The UK is considering reforming the rules regarding blank-cheque companies, which could entice fast-growth tech firms to list in London. But there are risks for investors
When online used car dealer Cazoo, the fastest UK firm to achieve unicorn status, announced it would be going public on the New York Stock Exchange via a $7 billion merger with a special purpose acquisition company (SPAC), the news was considered a blow to the City of London.
Cazoo isn’t the first UK company to snub London in favour of New York. Electric vehicle firm Arrival announced it was going public via a SPAC last year and made its Nasdaq debut on March 25. Meanwhile, diagnostic test manufacturer LumiraDx is also set to float on the Nasdaq in a $5-billion SPAC deal.
The acronym SPAC has become synonymous with a frothy market. Essentially, SPACs are a type of investment vehicle, blank-cheque companies that list on stock exchanges and then hunt for privately owned businesses to take public. For the targets being acquired, it’s an easier process than going down the usual flotation route.
There were 248 SPAC IPOs in America in 2020, raising a collective $83.4 billion. So far in 2021, there have already been 308, and counting, SPAC IPOs, which have raised $99.9 billion.
Such is the froth surrounding SPACs, the US Securities and Exchange Commission (SEC) is exploring options to crack down on the trend. Recent market jitters have seen some of the shine wear off and SPACs are no longer delivering as high returns on deal announcements as they were at the start of the year.
London lacks appeal
In stark contrast, SPACs have yet to take off in the UK. The main reason for this is because of their structure.
“SPACs are structured differently in the United States compared to the UK. With New York-listed SPACs, investors can redeem their shares if they’re unhappy with the target firm. That’s currently not the case in London, where trading gets suspended once a merger is announced,” explains Nasser Khodri, head of capital markets at FIS.
This investor lock-up means the appeal of doing a SPAC deal in London is not as attractive as it could be.
The majority of companies that choose to go down the SPAC route operate in industries where they “need to move quickly to capitalise on market opportunities”, according to James Allum, vice president and regional European head at Payoneer. The global payments provider is set to merge with a SPAC listed on the Nasdaq, chaired by banking entrepreneur Betsy Cohen, in a $3.3-billion deal.
Allum explains that, unlike the traditional flotation process, which only allows a company to share data on historical performance, going public via a SPAC enables the company to share future revenue projections.
To this end, SPACs can offer investors “an opportunity to share in the benefits of accelerated growth”, he says. But if trading gets suspended once a target has been announced, then it can weaken interest in the company being acquired as potential investors are temporarily prevented from buying shares.
Despite concerns that the SPAC market in America is showing the hallmarks of a bubble, London is actively looking at how it can relax its rules regarding blank-cheque companies. In March, Lord Hill published a report on the current rules, in which he described the lock-in as “a key deterrent for potential investors”.
According to the report, there is “a real danger the perception that the UK is not a viable location to list a SPAC” could lead UK-based fast-growing tech companies to list on markets in the United States and European Union.
Lord Hill urged the Financial Conduct Authority (FCA) to conduct a review into the rules to make listing in London more appealing. A final decision on any rule change is likely to be made towards the end of the year.
Relaxed yet risky
So what might any changes look like? In layman’s terms, Khodri says we could expect to see the FCA provide US-style protections, which means those investors unhappy with a target company can sell their position upon a merger announcement.
“This is an improvement but, at the same time, doesn’t protect retail investors from downside risk,” he adds, referring to the drop in a holding’s value that can happen between investing in a SPAC pre-announcement and selling post-announcement.
The risk associated with SPACs has been prescient in recent months. Like so-called “meme” stocks – think GameStop – US SPACs have become popular with risk-hungry retail investors hoping for high returns on merger announcements. They may often invest without doing their due diligence and reading a SPAC’s IPO prospectus available via the SEC’s website.
Although investing in SPACs can be risky, the benefits of relaxing London’s rules could outweigh any concerns. For one, it could help attract tech unicorns that might otherwise be lured elsewhere. It could also attract more impressive SPAC boards of directors and serial SPAC sponsors who have experience in the United States targeting big-name companies.
Bruce Garrow, co-head of corporate broking at Investec, believes the “recommendations will certainly encourage the right management teams with the right credentials to think seriously about London”.
Of course, experience and past performance in doing SPAC deals is no guarantee of future success. And there will be critics in the City who believe that any rule shake-up would be bad news and London shouldn’t be jumping on the SPAC bandwagon. However, Khodri at FIS believes that if the rule changes go ahead, they’ll help boost London’s post-Brexit profile.
“It’s unlikely that London can catch up with Wall Street, but there’s definitely a place for the UK in the long-term development of this market,” he concludes.