Growing numbers of private equity portfolio companies have merged with blank-check companies in 2020, allowing them to de-risk, de-lever, or be opportunistic in their outlook.
Blank-check companies, also known as special purpose acquisition companies, raise capital through IPOs and then search for an acquisition target, typically having about 24 months to identify and acquire a company. If they fail to sign a deal or gain an extension, the company dissolves and returns funds to investors.
Large private equity portfolio company mergers with SPACs this year include Hellman & Friedman LLC's MultiPlan Inc., which tied up with Churchill Capital Corp III. The transaction implied an initial enterprise value for MultiPlan of approximately $11 billion, according to a release. Hellman & Friedman affiliates remain MultiPlan's largest shareholder.
The Blackstone Group Inc.'s Finance of America Equity Capital LLC also agreed to a business combination with Replay Acquisition Corp. The transaction had an implied equity value of approximately $1.9 billion at closing which is expected in the first half of 2021, according to a release announcing the combination. Management, entities managed by Finance of America’s founder and funds managed by Blackstone Tactical Opportunities will own approximately 70% of the combined company, assuming no redemptions by Replay Acquisition’s public shareholders.
Private equity interest in these vehicles is like "a light going on in a dark room," Jeff Mortara, head of equity capital markets origination at UBS Group AG, said. SPACs went viral around April and May, and now many private equity firms view them as "a viable corporate finance tool that provides exit options in the form of a non-traditional IPO alternative, or M&A in disguise."
The SPAC process "is much faster and there's more certainty around the valuation" for target companies compared with the IPO process, Jeremy Swan, the national director of professional services firm CohnReznick LLP's financial sponsors and financial services industry practice said. But it's not an option for every company — they should be able to go public in their own right. "They have to have all the necessary infrastructure, corporate governance, they have to be ready to be a publicly reporting company," Swan added.
SPAC mergers work best for private equity firms when there is an equity rollover component, Mortara said. Sponsors typically receive a promote of 20% of the equity raised in a SPAC, which is large, although this is sometimes reduced, he said. But if there is a large rollover component or if leverage is used to fund the acquisitions, the sponsor promote will get smaller as part of the overall deal because it is based on the SPAC size rather than the whole deal size.
Many blank-check transactions this year have involved an almost 100% rollover by target stockholders, co-chair of law firm Winston & Strawn LLP's capital markets practice Carol Anne Huff said. "For that reason, a SPAC business combination would not be an attractive option necessarily for a private equity firm that is looking for immediate liquidity on [its] investment."
A chance to de-risk
Given current pressures on portfolio companies, a SPAC merger can open up possibilities for private equity firms looking to de-risk, or in some circumstances, be opportunistic in the uncertain environment.
When a private equity firm is either overexposed to a sector, or an asset is over-levered, a blank-check merger can allow it to de-risk or de-lever a portfolio company, Mortara said.
Likewise, a SPAC may be used to build on opportunities for a particular asset. Mortara pointed to a late-stage venture capital firm he is advising as an example. One of its portfolio companies was optimally levered before the coronavirus pandemic but became over-levered. The VC firm also sees a consolidation opportunity in its market, which faces headwinds. Considering these factors, it has expressed interest in a SPAC merger.
"That VC would have never thought about a SPAC as a solution previously," Mortara said. "That was actually an asset they wanted to hold and double down on and they viewed the SPAC as the way to double down on it."
SPACs can also be used as a continuity fund solution, Mortara said, adding that there are a number of asset managers and fund of fund managers setting up SPACs to address this trend. If a private equity firm or its investors want to keep hold of what they perceive as a great asset, a blank-check merger allows those that wish to remain invested a chance to roll over, while offering a liquidity solution for those looking to exit.
"If [an investor] wants to get out, it's going to be public and we'll get your liquidity. But you can choose because at the end of the day, when private equity firms sell an asset and they give the [limited partners] the money back, what do the LPs have to do with that money? They just have to re-invest it."
Mortara is bullish on the prospects for SPACs. He estimates mergers with such vehicles could account for between 20% and 30% of the IPO market going forward. He expects popularity to continue as SPACs are a "viable and reasonable solution."
With the execution of SPAC mergers improving and more and more of them trading well, companies, including those backed by private equity, will be more comfortable selling to SPACs, Huff said. She expects they will continue to view them as an alternative to a traditional IPO. "Even now, we're seeing target companies pursuing dual-track strategies where they may be considering an IPO, but they've also decided to look at a SPAC as an option."