INTRODUCING SPACS TO INDIA: ANALYSIS AND CHALLENGES

Abstract

SPACs are relatively a new entrant within the investment paradigm. It offers companies an alternative and viable investment strategy for acquiring market funds without undergoing the difficulties inherent in traditional IPOs. The difficulties and cost associated with IPOs make SPACs an attractive forum for companies as well. It is estimated that the Asian markets shall witness a rise in SPAC listings in the foreseeable future and countries such as Singapore have already taken the lead in facilitating such investments by devising a framework for SPAC listings. The Indian start-up culture and the burgeoning importance of Indian new-age technological companies offer SPAC investors with a viable market. However, the existing regulatory framework in India does not permit the listing of SPACs. This article attempts to study the existing legal regime that hinders domestic SPAC listing as well as the acquisition of Indian companies by foreign-listed SPACs. The author aims to provide a suggestive framework within the existing laws that permit the operability of SPACs in India and incentivizes SPAC mergers.

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I. Introduction

Special Purpose Acquisition Company (SPAC) is a relatively new jargon within the investment paradigm that seeks to aid new age companies and start-ups with growth potential to acquire funds through the Initial Public Offering Process (IPO) that has long been the traditional route for funding of established enterprises. The SPACs use the alternative strategy of reverse mergers to have a privately incorporated company converted into a publicly listed entity. These companies are a subset of the ‘blank cheque companies’ and are created for the sole purpose of raising capital from the public through an IPO process.

The recent trends in the investment sphere indicate a frenzy of SPAC-related transactions. Despite the adverse effects of the pandemic-induced lockdown on businesses, there has been a steep spike in the capital amount raised by these companies. SPACs in the United States raised approximately $ 80 billion in the past year.[1] As of 2021, SPAC proceeds have surpassed $100 Billion.[2]

The frenzy of SPAC has caught the attention of the erstwhile traditional investors as well. The stupendous amount of capital raised by SPACs listed on stock exchanges in the United States highlights the potential of a merger and acquisition boom in the foreseeable future.

While presently India does not have any SPACs listed on its domestic stock exchanges, there have been past attempts by Indian companies to raise capital through the SPAC routes from the United States exchanges[3] and the exponential rise in the establishment of new-age technological start-ups that seeks to redefine the traditional norms within the Indian market and have growth potential have raised expectations amongst investors and promoters alike for the introduction of a regulatory regime favourable for SPAC listing.

The existing regulatory framework in India poses a substantial hindrance in the listing of SPACs within the Indian exchanges and thus, is in need of an overhaul if Indian companies are to exploit the emerging trends of the investment paradigm.

The purpose of this article is to study the relevance and the scope of SPAC-based funding mechanisms and advocate the need for a revamped regulatory framework conducive to such listing in India. The article enlists the hindrances in the erstwhile regulatory structure and postulates plausible changes to the regimes inspired by the study of the conducive regulatory mechanisms introduced in other jurisdictions and the suggestive framework proposed by select institutions in India.

The aforementioned objectives of the article are achieved by proceeding in a structured manner. The article first enlists the history of SPACs and the investment mechanism utilized therein to elaborate on the future relevance of such mechanisms. The article then in part III proceeds to explain the prevailing regulatory structure in India that constrains SPAC listing in India. The particular part also encompasses a critique of the suggestive framework put forth by the International Financial Services Centre (IFSC) for the listing of SPACs in the proposed Gujarat International Financial Technology (GIFT) city.  The subsequent section of the article canvases the framework pertaining to SPAC in foreign jurisdictions. The article then finally posits various amendments that are necessary to introduce a regulatory structure favourable to SPAC listing in India.

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II.Historical Emergence and Investment Mechanism

Historical Evolution

In basic terms, a SPAC is structurally similar to a ‘blank cheque company’. These companies had existed in the 20th Century and had been operating much before the term SPAC came up. A blank cheque company can be defined as a developing stage entity without any pre-defined objective or specific purpose and in certain cases these companies indicate that their sole business model is to engage in merger and acquisition activities with another company or entity.[4]

The Securities and Exchange Commission (SEC) in the United States considers SPACs to be a subtype of blank check companies.[5] Increased instances of fraudulent activities by exploiting the regulatory lacuna in relation to penny stocks and blank cheque companies necessitated the introduction of stricter regulations governing such activities. For the purpose of this article, it is necessary to understand the financial situation prevailing in the 1980s that enabled such fraudulent conduct and the misuse of blank cheque companies.

In the 1980s, penny stocks were fraught with serious abuse and blank cheque companies were the means to induce such abuses.[6] The lack of regulatory oversight of penny stocks made them prone to being used as a manipulative tool by certain brokers and investors to fraudulently induce the unwavering investor into purchasing such stocks at an inflated rate.[7]

The shares of such blank cheque companies were first bought by friendly brokers to manipulate the prices and rope in investors.[8] At times, the brokers would generate excitement amongst the investors for the future scope of the company but to the utter dismay of the buyers, the stocks were worthless since there was no market to buy them out.[9]

The need for regulatory oversight led to the enactment of the Securities Enforcement Remedies and the Penny Stock Reform Act of 1990 which amended relevant sections of the Securities Act of 1993 (hereinafter referred to as the “Act”). In particular, Rule 419 of the Act[10] regulated the activation of blank cheque companies to accord protection to investors. The effect of the enactment was that there were far fewer fraudulent activities perpetrated through these companies.[11]

Post the emergence of the U.S. economy from the state of recession that existed in the 1990s, there was a rise in the establishment of smaller private companies.[12] The impact was such that many public companies were incorporated with the sole objective of merging with these private entities.

Since the modern-day corporation traded in the shares of private companies and not penny stocks, they practically became exempt from the applicability of Rule 419 of the Act. David Nussbaum in 1993, established the first SPAC, an investment mechanism that initially didn’t take off amongst the investment circle members before becoming a sensational funding strategy in the 21st century.[13]

The SPAC working Mechanism

It becomes essential to understand the nuances of the operation of SPAC to better appreciate the need for a more conducive regulatory framework to exploit the new trends in the investment sphere.[14]

A SPAC is formed by a private equity firm or fund manager known as the sponsors. These sponsors are issued founder shares that customarily account for 20% of the total interest in the SPAC. The remaining 80% of the interest is held by other shareholders through units offered in the IPO process. Both the founder shares and ordinary shares in the SPAC have identical voting rights with the exception that the founder has the sole right to nominate any director for the SPAC.

The capital raised by the IPO process is placed in a trust account till such time that the management identifies a target company. Generally, the process of identification and merger takes 18-24 months. Any binding agreement between the shareholders and the SPAC’s management regarding the timeline for the completion of the merger has to be within the ambit of the maximum authorised time allowed by the regulator. The merger process is commonly referred to as de-spacing.

Upon identification of the acquisition target by the management, the shareholders are notified of the financial information of the target acquisition along with the post-merger investment prospect using proxy documents. The shareholders engage in a vote based on information provided in the proxy document. To proceed with the acquisition, conventionally, there is a need for a simple majority of the shareholders. In the likely scenario of the existence of dissenting shareholders despite a simple majority to proceed with the merger, the dissenting shareholders have the option to opt out of the investment and their contribution to the IPO shall be returned.

If the SPAC fails to complete the merger acquisition within the stipulated period, the SPAC liquidates and the proceeds of the IPO are returned to the shareholders.

In addition to the reverse merger procedure, certain SPACs exercise the swap shares procedure wherein the shareholders of the target acquisition company sell their shares to the SPAC’s shareholders and in return are offered ordinary shares of the SPAC. Effectively this entails that the target company becomes a subsidiary of the SPAC.

The Future Prospects of SPAC: Eventualities of SPAC Bubble Burst

The de-spacing procedure is procedurally similar to the reverse merger acquisition that peaked during the first decade of the 21st century before the bubble burst and the investment process went into disarray. In a reverse merger process, a privately held company that is seeking to convert into a publicly listed corporation merges with a defunct or dormant shell corporation that no longer operates and thus bypasses the stringent regulatory requirements for the IPO listing.

A Harvard Business Law Review paper postulates that the ultimate fate of the much-publicised SPACs is the same as that of the reverse merger process.[15] The author bases the conclusion on statistical study emphasising on the creation of the reverse merger bubble, the ghtened frenzy, and the negative media evaluation surrounding the rise in the fraudulent activities using the process, ultimately resulting in the burst of the reverse merger bubble.[16]

Undoubtedly, there exists a similarity between the heightened frenzy of SPAC investments and the past boom of reverse mergers. However, there are substantial differences between the two standards of fund-raising signifying that the ultimate fate of SPACs may not be the same as that of reverse mergers.

The fundamental distinction between the two is that SPACs are not dormant shell corporations, they do not have any past operational history, and hence, no potential liabilities of the erstwhile public entity are transferred to the new acquisition. Further, post the acquisition of the target company, the SPAC sponsors and shareholders acquire ownership stakes in the merged entity. The distinction is essential since they dissociate the SPACs from the possibilities and prevalence of fraudulent activities conducted through the dormant shell corporation. The abuse of dormant shells by fraudulent foreign investors had forced the SEC to suspend the operation of approximately 400 such shell corporations.[17]

A further distinction that essentially safeguards the interest of individual shareholders is that in a SPAC process, the shareholders have a right to vote on the proposed merger and the dissenting shareholders have the right to recall their investment and opt-out of the process. This is the polar opposite of the reverse merger procedure wherein the individual stakeholder of the privately held company had no authority to call for a vote on the merger.

The SPACs have also benefited from the positive support of regulators[18] and the increase in participation of experienced investors. The resultant effect of participation has been the diversified target acquisition including of unicorn private companies. Thus, while there may be plausible apprehensions about the heightened frenzy for SPAC investments, there are equally compelling indicators of permanence of SPAC listing within the investment landscape.

The Advantage for India

India has a buoyant start-up culture with the establishment of several competing new-age technological companies that are innovating the targeted market and reforming the corporate governance mechanisms. The Department for the Promotion of Industries and Internal Trade (DPIIT) recognises more than 50,000 start-ups established in India as of 2021.[19] There are approximately over 50 unicorns in India.[20]

The key consideration is the financing of the operations and the possible expansion of the start-ups to counter the legacy corporations. A traditional method adopted across businesses is funding through the IPO process. In practical terms, the listing requirements for IPO offer an unfair advantage to the legacy companies while the new age companies are not able to reap the benefits in the period immediately following their establishment. The regulatory regimes require that prior to the IPO listing, the company showcases a proven track record on certain parameters.[21]

A new-age company may not be able to fulfil the condition for the precise reason that their innovative market approach may take substantial time before establishing a proven time record. Further, the IPO procedure entails extensive obligations and regulatory fulfilment that may require professional guidance for the companies, resulting in an increased financial burden in the period preceding the IPO listing without the guarantee of a successful post-listing investment.

The regulatory burden of direct IPO listing by private companies deters the participation of these start-ups in the investment process, making them prone to sole reliance on angel investments for the purpose of expansion and operational funding. The SPAC procedure is inherently simplified in comparison to the IPO procedure, moreover, the burden of compliance is primarily on the SPAC management thus easing the obligatory requirements on the target companies.

The SPAC procedure provides private companies with the possibility of public listing and increased financial well-being without the absence of the stringent regulatory requirements of an IPO. Thus, it makes the investment landscape of the country more inclusive and diverse with the participation of start-ups and new-age technological companies. The Mckinsey Report for the year 2020 enumerates the potential viability of SPACs in Asia for the upcoming year by extrapolating the dispersion of approximately $800 Billion to mid-sized and large companies.[22]

Even major investment advisors and bankers such as Goldman Sachs foresee the ongoing year to be the year of exponential SPAC investing in Asia.[23] Thus, the need for SPAC-conducive regulations in India is not just limited to easing the IPO requirements but also to exploit foreseeable investments by global stakeholders.

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III. Regulatory Framework in India

The existing regulatory framework in India does preclude the possibility of SPAC listing in the stock exchanges located within the Indian jurisdiction. Any possibility of an overhaul in the legal framework is inconceivable without the analysis of existing laws that causes a hindrance in listing.

The purpose of this section is to examine the prevailing legal structure in the country, particularly those provisions that debar the listing of an SPAC. This section of the article also scrutinises the suggestive framework elaborated within the Consultation Paper on the Proposed International Financial Services Centres Authority (Issuance and Listing of Securities) Regulations, 2021 (hereinafter referred to as the “consultation paper”).

Companies Act, 2013

Despite the influx of shell corporations and SPACs in the global financial regime, the Companies Act, 2013 does not include such entities within its framework. The Act has precluded the definitions of these two entities within its ambit.[24] The preclusion from the definitions has resulted in the enactment of provisions that are incompatible with SPACs.

The perusal of Section 4(1)(c) of the Companies Act brings forth the first hindrance to the establishment of SPACs. The provision requires that the memorandum of the incorporated company state the objectives for the incorporation.[25] A SPAC does not have any prescribed objective other than the acquisition of a target company. The lack of a definitive objective for SPACs will prevent them from obtaining a licence from the registrar, thus, making them inoperable and ineligible for listing.

Arguendo, the Ministry of Corporate Affairs (MCA) permits the licensing and operation of Companies that are formed with the sole purpose of acquiring targeted companies; however, another impediment within the legislation is Section 8(10) of the Companies Act that requires a company to amalgamate only with another company having similar objectives.[26]

The implication of the hindrance is that a SPAC may not be able to acquire and merge with the targeted company since none of the private companies will ever have an objective similar to that of the SPAC. Thus, assuming that SPACs are permitted to enlist on the domestic exchanges, legally they would be unable to fulfil the objective of their creation.

A further hurdle in the legislation are the provisions of Section 248 that empower the registrar to strike off the name of a company from the records if it has failed to begin its operation within a year of its commencement unless the company seeks a dormant status as prescribed under Section 455.[27]

The perusal of the definition as provided within the legislation implies its non-applicability to SPACs since the status can only be obtained after the completion of at least two years. A SPAC requires a period of 18-24 months to complete the de-spacing process with the identified target company. It does not begin any operation within a period of 12 months from the date of incorporation and thus, becomes liable to be removed from the record of companies.

Listing Prerequisites

The SEBI (Issue of Capital and Disclosure Requirement) Regulations, 2018 (hereinafter referred to as “ICDR Regulations”) is the primary regulation governing the capital market trade in the country. Particular emphasis needs to be given to Regulation 6(1) which enlists the minimum requirement for a public offer.[28]

The requirements include the minimum net tangible assets to be worth INR 3 Crores, a minimum net worth of INR 1 Crore in the preceding three years, and the minimum average of the combined pre-tax profit to be INR 15 crore.[29] The aforementioned requirements make it impossible for SPACs to be listed for public offer. SPACs have no operational history prior to its formation, even post its formation it does not have any assets of its own.

The exemption to the aforementioned criterion can be availed by opting for the initiation of a public offer by a book-building process.[30] However, the exemption reduces the feasibility and commercial excitement of SPAC as it would require 75% of the offer to be allotted to qualified institutional buyers and curtailing the shares of retail buyers to 10%.[31] The SEBI regulations enumerate a limited set of qualified institutional buyers, thus, reducing investment opportunity to a select few investors.

Foreign Investment Regulation

Erstwhile privately held Indian companies aspiring to list on NASDAQ or other U.S. stock exchanges, pursue the de-spacing procedure with a SPAC listed in the jurisdiction. In India, the de-spacing procedure would entail an outbound SPAC merger, subjecting Indian shareholders to the Foreign Exchange Management Act (FEMA) regulations for cross-border mergers. Section 234 of the Companies Act[32] read together with Rule 25A of the Companies Merger Rules[33] permits outbound mergers wherein the erstwhile Indian company merges with a foreign entity resulting in the assets, liabilities, and employees of the former being transferred to the latter. Such outbound mergers entail additional obligations on the part of Indian shareholders as they are required to be in compliance with the Reserve Bank of India (RBI) master circular dated January 1, 2016, on Liberalised Remittance Scheme (LRS) that caps the holding of Fair Market Value (FMV) of securities by Indians at $250,000 annually.[34]

Such compliances shall deter the participation of Indian shareholders in the SPAC acquisition process since the FMV of the entities is bound to be greater than the prescribed RBI limit and thus would inevitably contravene the law if the Indian shareholders possess a greater stake.

Taxation Concerns

A substantial deterrent in the realisation of SPAC potential in India is the daunting taxation concerns that potentially disincentives investors from the process. In both the possible operative scenarios of de-spacing-share swaps and merger of the Indian target company, the Income Tax Act, 1961 (hereinafter referred to as “IT Act”) shall classify it as a ‘transfer’ of shares held by the Indian target acquisition.[35]

The classification would result in making the shareholders liable for the capital tax gains under Section 45 of the IT Act.[36] De-spacing is per se not an exemption under Section 47 of the Act.[37] Thus, the possibility of taxation in the range of 10-40% excluding surcharges and in excess of the FMV at the hands of the selling stakeholders presents a disincentivizing burden on the SPAC participants.

In the occasion of the Indian target acquisition being merged as a subsidiary of the listed SPAC entity wherein the target company is the only substantial asset and the SPAC derives more than 50% of its value from the Indian company, the shares of the SPAC would be considered to be based in India.[38] Gains from the transfer of shares of such SPACs would be subjected to capital gain tax. The exemptions are provided to shareholders with less than 5% of the stake or to such foreign shareholders belonging to any jurisdiction that has a bilateral Double Taxation Avoidance Agreement (DTAA) with India.[39]

The post-listing taxation concerns are equally daunting for investors and shareholders. On completion of the merger of an Indian entity with a foreign-listed SPAC, the Indian branch office shall be considered a permanent establishment and be subjected to 40% of the net income.[40]

Further, if the key managerial personnel of the SPAC is operating out of India, India would be considered a ‘place of effective management’ (POEM), making the SPAC a tax resident in India and becoming subject to taxation for all of its global income.[41] The company shall be exempted from the application of this provision if its turnover is up to INR 500 million in a particular financial year.[42]

Consultation Paper

The consultation paper proposes a framework for SPAC listing in the IFSC in Gujarat.  Chapter VI of the consultation paper elaborates on the framework for listing of SPACs in the proposed stock exchange.

The consultation paper prescribes that the minimum permissible issue size is $50 Million with the sponsors of the SPAC holding at least 20% of the post-paid-up capital.[43] Further, at the time of IPO, the offer document should enlist the targeted business sector for the SPAC, the object of the issue, the rights and limitations of the proposed shareholders, etc.

The consultation paper also prescribes that for a successful SPAC IPO there has to be at least 75% of subscription of the offer with the minimum application being $250,000.[44] There are also certain protective measures that are proposed by the consulting paper, this would entail that 90% of the IPO proceeds are deposited with an escrow account and any acquisition of the target company shall be subjected to majority approval.[45] Further, the SPAC shall be obligated to complete the target acquisition within a period of 3 years from the date of the IPO.[46]

A pertinent consideration is that despite the inclusion of such provisions within the IFSC framework, the shareholders may still refrain from SPAC listing because of tax concerns as well as RBI compliances. Thus, it is evident that any successful framework for SPAC listing in India would need to be a comprehensive set of regulations encompassing every concerned sector in the legislative sphere since a substantial provisional aspect from various laws hinders the listing of SPACs. An individual framework for a particular stock exchange may not be a sufficient corrective measure.

 

IV. Global SPAC Regulations

The architecture of SPAC-based listing differs from one jurisdiction to another. SPACs in the global financial context is still considered to be a relatively new development, consequently, majority of jurisdictions are still in the process of finalisation of SPAC regulations for listing. Some of these jurisdictions have witnessed phenomenal growth in SPAC IPOs.

The United States: Vanguard of SPACs

The United States is at the forefront of SPAC listing and many jurisdictions including the consultative paper for the IFSC in Gujarat have referred to the regulatory framework of the United States. While the SPAC regulations had been in existence for a long time, the New York Stock Exchange (NYSE) saw the first SPAC listing in 2017. Subsequently, there were more than 60 SPAC listings in the NYSE.[47]

SPAC listing in the United States is generally governed by individual stock exchanges, the most prominent of these are the NASDAQ and NYSE. To ensure brevity and avoid unnecessary repetition, this article shall be restricted to the elucidation of SPAC listing requirements in the NYSE. Both the major stock exchanges have similar listing requirements and the analysis of one of them shall suffice for the purpose of this article.

The incorporation of the new section 102.06 within the NYSE listed companies’ manual has permitted the listing of SPACs.[48] The pre-listing requirements enunciated by the manual stipulate that SPACs need to have an aggregate market capitalization of $250 million and the market value of the publicly held shares should be a minimum of $200 million. The public share threshold precludes the shares held by the directors, the officers of the SPAC and their immediate family members. The SPACs have to offer a minimum IPO price per share at $4. Pertinent to note that Section 102.06 does not require the entities listed under it to have an operational history; this is in contrast with the requirements stipulated by other provisions of the manual. [49]

In addition to the aforementioned pre-listing requirement, the SPAC is also mandated with certain post-IPO conditions as well. Section 102.06 requires that 90% of the proceeds from the IPO and related sale of equity securities be held in a trust account by an independent custodian. The market value of the target acquisition by the SPAC should be valued at least 80% of the amount held in the trust account. Further, the acquisition shall be approved by the public shareholders and each dissenting shareholder shall have the right to convert a share of their common stock into a pro-rata basis of the aggregate amount in deposit.

If the shareholders have a shareholding in excess of the threshold determined by the SPAC, the maximum limit being 40%, and decide to exercise their conversion rights then the SPAC shall not be permitted to consummate the transactions. The SPAC shall be liquidated if it does not acquire the target company within a maximum permissible time of three years.[50]

The amended Section 802.01B of the Manual requires the listed SPACs to adhere to the corporate governance requirements applicable to operating companies. It mandates the SPAC to maintain a market valuation of at least $125 million or the global valuation of the publicly held shares has to be a minimum of $100 million.

If the SPAC fails to fulfil either of these conditions, it shall be delisted from the NYSE.[51] Moreover, the NYSE prevents back door listing of companies wherein a larger unlisted company acquires a smaller listed company. If the SPACs engage in back door listing, then they shall be liable to be delisted after such acquisition. The provision implies that SPACs are restricted to the acquisition of entities with a market value lower than that of the SPAC.

While the preceding paragraphs have discussed the modalities of SPAC listing on the NYSE, it is equally significant to emphasise that the SEC has approved the direct listing of companies on the NYSE.[52] Essentially, a direct listing would entail the company selling its existing securities and shares in contrast to the requirement of the creation of new shares, underwriting, and the devaluation of existing shares as required by an IPO. It thus offers the company a pre-emptive solution to avoid the difficulties inherent in the IPO.

Spotify and Slack are the most prominent examples of companies that underwent direct listing.[53] While the advantages of direct listing vis-à-vis SPAC-based listing are debatable, it is indisputable that direct listing offers a cheaper mechanism for the sale of shares and fundraising without any probability of change in the effective management that would have been the case with SPACs. This certainly could affect the popularity of SPACs.

Moreover, the SEC is in consultation for devising a new framework that shall govern SPAC listing in the United States, the SEC’s public statements do indicate their apparent distrust of the SPAC mechanism.[54] The tightening of SPAC regulations could result in fewer SPAC listings but optimistic experts are hopeful that it shall improve the quality of SPACs.

Regulatory Development in the UK

Similar to the situation in India, the absence of any SPAC-specific provision within the laws of UK has deterred increased participation of SPACs in the country.

A review panel under the Chairmanship of Lord Johnathan Hill was set up by the Finance Conduct Authority (FCA) with the objective of amending the listing regulations in the UK to protect its position as a financial hub in the wake of Brexit.[55] The report published therein addresses the disadvantages of London markets vis-à-vis the U.S. markets with regard to the listing of SPACs. The report emphasises on the corrective measures to be undertaken to overcome the disadvantage.

A fundamental defect within the UK’s listing regulations was that it assumed that de-spacing would inherently only consist of the reverse merger procedure. It is indisputable that indeed the reverse merger procedure is the most perceivable procedure utilised by SPACs; however, it cannot be discounted that certain SPAC shareholders would prefer to engage in the swap share procedure with respect to the target company.

The UK listing regulations consist of a presumption of suspension of the SPAC’s trading activities post the identification of the target acquisition.[56] The investors are left in the fear of being locked in a single investment without any guarantee of success.

The report thereby suggests the removal presumption of suspension for SPAC listing similar to the removal of presumption for operating companies.[57] Further, the report urges the FCA to develop guidelines and mechanisms to oversee the rights of shareholders for the voting and redeeming of their investments, the disclosure of information by the SPAC, and the suspension presumption threshold for the maintenance of market integrity.[58]

While the report by Johnathan Hill may not have delved into the nuances and specificities of the SPAC guidelines, it does offer an important insight as to the expectation of investors with regards to the SPAC procedure. Discounting the swap share procedure would entail a loss in investor confidence with a plausible fear of being locked in a particular target company without the possibility of exploring other target acquisitions.

The Singapore Model

It would appear that the proposed admission criteria of SPACs in Singapore are largely similar to the criterion existing in the United States.[59] Perhaps a distinguishing factor is that consultative paper requires the market capitalization calculated on the basis of the issue price to be S$ 300 million and each issue must be for a minimum value of S$10. The market capitalization threshold has been termed as ‘contentious’ by relevant stakeholders.[60] Such a high threshold disincentives lower value SPAC listing in Singapore.

The preclusion of lower value SPACs from availing the benefits accruing from the proposed framework would be contrary to the primary benefits offered by SPAC including a diverse investor base and the promotion of new-age technological companies. A S$10 threshold for the minimum issue price would entail higher participation by institutional investors as compared to retail investors. Arguably, this threshold could have been adopted with the objective to prevent retail investors from participating in such investment mechanisms on account of prevalent uncertainty regarding SPACs.

 

V. Possible Revamp of the Legal Provisions

The discussion in the preceding sections pertaining to the harsh regulatory and taxation provision with regard to SPAC listing and investments is evidence of the need to overhaul the legal provisions in India. Any suggestive framework should take into consideration the regulatory framework, success, failures, lessons, and the problems experienced by other jurisdictions as well.

The revamp should not just pertain to the listing of SPACs in the domestic stock exchanges but to create an enabling environment for the listing of Indian companies on other stock exchanges using the SPAC route. This section offers a two-part discussion on the suggestive measures for the domestic listing of SPACs as well as the use of SPAC route for the foreign listing of a company.

Domestic Listing of SPACs in India

The lack of domestic listing of any SPAC in India despite high investor confidence in such methods should be treated as an anomaly and rectified by the regulators and the concerned authority. The consultation paper for the proposed IFSC does offer an insightful framework that could be utilized for domestic listing of SPACs while protecting investors at the same time. Scepticisms are profound with regard to the viability of introducing SPACs in India, the proposed framework addresses certain scepticisms and ensures that SPACs are not misused in the same way as their theoretical ancestors- blank cheque companies.

The requirements of the sponsor holding a minimum of 20% of the post-paid-up capital, the maintenance of an escrow account for the duration of the utilisation of the investment, and the acquisition timeline of three years have been made with an objective to instil investor confidence and ensure the SPACs are not used for fraudulent activities. It is pertinent to note that, unlike the UK Listing Requirements that excluded the possibility of the swap share arrangements as the modality for the operation of SPAC, the consultation paper does not presume the SPAC operation modality to be restricted to any specific standard.

However, the framework is not perfect as it does not take into consideration the practical issues of Indian capital markets. The prescribed minimum application of $ 250,000 is nowhere near the minimum application for a general IPO in India, at present which amounts to Rs. 15000. Even in such a comparatively lower amount, SEBI has received multiple requests for the reduction of the minimum application to Rs. 7,500-8,000 to ensure a higher subscription of shares by retail investors.[61]

A minimum application of $250,00 would preclude retail investors and limit the SPAC IPO to institutional investors only. Individual investors would be left in the lurch and excluded from reaping any benefit from the increased SPAC activities. To incentivize the participation of individual investors and widen the ambit of a democratic structure in the investment sphere, it becomes necessary for regulators to set the thresholds for offer price and minimum application in conformity with the existing IPO standards. While the consultation paper offers the regulator at the time the liberty to redefine the minimum offer price, it must be noted that the present regulations for IPO do not prescribe any minimum offer price.

Assuming that the regulators redefine the minimum threshold for offer and application, the guidelines and regulations for the initiation of SPAC IPOs should be in accordance with the governing laws of the country. This would imply either amending the existing laws or introducing new laws specifically for SPACs.

Primary amendments need to be introduced within the Companies Act, 2013. There is a need to define SPACs and shell companies including the modus operandi of such companies. The definition should entail the distinction between SPACs and shell companies incorporated for evading taxation and other regulatory requirements.

There also is a need to address the concerns pertaining to section 8 (10) which limits mergers to entities having the same objective, potentially limiting the operation of SPACs. A provision to exempt reverse merger under de-spacing would be sufficient without adversely affecting the broad legislative ambit of the provision. Further, section 248 of the Act which empowers the registrar to cancel the licences of companies that do not commence business within one year of its incorporation needs to be suitably reviewed.

It would be prudent to limit the applicability of this power of the registrar with respect to entities not classified as SPAC. The exemption under section 455 need not be altered as availing a defunct status would not serve any purpose for the SPAC and would unduly impose a greater legislative requirement for the amendment. 

In addition to suitable amendments to the Companies Act, the authorities would also need to amend the ICDR regulations since it is the governing law of the country for listing requirements.

Regulation 6(1) imposes substantial hurdles on SPACs for listing. Irrespective of the ability of sponsors to attach monetary assets to the SPAC, the requirements pertaining to prior operation would not be met since it would be technically opposite to the functionality of the SPAC. Further, it would be in contradiction to the suggested framework of the IFSC that requires the SPAC to not engage in any other operations.

Since the exemptions under Regulations 6(2) reduce the participation of the retail investors to merely 10% of the shareholding, it is not prudent to solely rely on the exemptions. A beneficial way to address the problem would be to incorporate a new section within the ICDR regulations that enlist special provisions for SPAC listing notwithstanding the requirements under Regulation 6(1).

In addition to the aforementioned changes to the framework within SEBI, the Companies Act, and the IFSC proposed regulations, the individual stock exchanges such as the BSE and NSE should introduce their own framework encompassing the mechanisms for authorization, review and other related aspects for the listing of SPACs. This would be in conformity with global practices wherein NASDAQ, NYSE, LSE and the SGX have their own compliance and regulatory mechanisms for the listings of SPAC.

Enabling Foreign Listing of Companies

In the past, three Indian companies had enabled their listing on the U.S Stock exchanges using the SPAC route.[62] Notwithstanding the use of swap shares or the reverse merger procedure for de-spacing, the FEMA and the taxation burdens are the major disincentives for the participation of the Indian Shareholders.

While the Companies Act and the Companies (Merger) Rules permit such outbound mergers, the limitation imposed by the LRS on the FMV of securities held by Indian Shareholders to $250,000 would deter meaningful participation of Indian Shareholders in de-spacing. As noted above, the minimum application even for IFSC proposed regulation is $250,000, thus, implying that Indian shareholder’s participation shall be limited to the minimum application. The FMV of SPAC shares is bound to be higher than $250,000 thereby the RBI needs to reconsider the limits set in the LRS.

The humongous taxation of investors in the event of ‘transfer’ of shares during de-spacing demands adequate consideration as well. The transfers being categorised as capital gains would entail 10-40% of the income being taxed. It excludes the de-spacing transfers from the exemptions granted to the transfer of shares on account of the amalgamation of the entities. The easiest way forward is to incorporate de-spacing as an exemption under Section 47 of the IT Act.

Further, the burden of the taxes would be on the SPAC as a whole and not befall individually on the Indian shareholder thus, not resulting in the apparent disadvantage of the Indian shareholders in comparison to the other investors. Thereby, any changes to the inherent taxation structure based on the place of business is outside the scope of this article.

Instead, an easier mechanism that could be utilised by SPACs is to establish a foreign subsidiary of the Indian target acquisition and enroute the de-spacing by swap shares mechanism of the foreign subsidiary and thereby circumvent the Indian taxation regulations.[63] Another solution would be to engage in reverse merger of the Indian target company resulting in the additional taxation condition of 50% being negated since primarily the Indian company takes over the SPAC and is not considered a subsidiary.[64]

The utilisation of these practices to circumvent the Indian taxation regime using the applicable laws would give SPAC investors the incentive to acquire Indian target acquisition till such time the taxation regime could be suitably overhauled by undertaking a comprehensive study and amendment exercise. These practices may not be the ultimate solution but the application of these by select SPAC investors does suggest that the mechanism can be utilised for the time being.

 

VI. Conclusion

This article has engaged in an in-depth analysis of SPAC-based listing and the suggestive framework proposed herein is inspired by global practices. It is evident that the Asian markets shall witness a surge in SPAC investments in the foreseeable future and countries like Singapore are already in the consultative phase of formulating guidelines to facilitate SPAC investments.

The burgeoning start-up ecosystem in India and the increasing need for financing of such companies offer an ideal market for SPAC investors. The inherent expenses and difficulty in IPO-based listing necessitate the adoption of SPAC listing wherein the companies are able to directly list themselves on the stock exchanges irrespective of the listing prerequisites. It offers the companies an attractive and viable alternative investment route. 

The existing legal framework in India does not permit the domestic listing of SPACs and the taxation conundrum makes the acquisition of the Indian company by a foreign-listed SPAC expensive and unattractive. The potential growth of SPAC investments in Asia necessitates the overhaul of the legal framework in India to exploit the benefits of SPACs. The consultative paper for the proposed SPAC listing in the GIFT city is largely similar to the framework of listing in the United States albeit requiring certain modifications.

The analysis of global frameworks for listing reveals that although the proposed framework for the listing of SPACs in a particular exchange in India is similar to global practices, problems arise in related legislative frameworks such as the ICDR, Companies Act, and Income Tax Act. These legislative frameworks do not permit the operation of SPACs.

The suggestive framework proposed herein offers solutions for the concerned stakeholders and authorities to adopt a new structure within the existing framework carving out exemptions for SPACS. It indicates that domestic SPAC listing in India is a possibility but shall be achieved only by the comprehensive overhaul of hindrances existing in every statute.

Further, the offshore listing of Indian companies using the SPAC route is riddled with taxation difficulties. Foremost, the RBI needs to alter the 250,000 threshold for Indian shareholders under the LRS, this limit is specifically disadvantageous to Indian shareholders in the event of a SPAC merger. Further, the article has refrained from suggesting an alternative taxation regime as it would have wider ramifications than desired and the authorities would need to undertake a comprehensive study of the legislative framework. Mechanisms that circumvent the taxation regime are the alternative to the taxation concerns. The past use of these mechanisms is illustrative of their ability to make Indian target companies a desirable acquisition for foreign listed SPACs.

​

[1] Matt Levine, SPAC Magic Isn’t Free, BLOOMBERG (Jan. 8, 2021), https://www.bloomberg.com/opinion/articles/2021-01-08/spac-magic-isn-t-free .

[2] Emily Graffeo, SPACs Have Raised Record $100 Billion in 2021, But Activity Levels Have Plummeted by More Than 80% in Recent Months, BUSINESS INSIDER (May 20, 2021), https://www.businessinsider.in/stock-market/news/spacs-have-raised-a-record-100-billion-in-2021-but-activity-levels-have-plummeted-by-more-than-80-in-recent-months/articleshow/82803158.cms .

[3] Ravi Shah, Using SPAC Vehicles as a Means of Listing Outside India, CONVENTUS LAW (Sept.15, 2020), https://www.conventuslaw.com/report/using-spac-vehicles-as-a-means-of-listing-outside/ .

[4] What You Need to Know About SPACs- Updated Investor Bulletin, U.S SECURITIES AND EXCHANGE COMMISSION (May 25, 2021), https://www.sec.gov/oiea/investor-alerts-and-bulletins/what-you-need-know-about-spacs-investor-bulletin .

[5] Id.

[6] Derek K Hayman, From Blank Cheque to SPAC: The Regulator’s Response to Market and the Market’s Response to Regulator, 2 EBLJ 531, 534 (2007)..

[7] Id., at 535.

[8] Id.

[9] Id., at 536.

[10] Commodity and Security Exchanges, 1993, § 230.419.

[11] Derek Hayman, supra note 6, at 538.

[12] Id., at 539.

[13] Amrith Ramkumar, SPAC Pioneer Reaps the Rewards After Waiting Nearly 30 Years, WALL STREET JOURNAL (Mar. 9, 2021), https://www.wsj.com/articles/they-created-the-spac-in-1993-now-theyre-reaping-the-rewards-11615285801 .

[14] See, How SPAC Mergers Work, PRICE WATERHOUSE COOPER (July 10, 2021), https://www.pwc.com/us/en/services/audit-assurance/accounting-advisory/spac-merger.html  (explains the structure and working of the SPACs including the method of acquisition of target companies).

[15] Ivana Naumovska, SPAC Bubble is About to Burst, HARVARD BUSINESS REVIEW (Feb. 18, 2021), https://hbr.org/2021/02/the-spac-bubble-is-about-to-burst .

[16] Id.

[17] SEC Microcap Fraud-Fighting Initiative Expels 379 Dormant Shell Companies to Protect Investors From Potential Scams, U.S. SECURITIES AND EXCHANGE COMMISSION (May 14, 2021), https://www.sec.gov/news/press-release/2012-2012-91htm .

[18] SEC Chairman Jay Clayton on Disclosure Concerns Surrounding Going Public Through SPAC, CNBC (Sept. 21, 2020), https://www.cnbc.com/video/2020/09/24/sec-chairman-jay-clayton-on-disclosure-concerns-surround-going-public-through-a-spac.html .

[19] Number of startups recognized by DPIIT goes up to Fifty Thousand, MINISTRY OF COMMERCE AND INDUSTRY (June 3, 2021), https://pib.gov.in/Pressreleaseshare.aspx?PRID=1724043 .

[20] India’s Unicorn Tally Touches 50, MindTickle the Latest Entrant, BUSINESS STANDARD (June 22, 2021), https://www.business-standard.com/article/companies/indian-startup-ecosystem-crosses-the-threshold-of-50-unicorns-121061601323_1.htm l.

[21] Security and Exchange Board of India, Disclosure and Investment Protection Guidelines (January 19, 2000), Cl. 16.

[22] Kurt Chaudière et al., Earning the Premium: A Recipe for Long-Term SPAC Success, MCKINSEY & COMPANY (Sept. 23, 2020), https://www.mckinsey.com/industries/private-equity-and-principal-investors/our-insights/earning-the-premium-a-recipe-for-long-term-spac-success .

[23] Bankers say all aboard for great Asia SPAC merger lift-off, REUTERS (Apr. 21, 2021), https://www.reuters.com/article/us-asia-m-a-idUSKBN2BO44B .

[24] See, Companies Act, 2013, § 2 (SPACs and shell corporations have not been defined within Section 2 that contains the definition of all the terms used in the Act).

[25] Id., § 4(1)(c).

[26] Companies Act, 2013, § 8(10).

[27] Id., § 248.

[28] Securities and Exchange Board of India (Issue of Capital and Disclosure Requirement) Regulations, 2018, Reg. 6(1).

[29] Id.

[30] Id., Reg. 32(2).

[31] Id.

[32] Companies Act, 2013, § 234.

[33] Companies (Compromises, Arrangement and Amalgamation) Rules, 2016, Rule 25A.

[34] Reserve Bank of India, Master Direction, Liberalized Remittance Scheme, RBI/FED/2017-18/3 (Jan. 1, 2016).

[35] Income Tax Act, 1961, § 47.

[36] Id., § 45.

[37] Id., § 47.

[38] Income Tax Act, No. 43 of 1961, Explanations 5 and 6 to § 9(1)(i).

[39] Id., Explanation 7 (b) to § 9(1)(i).

[40] See, India Tax Profile, KPMG (Apr. 7, 2018),  https://assets.kpmg/content/dam/kpmg/xx/pdf/2018/10/india-2018-v2.pdf  (The material provides a brief note on the taxation system in India with respect to companies registered in other jurisdictions). 

[41] Income Tax Act, 1961, § 6(3)(iii).

[42] Id.

[43] Consultation Paper on Proposed IFSCA (Issuance and Listing of Securities) Regulations, 2021, Reg. 4 (‘IFSC’).

[44] Id.

[45] Id.

[46] Id., Reg. 5.

[47] Himanshu Dubey and C S Ajay Kumar KV, An Overview of SPACs and Related Concerns in India, VINOD KOTHARI CONSULTANTS (July 5, 2021), http://vinodkothari.com/wp-content/uploads/2021/03/An-overview-of-SPACs-and-related-concerns-in-India.pdf .

[48] New York Stock Exchange Listed Companies Manual, § 102.06, available at https://nyseguide.srorules.com/listed-company-manual/09013e2c8503fc90 (‘NYSE’).

[49] See, Gustavo A. Pauta and David H. Hung, SEC Approves the NYSE’s Proposed Rule Change to Allow the Listing of SPACs, LEXOLOGY (June 4, 2008), https://www.lexology.com/library/detail.aspx?g=9b72a41c-1d3b-47d8-9260-3a0a755cde0c   (the material encapsulates the interpretation of Section 102.06).

[50] Id.

[51] NYSE, supra note 48.

[52] Allison Herren Lee and Caroline A. Crenshaw, Statement on Primary Direct Listings, U.S. SECURITIES AND EXCHANGE COMMISSION (Dec. 23, 2020), https://www.sec.gov/news/public-statement/lee-crenshaw-listings-2020-12-23 .

[53] Palantir’s IPO Shortcut:  A Direct Listing, WALL STREET JOURNAL (Sept. 29, 2020), https://www.wsj.com/articles/the-ipo-shortcut-a-direct-listing-11560976972 .

[54] U.S Watchdog Mulls Guidance to Curb SPAC Projections, Liability Shield, REUTERS (Apr. 29, 2021), https://www.reuters.com/business/exclusive-us-watchdog-weighs-guidance-aimed-curbing-spac-projections-liability-2021-04-27/ .

[55] Id.

[56] Jonathan Hill, U.K Listing Review, UNITED KINGDOM GOVERNMENT (Mar. 03, 2021), https://assets.publishing.service.gov.uk/government/uploads/system/uploads/attachment_data/file/966133/UK_Listing_Review_3_March.pdf .

[57] Id., at 28.

[58] Id., at 31.

[59] See, Singapore Exchange, Consultation Paper for the Proposed Listing Framework for Special Purpose Acquisition Companies (Mar. 31, 2021).

[60] Singapore Exchange to Prepare for $222 million SPAC Listing, NIKKEI ASIA (Mar. 31, 2021), https://asia.nikkei.com/Business/Markets/Singapore-Exchange-to-prepare-for-222m-SPAC-listings .

[61] Sebi in Talks to Cutdown Minimum Application Size to Help Retail Investors, MONEY CONTROL (Jan. 27, 2021), https://www.moneycontrol.com/news/business/ipo/sebi-in-talks-to-cut-down-minimum-application-size-for-ipos-to-help-retail-investors-6403771.html .

[62] Ravi Shah, supra note 3.

[63] S.R Patnaik, Assessing Indian Tax Considerations for Successful Offshore Listing of Indian Companies, CYRIL AMARCHAND MANGALDAS (Sept. 22, 2020), https://tax.cyrilamarchandblogs.com/tag/spac/ .

[64] Id.