SPACs aren’t dead – New opportunities for SPACs

SPACs aren’t dead – New opportunities for SPACs

"Despite all of the disparaging commentary, the SPAC wave continues to democratize US capital markets, enabling smaller Israeli technology businesses to go public," argues Jonathan M. Nathan of Meitar Law Offices.

Almost precisely a year ago, a piece written for this journal hailed the SPAC movement and how it was exerting a systemic influence on the eco-system of Israeli firms looking to go public in US capital markets.

Many argue that 2022 has brought us back to cold, brutal reality, and that disillusionment has set in. We would be naive to disregard the enormous market "correction" in 2022, the loss of more than 60% of the collective market capitalization of numerous Israeli former unicorns that became public in 2021 through de-SPACs, and the near extinction of SPAC IPOs in US markets in 2022. Why should we continue to trust in something that is being thoroughly probed by the SEC, with some of the largest US investment banks withdrawing from the market? Are we not pragmatic?

Yes, the huge celebration was fairly brief, and the sky-high values accorded to Israeli and other hi-tech businesses in their IPOs have now come tumbling down to Earth in the aftermarket. But one thing should be obvious to everyone:

Just as the SPAC wave "piggybacked" on trillions of dollars of stimulus funds injected into U.S. capital markets by successive U.S. administrations and was a byproduct, rather than a catalyst, of an "up" market in 2021, the disheartening market performance of businesses that went public via de-SPACs is a byproduct, rather than a cause, of a down market.

And, while we shouldn't expect too many new SPACs to be formed and listed in the near future, the SPAC market—or, more specifically, the de-SPAC market—continues to operate with a select group of target companies - those with reasonably increasing revenues and profitability and/or exceptionally high growth rates, with visibility towards profitability in the near-to-medium term based on positive unit economics.

The underlying thesis advanced last year has nothing to do with the "high flying" tech startups with soaring valuations that went public through de-SPACs in 2021. Those top-tier firms will continue in the capital markets, whether the market is in a "up" (2021) or "down" (2022) state. They will have ups and downs, but they will be OK in the long term if their business plan and technologies endure the test of time.

Instead, the "gist" of what was proposed last year was that SPACs were a perfect landing spot for mid-size Israeli firms with promising technologies and expanding earnings in the $50 to $150 million range. Through the structure of the back-end, de-SPAC merger or acquisition, the SPAC wave enabled those sorts of firms to list in the United States. The SPAC wave provided those mid-size Israeli companies with an alternate approach to enter the US public markets, which they would not be able to do through a traditional IPO on US markets because they are too small to attract bulge bracket underwriters, and also a substitute to other, less advanced public markets outside of the US.

Given the depressed market and the ubiquity of SPACs trying to "beat the buzzer" and arrange business combination agreements before their built-in expiry date, there are attractive "bargains" to be obtained. If a SPAC fails to locate a target firm before the one-year anniversary of its IPO (including any extensions), it dissolves. In such case, the sponsor's stake in the SPAC is worthless, and all of the time, money, and effort invested by the SPAC's sponsor and affiliates is lost.

In light of this reality, we are seeing a return to the types of deals for which the concept of a SPAC was originally designed: mid-sized businesses trying to gain access to the U.S. public markets in order to advance their brand and business reputation, as well as access to a broader range of financing options to support their operations. Furthermore, when values in the private markets fall, the return to less ambitious valuations might provide a chance for a private business to enter the public market at a level that would enable investors, including new public investors, to profit from an increase in stock value.

Yes, the complementing PIPE financing that has traditionally been agreed to at the same time as the business merger agreement is signed has proven challenging to secure, particularly given the present and predicted market volatility over the next several months. In addition to stock PIPEs, there is interest in the market in for structured, convertible debt financings for the newly formed public company. While redemption rates have been high in comparison to more than a year ago, there seem to be some more properly priced deals that can significantly reduce the redemption rate, which can subsequently provide enough publicly traded shareholders' equity to meet the listing criteria for Nasdaq or NYSE, and thus enable the closing of deals.

While the de-SPAC process is not a sure bet for a mid-size private company, the collaboration formed with a stable SPAC team via the company combination process can lead to some impressive results in growth and branding—often much sooner than waiting for the IPO market to open or completing another round of private equity funding. Expect no bloated valuations anymore, which is actually a good thing because it sets expectations for the new public company's life as a traded company at the appropriate level from the start, minus all of the negative effects of drastic reductions in valuations and deflation of investor and employee expectations.

In conclusion, despite all of the bad commentary, the "democratization" of US capital markets that may be enabled by the SPAC wave — allowing smaller Israeli tech firms to go public — continues. And it should be excellent news for smaller-sized software firms from the country of "milk, honey, and technology."

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Adapted from opinion piece “SPAC is back: Surprising new opportunities” by Jonathan M. Nathan of Meitar Law Offices.