What SPACs Need to Know About SOX
If you followed any financial news over the last year, you no doubt saw one acronym over and over: SPAC.
But what is a SPAC?
A SPAC—which stands for special purpose acquisition company—is a “blank check” company. SPACs have their own initial public offering (IPO) and then merge with a private company, which takes on the public listing. The SPAC concept is nothing new, dating as far back as the 1980s, but SPACs have been on a tear recently, like a phoenix rising from the ashes.
In 2016, there were 13 SPAC IPOs—representing 12% of all IPOs that year—that raised $3.5 billion in proceeds. As of May 2021, 330 SPAC IPOs have been completed year to date, representing 71% of IPOs and totaling $172 billion in proceeds. That’s a 50x increase of total valuation in just five years.
It’s not just big money—there are big names involved too. Several prominent SPAC deals have made splashes in the financial pages. Virgin Galactic helped lead the SPAC IPO charge in 2019, and spin-off company Virgin Orbit is about to go the same route. Most recently, BuzzFeed joined the fray of high-profile SPAC deals.
While the SPAC process of going public is a bit unique, there are requirements companies need to consider once they’re listed. Let’s take a look at both sides of the private to public journey for SPACs.
What’s the difference between a SPAC vs. IPO?
The traditional IPO route can be seen as a bit of a legal jungle, marked by a long process (9-12 months) and high cost. Comparatively, a SPAC IPO can be a very short turnaround (as little as 3 months) and is relatively inexpensive by comparison.
Essentially, SPACs take the traditional IPO model and flip it on its head. To put it simply, a SPAC could be defined as money looking for a company, while the traditional IPO is a company looking for money.
But let’s dig a bit deeper. Here are some characteristics that make SPACs unique:
SPACs are listed companies, on various stock exchanges depending on their locations, with no commercial operations—they exist merely to accrue capital for the purpose of acquiring a private company
SPACs raise capital through issuing shares, the capital raised is held in a trust until the private company target is acquired
SPACs have a defined period (~2 years) to merge with a private company and take it public; if this period is not met, the SPAC dissolves and returns funds to the stockholders
A simple explanation of the SPAC creation process
Sponsor – The sponsor or management team sets up the SPAC and provides the equity stake referred to as founder stock, which is estimated to be 20% of the SPAC value after its IPO. The sponsor also lends the SPAC working capital.
SPAC IPO – The SPAC files registration with the SEC and proceeds to raise capital via an IPO. The SPAC IPO is commonly referred to as the "capital raise," and although deemed a public issuance, the buyers of the SPAC shares and warrants are typically hedge funds, private equity, and institutional investors.
Shareholder approval – The SPAC seeks a target private company to acquire. Once identified and negotiations with the target company are ironed out, the SPAC has a shareholder vote to approve the merger. Before shareholder approval, SEC merger registration documentation is prepared. The documentation includes audited GAAP financial reporting for the prior three years; proforma financials, Management Discussion & Analysis (MD&A), and market risk disclosures. The merger registration documents are submitted to the SEC for comment and review. Once SPAC management addresses and clears SEC comments, the merger is presented to shareholders for a vote.
Close/De-SPAC – After shareholder approval, the acquisition is completed with the target company merging into the SPAC, and the target company becomes a publicly traded entity. This point of the process is referred to as de-SPACing.
But this is not the end of responsibilities for the newly public company—far from it.
Next up for SPACs: SOX compliance
So the merger closes and the new company is listed. Now what? The same thing as with any other public company: compliance.
At the closure of the merger, the formerly private company must be able to meet public company reporting and governance obligations. And one of those obligations is SOX compliance—effective disclosure processes and controls, including internal controls over financial reporting (ICFR).
This is why implementing a robust controls management solution should be part of the preparation phase ahead the shareholder vote. Ideally, you want a SOX solution in place prior to merger approval—you should be able to execute like a public company before opening bell on day one as a public company. Execution means inventorying processes, risks, and controls in a centralized solution and have a sustainable—and auditable—process to assess effectiveness of controls via testing, certifications, and attestations.
If you are a target company that is being acquired—or a SPAC manager acquiring a private company—keep in mind that public company readiness plays a big part in investor decisions. A key aspect of public company readiness will be meeting SOX compliance requirements.
Lack of a mature compliance program can have consequences. And the risks are severe. Not only could your valuation take a hit, but you could face fines and penalties from the SEC, get delisted from exchanges, and take on increased auditor and operational costs to remedy controls weaknesses or gaps.
Do your homework. Evaluate your processes. Get ahead of the game and implement a SOX solution that’s proven. Better yet, find a solution that can also help you manage the many SEC reporting requirements—all in the same environment, and using the same sets of data.
About the Author
Ernest Anunciacion, Senior Director of Product Marketing, brings over 15 years of experience in internal audit, risk management, and business advisory consulting to Workiva. Ernest is a Certified Internal Auditor and Six Sigma Black Belt. He holds an undergraduate degree and an executive MBA from the Carlson School of Business at the University of Minnesota.