Cayman Islands: De-SPACs Back In Favour?

With a noticeable uptick in new de-SPAC mandates, Appleby Cayman Islands partner Dean Bennett provides commentary on what he is seeing in the market and key points for SPAC management teams and target companies to keep in mind when contemplating a business combination transaction with a Cayman Islands SPAC. Appleby have a leading offshore SPAC practice and have been involved in some of the largest and most complex de-SPAC transactions in recent years, including most recently acting for Black Spade Acquisition Co on its business combination with VinFast Auto Ltd. in one of the largest deals of 2023.

WHAT IS A SPAC?

For those new to SPACs (special purpose acquisition companies) or 'blank check companies', briefly a SPAC is a company that is formed to raise capital through an IPO to fund a strategic acquisition down the road, typically within 18 to 24 months. SPACs provide an alternative route to the public markets. The Cayman Islands continues to be the offshore domicile of choice for establishing SPAC vehicles with Cayman Islands SPACs listed around the globe on US, European and Asian exchanges. You can read more about the fundamentals of a SPAC here: Special Purpose Acquisition Companies (SPACS) Make A Comeback | Appleby (applebyglobal.com).

WHY THE RENEWED INTEREST IN DE-SPAC OPPORTUNITIES?

There are perhaps a few converging reasons for the renewed interest in de-SPAC opportunities. First, many SPACs are coming up to their liquidation dates (including extended liquidation dates, more on that below). If the SPAC has not consummated its business combination before its liquidation date, the SPAC's constitutional documents require it to redeem public shareholders for a pro rata share of the funds held in the SPAC's trust account (i.e. return the proceeds from the original IPO after providing for any creditor claims) and dissolve. SPAC teams are therefore incentivised to complete a deal before the liquidation date. Second, debt is expensive right now and SPACs continue to offer an attractive way for private companies to go public and access the equity capital markets. With the US Federal Reserve and other Central Banks indicating interest rates are likely to remain higher for longer, SPACs offer target companies an alternative funding route bringing an immediate cash injection at closing from funds remaining in the SPAC's trust account (and the proceeds from any PIPE) and better opportunity to access the equity capital markets as a listed company post-closing. Third, valuation expectations of target boards appear to be falling more into line with those of SPAC management teams. Diverging views on valuation have been a real sticking point on deals and the cause of a number proposed tie ups to breakdown.

WHAT WE ARE SEEING IN THE SPAC MARKETS

Some commentary on current market trends and key points for SPAC management teams and target companies to keep in mind when contemplating a business combination transaction with a Cayman Islands SPAC:

• Term extensions: A key theme beginning in the second half of 2022 and continuing throughout 2023 has been term extensions. We have seen a large number of SPACs nearing their original liquidation dates seek shareholder approval to amend their constitutional documents and extend their term to allow more time to consummate a business combination. There is no one size fits all approach to extensions (we see one-off extensions, rolling monthly extensions and combinations thereof), although will invariably involve some additional overfunding of the SPAC's trust account by the sponsor or its affiliates to incentivise the SPAC's public shareholders to remain invested in the SPAC and not redeem their shares (this is because public shareholders must be given the opportunity to redeem their shares in connection with the extension vote). As such extensions don't come cheap to sponsors and sponsor teams will need to weigh up the prospects of consummating a business combination transaction against the financial cost to them of continuing the life of the SPAC.In order to extend the SPAC's term it will be necessary to convene a shareholder general meeting for shareholders to vote on an amendment to the SPAC's articles of association. This amendment will require a special resolution of the SPAC's shareholders – usually 2/3 approval of those shareholders present and voting at the meeting, with the sponsor and the public shareholders voting together as a single class. However the SPAC's constitutional documents and IPO agreements will need to be checked carefully for any additional consent requirements depending on the exact amendments being made. For example, it may be necessary to additionally amend the SPAC's trust agreement depending on its drafting and the changes being made, and an assessment will also need to be undertaken to determine if the planned changes trigger any separate class consents. Our key message to SPAC and target management teams: start planning the extension workstream early in the negotiations and don't leave it until the eleventh hour or you risk running out of time. In our experience parties should allow a minimum of 7-8 weeks for the extension process, factoring in SEC review time for the extension proxy statement and sufficient time for notice periods to run under the SPAC's constitutional documents. However in practice sponsor teams will likely want to allow longer to enable effective outreach to anchor shareholders and if they wish to agree non-redemption arrangements.
• Redemptions and non-redemption agreements: SPAC public shareholders will have the right to redeem their public shares for cash for a pro rata share of the trust funds in connection with a shareholder vote on the business combination. SPAC public shareholders will also have a similar redemption right in connection with a shareholder vote to amend the SPAC's constitutional documents to extend its term. These redemption rights are a core feature of SPACs and an important protection for public shareholders. Redemption rights are also a big headache for sponsors and targets who are concerned with making sure sufficient capital is available to the newly combined business at closing. With redemption rates remaining elevated, securing sufficient committed capital to meet minimum cash conditions imposed by the business combination agreement is currently the single most important issue for getting deals done. There is no one-size fits all solution and on most deals we are seeing a combination of methods employed, including: non-redemption agreements, PIPEs, sponsor and target founder lock-ups, bonus share and tontine-esque arrangements. Again these arrangements don't come cheap for sponsor and SPAC management teams who are increasingly having to offer up a portion of their sponsor shares and private warrants to incentivise investors to enter into non-redemption agreements and PIPEs, impacting their sponsor economics.
• Sponsor switches: A growing trend over the past 12-18 months has been new management teams taking over existing SPACs. This can provide a far more time and cost effective way for new sponsor teams to enter the SPAC market instead of launching a new SPAC from scratch. It's also a way for seasoned sponsor teams to take over the reins from incumbent sponsors who have been unable to find an attractive business combination. Typically in these arrangements the outgoing sponsor will sell its sponsor shares and private placement warrants in the SPAC to the new sponsor, accompanied by a change in the directors and management of the SPAC (with the directors and officers appointed by the outgoing sponsor resigning and the incoming sponsor appointing their own directors and officers in their place). The new sponsor may also be required to inject new working capital into the SPAC as part of acquiring ownership. In our experience sponsor and management changes often coincide with an extension discussed in 1. above.
• Conflict transactions: With a large number of funds groups and institutional investors entering the SPAC market in recent years we are inevitably seeing an increasing number of 'conflict transactions'. That is where the SPAC is entering into a business combination with a target that is affiliated with the sponsor or SPAC's management team. Generally this is permissible under the SPAC's constitutional documents, although usually with additional safe guards in place aimed at protecting public shareholders. Typically the SPAC's constitutional documents will require the SPAC to obtain a fairness opinion from an independent investment banking firm or other valuation or appraisal firm that the related party transaction is fair to the SPAC from a financial point of view. Well advised SPAC boards may also establish a special committee made up of non-interested directors to lead the negotiations on behalf of the SPAC and manage fiduciary duty and director conflict issues. That said the SPAC's constitutional documents will often expressly permit an interested director to participate and vote on a transaction that director is interested in provided the director has disclosed their interest to the board (although the interested director will still need to comply with their fiduciary duties and for such reasons may still choose to recuse themselves from the board vote).
• Creative closing mechanics & redomiciling: As a broad brush comment, Cayman Islands domiciled SPACs have traditionally favoured business combinations with non-US targets, with US domiciled SPACs favouring US targets. But this doesn't mean a Cayman Islands SPAC is precluded from de-SPACing with a US target and we are seeing an increasing number of Cayman Islands SPACs looking at US targets. The flexible companies law in the Cayman Islands means that in nearly all cases a structuring solution can be found to facilitate a business combination between a Cayman Islands SPAC and a target domiciled anywhere in the world. For example, Cayman Islands companies law permits a Cayman Islands exempted company with limited liability and a share capital to "continue into" (i.e. redomicile) another jurisdiction provided that, among other things, the laws of that new jurisdiction permit or do not prohibit such a transfer. Focussing on US targets, redomiciling from the Cayman Islands into Delaware either by statutory merger or a continuation is a well-trodden path. The shareholder approval requirements for a continuation are similar to a statutory merger requiring a shareholder special resolution (usually 2/3 approval), although of course the SPAC's constitutional documents and IPO agreements will need to be checked carefully for any additional shareholder consent requirements.

CONCLUSION

Despite the ups and downs of the past few years there remains enthusiasm for SPACs as an alternative route to the public markets and, with some creative deal making, de-SPAC transactions are still getting done. SPAC and target management teams shouldn't underestimate the work involved to get to deal closing. In this market using experienced professional advisors and having a clear investor strategy is key.

Appleby has the expertise and experience to assist with all stages of the SPAC life cycle, from the initial formation and listing to advising on the business acquisition and de-SPAC.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.