Restatements surge to 15-year high on SPAC filings

Dive Brief:

Special purpose acquisition companies (SPACs) pushed up the total number of financial restatements by all categories of businesses last year to a 15-year high, underscoring the impact from sharper scrutiny of the so-called blank-check companies by the Securities and Exchange Commission (SEC).
Restatements surged to 1,470 in 2021 — a 289% increase compared with the prior year — with 77% filed by SPACs, according to Audit Analytics. Excluding SPACs, the number of restatements last year fell 10% compared with 2020.
Debt and equity accounting led the list of correction types in 2021, replacing revenue recognition, Audit Analytics said. The average number of problems per restatement rose last year to 1.85, the highest level since 2006. Excluding SPAC restatements, the average was 1.4 — the lowest level since 2002.

Dive Insight:

A SPAC has been widely perceived to be a faster, cheaper way to raise money than through a conventional initial public offering (IPO). It sells shares listed on a stock exchange and then merges with a private company, usually within two years, in a so-called de-SPAC transaction.

This year, following an unprecedented two-year boom, the SPAC market has slumped amid stiffer regulatory oversight and stock market volatility.

The SEC in March proposed tougher disclosure rules for SPACs aimed at ensuring the same protections offered to investors in traditional IPOs.

The new rules would require deeper disclosure about tie-ups between SPACs and private operating companies, and tighten requirements on performance projections by SPACs and the companies that they target for purchase.

SPACs would also need to provide more information about their composition, conflicts of interest and sources of dilution. The period for public comment on the proposal ends on June 13.

The rate of SPAC IPO issuance has nosedived, with just 67 transactions so far this year at an average size of $174 million compared with 613 transactions last year at an average size of $265 million, according to SPACInsider.

“It seems inevitable that a large wave of liquidations is coming for the SPAC market,” according to SPAC Research. “Deal conditions are tougher than they've ever been and the market is saturated with SPACs.”

CFOs who want to take their companies public by merging with a SPAC have a multitude of choices. As of Thursday, 596 SPACs are searching for companies to combine with in an IPO, SPACInsider said.

Guidance from SEC staff in April 2021 that SPACs account for their warrants as liabilities rather than equity prompted many restatements, chilling the market.

In order to comply with the guidance, SPAC sponsors needed to hire accountants and auditors to value the warrants each quarter using a complex calculation. When treating warrants as equity, sponsors make a simpler, up-front calculation.

The SEC also objected to classification of redeemable shares as permanent equity, saying they should be recorded as temporary equity.

SPAC IPOs cooled further last year amid criticism from the SEC.

“SPAC sponsors generate significant dilution and costs for investors,” SEC Chair Gary Gensler warned during a meeting of the agency’s Investor Advisory Committee in September. The committee unanimously approved an eight-page report urging the agency to “regulate SPACs more intensively by exercising enhanced focus and stricter enforcement of existing disclosure rules."

Gensler in a Dec. 9 speech noted the need for safeguards against fraud and conflicts of interest, saying “I believe the investing public may not be getting like protections between traditional IPOs and SPACs.”

The CFA institute has voiced similar concerns, saying the SPAC market poses risks to investors from celebrity hype, conflicts of interest, a scarcity of basic information and an abundance of the so-called blank check companies chasing a limited number of opportunities, according to the CFA Institute.

“The mounting numbers of SPACs already in the public market pose growing investor protection concerns,” the CFA Institute said in a “SPAC Crib Sheet” highlighting “key structural, risk and conflict issues that investors should understand.”

Several “myths” about the legal underpinnings for SPACs have influenced the perceived costs, benefits and risks of the so-called blank-check companies and distorted capital markets, according to John Coates, acting director of the SEC’s Corporation Finance Division from February until October 2021.

SPAC promoters have made many groundless claims, including that the SEC changed SPAC accounting rules last year and that traditional IPOs are slower than SPACs to complete the SEC registration process and, unlike SPACs, cannot provide projections, according to Coates, a Harvard Law School professor.

“By repeating continuously these myths, the professionals repeating them are attempting to make [it] more likely that they will generate rents in future SPAC deals,” Coates said in a research paper published in February.