Special purpose acquisition company (SPAC) transactions have unique risks and require awareness of what it takes to operate as a public business. When a SPAC closes acquisition of an existing private operating company, the operating company becomes a public company and must meet relevant reporting obligations on an accelerated timeline for the first time.
Although the total number of domestic public companies declined significantly since its peak in 1996, a significant number of SPAC mergers closed in the last two years, according to a Deloitte report. SPACs continue to make up a significant number of new public companies.
“Last year had the most completed deals, including 199 SPAC mergers, up from 64 in 2020, and 350 traditional IPOs (initial public offerings), up from an average of 170 for the last decade,” said Will Braeutigam, partner, U.S. capital markets transactions leader at Deloitte. “This year will be the second highest year on record for completed SPAC mergers, with 93 mergers completed to date.”
Braeutigam noted the market was vibrant in the second half of 2020 and 2021. The window to go public was open longer than usual, and companies were able to prepare for offerings.
“Companies were seeking capital to remain competitive and expand operations, but many that went public via a SPAC were not prepared to go public,” he said.
“Usually, companies get ready to be a public company to become one, but companies were doing it in reverse—becoming a public company and then asking, ‘Now what?’” Braeutigam said. He provided the following statistics: In 2020 and prior, 40 percent of public company IPOs and emerging growth companies had material weaknesses in internal controls; in 2021, the rate was more than 60 percent for traditional IPOs and more than 75 percent for SPACs.
“Some of these companies, in their first-quarter post-IPO or SPAC, missed earnings targets, which severely hindered their ability to get equity in the markets,” Braeutigam said. He attributed this to issues with financial planning and analysis (FP&A) not having the sophistication to discuss forecasts and provide non-GAAP metrics and key performance indicators (KPIs), along with outside board members and private equity investors being aware of the material weaknesses.
Operating as a public company
“In 2022, companies recognized they need to build out their infrastructure to be ready to go public at a moment’s notice,” Braeutigam said. This requires having the right people, processes, and technology in the following areas:
Internal controls over financial reporting: Public company financial statements have different GAAP and Securities and Exchange Commission (SEC) requirements. Strong technical skills are needed to meet close and reporting deadlines.
“Based on my experience, segregation of duties was an area of material weakness, along with accounting not having sufficient resources to adequately review accounting estimates and critical accounting items,” Braeutigam said.
Another weakness was not having staff at the director level with technical experience in SEC, accounting, and tax.
“Human capital is still tight, and with so many companies having gone public, it can be difficult to find experienced people. Companies should plan early,” he said.
Reporting capabilities must be repeatable and controlled.
“Auditors evaluate financial statements and the internal control infrastructure and communicate findings to management and the board,” Braeutigam noted. “They can advise and make recommendations, but management must be ultimately responsible for the control and governance infrastructure.”
Budgeting, forecasting, and investor relations: Timely reporting of actual results compared with budgets and the ability to prepare accurate and consistent forecasts for management decision-making are required. Reliable and supportable estimates and forecasts are needed for many areas of accounting and reporting.
This area is also critical for sharing information about earnings and targets with investors and analysts. Braeutigam shared these key questions:
- Does investor relations understand the model?
- Does FP&A do budgets only or also forecast earnings so management can communicate?
- Does the company have the same KPIs as their competitors, to address what Wall Street wants?
- How far back can the company get complete and accurate historical data analysts want to hear about? If companies can’t get data for KPIs with an industry lens, it creates confusion.
Governance: “Companies need to think about overseeing governance all the way from investor relations to accounting to internal audit to operations and how they intertwine,” Braeutigam said.
Public companies must meet stock exchange requirements related to selection and independence of the board of directors and committees, and they need communication protocols between management and board members and for reporting to external stakeholders.
“[Auditors] can advise and make recommendations, but management must be ultimately responsible for the control and governance infrastructure.”
Will Braeutigam, Partner, U.S. Capital Markets Transactions Leader, Deloitte
Information technology: To produce timely, consistent, and reliable internal and external reports, systems must be able to handle the company’s unique requirements. Many companies implemented new enterprise risk management and enterprise resource planning accounting systems after they went public.
“Companies may need to upgrade their technology to continue to act as a public company and go from whatever close period they had before to 10 days or less,” Braeutigam said. This is another area of material weakness he observed.
“Rudimentary accounting systems can do the accounting for small companies but do not allow for controls and infrastructure to be built around them and there is potential for management override,” he said.
All public companies are facing pressure to provide more disclosures about their environmental, social, and governance (ESG) strategic goals, values, and progress.
ESG reporting can be an opportunity for SPACs to provide transparency and build trust with analysts and investors if they adopt sound practices to ensure high-quality, reliable reporting. It can lead to new investors and customers that want to invest or do business with companies committed to ESG goals.
“We have come full circle from ESG being a compliance item to a necessity when talking to management and potential investors,” Braeutigam said. “Two years ago, ESG was a small discussion within the IPO or SPAC filing about readiness. Today, companies must tell the investor community their ESG story and strategy because the market is thirsty. If they don’t benchmark or rate well against their peers, certain investors will not invest in them as a public company.
“SPAC mergers are interested in companies that can come in and help solve for ESG, specifically renewables, carbon capture and data management, tax credits, and solar.”
Although the SEC’s proposed rule in March that would require climate-related disclosures in public company financial statements and certain assurance is not yet final, Braeutigam sees a lot more ESG disclosure in 2021 and 2022 registration statements and the SEC issuing comment letters.
“In the risk factors section, the SEC is asking about costs and burdens and the impact on the industry as companies build out their ESG strategies,” he said. “They are also asking companies to support statements about their ESG progress, like having the ‘best carbon emissions.’”
Five years ago, the equity story in SPAC merger registration statements and investor presentations—discussions about the business, how the companies came together, and forecasts—was “the most important story to help the investor community understand why you were different and why to invest in you,” Braeutigam said. “Today, the investor community wants to know almost as much about your ESG story: why you are different from and better than your competitors in emissions, social outreach, and governance.”
Braeutigam recommended companies planning to go public think about their ESG strategy and story and start to gather data 12 months before they go public.
“The ESG equity story can look different from the ESG strategy around compliance, although both are important,” he said. “Companies need a plan, and a cross-functional team with all board committees involved, to capture the metrics and have a story for Wall Street. It can be a relatively large undertaking.”