SPAC vs. IPO: Valuation, Lockup Period, and Employee Equity
A SPAC (Special Purpose Acquisition Company) event is a process by which companies go public that has some similarities and key differences when compared to a regular IPO. As a founder or an employee at a company undergoing a SPAC, you should start planning as soon as you’re aware the event is on the horizon. The financial impact of this event will not just be an easy windfall — you’ll have to plan your strategy around the potential costs of exercising options, timing of selling shares, and the resulting tax bill before you can start thinking about how to invest your net proceeds.
Your company is going public via a SPAC. Now what?
SPACs have been around for decades, though the volume of them in 2020, their size, and the prominence of the companies they have been targeting is fairly unique. Historically, they were a particularly attractive IPO alternative for lesser known companies or ones in industries with less favorability. Recently, targets like Virgin Galactic, DraftKings and Opendoor have taken this financial process much more into the mainstream.
For the founders or employees of target companies, the creation of the SPAC itself is far less important than the process by which it “acquires” the operating company.
Unlike in a traditional IPO where the operating company goes public by selling new shares to public investors, which can then be traded freely, with a SPAC, the acquisition company goes public and later once a target company agrees, seeks to acquire it into that public entity and rename it.
For the company, the SPAC process may initially feel more like a private investment round where the diligence focus is with one investment group rather than on a roadshow with dozens of investors. Nevertheless, once public, the obligations are essentially the same: the company reports earnings and is required to abide by Board and governance rules, SEC oversight, and stock trading restrictions.
SPAC vs. IPO for tech founders and employees: Pros and cons
Read more about financial and tax planning for a traditional IPO here. Most of the advice and considerations are still relevant for a SPAC, but below are the main differences that will affect you:
- Initial price stability: Before announcing the “deal” the SPAC and target company negotiate a fixed valuation. This means that there is less volatility once the shares start trading.
- Upfront liquidity: Unlike in an IPO where initially all of the shares sold are new issuances from the company, typically a % of the company shares the SPAC purchases coming from existing shareholders. In a traditional IPO existing shareholders have to wait six months for their lock-up to expire.
- Incremental uncertainty: Once the SPAC is announced, the SPAC shareholders have to formally opt-in to the deal. This creates some degree of uncertainty. Additionally, while the terms around employee liquidity are fairly consistent among IPOs, they can vary far more significantly in SPAC transactions as they are determined by one investor group rather than by an investment banker in coordination with various public investors.
Best practices for tax and financial planning for SPACs
What do you need to do and who can help you? Your company’s HR department may be able to offer a bit of guidance, but generally you’ll be on your own, as many of the considerations for the “right” things to do are affected by your personal financial situation and goals.
- Ensure you understand when, how and how much you can sell
- Calculate projections of the tax implications of various stock exercise and sale strategies
- Evaluate tax optimizing actions in the years where you will have the most significant income
We highly recommend working with a financial advisory or tax firm familiar with liquidity events like SPACs for tech clients so that they can provide expertise that relevant to you. They will likely have worked with several other clients that have very similar considerations to you (high cost of living, heavily invested in tech as a sector, etc.) and therefore provide context and advice that is best suited to your goals.
Increase in SPACs in 2020
In just the first three quarters of 2020, a year with unprecedented market volatility, there have been 108 Special Purpose Acquisition Company IPOs (2x last year and 5x five years ago) and $41.5 billion raised (3x last year and 10x five years ago).
These numbers are particularly impressive when compared to the traditional IPO market which has seen a comparable amount of listings over roughly the same time frame frame (113 through mid-September)
As new SPACs continue to get announced, we’ve seen increased interest from employees at startups who use Harness Wealth to find advisory firms to get expert guidance on what to do before, during, and after the liquidity event, and how to reconcile these decisions with other major financial decisions they may have on the horizon, particularly in a year as volatile as 2020.
We hope you found this article educational, and encourage you to seek out an advisor that can help you go through this event with confidence. Click here to create your free profile and start your search.