Presented by Winston & Strawn LLP and ICR Inc.
While Wall Street groaned over the struggles of Uber Technologies, Inc., Lyft, Inc., and WeWork parent The We Company in recent months, a cousin of the traditional IPO has flourished, often delivering a healthy exit for private owners and strong aftermarket trading for public shareholders. Special purpose acquisition companies, or SPACs, are on course to break records in 2019 both in terms of fundraising and target companies acquired. The structure, which allows a sponsor to raise cash in a new listed vehicle and bring a private company public through M&A, has been around since the 1990s but evolved dramatically since. What have been the key features behind successful deals? What elements of the structure are likely to change? And are there limits on the size and variety of deals going forward?
These were some of the questions addressed at SPAC in Action!, IPO Edge’s first SPAC-focused roundtable featuring four leading experts who are all active players in the field. The participants included Elliott Smith, Partner at Winston & Strawn LLP; Phil Denning, Partner at communications and advisory firm ICR Inc.; Cliff Greenberg, Senior Vice President and Portfolio Manager at Baron Funds; and Steven Heyer, Chief Executive Officer and Executive Chairman of Haymaker Acquisition Corp. II.
Mr. Smith, who has advised clients on notable deals including WillScot Corporation and Limbach Holdings, stressed that successful SPACs need transaction advisors with SPAC deal-making experience. He also believes that the best acquisition targets are growth companies rather than distressed assets and that SPACs that are too large can encounter challenges in finding a viable target that’s appropriate in size. He ultimately believes that SPACs can be a faster, cheaper, and easier avenue to becoming a public company than traditional IPOs, but also face their own unique challenges.
As an institutional investor in recent deals such as at-sea spa operator OneSpaWorld Holdings Limited and payments company Repay Holdings Corporation, Mr. Greenberg noted that SPACs offer distinct advantages over traditional IPOs, including the ability to take a larger position early on at a reasonable price. Baron has played an especially active role in SPAC deals, recently investing in a private placement alongside the SPAC transaction that took Repay Holdings public. Mr. Greenberg said he was supportive of the private placement because it helped the company reduce leverage and buy out a portion of the outstanding warrants, greatly reducing potential dilution. He notes that the amount of warrants attached to SPAC IPOs continues to fall as sponsors gain credibility and initial buyers don’t need as much incentive to invest.
Mr. Heyer brings perspective as both the CEO of two recent SPACs and a veteran business executive with decades of experience. He believes that SPAC IPOs are getting larger and there is scope for a broader range of acquisition targets, but it will remain critical to have a top-notch operator, a financial expert and a business plan that doesn’t depend on too many promises. Mr. Heyer’s latest deal was to bring OneSpaWorld public as CEO of Haymaker Acquisition Corp. The health and wellness company, which operates spas aboard major cruise lines such as Carnival Corporation and Royal Caribbean Cruises Ltd., has been one of the most successful SPAC combinations in recent years, with the shares trading nearly 70% higher (and more for those who kept warrants) since the merger was announced. Steven Heyer and his brother Andrew Heyer, who was President of Haymaker, have subsequently raised $400 million for Haymaker Acquisition Corp. II, which is currently searching for another acquisition target.
Phil Denning, Partner and Co-Head of ICR’s special situations group, said that SPAC deals are likely to expand into new industries such as real estate but there may be a limit on how large any transaction can get. ICR has advised on dozens of SPAC transactions, including OneSpaWorld (Haymaker Acquisition Corp.), Repay (Thunder Bridge Acquisition, Ltd.), and Simply Good Foods Company (Conyers Park Acquisition Corp). Mr. Denning attributed much of the recent success in SPACs to the presence of well-regarded private equity firms that remained shareholders after deals closed and took board seats to stay on as advisors. He also pointed out that SPACs benefit from regulations that allow companies to communicate very clearly with investors, giving guidance for metrics such as revenue and Ebitda – something that’s not allowed with traditional IPOs.
The complete interviews with each of the four roundtable participants can be found below.
Elliott Smith, Partner at Winston & Strawn LLP
Successful SPACs need transaction advisors with SPAC deal-making experience. Often the best acquisition targets are growth companies rather than distressed assets. And while some SPAC IPOs have approached a billion dollars, huge SPACs can encounter challenges in finding a viable target that’s appropriate in size. That’s according to Elliott Smith, Partner at Winston & Strawn LLP, which has advised clients in SPAC transactions including New Frontier Corporation, Netfin Acquisition Corp., WillScot Corporation, Target Hospitality, and Limbach Holdings. Mr. Smith also says that SPACs can be a faster, cheaper, and easier avenue to becoming a public company than traditional IPOs, but also face their own unique challenges. The full interview is below.
Elliott M. Smith focuses his practice on corporate and securities law. Elliott advises clients on a wide variety of capital markets transactional matters, including IPOs, follow-on offerings and private placements of debt and equity securities. Elliott has particular experience representing SPACs and their sponsor teams in IPOs and back-end business combinations. Elliott also advises public company clients on corporate governance matters and compliance with the federal securities laws.
IPO Edge: How has the warrant feature on SPACs evolved and where do you see it going?
Mr. Smith: Way back in the 1990s, SPACs issued units consisting of one share and two warrants, one of which was struck in-the-money, meaning the strike price was below the per-unit IPO price. The in-the-money warrant functioned like an immediate capital raise following the closing of a business combination, but created a lot of dilution to stockholders which put pressure on the stock price. In the 2000s, SPAC IPO units evolved to typically include one in-the-money warrant. Towards the end of that cycle, around 2008, SPACs starting issuing units with one share and one warrant which was struck out-of-the-money.
These days, SPACs issue units in their IPO for $10.00, and the units include a share and a warrant (or a fraction of warrant). The warrants have an exercise price of $11.50 per share. Some repeat sponsor teams or sponsors affiliated with well-known private equity funds are able to leverage their deal-making track record in order to reduce the number of warrants issued as part of the units to one-half or even one-third of a warrant. By reducing the warrant coverage (i.e., the number of shares issuable upon exercise of all the warrants), these sponsors can market their SPACs as more attractive vehicles to target companies and investors as compared to other SPACs that have more warrants outstanding, since the former represent less potential dilution to stockholders upon completion of the business combination.
The warrants are a necessary sweetener in order to bring investors into a SPAC’s IPO, but can be unattractive to potential investors in the stock later on after a business combination because of the overhang. Over the years SPACs have tried to mitigate this by eliminating or ‘cleaning up’ the warrants at the time of the business combination or shortly thereafter, usually through amendments to the warrant agreement that effectively convert the warrants into cash and/or shares. In terms of the future, warrants will likely always be part of a SPAC’s IPO units in one form or another, and I don’t see SPAC units including less than one-third of a warrant anytime soon.
IPO Edge: How do you convince investors to take fewer warrants with their IPO shares?
Mr. Smith: It’s really a function of investors’ regard for the quality of the sponsor team and their track record and the investors’ perception of their ability to find a good target business and complete a business combination. Top-tier sponsor teams that generate a lot of investor interest in their IPOs can offer less favorable terms (i.e., less warrants). First-time sponsor teams rarely can get away with including less than a full warrant in their SPAC units. And when the market slows down, even repeat sponsors will sweeten their IPOs with additional warrant coverage in order to get the IPO sold.
IPO Edge: What are the key ingredients in getting a SPAC IPO to work?
Mr. Smith: Frankly, in recent years we’ve seen a lot of first-time sponsor teams able to complete IPOs, which makes it look like it’s not too difficult to raise a SPAC if the sponsors are willing to provide favorable terms to IPO investors, such as overfunding the trust account or providing significant warrant coverage.
That said, we have seen some IPOs downsize or get pulled due to investor skepticism of teams that come in to SPACs who have not been involved in public deals or growth equity transactions before, like distressed asset investors, or even successful executives who want to do a SPAC because they like the look of the potential returns but don’t have much of a track record for deal making. The SPAC product is really best suited to growth equity stories where the right combination of a savvy sponsor and a solid target business generate investor interest. Distressed assets and value transactions have generally not fared so well with SPACs.
IPO Edge: Some SPACs have recently raised several hundred million dollars in their IPOs. Can they keep growing? What are the remaining issues?
Mr. Smith: In the past few years the size of SPAC IPOs has increased, in some instances to nearly a billion dollars. But oddly enough there are challenges with big SPACs. Generally, in order to mitigate the dilution from the founder shares and warrants, a target business should be 3-4x the value of the SPAC’s trust account. Finding a target business with valuation of $2+ billion can be challenging for SPACs. Companies that size often don’t need some of the things a SPAC offers and can just go do a traditional IPO if desired. So the pool of target companies can be smaller for big SPACs and we’ve had some sponsor teams ask whether it’s possible to reduce a SPAC’s size after the IPO, which is not really possible. As a result, depending on the industry in which a SPAC is focused, we see repeat sponsors opting to raise SPACs in the $200-$400 million range for maximum flexibility to look for a target 3-4x its size, or sometimes larger. If needed, SPACs can scale up for larger deals by raising additional capital at the time of the business combination.
IPO Edge: What kind of advantages do combinations with SPACs have over traditional IPOs?
Mr. Smith: It can be faster, easier, and often cheaper to go public through a SPAC than a traditional IPO. The traditional IPO process typically takes 9-18 months. A SPAC business combination can get done in four months.
With SPACs, there’s greater flexibility regarding deal structuring, marketing materials and communications with investors. Target sellers can take more cash off the table than is otherwise possible in a traditional IPO. SPAC marketing materials can include projections, which is rare for IPOs. There is also flexibility on timing. In an IPO, if the market is not there, the deal often will need to be pulled and the company is back to square one. With SPACs, the transaction terms can be re-cut to be more favorable to investors, additional capital can be brought in through a PIPE or debt financing if needed, and these changes can be made in real time during the marketing process right up until the closing. In an IPO, those kinds of changes would need to be pushed through a Form S-1 and would likely delay the SEC review process, so that’s another advantage for SPACs.
One potential downside of all that flexibility with SPACs is that sponsors and targets can get deals done even if the transaction is not well received by the market. That can lead to real challenges for the post-closing company. If too many public investors redeem at the time of the business combination, the stock will be thinly traded which can make it hard to raise additional capital. It can be challenging for post-SPAC companies to attract institutions to invest in the secondary market if there is low trading volume in the company’s stock.
Another thing to remember is that with a traditional IPO, the Company is typically selling a minority stake in the company to the public, so the potential to be oversubscribed can be higher. In a traditional IPO, the offering size can be calibrated to investor demand and the underwriters can ensure there is healthy aftermarket trading in the stock. With a SPAC, particularly the large ones, sponsors have to turn over all the outstanding stock of the SPAC, which can soak up all the demand in the market make for choppy trading following the closing.
IPO Edge: What about limitations on SPACs and can they be improved?
Mr. Smith: The product itself is inherently flexible to accommodate all types of transactions. It’s really about the sponsor team and the kind of target business that they bring to the market. If a SPAC doesn’t bring a good target business to its shareholders, then it doesn’t matter what the warrant coverage is or if the founders are giving up some of their founder shares, public stockholders will redeem their shares and the stock price is going to suffer. On the other hand, we’ve seen SPACs that have a full warrant do a deal that is well received and they are able to withstand the overhang issue and create value for investors post-closing. So it’s really a function of the quality of the transaction, as well as the target management team’s ability to execute on its growth plan.
That said, there are headwinds for SPACs. One is perception. People continue to view SPACs as high risk. Unfortunately, there are several examples of deals that have gone south after closing, or people remember 2008 when several SPACs liquidated with no deal. Unfortunately, with each business combination that gets done and the stock price tanks, it’s a ding on the SPAC product, which isn’t really right but it’s about the perception.
Some think that SPACs have a tendency to overpay when time is running out for them and they need to find a deal. There’s probably some truth to that, but again, if a sponsor team and target company’s sellers understand the product and the process and are focused on positioning the company to perform post-closing, then I think those negative factors can be overcome.
Lastly, we’ve heard some sponsors lament that their banks don’t ‘show up’ for them to market the business combination with the same energy compared to a traditional IPO. That may be because of how the deferred underwriting fee gets allocated within the bank, and so there probably is room for improvement there that would help back-end deals get executed successfully.
Cliff Greenberg, Senior Vice President and Portfolio Manager at Baron Funds
SPACs can offer distinct advantages to institutional investors over traditional IPOs, including the ability to take a larger position early on at a reasonable price. That’s according to Cliff Greenberg, SVP and Portfolio Manager at Baron Funds, which has invested in a number of recent SPAC companies including at-sea spa operator OneSpaWorld (ticker: OSW) and payments company Repay Holdings (ticker: RPAY). Baron has played an especially active role in SPAC deals, recently investing in a private placement alongside the SPAC transaction that took Repay Holdings public. Mr. Greenberg was supportive of the private placement because it helped the company reduce leverage and buy out a portion of the outstanding warrants, greatly reducing potential dilution. He notes that the amount of warrants attached to SPAC IPOs continues to fall as sponsors gain credibility and initial buyers don’t need as much incentive to invest.
Cliff Greenberg is the Portfolio Manager of Baron Small Cap Fund. He invests in small-sized U.S. companies with significant growth potential. Investments include fallen angels with strong long-term franchises that have disappointed investors, and special situations where lack of investor awareness creates opportunities. Mr. Greenberg has 35 years of investing experience, including 22 years at Baron Funds.
IPO Edge: Your fund was instrumental in the process of Repay going public through a SPAC, with Baron Funds participating in a private placement that helped extinguish 75% of the warrants in the deal. How did you view that situation?
Mr. Greenberg: Repay had enough money to close the deal, but we advised them to take a little more to immediately buy the warrants. The warrants were dilutive and added confusion to the capital structure. We also preferred that they run with a little less leverage and have more capital to pursue accretive acquisitions.
IPO Edge: SPACs have been raising larger and larger amounts of money. What’s your view on investing in a SPAC at the time of IPO?
Mr. Greenberg: I don’t like to invest in blind pools. I invest in companies, so my approach is to wait until the SPAC identifies a target and then decide.
Sometimes, I’ll put more money in if they need it like I did with Repay. In other cases, I’ll just go out and buy SPAC shares in the market as we did with Clarivate.
IPO Edge: What do you like about SPACs compared with IPOs?
Mr. Greenberg: I can get size with a SPAC. In a regular IPO, I may get $5 million or $10 million in the allocation. But then the stock may jump, and I won’t want to buy any more since it’s too expensive. You’re often not able to establish a full position at a reasonable price.
A big advantage with a SPAC is that I can invest more capital upfront at what I believe is a reasonable price.
Another advantage is there is more disclosure and more time to do due diligence. You can learn more about a SPAC’s acquisition target, see projections, and communicate with management. I take advantage of the ability to meet these companies and get to know them well before investing.
IPO Edge: What’s contributed to the success of SPACs over time?
Mr. Greenberg: There has been an evolution. These used to be $20, $50, $100 million raises. They were acquiring flaky companies and there was a big risk that the deal wouldn’t get approved. Also excess compensation was going to sponsors who didn’t play a role in the acquired companies.
Now, you have $300, $400, $500 million raised. The sponsors are playing a very significant role in the future of the company and are more reasonably compensated for their role.
IPO Edge: Getting back to the Repay deal, what role do you think warrants will play going forward?
Mr. Greenberg: Warrants complicate financial structures and are dilutive. There used to be two warrants issued per share, then one. You’ve had deals done with less than one warrant and there are some in the market now with a quarter of a warrant, which is a favorable development for new long-term investors.
Investors aren’t demanding as many goodies upfront as they were in the past. Institutional buyers don’t need as much incentive.
It’s a positive that Repay was able to retire a good portion of the warrants that were issued upon approval of the deal. I believe this will be emulated going forward and is a major positive.
Steven Heyer, Chief Executive Officer and Executive Chairman of Haymaker Acquisition Corp. II
SPAC IPOs are getting larger and there is scope for a broader range of acquisition targets, but it will remain critical to have a top-notch operator, a financial expert and a business plan that doesn’t depend on too many promises. That’s according to Steven Heyer, a veteran business executive who brought OneSpaWorld Holdings (ticker: OSW) public as CEO of Haymaker Acquisition Corp. The health and wellness company, which operates spas aboard major cruise lines such as Carnival and Royal Caribbean, has been one of the most successful SPAC combinations in recent years, with the shares trading nearly 70% higher (and more for those who kept warrants) since the merger was announced. Steven Heyer and his brother Andrew Heyer, who was President of Haymaker, have subsequently raised $400 million for Haymaker Acquisition Corp. II, which is currently searching for another acquisition target. The full interview is below.
Steven Heyer is Chief Executive Officer and Executive Chairman of Haymaker Acquisition Corp. II. He is also lead director of OneSpaWorld Holdings and serves as a director of Lazard Ltd and Lazard Group. Mr. Heyer has over 40 years of experience in the consumer and consumer-related products and services industries leading a range of companies and brands. He has applied his leadership and analytical skills in a variety of leadership positions across diverse industry groups, including broadcast media, consumer products, along with hotel and leisure companies. Mr. Heyer was the Chief Executive Officer of Starwood Hotels & Resorts Worldwide and President and Chief Operating Officer of The Coca-Cola Company. He also was President and Chief Operating Officer of Turner Broadcasting System, Inc., and a member of AOL Time Warner’s Operating Committee. Among other roles, he is an advisor and director to, and investor in, several private companies, including startups and turnarounds.
IPO Edge: What type of leadership qualities are most important in a successful SPAC?
Mr. Heyer: The most successful SPACs should have a mix of an operator who can see the potential in a business and someone with the financial mind needed to craft a deal. I really enjoyed working with Andy on Haymaker and we’re doing the same thing with Haymaker II. I’ve come to love him even more.
IPO Edge: What kind of company makes a good SPAC target?
Mr. Heyer: You look for a good business that has both growth and free cash flow. It should be differentiated from the rest of the market with a wide moat around the business. OneSpaWorld has all of those features and we were able to get a deal done with a fabulous company. We had almost no redemptions and great enthusiasm for the transaction.
IPO Edge: What are the reasons to do a SPAC versus a traditional IPO?
Mr. Heyer: If the owner wants to take significant money off the table immediately, a SPAC is better. It’s also an opportunity for the owner to roll some of the investment to participate in the upside of a well-performing stock.
However, for a SPAC to succeed, you need trust and motivation on both sides. That’s how we got a friendly, fast negotiation with OneSpaWorld.
IPO Edge: Is there a size limitation for SPAC IPOs? What’s helping them get bigger?
Mr. Heyer: We raised $400 million for Haymaker II but it could be a billion dollars. The issue is that you’re probably looking for a middle market deal, so you don’t need that much in the SPAC IPO. You’re not going to raise $5 billion.
With a more successful track record, you can attract investors who want to bet on your team before the target is known.
IPO Edge: How have SPACs been perceived over the years?
Mr. Heyer: If you go back 20 years, SPAC was a dirty word. The reason is that people were using them to line their pockets. They were being bad stewards. Even recently, we had a handful of investors who had a knee-jerk negative reaction to a SPAC because of that history. But with more successful deals, attitudes are changing. It’s evolved from being a niche vehicle to becoming a real asset class.
IPO Edge: You talked about cash flow. Could a SPAC deal be done with a fast-growing company that’s not yet profitable?
Mr. Heyer: I would do it if the growth story were compelling enough and the potential for meaningful profit creation was clear. The expectation needs to be that the business can float on its own and doesn’t hinge on a dozen promises or flawless integration. At some point it stretches credibility.
Phil Denning, Partner, ICR Inc.
SPAC deals are likely to expand into new industries such as real estate but there may be a limit on how large any transaction can get. That’s according to Phil Denning, Partner and Co-Head of ICR’s special situations group. ICR has advised on dozens of SPAC transactions, including OneSpaWorld (Haymaker Acquisition Corp.), Repay Holdings (Thunder Bridge Acquisition, Ltd.), and Simply Good Foods Company (Conyers Park Acquisition Corp). Mr. Denning attributed much of the recent success in SPACs to the presence of well-regarded private equity firms that remained shareholders after deals closed and took board seats to stay on as advisors. He also pointed out that SPACs benefit from regulations that allow companies to communicate very clearly with investors, giving guidance for metrics such as revenue and Ebitda – something that’s not allowed with traditional IPOs. The full interview is below:
IPO Edge: What has been the main driver of the success of SPACs in the last several months?
Mr. Denning: One key feature of many successful deals has been the presence of a well-regarded private equity firm that has elected to keep a significant stake in the company after it goes public. It not only sends the message that the private equity firm believes in the business, but can be helpful as the company plots its strategy moving forward. We saw that with both OneSpaWorld, which has L Catterton as a shareholder and Repay, which has Corsair Capital as a shareholder. The role of the private equity firm is generally to advise in the form of one or more board directors. But you can also go with informal advisory roles or even more formal – such as an executive position created.
There has also been an element of creativity in recent deals that made them succeed. The Repay deal would have closed without the PIPE investors, but their additional capital made the terms even better because of the dilution that was eliminated. I think that the flexible nature of the product has fostered creative thinking, which has led to success.
IPO Edge: Warrant “coverage” has decreased in many recent deals – with some as low as ¼ per share. Do you believe that the warrant feature is likely to keep shrinking or do some deals need them?
Mr. Denning: The warrant can be a great incentive to get investors into a SPAC IPO, especially with a team that has a lot of potential but not a proven track record. There are investors out there who really just buy into a deal to get the warrant and have no intention of keeping the shares, and that’s fine – because it helps get the cash raised. But the idea is to attract investors who believe enough in a management team that they want to stick with the SPAC shares and wind up owning the target company.
You will probably always need some warrant feature to keep investors incentivized. After all, if you’re going to let your cash sit in a trust account and just earn minimal interest, you need a carrot.
There will be deals with very small fractions of a warrant. Those are going to be the SPACs whose leadership have very strong track records. For those newer to the game, a full warrant per share is probably going to remain the norm.
IPO Edge: Do you expect SPACs to get even larger in the next few years?
Mr. Denning: I actually think that SPACs under a billion dollars are the ideal size. If you get much bigger the company is probably best suited to go the typical IPO route.
The reason why SPACs may do so well at the current size is that there’s plethora of middle-market target companies owned by private equity. Many of those private equity firms are in a difficult position because the companies aren’t an ideal fit for an IPO, meaning they can only rally be sold to a strategic or another private equity firm. So SPACs have created an entirely new exit path.
And SPACs are more appealing than a straight sale because many private equity owners want to participate in further upside. If you sell the company to another firm, you obviously can’t do that.
IPO Edge: What are the key advantages to going public via a SPAC rather than a traditional IPO?
Mr. Denning: One major advantage I have observed relates to disclosure. With a SPAC, it’s relatively easy to communicate a target company’s growth plans once the deal is announced. You’re able to show the investment community specific targets for metrics such as revenue and Ebitda that you can’t with a traditional IPO. That takes a lot of guesswork out of the equation for potential investors.
Another advantage from the perspective of a company owner is the ability to sell a large stake but also remain a significant holder. With an IPO, you’re really only selling a sliver of the company at the time of the deal.
SPACs can also happen much more quickly. If you raise money and find a target right away, a deal can be done in a matter of months. The IPO process is much more long and arduous.
IPO Edge: Are there specific industries that are best suited for SPACs?
Mr. Denning: There has been a lot of success with consumer and consumer-related deals, looking back to Hostess Brands and more recently to OneSpaWorld. But I think there is plenty of scope to grow in different industries. Just recently we had a real-estate SPAC deal announced with Broadmark, which is merging with Trinity Merger Corp. (ticker: TMCX). I would expect sponsors to get more creative as we see successful deals done in new industries.
John Jannarone, Editor-in-Chief