Hong Kong to Join SPAC Frenzy

Hong Kong recently announced the plan for its own blank check listing framework with hopes for deals to begin by the end of this year. (Wong, Bloomberg). A special purpose acquisition company (“SPAC”) —another name for blank check companies— is a listed shell company created with the purpose of raising money through an Initial Public Offering (“IPO”) to then acquire a promising private company, in effect taking the company public without a traditional IPO. (Godoy and Prentice, Westlaw). A SPAC is often referred to as a blank check company because when a SPAC raises money, the individuals buying shares during the IPO have no idea who the future target company will be. (Huddleston Jr., CNBC).

Despite the fact that SPACs have been around for decades—mainly in the United States (“U.S.”)—they are now becoming more prevalent across the globe due to the extreme market volatility partially caused by the global pandemic. Id. While some companies chose to postpone their IPOs amidst the pandemic, others are taking another route and merging with a SPAC. SPACs have already increased to a record of $170 billion raised globally this year, surpassing last year’s total of $157 billion. (Godoy and Prentice, Westlaw). The growth can also be attributed to the fact that SPACs provide startups with an easier path to go public with much less regulatory scrutiny than the traditional IPO. Id.

Hong Kong has a specific interest in beating out its competitor, Singapore, to be the first Asia-based hub to list SPACs. (Wong, Bloomberg). Despite an optimistic timeline, those in charge of creating the framework are taking a “cautious approach” in an attempt to avoid any pump-and-dump stock manipulation. Id. Hong Kong is planning on having stricter rules for the sponsors of SPAC listings and their buy-out targets than those enforced in the U.S. Id.

Leading Hong Kong’s efforts is Paul Chen, Hong Kong’s financial chief. Id. Chan encouraged and guided Hong Kong’s markets regulator, the Securities and Futures Commission (“SFC”), and the stock exchange operator, Hong Kong Exchanges and Clearing (“HKEX”) to create a framework for SPACs that works best with the Asian market. Id. Chan asked the two organizations “to explore suitable listing regimes to enhance the competitiveness of Hong Kong as an international financial center, while safeguarding the interests of the investing public.” (Reuters Staff, Reuters)

With several Hong Kong tycoons setting up and working on SPACs, U.S. investors will likely be interested in joining the frenzy. Id. U.S. investors should prepare for tighter rules than those enforced in the U.S. (Loh and Sundaram, Nikkei Asia) Sponsors may be required to have a successful track record of money management to pursue SPACs in the Asian market. Id. This requirement, coupled with onerous disclosure requirements, long vetting processes by listing companies, and a reluctance to relax rules may dampen the benefits of investing in SPACs within the Asian market. Id.

“Unlike in the U.S., Hong Kong and Singapore undertake a qualitative review of whether a candidate is suitable to be listed as they focus on shareholder protection,” said Marcia Ellis, Partner of Morrison & Foerster. Id. “If there are too many safeguards in place, that decreases the advantages of a listing compared to a traditional IPO and this will dampen the appetite of sponsors and SPAC targets.” Id.

Investors still eager to join in any SPAC frenzy, whether in the United States or Hong Kong, should at the very least proceed with caution. In recent weeks, the U.S. Securities and Exchange Commission (“SEC”) opened an inquiry into Wall Street’s SPAC frenzy to gain information on how underwriters are managing the risks involved. (Godoy and Prentice, Westlaw). Among the SEC’s concerns are the depth of due diligence SPACs perform before acquiring assets, whether huge payouts are fully disclosed to investors, and the heightened risk of insider trading between when a SPAC goes public and when it announces its acquisition target. Id. The SEC’s concerns led them to warn investors against buying into SPACs based on celebrity endorsements. Id.

Since this inquiry, the SEC released an additional warning about SPAC accounting errors. (White, Bloomberg Law). This warning derived from the SEC’s announcement that SPACs needed to account for certain warrants as liabilities, not equity. Id. This signal from the SEC for SPACs to slow down has since created a chilling effect as lawyers and companies are scrambling with what to do next. Id.

The bottom line for American investors is to be patient and cautious. SPACs will always have inherent risks, such as the target company having their acquisition rejected by SPAC shareholders. (Huddleston Jr., CNBC). With the exact requirements of Hong Kong SPAC listings unknown, the additional risks and hoops to jump through to enter an essentially blind investment could certainly outweigh the benefits of being an early investor.