Odeon Capital Investment Banker Eric Gomberg says SPACs have become increasingly popular because of forward projections. There were record issuances in the first quarter — nearly 300 IPOs, which is more than the 248 done all of last year, which itself was actually two times the totality of all SPACs for the previous decade. But recent SEC comments may put a damper on this activity.
The SEC has commented that these warrants should be treated as a liability and not as equity, which he says on a cash basis makes no difference whatsoever. But, from an accounting perspective, it’s caused confusion around how it should be treated, and could be a temporary hindrance to the marketplace.
A SPAC goes public through a traditional IPO, but then when they merge they have an S4, a merger document, not an S1, an IPO document, which allows for projections.
“In a zero or near-zero interest rate environment where you're discounting 2024 and 2028 numbers and you're allowed to give projections to infinity if you want, where you discount those numbers and they become far more valuable zero percent interest rates, that's quite interesting,” he says.
Recently, a lot of pre-revenue or pre-profit companies, when exploring what their far-out futures look like, anything in a world with zero percent interest rates has enabled some companies to realize significant success. There’s a market appetite for these big stories, such as Tesla, that play out over a matter of years and not just over a matter of months.
But the SEC has recently commented on the accounting for warrants. Traditionally, over the 20- plus-year history of SPACs, the investor puts dollars into a unit and the unit comes with a share. The share is dollars that go into a trust account, making it essentially a no-risk treasury alternative. That's part of what's made SPACs very compelling. And the warrant or a half warrant a quarter warrant, which are freely tradable, adds juice to the IPO.
The SEC, however, has commented that these warrants should be treated as a liability and not as equity, which he says on a cash basis makes no difference whatsoever but from an accounting perspective has caused confusion around how it should be treated — using a Monte Carlo simulation, Black-Scholes.
“What's the proper accounting treatment that the SEC will be OK with and then how's the market going to react?” he says.
From a capital markets perspective, Gomberg says it's very much like a currency swap or an interest rate swap where it could throw GAAP earnings around significantly on a quarter to quarter basis.
“And most investors would look through that — it's a derivative liability, it's a non-cash liability. But in the meantime, no one wants to be disadvantaged,” he says. “No SPAC sponsor wants to be the one with the liability and everyone else has warrants as equity. So, there's really a lot of confusion as to what the solve is going to be. I think it's a temporary hindrance to the marketplace.”
At the recent St. Louis Smart Business Dealmakers Conference, Gomberg, along with BDO USA’s Tax Managing Director Meg Kellogg and National Leader of the Private Equity Practice Scott Hendon, as well as Armstrong Teasdale LLP Partner John Sten, talk about creating liquidity events through IPOs and SPACs. Hit play on the video above to catch the full panel discussion.
