2020 saw a surge in public company mergers through Special Purpose Acquisition Companies (SPACs), resulting in a 320% increase compared to 2019. Fast forward to recent times, and we see that SPAC activity has continued to slow down significantly. 2022 saw many SPAC deals being terminated and redemption rates skyrocketing. There were many factors that contributed to the slowdown of SPAC activity, such as the SEC stepping up its regulatory scrutiny, high inflation, dismal performance by the newly de-SPAC’d, new excise taxes on stock buybacks starting in 2023, etc. Despite the challenges, investors will continue to explore innovative strategies to pursue transactions and opportunities remaining in the SPAC market for mid- to short-term periods.
Differing from traditional Initial Public Offerings (IPO) and reverse mergers, SPACs offer an alternative way for companies to go public – and early-stage biotech companies should take notice.
While a lack of management or technological maturity inhibits many early-stage biotech companies from successfully navigating the traditional IPO or reverse merger process, SPACs present significant opportunities for biotech companies to raise capital in their efforts to become a publicly traded company.
What is a SPAC?
SPACs, or “blank check companies,” have become a preferred way for many experienced management teams and sponsors to take companies public. A SPAC raises capital through an IPO for the purpose of acquiring an existing operating company. Companies that are prepared and ready to operate as a public company will be better positioned to attract a SPAC successfully. The key is having the expertise to navigate this rapidly growing and emerging frontier within the public markets.
Difference Between SPAC, Reverse Merger, and IPO
While SPAC and reverse mergers have similar features in common they are also very distinct.
SPAC vs. Reverse Merger
In a reverse merger, a private operating company raises capital in the public market (goes public) by acquiring a controlling stake in a dormant shell company (a thinly-traded company that no longer conducts business and holds very little or no assets). During the public restructuring, the private company’s management and operations remain.
In a SPAC, the private company takes ownership of a clean shell with no previous history, operations, or related liabilities (as there are with reverse mergers). Unlike reverse mergers, where the surviving management is that of the acquired operations company, the SPAC sponsors retain ownership.
Also, if SPAC investors don’t approve of the merger, they have the option to redeem their investment, which tends to put a floor under the stock price up to the date of merger completion. This option to redeem doesn’t exist for reverse mergers.
SPAC vs. IPO
A critical difference between a SPAC and an IPO is the time it takes to complete the process, the filing requirements of the SEC, and the fundraising valuations.
First, a SPAC merger usually completes within three to six months, while a traditional IPO takes between 12-18 months. Also, SPACs come with experienced management teams ready to run the company, as opposed to traditional IPOs where the management of the target company may not have the extensive financial and regulatory experience needed in public market. Finally, due to a much narrower due diligence scope and a reduced roadshow to raise investor interest, a SPAC comes with much lower costs than a traditional IPO.
Benefits of SPACs for Biotech Companies
Faster Turn Around
SPACs can form and go public within months, while operating companies may take years to go public due to the preparations required of the process. Also, SPACs have a limited window of time (usually two years or less) in which they’re able to complete an acquisition. If they’re unable to do so, they must return all their funds back to the investors. This further expedites the process.
Finite Funding Up Front
Biotech companies often know from the start how much money they’re going to need to accomplish their goals and how they’re going to navigate each stage of their lifecycle. A SPAC has a finite amount of money already raised prior to acquiring the target company, meaning the biotech company wouldn’t have to undergo several rounds of funding to raise their ultimate level of capital. They’d be able to have all of their funds from the beginning.
In addition, SPACs provide more market stability against stock volatility. Unlike traditional IPOs, target companies can lock in a price as part of the merger agreement negotiations with the SPAC sponsor, therefore protecting the target’s value from market uncertainty and reducing the risk of the market affecting the transaction price.
By merging with a SPAC, target companies benefit from having greater access to capital, liquidity, market certainty, and flexibility to structure deals in their favor.
How to Attract a SPAC
When going public through a SPAC, the key to a successful strategy is the ability of the target company to be prepared to the same extent as if it’s going through a traditional IPO. Also, due to the expedited nature of SPACs, the target company will have less time to prepare for the process than they would have if they chose a traditional IPO.
To achieve proper preparation, target companies must:
- Strengthen accounting and reporting
- Perform internal controls assessments
- Bolster cybersecurity posture
- Implement processes to meet public company reporting timelines
In terms of compliance, companies will also need to meet the SEC’s regulatory requirements, as the SEC will review the SPAC’s merger filings—including the target company disclosures—with the same level of scrutiny as a traditional IPO. In addition, all audited financial statements must be in accordance with Public Company Accounting Oversight Board (PCAOB) standards. Biotechs should engage a PCAOB registered and inspected public accounting firm with the necessary expertise to navigate these regulations to ensure compliance.
When it comes to financing options, biotech companies are currently spoilt for choice. However, if a company decides to pursue the SPAC route, choosing the right SPAC sponsor will be key to success. Not all SPACs are the same, and unlike a traditional merger deal where the buyer and seller look for synergies, a biotech company merging with an SPAC must focus on sponsors backed by investors focused on life sciences that understand the industry and the challenges it faces.