The sizzling SPAC market has hit a cold stretch.

After nearly two years of unprecedented activity, driven in part by some of the top private equity firms in Los Angeles, the volume of initial public offerings through special purpose acquisition companies slowed dramatically in late spring.

Although several reasons have been floated for the cool down, most industry experts point to an accounting change by federal securities regulators as the primary factor.
“What we are seeing is a kind of a pause that is taking place,” said Paul Sachs, a Los Angeles-based managing director of Protiviti Inc., a global consulting firm owned by Robert Half International Inc. “SPACs have had to pump their brakes.”

In April, the Securities and Exchange Commission issued guidance that SPACs would need to classify their warrants as liabilities instead of equity instruments. The move allowed the agency a chance to catch up with the wave of deals washing over the SEC. It also gave regulators time to figure out if and how to tinker with SPAC structures.

The impact was almost immediate — and chilling. And it wasn’t just upcoming deals that were affected.

Previously announced IPOs conducted through blank-check companies were suddenly under the microscope as well — including dozens of companies in L.A.

“Everyone groans over this, ‘Are you kidding me?’” said Kristi Marvin, founder and chief executive of SPACInsider, a trade publication that tracks the market. “Personally, I think the SEC wanted to cool the market, and this was an easy way to do it.”

Recent local SPACs affected by the change include deals by Manhattan Beach-based electric vehicle-maker Fisker Inc., downtown-based asset management firm TCW Group Inc., and Beverly Hills-based private equity firm The Gores Group, which has done more SPACs than anyone else on Wall Street.

Given the pace of SPAC deal-making, it’s probably not surprising that the SEC decided to step in. Sponsors were taking these blank-check companies public quickly, then combining with private companies within months.

The agency often didn’t have time to sufficiently review the filings for errors which, according to sources familiar with the market, could be as simple as using incorrect ticker symbols.

“The first quarter was insane,” Marvin said. “In January, we priced 91 IPOs, 98 in February and 109 in March. It was crazy. At the same time, the SEC issued its warrant liability guidelines, and everything came to a grinding halt.”

Warrants are derivatives that give an investor the right to buy or sell a security — most commonly an equity — at a certain price before expiration.

A sea change

The SEC’s reclassification of warrants as a liability was a sea change in the SPAC world.

SPACs and the private companies they merge with offer the warrants as deal sweeteners to early investors by giving them more compensation for their cash.
The changes imposed by the SEC affected prospective SPAC investors on the prowl to buy something, as well as SPACs that had already acquired a private company and had completed their merger.

Sources familiar with SPACs say the accounting changes are really paper losses, or noncash charges that involve a write-down rather than a cash payment.

The move prompted accounting executives at many companies to consult with other financial experts to figure out how to handle the newly reclassified warrants as liabilities.

SPACs throughout the region have been caught up in the slowdown.  

“This caused a lot of people with deadlines to suddenly have to go back and restate financials. It created a little bit of consternation,” said Burke Dempsey, executive vice president and head of investment banking for downtown-based Wedbush Securities Inc.

Despite the turmoil, Dempsey supports the accounting change guidelines.
“At the end of the movie, I think you’ll see a cleaner, more homogenous SPAC. Let’s call it a 4.0 version. It will be maybe a little bit more measured and mature in the sense that it’s got the features that everyone knows,” Dempsey said.

Billionaire Alec Gores, chairman and chief executive of private equity firm The Gores Group, has felt the effects.

In early May, his Gores Metropoulos II Inc. SPAC, which also is backed by investment partner Dean Metropoulos, announced plans to take short-term lodging startup Sonder Holdings Inc. public. However, Nasdaq told the SPAC that it was out of compliance with listing requirements because the warrants were not classified correctly as liabilities. The SPAC doesn’t plan to object and expects to restate its first-quarter finances.

Fisker takes steps

Fisker was among the first companies to file a notice with the SEC on May 7 to alert shareholders that it would comply with the accounting change.

In its first-quarter 2021 report issued on May 17, Fisker reclassified its warrants as a liability and not as equity following its fall merger with Spartan Energy Acquisition.
That SPAC deal gave Fisker $1 billion in cash to go public and financial muscle to bring its first product, the Fisker Ocean electric SUV, to production in late 2022. The accounting change led Fisker to report a first-quarter loss of $176.8 million, or 63 cents a share. Of that amount, the reclassification of warrants as a liability made up a loss of $145.2 million, or 32 cents a share.  

Excluding the paper loss, Fisker would have had a higher equity value, and losses of about $31.6 million, or a loss of 11 cents a share — better than what Wall Street analysts had forecast.

Dozens of other companies in the L.A. area have been impacted by the SEC changes.

SPACs accounted for the majority of U.S. IPO market last year, with 248 SPACs raising more than $83.3 billion, according to SPACInsider’s Marvin.