Financial R&R: Is the SPAC Frenzy Coming to an End?
Given all the activity we saw at the beginning of the year - Is the "SPAC-Attack" over? Ron Borys, Ryan Farnsworth, Brian Dunphy and Steve Shappell, Alliant, discuss why the frenzy that swept the market earlier this year may be coming to an end. Or is it?
Welcome to Financial R&R, a show dedicated to financial insurance and risk management solutions and trends shaping the market today. Here are your hosts, Ron Borys and Ryan Farnsworth.
Ron Borys (00:14):
Well, welcome, everyone. This is Ron Borys and I'm here today with some special guests, Ryan Farnsworth, who works with me in the Financial Institutions Group at Alliant. And I also have Brian Dunphy, who leads our Management Professional Solutions team at Alliant and Steve Shappell leads, Claims and Legal, and today we're talking SPACs. Obviously, there's been some changes with regard to some regulatory oversight and some changes with regards to some accounting rules that has certainly impacted the flow that we've seen in particular of SPACs. However, I don't know Steve, looking at sort of the stats, it's hard to say that things have slowed down at all. We've already seen more SPAC IPOs through the first six months of this year, than we did in all of 2020, right?
Steve Shappell (00:57):
Yeah, absolutely. By my count, we're over 350 SPAC IPOs this year, there were 248 last year. So, to say that the SPACs have slowed down would be kind of misleading. Right. And certainly, when the SEC came out and talked about the treatment, they expected of warrants, it did slow down the number of filings and companies going public as there were restatements and companies address their S1's to meet with the SEC’s expectations on how warrants were going to be treated. But that being said 369 is a lot, we have, I think there's been 301 deals completed so far this year. So, it continues to be pretty robust for the year.
Ron Borys (01:44):
Yeah. And I know we've certainly been involved in taking a couple of public over the last month or so, Brian, obviously in the world that you're overseeing and running. Can you talk a little bit about what your team has been sort of working on?
Brian Dunphy (01:56):
Yeah, sure. Thanks Ron. Well, SPACs in the last, I'd say three months have taken a more judicious approach to listing. What we're seeing now is a shift in the continuum of what SPACs are doing right. As we're further into the hunting phase of the 240 some odd SPACs that went in 2020 as well as the ones that launched in January and February. Really what looked like a race to the finish line almost now, in retrospect, we're seeing a lot more activity in the initial business combination or de-SPAC phase of the life cycle. And so, there's added strain on the public company, D&O market to address those companies being brought into the public markets. And so those risks being what they are, have presented at a whole set of not new, but sort of a refresh, maybe a better word to use refresh challenges for underwriters as they look to how to deploy capacity in a way that is both supportive to the client, but also protects them as insurers from paying what could be a catastrophic loss in the event of a bad claim.
Steve Shappell (03:09):
Further to that point, Ryan Farnsworth, and I, recently co-authored a piece for the New York law journal on that exact point, Brian, right? This is something that keeps me awake at night. These claims will come in post a business combination, which we refer to as straddle claims, meaning the claims will come in and the allegations of wrongful conduct will be on both sides of the kind of magic combination date. And that presents some real challenges for the insurance coverage, right, which will be purchased. These tail coverage will often off the shelf have language which will exclude coverage for claims, which have wrongful acts alleged prior to the business combination or after the business combination, leading insureds in a real tough position. If they're taking off the shelf language for these, this tail cover with no coverage, because these claims by their very nature, alleged wrongful acts on both sides of the transaction and the two most recent ones that were filed this month, Draft Kings and Car Lots, both really highlight that issue where both of those complaints alleged the straddle allegations and the Draft King one, in addition to the straddle allegations, also names, SPAC defendants. So, it becomes really critically important to your point, Brian, that we really spend a great deal of time on this language because the claims are coming in and the policies are not properly crafted to address is very predictable straddle dilemma, we're going to have some very unhappy clients.
Ryan Farnsworth (4:43):
That's going to make the entire industry look bad. I mean, if the breakneck pace of the IPOs that launched in the last 18 to 24 months at the cost that they were incurred to launch and the high retentions if the coverage doesn't work, that's going to be some significant issues for, for us as an industry. And we have to get it right, because we've helped SPACs launch. We've helped firms go through the De-SPAC process. We see that that needs a lot of work. And especially as these claims come through with all of the allegations that we fear with that type of language, it needs to be done the right way.
It needs to be done the smart way. And hopefully all of us clients, lawyers, underwriters, and brokers can all understand that it's in everyone's best interest to get it right, because until the certainty of, or at least as much certainty as possible comes about what is the expectation for coverage? What is the expectation for the amount of litigation that's going to be brought in the circles of SPACs and De-SPACs in the coming years? The market's still going to be very difficult for placement from a retention standpoint and pricing standpoint, capacity. You've said it before, Steve, I think you've been counting there’s over 400 right now that are searching for an initial business combination. And that brings a lot of other issues, which we can discuss separately, but that's also 400 plus policies that need to speak to each other correctly from this back private company and De-SPAC situation when it comes to the policy language.
Steve Shappell (06:16):
You're absolutely right about that, Ryan. Right. And you know, when I have conversations with some of the claim’s leadership within some of the markets that are doing this SPAC work, right, we're discussing this dilemma. By my count 424, SPACs looking for a business combination at some point, the view is that we'll have some ever selection going on and that either there'll be some ill-advised business combinations because they're running up against the magic two-year period that they have to either combine or dissolve the trust and/or they’ll combine. And the amount of experienced leadership management for operating public companies is not an infinite amount of individuals out there, right? There's, there's not that many people who, with the experience and the talent to run a public company, right. I always liken it to a lobster trap, right. It's kind of easy to get into, but it's really uncomfortable to live in that lobster trap. And unless you're experienced on how you're surviving that lobster trap.
Ron Borys (07:15):
I think that's going to continue to be a huge focal point. You know, obviously, there are some firms that, that we work with in the financial institution segment that that's their business, right? is recruiting people to run companies, you know, particularly in the private equity segment. And I would say from, from our perspective, those are the clients that we continue to see making the investments and putting together the infrastructure to continue to successfully offer these SPACs or launched these SPACs quite frankly, because I think it's just part of their DNA, right? They're very comfortable in doing so. They have a very robust set of policies and procedures associated with sourcing businesses, recruiting management teams, focusing on governance at that level. I think what you're probably going to see a shift in is, you know, some of the other firms, because let's face it. I mean, when you look at 2020, and in the first part of 2021, it was pretty easy for people to enter into the SPAC game.
Didn't require a lot of capital. It didn't require a lot of background information, et cetera, pretty much anybody could launch a SPAC. You saw a lot of celebrity SPACs. I, I certainly think that aspect of the industry is starting to simmer a little bit to your point though right Steve, because they're just, there's a concern about just supply and demand of, of adequate people to, to essentially step in and run these businesses, post business combination. And that's certainly where the plaintiff's attorneys are going to be focused, right? I mean, at the end of the day, it's going to be very hard. It's going to be a high standard for them to go and just attack anyone for the sake of attacking them as a SPAC. But if they start getting wind that these businesses are not being run effectively as public companies from a governance and from a regulatory perspective, that's where they're going to try to sink their teeth and go after folks. And, and I'm sure that's, what's probably keeping some of these folks on the insurance carrier side up at night.
Brian Dunphy (08:59):
The interesting thing about that, just sort of in a broader context, Ron, is that when you look at the first half results for the number of securities class action claims filed broadly, irrespective of sector, is that it's way down against historical averages. It's something that we're watching. I think it's down like four, we haven't seen the mid-year report, but according to just basic back of the napkin, now that looks like it's down about 40% year-over-year compared to the same time last year, which in 2020 was down against 2019, but this year they're decidedly down. Yet within that, the number of claims as we were talking about before against companies that have gone through a De-SPAC transaction makes up a relatively sizable percentage of that overall number. And to your point, I wonder if people are just, if plaintiff's attorneys at is, are just waiting to get back in the game on what could be the soon-to-be avalanche of these SPAC transactions.
Don't know it's something that to watch and keep an eye on because if the trend continues, we'll be at the lowest level of SCA is filed. And over five years, I believe if my memory serves correct.
Steve Shappell (10:09):
You're spot on Brian, that's the right math, right. This is a historic norm in the last four or five years, about 180 for the first half. And we were at 108 this year. So that's encouraging that, you know, big picture, but to your point, right, it was at 14% of those claims. And now 14% of the claims as of today are SPAC related. And that is a legitimate thing for us to keep our eye on. Some of them really have nothing to do with the SPAC. Right. It was just a vehicle. And you have the fact that it was a SPAC is not really that relevant other than two years ago, right. It came about via SPAC.
Ron Borys (10:45):
Yeah. You know, I had a conversation just this past week with a public company CFO and kind of with raising those statistics and, and the question is, well, that's the case, right? That should be a good thing for underwriters. Right. Shouldn't that mean that the market should somewhat stabilize and come a little bit more buyer friendly and it will be interesting, right. Because I think right now everybody's sort of a little surprised by that number. Just given how far off it's been from what the trend has been over the last decade, per se. I think certainly in the back arena, we are seeing claims. There have been securities class action claims filed. And now, as you know, Steve, right doing this for a while, this is long tail stuff. Unfortunately, these claims don't resolve themselves in a matter of weeks or even months, and in some cases, they can take over a year. So, we're really fortunate to have you and your team kind of keeping a close eye on this stuff, tracking it very carefully. Certainly, enables our clients in this area to find a more rewarding way to manage their risk and sort of manage their dollars with regards to how they're spending money on insurance and thinking about these types of transactions. And listen, from my perspective, I feel like we can continue to talk about these things, right? Every week if we wanted to, but yeah, I'm just really excited and thankful to have three colleagues like you all to just be able to talk about this stuff and be able to put together this type of format to share our experience and our knowledge with our clients and the broader industry. So with that, we'll conclude our conversation for today. Thanks for taking some time out of your busy schedules to record this. For those of you listening, do you want more information on our team or Alliant in general, you can visit our website at www.alliant.com, but otherwise stay tuned for our next podcast and hope you all have a great day and talk to you soon. Thanks so much.
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