We’ve compiled many of the questions we’ve been asked surrounding SPAC Sponsorship, SPAC Mergers, and general SPAC questions into one comprehensive FAQ.
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SPAC Sponsorship
How much capital does a SPAC Sponsor need to put up?
Historically, SPAC Sponsors needed to raise an amount to serve as risk capital or “sponsor capital” equal to between 3% and 5% of the projected public capital raise for the SPAC. Of the sponsor capital, the initial underwriting fees of 2% of the SPAC and the costs of the IPO will be deducted at the closing of the IPO, and the remainder will be utilized during the duration of the SPAC as working capital for compliance and costs associated with identifying a target for the initial business combination.
Today, as the proliferation of SPACs has resulted in the SPAC market becoming more competitive and institutions demanding revised terms, we advise sponsor team to seek sponsor capital equal to up to 7% of the projected public capital raise for the SPAC, as there may be requirements to overfund the trust established for the benefit of the public investors in the SPAC and to pay for time extensions resulting from shorter SPAC duration.
Can I create and sponsor a SPAC to roll up a number of companies?
Yes, with a number of caveats. Although there have been a number of exceptions, a SPAC is best used to make a single platform business combination followed by other business combinations. Whenever multiple companies are simultaneously or nearly simultaneously acquired, the level of complexity and the difficulty of valuation increases exponentially; notwithstanding this fact, a SPAC can be used to acquire multiple companies followed by a roll up.
Do foreign sponsor investors affect the IPO raise?
The quality, domain expertise, and domain access of the team has far more impact than the nationality. While there are certainly institutional investors which have jurisdictional preferences, as a result of which individual institutions may pass on participating, the SPAC investor marketplace is experiencing extremely robust growth and team nationality should not materially affect the IPO raise provided that their investment premise is consistent with the domain expertise and access and expressed business combination target preferences.
Do you need public company experience to run a SPAC?
Yes. As the SPAC is a public entity, failure to have at least one sponsor manager with public company experience would likely materially adversely affect the ability of the sponsor team to effect the SPAC IPO.
What is the lock up period for sponsors?
All of the sponsor shares issued and outstanding prior to the date of the SPAC IPO are generally placed in escrow with a trust company or transfer agent, as escrow agent, until:
(1) with respect to 50% of the sponsor shares, the earlier of six months after the date of the consummation of the initial business combination and the date on which the closing price of the common stock equals or exceeds a predefined public closing price per share (as adjusted for share splits, share capitalizations, reorganizations and recapitalizations) for any 20 trading days within any 30-trading day period commencing after the initial business combination and
(2) with respect to the remaining 50% of the insider shares, six months after the date of the consummation of the initial business combination, or earlier, in either case, if, subsequent to the initial business combination, the SPAC consummates a liquidation, merger, share exchange or other similar transaction which results in all of our stockholders having the right to exchange their shares for cash, securities or other property.
What are the differences between the classes of shares?
Although there are several structures currently in use in the SPAC market, the only functional differences between the shares held by the sponsors and those held by the public investors are as follows:
(i) sponsor shares are subject to restrictions on resale until some period after the consummation of the initial business combination, while the public shares have no such restriction (assuming they are held by non-affiliates if the SPAC)
(ii) the shares held by the public stockholders are entitled to the benefits of the trust established with the IPO proceeds and may seek redemption in the case of the consummation of a business combination or will receive their pro rata share of the trust in the event of the liquidation of the trust, while the shares held by the sponsors are not entitled to the foregoing rights
(iii) the shares held by the sponsors must be voted in favor of a business combination, while the shares held by the public holders may be bored as determined by the holders of such sares.
How do you pick the right underwriter, lawyers, and accountants for a SPAC?
When we assist sponsors in selecting investment bankers, we look at the following factors:
- firm reputation
- industry expertise and connections with fundamental investors focusing on the industry segment focused upon by the SPAC sponsor team
- transaction size vs firm transaction size history and capability
- firm transaction pipeline
- firm history of successfully completed SPAC transactions
When we assist sponsors in selecting lawyers and accountants, we look at the following factors:
- firm reputation
- SPAC expertise
- industry expertise
- institutional acceptance
- firm transaction pipeline
Can I target companies outside of the United States?
Yes
How are the underwriters paid?
Generally, investment bankers receive a commission of 5.5% of the SPAC proceeds, of which 2.0% is paid at the closing of the SPAC IPO and 35% is paid upon consummation of the initial business combination.
How is the SPAC management team compensated?
Generally, the SPAC management team is not compensated. The sponsor, of which management is generally a part, received a 20% equity carry in the SPAC (e.g., shares equal to 25% of the shares sold in the SPAC IPO) and additional securities purchased by the sponsor in exchange for the sponsor capital.
How much does it cost to go through the SPAC IPO process?
While costs can vary, we advise sponsor teams to budget $1 million.
What is the typical makeup of a SPAC management team?
A SPAC management team requires one or more individuals with the following skill sets:
- extremely deep domain/industry knowledge and access
- public company experience
- merger and acquisition experience
Ideally, the team also includes one or more individuals with prior successful SPAC experience.
How many investors can participate in a sponsor round?
While there is no limit other than those ordinarily associated with private placements in the United States to accredited investors, the greater the number of investors, the more complicated amendments in response to market developments may be.
What happens if the management team needs more time to complete their acquisition?
Some SPACs have built in extensions, where they can invest additional capital monthly or quarterly into the trust to extend their duration. If a SPAC does not have built in extensions or must extend past their extensions, they can request that their shareholders approve their extension.
Due to the large number of SPACs seeking targets, it has become increasingly more difficult and time consuming for SPACs to complete their business combinations.
If a SPAC sponsor team is unable or reluctant to provide the capital to extend themselves, they turn to outside investors to raise this capital. This is referred to as “Extension Financing” or “SPAC Extension Financing”. Learn more about extension financing ►
How much capital does the management team themselves have to put up?
As much as possible. Institutions recognize that the more “skin in the game” a management team has, the better.
SPAC Mergers
What size does my company need to be to merge with a SPAC?
As a general rule, 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.
What steps do I need to take before approaching considering a SPAC merger?
Our SPAC M&A Handbook ► outlines these steps.
What role do the sponsor investors have once the merger is complete?
Sponsor investors are generally solely stockholders and warrant holders following the consummation of the initial business combination. Sponsor managers may be requested by the acquired company management to continue in some capacity or may become unaffiliated outside investors.
What happens if the company merging in requires more capital than is in the SPAC?
In the event that the target of the business combination requires more capital than is in the SPAC, the SPAC will often structure a PIPE (private investment in public entity) which would close simultaneously with the consummation of the business combination in order to ensure that sufficient capital is available commencing at such closing.
Can my company only merge with a SPAC that targets our industry?
No. While SPACs often focus on a single or limited number of segments, they almost universally maintain the flexibility to look at other industries and segments.
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.
ClearThink Capital offers advisory services to both Sponsor Groups or those looking to form a sponsor group, and companies seeking to merge with a SPAC.
General & SPAC Investors
What are the stages of a SPAC?
Our SPAC Sponsor Handbook ► outlines the stages of a SPAC
Why have SPACs become so popular?
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 for issuers, making them a preferred route to the public markets for many.
As a general matter, institutional investors keep undeployed cash in short-term US Treasury securities and other short-term instruments and are unable to assess fees against undeployed capital.
In the context of the SPAC, however, while the IPO investment made by institutional investors is deposited into the trust and invested by the trust into short-term US Treasury securities and other short-term instruments, the funds are deemed deployed by the institutional investor and fees can be assessed, making the SPAC a convenient vehicle to collect fees in a virtually risk-free setting.
What are the phases that SPACs go through? When it usually dips or bounces back, what are some of the major catalysts?
Many SPACs experience a decline in value between IPO and the announcement of identification of a target company for the initial business combination. Although the ability to receive redemption from the trust looms in the future, that certainty may be insufficient in the mind of investors sitting on the sidelines awaiting the announcement of the commencement of the initial business combination to maintain full value.
That being said, the value of SPAC shares pre-initial business combination would likely be discounted to reflect the perception of the public holders as to the likelihood of a successful business combination as well as by the value of the warrant included in the unit at the time of the SPAC IPO.
Generally, SPAC shares should trade better once a business combination is believed to be imminent, as the holders would, in the worst case, be close the time when they could request redemption from the trust.
What metrics or information should you look at the most when deciding which SPACs to invest in?
In our opinion, the most important factors in evaluating a SPAC would be, first and foremost, the sponsor team and their domain, M&A, and public company experience, independently and ideally together.
Additionally, a segment focus on an industry with a large number of potential, appropriately sized target companies for the initial business combination, and, assuming that the sponsor includes the SPAC management, a sponsor team which has made a material investment in the risk or sponsor capital.
As an investor, what would be the biggest red flags in SPACs?
In our opinion, the biggest red flags would be
- a sponsor team without domain/industry expertise and access in the segment on which they are focusing
- a sponsor team without M&A or public company experience
- a great limitation on the number of potential target companies for the initial business combination in the size range appropriate for the SPAC
- if the sponsor is also the management of the SPAC, management members with no “skin in the game” (e.g., that haven’t invested any sponsor capital or have raised the bulk of the sponsor capital from persons or entities with whom they have no connection)
Do you see an increasing presence of the derivative market in the SPAC investing or will it remain with a select few companies?
While we have not seen an increase generally, given the popularity (and I believe the durability) of the structure, it is a possibility. I suppose that the issue is that SPACs are, by their nature, a short-term (generally 24 months or less) and uncertain (because of the unknowns regarding the initial business combination) entity, which makes pricing highly speculative as there are few operational fundamentals on which to rely.
Do you think SPACs are only popular temporarily because of the unique situation COVID brings? For example, some companies turn to SPACs for dire need of capital. Some turn to SPACs because a new imminent opportunity arose. Are SPACs here to stay? Or will they fade away once the world returns to normalcy?
No. we believe that SPACs are popular for three reasons:
- the current US initial public offering framework is largely antiquated and in large part reflects a market that existed in 1933, which in today’s environment makes IPOs a highly expensive and risky proposition for issuers
- the investment into an IPO is perceived by hedge and other funds as a fixed income investment because of the existence of the trust holdings in essence the entirety of the IPO proceeds in short-term Treasury or similar securities
- hedge and other funds can connect fees from their investors for investing in SPACs, even when they might not be able to collect those fees if they invested in Treasury securities directly.
What are the most important factors when it comes to evaluating a SPAC, and where might one find some useful public resources for finding out more information about a SPAC that isn’t coming directly from the SPAC itself?
In our opinion, the most important factors in evaluating a SPAC would be, first and foremost, the sponsor team and their domain, M&A, and public company experience, independently and ideally together. Additionally, a segment focus on an industry with a large number of potential, appropriately sized target companies for the initial business combination, and, assuming that the sponsor includes the SPAC management, a sponsor team which has made a material investment in the risk or sponsor capital.
There are a number of sources for SPAC information and research available, although most of them do charge a fee.
With the massive amount of influx of SPACs, what makes this any different of a bubble then the ALT-coin mania happened when Bitcoin was 20k in 2017?
There is no doubt that there has been a massive amount of enthusiasm for the SPAC structure, particularly in the current cycle by hedge funds. The difference between this enthusiasm and the speculative enthusiasm of Bitcoin is the underlying value provided by the placement of the IPO proceeds into the trust.
Each public share of the SPAC is entitled at the earlier of the closing of the initial business combination or the expiration of the SPAC to receive their pro rata portion of the body of the trust (IPO purchase price plus interest at approximately the short-term Treasury rate for the duration of the trust). Bitcoin itself is not tied to an underlying body of assets providing certainty of value.
What did you think of the Muddy Waters description of the SPAC market and the bad management teams floating “hot garbage” on investors?
I do not believe the statement to be accurate. Like IPOs or any other transactions, there is a range of quality. As the SPAC market has become more crowded, institutional investors have favored quality management teams with deep domain knowledge over the less qualified teams which characterized many earlier SPACs.
With respect to the target companies, again, there is a range. Better management teams tend to be more demanding of the target companies, although given the proliferation of SPACs and the draconian consequences to the sponsor of not completing a business combination, there is only so far which a management team can push without becoming an unattractive merger candidate for quality target companies.
Given the fact that well over 100 SPACs have now entered the market roughly all at the same time in unprecedented fashion, to what extent do you think this will drive up deal values via SPAC vs. SPAC competition, thus hurting SPAC shareholders?
The proliferation of SPACs has not harmed the SPAC shareholders, but the SPAC sponsors. As sponsors have been forced to compete for hedge fund and institutional investor attention, terms have turned decidedly away from the sponsors and towards the investors: rights; over-funding of the trust, greater warrant coverage, shorter duration, etc. Deal values are relatively unrelated, other than the possibility of requirements to pay for rights on top of the $10/unit price.
Can you clearly lay out the advantages of a SPAC over an IPO for the Target company? It seems like the SPAC route only benefits companies that wouldn’t be attractive IPO candidates, and only those that are desperate or want an insanely high valuation would go with the SPAC.
The US IPO process is archaic; in fact, it is based principally on a view of the markets that existed in 1933. Accordingly, the SEC has spent the last 85+ years applying bandaids to a process that is too long, too slow, too expensive, and too risky when viewed from the perspective of all but the most highly capitalized private companies. Execution risk associated with a standard IPO is high for most private companies and the failure to close an IPO could be an existential threat to the company.
The SPAC provides a remedy: quick timeline; low risk; small/inexpensive roadshow; lower cost. Indeed, the capital is already in the trust and the capital risk is minimized with a conservatively priced transaction. The SPAC provides a welcomed accelerated and largely de-risked transaction. Large, highly capitalized companies will see fewer benefits, as the traditional IPO process does not require material expense or execution risk when viewed from their vantage point.
How much money does the management team walk away with after merger completion?
It varies dramatically based on the quality and pricing of the business combination and the relative bargaining power of the parties to the transaction.
From the point of view of the parties involved (not the general public investors), is there a reason to keep the share price from increasing too much until after the merger is completed?
Only with respect to pricing of the business combination. That being said, parties cannot ordinarily fight the conclusions of the market.
What is the process for determining target valuations?
The real answer is “it depends”. Some SPAC management teams see quality of revenue and quality of earnings data prior to determining valuation. Others do an analysis of the valuation of comparable companies based upon preset metrics as to period examined, etc.
How does a SPAC like ATCX, which had 99%+ redemptions, still manage to pull off completion of the merger? Why would a seemingly good SPAC like MNCL have 95% redemptions upon picking what seems to be a solid target?
Generally, the proxy statement/S-4 registration statement presented to stockholders requires two questions to be voted upon:
- do you approve of the transaction
- do you exercise your right of redemption. A stockholder can vote in favor of a transaction (e.g., I will not stand in your way), but not be sufficiently impressed with the transaction to remain a stockholder
The amount of cash in the at the time of business combination, giving effect to redemptions, is often a condition in the definitive merger documentation.
Several scholars and SPAC practitioners have mentioned that the cost of dilution from founder promote is born by SPAC investors alone, not the target company shareholders. Can you explain why this is (if true)? If the dilution causes the share price post-despac to decline, why does this not equally impact the SPAC shareholders who held through merger and the target shareholders.
The dilution associated with the sponsor carry affects both SPAC investors and the target company stockholders. SPAC sponsors have received their carry at a substantial discount to the IPO price.
During negotiations with a prospective target company, it is not unusual for the target company management to require the retirement or cancellation of a portion of the sponsor position, in order to ensure that the post-business combination price per share will materially exceed the value of what would be received upon redemption from the trust.
Are there any restrictions around you investing in other SPACs when you are managing one?
As a general matter no, as long as you do not become an affiliate of the SPAC in which you invested.
Are there any restrictions around you investing in other SPACs when you are managing one?
As a general matter no, as long as you do not become an affiliate of the SPAC in which you invested.
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