SPAC Mergers
What is a Business Combination? Why do companies prefer merging with SPACs to a traditional IPO?
What is a Business Combination?
When a SPAC goes public, it has the goal of acquiring a company with specific characteristics. If the SPAC is unable to find a company that meets the characteristics, it may expand the criteria.
A SPAC merger, or Business Combination, is when a private company merges with a SPAC.
Target Company Qualifications
To be qualified as an acquisition by a SPAC, a company must meet the following criteria:
Target company management must be public market palatable, have industry/domain experience, M&A experience, and, ideally, have public company experience
Target operating company must be audited by a PCAOB Accounting Firm
In order to be attractive to SPAC investors, an initial business combination target needs to be valued no less than 3x-5x the amount of proceeds held in the trust. For example, if a company is seeking a $100 million SPAC with which to merge, the company must have at a minimum a $300 million to $500 million value.
Target company must have excellent growth prospects and be able to benefit from utilization of the SPAC’s cash
SPAC Variables
Although SPAC Capital Structure has been largely standardized, there are numerous variables to consider, such as:
- Warrant coverage
- Time period to SPAC liquidation
- Warrant repricing provisions
- Likelihood of institutional investors to seek redemption, thereby reducing cash
- Post-Business Combination role of sponsors
- Ability of SPAC IPO bankers to assist with pre-marketing proposed Business Combination
Understanding how these variables affect the transaction is one of the keys to a successful Business Combination. Learn more about how we assist companies seeking to merge with SPACs.
Business Combination Process
1
Target Company Due Diligence
Review of target company information to prepare for Business Combination
2
SPAC Identification
Preliminary efforts to identify a number of eligible SPAC candidates
3
SPAC Due Diligence
Review eligible information of SPAC candidates to understand status and idiosyncrasies
4
Definitive Agreement
SPAC management signs Definitive Merger Agreement for a Business Combination with an operating business
5
Premarketing
Prior to public filings and announcements, the proposed Business Combination is pre- marketed to larger SPAC investors for confirmation of support
6
Public Filings & Announcement
Filed with SEC disclosing terms of the merger and seeking stockholder approval, together with public announcements
7
Stockholder Meeting
Management and SPAC IPO underwriters market proposed transaction to SPAC stockholders and other investors
8
Closing or Liquidation
If closing conditions are met, Business Combination is closed. If not, SPAC liquidates and returns funds to stockholder
What is more costly, a SPAC merger or an IPO?
In terms of cash alone, an IPO is generally substantially more expensive than a SPAC merger. If the dilution associated with the sponsor position in the SPAC is counted, it is difficult to say without analyzing the facts surrounding a particular transaction.
As a general matter, for other than the largest, most highly capitalized companies, the US IPO framework is outdated and largely broken. The general IPO process is premised upon the structure and view of the public markets in 1933. For nearly 90 years, the SEC has tried to update and improve the process with numerous legal amendments, rules, and policies, but the fact remains that the US IPO process is too time consuming, too expensive, and too risky for all but the largest, most highly capitalized companies. Indeed, even in the event of a “firm commitment” underwriting, there is no firm commitment until the underwriting agreement is executed the night before, or the morning of, the IPO.
Accordingly, notwithstanding the quality and investor interest in a particular IPO, external events such as terrorist incidents, market disruptions, etc., have the potential to cause an otherwise highly anticipated transaction to be terminated, while all of the associated costs remain the liability of the issuer. These costs can become existential threats to these companies. The SPAC, with its relatively short duration to business combination closing and limited roadshow, greatly de-risks the traditional IPO process.
Why do Companies Prefer a SPAC Merger over an IPO?
When compared to a traditional IPO, SPACs have a number of distinct advantages for companies looking to go public.
- Far less risky than traditional IPO: Even in the event of a “firm commitment” underwriting, there is no firm commitment until the underwriting agreement is executed the night before, or the morning of, the IPO. Notwithstanding the quality and investor interest in a particular IPO, external events such as terrorist incidents, market disruptions, etc., have the potential to cause an otherwise highly anticipated transaction to be terminated. In the event of termination, all of the associated costs remain the liability of the issuer.These costs can become existential threats to these companies. The SPAC, with its relatively short duration to business combination closing and limited roadshow, greatly de-risks the traditional IPO process for issuers. This had made SPACs a preferred route to the public markets for many.
- Much quicker than traditional IPO: the IPO process can take as long as 24 months from start to finish. SPAC management teams have a limited period of time in which a Business Combination can be consummated. As a result, SPAC management teams are incentivized to move very quickly.
- Less costly prior to going public: throughout the preparation for a traditional IPO, a company can easily accumulate millions of dollars of costs. The amount of capital required to go through the Business Combination process is far less than is required to get through the IPO process.