Wednesday, May 05, 2021

Senator Kennedy introduces bill to require SPACs to better explain sponsor compensation to investors

By Lene Powell, J.D.

As the spike in SPAC offerings continues, a new bill introduced by Sen. John Kennedy (R-La) would require the SEC to adopt specific disclosures for special purpose acquisition companies (SPACs). According to Kennedy, the risks that can come with SPACs are not clear to most everyday investors. The Sponsor Promote and Compensation (SPAC) Act would require SPACs to clearly explain risks to investors, particularly retail investors. SPACs would be required to disclose specifics about how their sponsors get paid and how the compensation affects the value of their public shares.

SPAC boom. According to the press release, half of all U.S. IPOs in 2020 involved SPAC structures. SPACs raised $82 billion last year, and have already raised $95 billion in the first three months of this year, outpacing traditional IPOs. The last week of April was the first week since December 2020 to feature no deals by blank check companies.

What is behind the SPAC frenzy? According to David Alan Miller, managing partner of Graubard Miller and co-creator of the SPAC structure, private targets have realized that SPACs are a better path to going public than traditional IPOs for many reasons, including lower cost, faster speed to market, and more reliable valuation.

But do investors understand the considerations involved in investing in SPACs? This year the SEC’s Office of Investor Education and Advocacy (OIEA) has issued both an investor bulletin providing an overview and an investor alert warning investors not to rely on celebrity endorsements as an indicator of the quality of a SPAC investment.

Explaining risks to investors. Senator Kennedy wants the SEC to go further. The Senator is concerned that investors might not fully grasp the impact of many SPAC compensation structures on the value of their shares. According to Kennedy, most SPAC sponsors award themselves "founder shares" that convert into public shares after the merger between the SPAC and a private company. When the sponsors convert the shares they receive in the merged company, the public’s shares of that company are diluted and lose value. If a SPAC sponsor chooses a weak company with which to merge, the valuation of SPAC shares may fall even further, said Kennedy.

According to Kennedy, the founder shares typically represent as much as 20 percent of the total share value of the company. To protect retail investors, some market experts have called for SPACs to make their compensation structures more explicit.

Proposed new disclosures. The bill would require the SEC to issue rules to enhance SPAC disclosure requirements. SPACs would need to disclose:
  • The amount of cash per share expected to be held by the blank check company immediately prior to the merger under various redemption scenarios;
  • Any side payments or agreements to pay sponsors, blank check company investors, or private investors in public equity for their participation in the merger, including any rights or warrants to be issued post-merger and the dilutive impact of those rights or warrants;
  • Any fees or other payments to the sponsor, underwriter, and any other party, including the dilutive impact of any warrant that remains outstanding after blank check company investors redeem shares pre-merger.