Special purpose acquisition companies (SPACs) are all the rage right now (even the Oakland A’s Billy Bean launched one). SPACs need board members, and a lot of CFOs are being asked to join SPAC boards. Should you, an experienced CFO with great business insights and public company experience, join the board of a SPAC?
While SPACs are growing in popularity, the actual scope of personal risk for directors and officers of SPACs is still emerging. People who join SPAC boards are often sponsors who put working capital into the SPAC with an understanding that it may be lost if the transaction does not go as planned (or get a big return if it is successful).
Serving as a board member of the right SPAC can be both interesting and rewarding. However, it is important to ask good questions to avoid the personal liability that could follow if you were to join the wrong SPAC. Here are six questions to explore.
1. Who Are Your Fellow Colleagues?
With so many SPACs being formed, it is inevitable that not all of them will be of equally high quality. It is important to vet the quality of the SPAC sponsors, officers, and your fellow board members. A SPAC organized by a reputable player in the field or well-known private equity firm will likely be a less risky SPAC. It is important to at least be familiar with the reputation of your potential fellow board members. These people should be the kind of professionals you would want to do business with.
2. Do You Have Experience in The Target Industry?
Some industries are trickier than others (I am looking at you, cannabis). In general, it is a good idea to join a SPAC board that is targeting an industry with which you are familiar. As a board member, one of your primary responsibilities will be to ensure that proper due diligence is being conducted on any potential target the SPAC may be acquiring. The more familiar you and your fellow board members are with an industry, the harder it will be for unscrupulous parties to fool you.
3. Who Are The Lawyers?
Make sure that the lawyers who are drafting the S-1 registration statement are experienced in SPACs and securities laws. Remember, the SEC is particularly concerned about SPAC disclosures. Can the lawyers draft clear language around what the sponsor incentives are? This is not a place to cut corners. You will want to ensure disclosures are clear so that it is harder for a future disgruntled shareholder to say there were incentives that the board purposely hid from shareholders. You will also want to understand which law firm the SPAC plans to use for the de-SPAC (aka merger) transaction. Many SPAC formation specialists do not have abundant experience with M&A activity. It is good as a board member to understand what the plan will be given how important it is for the board to get good advice throughout the entirety of a SPAC’s lifecycle.
4. What Is The SPAC’s Timeline?
When a SPAC is coming to the end of its timeline, it is common for sponsors to become anxious about acquiring a target. After all, if there is no deal, the money raised in the SPAC IPO will have to be returned to shareholders, and the upside that the sponsors hoped to achieve will not take place. Litigation around SPACs almost always involves a target being acquired towards the end of a SPAC’s life cycle. Longer is better when it comes to a SPAC’s timeline. Eighteen months is rather short; two years gives the sponsors some breathing room. From a SPAC director’s perspective, it is ideal if the SPAC has some automatic extensions it can trigger just in case they are needed.
5. How Easy Is It For SPAC Sponsors To Get Additional Capital?
Many SPAC transactions involve raising critical, additional capital in connection with the de-SPAC transaction. You will want to join the board of a SPAC whose participants have a broad network when it comes to private investments into public entities. You do not want a situation where a good deal would have closed if only a SPAC sponsor had the right connections. This is, of course, one of the reasons why savvy potential board members prefer to join the boards of SPACs organized by private equity firms and other capital-connected players.
6. Is There Good D&O Insurance?
While SPACs raise millions of dollars in their IPOs, this money is funneled into a trust so that it can be used to acquire the SPAC’s ultimate target. SPACs do have working capital contributed by the sponsors, but it is usually a relatively modest amount of capital compared to the cost of defending and settling any serious director and officer-type litigation. This relative lack of capital highlights the importance of the the D&O insurance program that is purchased for the SPAC’s directors and officers.
Unfortunately, in the course of 2020, the cost of this type of insurance has essentially doubled. It is critical that whoever is organizing the SPAC has thought about the cost of D&O insurance, which is often much higher than they may have expected given the current volatility in the D&O insurance market. The last thing you want to do is join the board of a SPAC that does not have sufficient funds to buy enough insurance to cover directors and officers well.
In addition, find out the qualifications of the individual brokers who are placing the insurance.
If you end up being sued by your shareholders or pursued by the SEC, you will be glad that your insurance was placed by a SPAC D&O insurance expert with enough seniority and experience to be able to advocate for you directly with your insurance carriers.
Some big-name insurance brokerage firms may have very junior brokers place SPAC D&O insurance. Other insurance brokerages that lack expertise and the right insurance market relationships to place D&O insurance for SPACs will instead rely on a “wholesale” broker to place the insurance. This means your broker has hired another broker—someone you do not know and you did not choose—to negotiate your insurance program.
SEC Chair Jay Clayton himself has noted that SPACs create “competition around the way we distribute shares to the public market,” and that “competition to the IPO process is probably a good thing.”
The right SPAC can be a wonderful board opportunity. The six questions listed above can help avoid the financial headache of joining the wrong SPAC.