Space for SPACs in London?

What do the rapper Jay-Z, the former editor of Cosmopolitan, Joanna Coles, and former Trump advisor, Gary Cohn, all have in common? They have all founded SPACs, special purpose acquisition companies, the hottest new craze in US finance that London is now looking to get in on.

SPACs, also known as blank cheque companies, are companies with no commercial operations that list themselves on the stock market for the sole purpose of raising money that they then use to acquire an existing private company bringing it onto the stock exchange without the usual IPO process. Often the SPAC is created with no specific target in mind – though it is usually expected some sort of deal will be made within two years.

Now, in a report commissioned by the UK government, Lord Hill, the former EU finance commissioner, is proposing to make it more attractive to list SPACs in the UK. Currently, UK rules force SPACs to suspend their trading in shares when they announce a merger unless they can provide a full prospectus. The new report recommends that the UK adopt US rules and scrap this requirement while adopting shareholder protections such as the right to vote on the acquisition and to redeem shares before the merger if shareholders wish to exit. Another recommendation is explicitly allowing companies to provide “forward-looking information”, i.e. financial forecasts estimating future revenue when listing – a key part of SPACs’ appeal in the US. Finally, the report recommends making listing more flexible generally by lowering the free float requirement, the portion of a company’s issued share capital that is in the hands of public investors, to 15 per cent.

The move comes as the government seeks to capitalise on Brexit to shake up City regulations and ensure that London remains a leading global financial centre. However, the moves are also fuelled by worries that New York and European financial firms are moving to poach business post-Brexit. The report flatly states: “The bottom line from a competitive point of view is, however, clear: there is a real danger that the perception that the UK is not a viable location to list a SPAC is leading UK companies, notably fast-growing tech companies, to seek a US – or indeed EU – de-SPAC route for financing”.

Indeed, Amsterdam, which recently overtook London as Europe’s biggest trading centre in European equities, is now moving to promote SPAC trading. Meanwhile, New York has seen roughly 180 SPACs listed to London’s one, and promising UK tech start-ups such as online used car dealership Cazoo and the health app Babylon are said to be in talks with US SPACs.

There are, however, good reasons to be sceptical of the current SPAC craze.

Until recently SPACs had something of a bad odour about them as they allow private companies to circumvent the usual disclosure requirements needed to be listed on stock exchanges. The sense was that a company doing this probably had something they preferred to keep quiet.

While the current craze shows this stigma has evaporated, recent developments suggest perhaps it should come back. One prominent business to list itself using a SPAC was Nikola Motor Company – which deployed slick visual designs to promise electric trucks of the future. Then came the report by the short-selling firm Hindenburg Research that accused the company of being nothing more than an “intricate fraud”. One of the most striking, and hilarious, revelations was that a video which supposedly showed a Nikola truck smoothly cruising down the road in fact showed the truck rolling down a hill – with camera angle then altered to conceal this fact… Had the company listed itself on the stock market via a normal IPO disclosure requirements would have made concealing these inconvenient facts harder.

It’s also worth noting that Wirecard – another tech company now at the centre of a massive fraud scandal – also circumvented normal IPO requirements, though it did so by taking over a defunct call centre company which was already listed on the stock exchange.

Even in cases where the companies being acquired aren’t engaged in massive fraud – most of them, one would hope – lack of disclosure can be a problem.

The majority of companies that SPACs are looking at are tech start-ups – no wonder considering the how tech stocks have soared in the past year. Yet even many non-fraudulent tech start-ups have a tendency to provide *ahem* optimistic assessments of their own prospects trading on anticipated future success. After all, Tesla made its first profit last year 18 years after it was founded and Uber has yet to make one, but this hasn’t prevented them from having sky-high valuations. Why should it stop them? This is of course the reason that the right to release financial forecasts of projected revenue is so key to the current SPAC-mania in the US.

Still, even with plenty of – possibly irrational – exuberance going around, IPO disclosure could prick some of the more absurd bubbles. In 2019 the office-sharing company WeWork saw its anticipated sky-high IPO abandoned after the required disclosures revealed massive losses. Subsequent scrutiny revealed other troubling features such as a frat house-style corporate culture that ignored sexual harassment complaints and the wildly eccentric behaviour of its founder Adam Neumann – who  trademarked the word We and then sold it to his own company for $6 million.

But now WeWork, whose finances have been pummelled by the pandemic shutting down office across the world, is apparently trying to go public again – via a SPAC…

Fizzing tech markets pull in investors at least partly based on the anticipation that the SPAC stocks will increase in value once the acquisition is announced. Many are worrying that SPACs themselves are becoming an asset bubble. The case of Churchill Capital Corp IV and Lucid Motors – another electric vehicle company, though not of the fraudulent variety – is a cautionary tale.

Reports that Churchill and Lucid were in talks drove up share prices by an astounding 472 per cent as visions of Tesla danced before investors’ eyes, even as Lucid responsibly downplayed the comparison. Yet when the deal was finally announced 22 February reality set in and the shares are now trading at roughly half the price that they were.

This is not to say there are no SPAC success stories out there. The deal between the SPAC Diamond Eagle Acquisition Corp and the online gambling operator DraftKings looks to be paying off handsomely. And given the current craze perhaps the rule changes are necessary to keep London attractive for investors. However, with so many SPACs being founded left, right and centre by unconventional players – like former basketball star Shaquille O’Neal and Philip Krim, the CEO of an unprofitable mattress company – one can’t avoid the feeling that something has to give.