced an offer, asking sponsors to they still intended to go public. According to a number of SPAC attorneys, if sponsors do not immediately respond to questions, SPACs are declared abandoned. So far in 2022, the agency has declared 37 SPACs abandoned.
The SEC did not respond to a request from The Deal to speak to Gensler about how his agency approached the SPAC sector.
Some investment banks have wasted no time in deciding what they think of the changes in SEC rules. When Gensler proposed that investment banks be treated as gatekeepers, it signaled shifts in liability and liability. Currently, investment banks are not subject to investor lawsuits for deals gone wrong. The new regulations could mean that investment banks would have to do more due diligence on business combinations and the private companies that make them up. If investment banks were to receive deferred compensation for IPO work until a business combination closes, the SEC said banks would be considered part of the de-SPAC, banks with different liabilities, and investors could seek legal recourse from the banks.
Prior to 2020, banks in the bulge tranche were selective in terms of the SPAC transactions in which they participated. In 2019, Goldman, Sachs & Co. ranked seventh out of 10 in number of deals subscribed and fifth in product. Citigroup Global Markets was not ranked in the total offerings and finished seventh in terms of products.
The big banks hesitated for two reasons. IPOs were not large enough to generate the desired fees, and SPACs were seen as alternative investment vehicles that carried some reputational risk. But when Covid-19 hit the traditional IPO market, banks in the bulge tranche began to see that they were leaving a lot of money on the table.
SPACs have since become a profit center for investment banks with fees that include IPOs, capital markets advice, M&A advice and placement agent fees related to DEs -SPAC PIPE.
The March 30 proposal, however, convinced Goldman that a changing regulatory climate was enough for it to essentially get rid of the SPAC business, a representative of the The investment bank told The Deal on May 18. Credit Suisse USA Securities LLC has set up a new advisory board to weigh the bank’s degree of involvement going forward, but won’t comment publicly. BofA Securities and Citigroup have also slowed their participation in SPAC but have yet to formalize their pullback with comment.
Although JPMorgan did not announce an overall decision regarding an additional stake, JPM sent a letter to SPAC Angel Pond Holdings Corp. (POND) on May 18 stepping down as placement agent on a $122 million private equity public equity offering related to a business combination, as well as its role as a capital markets advisor.
It also avoided any future liability arising from the SEC changes, waiving payment of any deferred underwriting compensation as well as “any liability for any part of any registration statement that may be filed in connection with a possible business combination transaction”.
In the same de-SPAC, Goldman also headed for the exit, stepping back as a capital markets adviser and relinquishing underwriting fees and all registration responsibilities.
The Angel Pond deal, which would take cloud database company MariaDB Corp. AB, doesn’t appear to be making particularly aggressive use of the projections, sporting a value of $672 million, based on 14.2 times the estimated revenue of $47 million for fiscal year 2022.
A lawyer with a significant SPAC practice said the SEC’s desire to make investment bankers gatekeepers could have an unintended consequence. “You see big banks pulling out of SPACs, which means tier-two banks and smaller banks will become gatekeepers. They are second tier for a reason; they cut corners and are anxious for the company. I’m not sure that’s what the SEC had in mind.
As some investment banks pull out, law firms see the proposed changes as a boost to business. Although the pace of IPOs and transactions has slowed, companies are seeing more business as sponsors wonder how the proposed rules may affect them.
While it’s unclear whether the SEC will adopt the rule as proposed or make changes in response to the comments, the agency has received support from Capitol Hill. Sen. Elizabeth Warren, D-Mass., introduced the SPAC Accountability Act of 2022. The bill calls for policyholders to be held more accountable for de-SPAC transactions and for more disclosure throughout the SPAC process.
The proposed legislation would amend the Private Securities Litigation Reform Act of 1995 and the Securities Act of 1933 to do much the same thing, increasing the responsibilities of sponsors, boards of directors, target companies and financial institutions and advisers , essentially extending liability to anyone connected to a de-SPAC. Warren’s plan would require a lock-up period for sponsors to last until the new public company had projected revenue that was used to notify investors before the deal closed. And the proposed legislation would also require increased disclosure for de-SPAC agreements.