SEC Points to SPAC Crackdown with Proposed Rules

You could call it a SPAC attack.

The Securities and Exchange Commission has proposed a series of new rules for special purpose acquisition companies – better known as SPACs – and their merger targets. If enacted, the proposal would make the SPAC life far less palatable for companies seeking an entrée into the world of publicly traded companies. The same goes for the investors who fund them.

SPACs essentially serve as placeholders to park money in search of an acquisition. Their sponsors list them on stock exchanges, enabling SPACs to raise capital by selling shares to the public. Some go public intending to purchase a specific company; others just scour the marketplace looking for an acquisition. In the end, they typically merge with private companies, meaning the acquired company effectively goes public without sacrificing the time and costs involved in a traditional initial public offering.

A key feature of the proposal announced last week is an emphasis on disclosure requirements related to factors such as conflicts of interest and potential dilution if a company issues additional shares of its stock. When it comes to merging with other companies in what are known as de-SPAC transactions, companies must make additional disclosures “relating to the fairness of these transactions” to investors. Additionally, the agency is proposing that all business combinations involving reporting shell companies like SPACs qualify as securities sales to the reporting entity’s shareholders. The commission also wants to amend its guidance on projections of future performance to give investors more information to evaluate their reliability.

SEC Chair Gary Gensler hasn’t been shy about voicing his SPAC skepticism and generally views SPACs as an end run around the safeguards in the IPO process designed to keep investors from getting swindled. Meanwhile, Gensler has also noted that research suggests the embedded costs in SPACs negate the purported savings of avoiding an IPO.

“Functionally, the SPAC target IPO is being used as an alternative means to conduct an IPO,” Gensler said in an announcement regarding the proposed rules. “Thus, investors deserve the protections they receive from traditional IPOs, with respect to information asymmetries, fraud, and conflicts, and when it comes to disclosure, marketing practices, gatekeepers, and issuers.”

On the underwriter side, Citigroup Inc. is among firms that have temporarily paused new U.S. SPAC IPOs until they get more clarity on liability and other legal risks that the proposed rules might pose, people with knowledge of the matter told Bloomberg. One of the most active U.S. SPAC underwriters, Citigroup raised $31.6 billion from 146 IPOs in 2020 and 2021.

If the SEC is using the proposed rules to discourage SPAC formation, it appears as though investors are way ahead of the agency. After approximately 600 SPACs went to market in 2021 and raked in about $160 billion, the pace of offerings and fundraising has tailed off dramatically through the first quarter of 2022. The frothy value of the SPAC sector also shrank significantly during that same period.

In other words, this new line or regulatory attack on SPACs sounds like a case of fighting yesterday’s war. For the investors who lost money during the SPAC downturn, the casualties have already come.

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