[Global Focus] Stricter Screening for 'SPACs', The Money Party Is Over

Strengthened Disclosure Rules for SPAC Mergers
US SEC Puts Sudden Brake on Reverse Mergers
Legal Liability for Estimated Operating Profit and Others
"Funding Channels Blocked" Concerns Arise
Some Expectation to Alleviate Negative Perceptions

The U.S. securities authorities are putting the brakes on backdoor listings through Special Purpose Acquisition Companies (SPACs), sparking growing controversy. Startups could previously enter the stock market through relatively simple procedures, but now companies to be acquired by SPACs must undergo rigorous scrutiny comparable to an initial public offering (IPO).

With many venture capitalists (VCs) refraining from spending money amid high interest rates, concerns are rising in the local startup industry that one funding channel has been blocked. This also increases the likelihood of lawsuits if investors suffer losses due to the shattered rosy outlook of SPAC-listed companies. Even if the benchmark interest rate is lowered from this year, the prevailing view is that the SPAC market will find it difficult to regain its previous vitality.

U.S. SEC Halts SPAC Listings... Effective in First Half of the Year

The U.S. Securities and Exchange Commission (SEC) passed enhanced disclosure rules for SPAC mergers on the 24th of last month with a 3-2 vote. The core of the new rules is that companies to be acquired must go through procedures as stringent as an IPO to enter the stock market via SPACs. This effectively means that companies will bear greater legal responsibility for their revenue and operating profit estimates. The regulation is scheduled to take effect in four months.

SPACs are paper companies listed solely for mergers and acquisitions (M&A). Unlisted companies to be acquired by SPACs can debut on the stock market without undergoing the IPO process, which can take up to two years, thus simplifying procedures. This is a popular listing method for startups without significant strong performance to raise funds. If the SEC rules apply, startups that attract investors by presenting forecasts of performance and future growth drivers will effectively lose one funding option.

The SPAC boom peaked during the COVID-19 pandemic. Fueled by liquidity from ultra-low interest rates, the startup fever intensified, and investors' enthusiasm for so-called 'meme stocks'?investing purely on expectations?added to the momentum. In 2020 and 2021 alone, 861 SPACs raised a total of $246 billion.

Side Effects of High Interest Rates... Proterra and WeWork Ultimately 'Bankrupt'

However, the situation reversed as central banks worldwide sharply raised benchmark interest rates to curb inflation caused by liquidity from COVID-19. Many SPAC merger companies have seen their stock prices plummet or have filed for bankruptcy. As a result, the lax regulation of SPAC mergers has come under scrutiny.

First, corporate exaggeration was severe. U.S. hydrogen electric truck manufacturer Hyzon Motors expected to produce over 3,000 vehicles by 2023 as of February 2021, but only 20 vehicles were produced by November last year. Medical insurance data analytics company MSP Recovery projected net profits exceeding $630 million by 2023 when its SPAC deal was announced in 2021, but reported losses exceeding $600 million by September last year. According to SPAC market research firm SPACInsider, among 401 SPACs that completed mergers since 2021, only 27 (6.7%) saw their stock prices rise. Fintech company SoFi Technologies and electric vehicle maker Lucid saw their stock prices fall 70% and 94%, respectively, from their peaks.

Bankruptcies have continued, shocking the market. At least 21 SPAC merger companies listed on the U.S. stock market last year fall into this category. Proterra, once hailed as the Tesla of electric buses, and WeWork, a leader in shared office spaces, are representative examples.

SPAC-acquired companies attracted investor interest by presenting optimistic forecasts regarding market share and business potential, but in hindsight, few SPACs have succeeded. Unlike traditional IPOs where companies report past financial results, SPACs list by presenting blueprints, revealing the pitfalls of this approach. The SEC cites investor protection, especially for retail investors, as the reason for the new rules.

Now, SPAC companies must carefully prepare business forecasts, as inaccurate predictions could lead to lawsuits from shareholders and others. Bloomberg commented, "Looking back at the COVID-19 period when the SPAC boom was at its peak, it would have been better if SPAC merger companies had not been so optimistic about their asset values." At least, the new rules are expected to curb reckless overvaluation of SPAC merger companies.

"Only the Shell Remains" - The Bleak SPAC Market

Some companies have benefited from SPAC listings. For example, U.S. online sports betting company DraftKings has seen its stock price rise about fourfold since its SPAC listing in 2020. Similarly, pharmaceutical company MoonLake Immunotherapeutics increased its market share about fourfold after debuting on the stock market in 2022. However, the new regulations strengthen the view that such companies will be rare going forward.

Especially in the startup industry, the SPAC market is expected to worsen amid the harsh conditions caused by high interest rates. Usha Rodriguez, a corporate law professor at the University of Georgia School of Law, pointed out, "If the SEC's final rules are implemented as is, the SPAC market will suffer serious damage," adding, "It has blocked the advantage of SPACs, which is the ability to verify a company's growth potential in real time."

Meanwhile, amid the revolutionary wave triggered by generative AI, there are concerns about funding shortages for startups possessing related new technologies. Despite the SPAC market downturn, attempts by AI startups to enter the market via SPACs have continued. Major foreign media report that some are even considering lawsuits opposing the SEC's rules.

On the other hand, some Wall Street experts see this as a positive opportunity to dispel negative perceptions about SPACs among investors. David Koch, co-head of capital markets at Brown Gibbons Lang & Co., said, "The new rules may reduce the number of SPACs in the short term, but they will ensure that more vetted companies go public via SPACs in the future," adding, "Too many poor-quality companies were listed during the era of lax regulation and rapid-fire deals."

This content was produced with the assistance of AI translation services.