I’ve written quite a bit about SPAC’s recently, but the last time I wrote about SPAC Nasdaq listing requirements, or any attempted changes thereto, was back in 2018 (see HERE). Since that time, Nasdaq has a win and recently a loss in its ongoing efforts to attract SPAC listings.
Background on SPACs
Without reiterating my lengthy blogs on SPACs and SPAC structures (see, for example, HERE and HERE), a special purpose acquisition company (SPAC) is a blank check company formed for the purpose of effecting a merger, share exchange, asset acquisition, or other business combination transaction with an unidentified target. Generally, SPACs are formed by sponsors who believe that their experience and reputation will facilitate a successful business combination and public company.
The provisions of Rule 419 apply to every registration statement filed under the Securities Act of 1933, as amended, by a blank check company that is issuing securities which fall within the definition of a penny stock. A “penny stock” is defined in Rule 3a51-1 of the Exchange Act and like many definitions in the securities laws, is inclusive of all securities other than those that satisfy certain delineated exceptions. The most common exceptions, and those that would be applicable to penny stocks for purpose of this Rule 419 discussion, include: (i) have a bid price of $5 or more; or (ii) is registered, or approved for registration upon notice of issuance, on a national securities exchange that makes price and volume transaction reports available, subject to restrictions provided in the rule.
Rule 419 requires that a blank check company filing a registration statement deposit the securities being offered and proceeds of the offering into an escrow or trust account pending the execution of an agreement for an acquisition or merger. The securities of a blank check company which is required to comply with Rule 419 are not eligible to trade, but rather must remain in escrow.
A “penny stock” is defined in Rule 3a51-1 of the Exchange Act and like many definitions in the securities laws, is inclusive of all securities other than those that satisfy certain delineated exceptions. The most common exceptions, and those that would be applicable to penny stocks for purpose of the SPAC, include: (i) have a bid price of $5 or more; or (ii) is registered, or approved for registration upon notice of issuance, on a national securities exchange that makes price and volume transaction reports available, subject to restrictions provided in the rule.
Accordingly, to derive the value that SPACs have in the marketplace (according to one source, $111 billion so far in 2021 alone), the SPAC must not be a penny stock, or put another way, must be priced over $5 and list and trade on a registered stock exchange such as Nasdaq. Nasdaq, in turn, is motivated to attract these relatively plain vanilla blank check companies and the potential for a continued listing business combination entity.
SPAC Nasdaq Listing Requirements
Generally speaking, a SPAC must meet the same listing requirements as an operating entity. For a review of the Nasdaq Capital Market’s current initial listing standards, see HERE. Back in July 2019, Nasdaq amended its listing standard to exclude restricted securities from its calculations of a company’s publicly held shares, market value of publicly held shares and round lot holders (“Initial Liquidity Calculations”) and to impose a new requirement that at least 50% of a company’s round lot holders must each hold shares with a market value of at least $2,500 (see HERE).
Over the past couple of years, Nasdaq has successfully implemented and unsuccessfully tried to implement modifications to its listing rules to make it easier for SPACs to list and maintain a listing in a business combination transaction. In addition, Nasdaq has several pending SEC rule amendment applications.
Round Lot Holders – Approved Rule Change
On January 26, 2021, the SEC approved a rule change from the Nasdaq listing requirements for SPACs to exclude the requirement that at least 50% of a company’s round lot holders each hold unrestricted securities with a market value of at least $2,500. The rule requirement was initially meant to ensure that at least 50% of the required minimum number of shareholders hold a meaningful value of unrestricted securities and that a company has sufficient investor interest to support an exchange listing. Prior to enacting the rule change, Nasdaq noticed that many companies seeded a shareholder base prior to the listing with shareholders holding exactly 100 shares often received for no or nominal value, and that these investors, were not supportive of liquidity and trading volume.
Nasdaq does not believe that this qualification requirement, and its underlying purpose, is relevant to SPACs. Typically, the only investors holding shares in a SPAC prior to an IPO are its founders and that all other round lot holders generally represent new investors in the SPAC’s IPO. SPACs do not present a similar risk as operating companies of circumventing the round lot holder requirement through share transfers for no value. Also, shareholders of SPACs are afforded the opportunity to redeem or tender their shares for a pro rata portion of the value of the IPO proceeds maintained in a trust account in connection with the SPAC’s business combination, which must occur within 36 months of the IPO, and therefore, the SPAC structure provides an alternative liquidity mechanism that operating companies do not offer.
The rule change notes that at the time of the business combination, in order to remain listed, the combined company must meet Nasdaq’s initial listing requirements, which includes the required minimum amount of round lot holders and that at least 50% of the required amount hold shares valued at $2,500 or more.
Round Lot Holders – Disapproved Rule Change
On May 20, 2021, the SEC denied a rule change request from Nasdaq that would have allowed SPACs 15 calendar days following the closing of a business combination to demonstrate that the SPAC had satisfied the applicable round lot shareholder requirement. Following each business combination, the combined company must meet the requirements for initial listing on Nasdaq including those requiring a minimum number of round lot shareholders. If the combined company does not meet all the initial listing requirements following a business combination, Nasdaq will issue a delisting determination.
The current rule requires that the combined company meet the shareholder requirements (and all listing requirements) but does not provide a timetable to satisfy those requirements. The proposed rule change would have provided a SPAC with a 15-day grace period to satisfy the round lot holder requirements and would have required an 8-K publicly announcing that it had not yet satisfied the requirement and relying on the grace period. If the SPAC did not meet the requirement after the 15 days, it would halt trading on Nasdaq.
Nasdaq wanted to provide the 15 days because it can be difficult for a SPAC to know its round lot holders prior to closing of a business combination. Shareholders in a SPAC may redeem or tender their shares until just before the time of the business combination, and the SPAC may not know how many shareholders will choose to redeem until very close to the consummation of the business combination. Under the proposal, the SPAC must still demonstrate that it satisfied the round lot shareholder requirement immediately following the business combination, and the proposal merely would give the SPAC 15 calendar days to provide evidence that it had met the requirement.
In denying the proposed rule change, the SEC noted that it has consistently recognized the importance of the minimum number of holders and other similar requirements stating that such listing standards help ensure that exchange listed securities have sufficient public float, investor base, and trading interest to provide the depth and liquidity necessary to promote fair and orderly markets. The SEC is concerned that rather than provide additional time to provide evidence of timely compliance, the change would, in fact, allow a SPAC more time to actually comply with the rule (such as by adding last-minute shareholders, or working to reduce redemptions during the 15-day period).
Further, the SEC sees a risk that as result of the change, non-compliant companies will continue to trade on the Exchange when they should not be allowed. In such circumstances, a SPAC could complete a business combination and very soon thereafter be subject to delisting proceedings, and during such time its securities may continue to trade with a number of holders that is substantially less than the required minimum raising concerns about the maintenance of fair and orderly markets and investor protection.
SPAC Spin-Offs – Enabling More than One Acquisition
Nasdaq has issued a proposed rule change that would permit a SPAC to contribute a portion of the amount held in its deposit account to a deposit account of a new SPAC and spin off the new SPAC to its shareholders, thereby enabling multiple business combinations to benefit the same shareholder base. The filing, pending SEC approval, will provide shareholders the right to redeem all of their holdings prior to the first transaction, similar to existing SPACs.
Generally, Nasdaq rules prohibit the listing of blank check companies, unless they meet certain requirements for a “special purpose acquisition company” or “SPAC.” The requirements include, among other things, that at least 90% of the gross proceeds from the initial public offering be deposited in an escrow account, and that the SPAC complete within 36 months, or a shorter period identified by the SPAC, one or more business combinations having an aggregate fair market value of at least 80% of the value of the escrow account at the time of the agreement to enter into the initial combination.
Nasdaq has noticed cases where SPAC sponsors create multiple SPACs of different sizes at the same time, with the intention to use the SPAC that is closest in size to the amount a particular target’s needs. This practice creates the potential for conflicts between the multiple SPACs (each of which has different shareholders) and still fails to optimize the amount of capital that would benefit the SPAC’s public shareholders and a business combination target. The system is also inefficient in as much as the multiple SPACs are each filing separate registration statements and SEC reports, have separate boards of directors, multiple audits and multiple listing fees.
The proposed new rule would allow a SPAC to raise the maximum amount of capital it thinks it needs, then spin off any balance after a first acquisition into a new SPAC for future acquisitions. The spin-off SPAC would need to file a separate registration statement and continue with its own listing. The public shareholders would have a right to redeem as part of any business combination whether in the original SPAC or a new spin-off. All other features would work the same as existing SPACs. The spun-off SPAC would need to meet the initial listing requirements and would be subject to the same escrow rules as any SPAC including the 36-month period in which to complete a business combination. Moreover, each initial acquisition, whether in the original or spin-off SPAC would need to meet the 80% requirement.
I see the benefit to an existing shareholder base; however, when multiple acquisitions of different values present themselves at the same time (like in a hot market), it seems a sponsor would want multiple SPACs at the ready instead of waiting for the spin-off process to be completed, by which time the opportunity may have passed.
Regardless of whether the SEC approves this rule proposal, I believe we will be seeing more and more of attempted deviations from the cookie-cutter SPAC structure and business combination process. Recently, Bill Ackman attempted such divergence by proposing that his SPAC, Pershing Square Tontine Holdings Ltd., purchase a 10% interest in music giant Universal Music Group, then spin off that 10% to the SPAC shareholders, creating a separate public company and continuing to search for future business combinations with the balance. As part of the process, Ackman asserted that the initial 10% acquisition would satisfy the acquisition time limits required for SPACs and remove any future pressure to close another acquisition within a particular period of time.
Ackman ultimately abandoned the plan after failing to obtain SEC and NYSE approval. Although he cited that the regulators found a number of issues without specifying what these issues were, the most obvious to me is that upon purchasing the 10% interest in Universal Music, the SPAC would become an investment company subject to the Investment Company Act of 1940. Also, since the plan was to purchase the interest and spin it off without a holding period, the transaction would likely have tax implications to the SPAC shareholders. In any event, I expect more creativity in this arena.
Waiver of Annual Fee for Nasdaq Global Market
On July 7, 2021, the SEC approved a Nasdaq rule change that waives the annual fee for companies that complete a business combination with a SPAC that is listed on another tier of the Exchange and move the post business combination entity to a higher tier. In particular, many SPACs list on the Nasdaq Capital Markets to save fees, and because they do not have a need for the added services of the higher tiers. Upon closing a business combination, the company may wish to list on the Nasdaq Global Market. Likewise, Nasdaq will provide a reduced fee to SPACs that this directly on the Nasdaq Global Market as these companies require fewer regulatory resources than operating companies.