Introduction

On 17 September 2021, The Stock Exchange of Hong Kong Limited (the “Stock Exchange”) published a consultation paper (the “Consultation Paper”) to seek the market’s opinion on creating a listing regime for special purpose acquisition companies (“SPACs”) in Hong Kong. According to the Stock Exchange, the introduction of SPAC listing regime in Hong Kong would be in line with the Stock Exchange’s strategy to remain a competitive international financial centre that can continue to attract Greater China and South East Asia companies to list in Hong Kong that may otherwise choose to list elsewhere.

What is a SPAC?

The listing of SPACs has gained prominence in the US in recent years. A SPAC is a type of shell company with no operating business. Its sole purpose is to conduct an acquisition of a target company (“De-SPAC Target”) within a specific time period in order to achieve a listing of the De-SPAC Target (“De-SPAC Transaction”). SPACs have no assets other than the proceeds received from their initial public offering (“IPO”) and the funds raised from professional managers (“SPAC Promoters”), which will then be used for completing the De-SPAC Transaction. The role of SPAC Promoters is particularly important because, at the time of the SPAC’s listing, the De-SPAC Target is still unknown. Investors have to rely on the ability of these SPAC Promoters, who are usually experienced in private equity, corporate finance and/or other relevant industry, to identify a suitable De-SPAC Target and negotiate favourable terms for the De-SPAC Transaction in order to create value for their investment.

Unlike traditional IPOs where investors are simply buying shares from the issuer, SPACs commonly offer “units” (“SPAC Units”) made up of one share of common stock (“SPAC Share”) coupled with a (fraction of) SPAC warrant (“SPAC Warrant”). A SPAC Warrant confers the holder a right to purchase a SPAC share (or a fraction of it as the case may be) at a set exercise price greater than the IPO price of a SPAC Unit. This provides compensation to IPO investors for their lack of return on their investment until occurrence of a De-SPAC Transaction. SPAC Warrants often become exercisable either 30 days after the completion of a De-SPAC Transaction or 12 months from the IPO closing, whichever later, and expire 5 years after the De-SPAC Transaction. Meanwhile, the SPAC Promotor will pay a nominal consideration, typically at a discount, for shares of a separate class to the shares issued by a SPAC (“Promotor Shares”) as a financial incentive to establish and manage the SPAC. The Promotor Shares can be converted into SPAC Shares at the time of the De-SPAC Transaction on a one-for-one basis. In addition, the SPAC Promotor will normally purchase warrants of a separate class to SPAC warrant.

In the event a SPAC fails to complete a De-SPAC Transaction within the designated period, it must seek approval from SPAC shareholders for an extension or otherwise, liquidate. If the SPAC is liquidated, investors will receive a pro rata amount of the funds held by the SPAC and their SPAC Warrants will become worthless.

Proposed conditions for SPAC listings

In the Consultation Paper, the Stock Exchange proposed, among others, the following conditions for SPAC Listings in Hong Kong:

Investor suitability

The Stock Exchange proposes to restrict the subscription and trading of a SPAC’s securities prior to its De-SPAC Transaction to professional investors (as defined under the Securities and Futures Ordinance) only, despite the lack of similar restrictions in other comparable jurisdictions including the US, the UK and Singapore. In addition, a SPAC must distribute each SPAC Shares and SPAC Warrants to a minimum of 75 professional investors, of which 30 must be institutional professional investors. The Stock Exchange believes that professional investors will be better placed to assess, monitor and mitigate the risks associated with SPACs.

SPAC Share issue price and redemption option

Considering the typical SPAC Unit price in other jurisdictions, the Stock Exchange proposes a price of HK$10 or above for each SPAC Unit, so as to ensure spread for each price tick and help mitigate the relatively high price volatility associated with SPACs.

The Stock Exchange also proposes that it should be mandatory for SPACs to provide a redemption option, and that shareholders who elect to redeem should receive a pro rata amount of 100% of the funds raised by the SPAC at its listing, at the price at which such shares were issued, plus accrued interest.

Requirements on SPAC Promoters

Given the importance of SPAC Promoters in a SPAC’s listing, the Stock Exchange proposes that each SPAC Promoter must be capable of meeting a standard of competence commensurate with their position and the Stock Exchange must be satisfied as to their character, experience and integrity at listing and until the completion of a De-SPAC Transaction. For this purpose, the Stock Exchange proposes to require each SPAC Promoter to provide information regarding his or her background and experience in order to determine their suitability. Further, at the listing and on an ongoing basis for the lifetime of the SPAC, at least one SPAC Promoter must be a firm that holds (a) a Type 6 (advising on corporate finance) and/or a Type 9 (asset management) license issued by the Securities and Futures Commission; and (b) at least 10% of the Promoter Shares.

In respect of SPAC Promoter lock-up, the Stock Exchange proposes to prohibit SPAC Promoters from disposing of their Promoter Shares in the period ending 12 months from the date of the completion of the De-SPAC Transaction, and requires that the terms of Promoter Warrants state that the Promoter Warrants are not exercisable during this period.

Fund raising size

The Stock Exchange proposes that the funds expected to be raised by a SPAC from its listing must be at least HK$1 billion.

Funds to be held in trust

To protect the funds raised by SPACs, the Stock Exchange proposes that 100% of the gross proceeds of a SPAC’s initial offering be held in a ring-fenced trust account located in Hong Kong. The trust account shall be operated by a trustee with particular qualifications in the form of cash or cash equivalents. These funds must not be released other than (i) to meet redemption requests of SPAC shareholders; (ii) to complete a De-SPAC Transaction; or (iii) to return funds to SPAC shareholders.

Deadline for completing De-SPAC transaction

The US stock exchange rules generally stipulate that a SPAC must complete a De-SPAC Transaction within 36 months of its IPO without further extension. The UK and the Singapore, however, are both proposing a deadline of 24 months in their respective recent consultations, subject to possibility of extension. Having compared and considered the above, the Stock Exchange proposes that a SPAC in Hong Kong should complete its De-SPAC Transaction within 36 months of the date of its listing.

Eligibility of De-SPAC Targets

The Stock Exchange proposes to exclude investment companies from being eligible as De-SPAC Targets. Further, a De-SPAC Target must also have a fair market value of at least 80% of the funds raised by the SPAC from its initial offering in order to ensure that it has sufficient substance to justify a listing. The Stock Exchange also seeks feedback through the Consultation Paper on whether it should impose a requirement that the SPAC use a certain proportion of the net funds it raises as consideration for the De-SPAC Transaction.

To mitigate the risk of artificial valuations of De-SPAC Targets by SPAC Promoters, the Stock Exchange also proposes to mandate a SPAC to obtain funds from outside independent third party investors for the purpose of completing a De-SPAC Transaction, which should constitute at least 25% of the expected market capitalisation of the successor company (i.e. the company to be listed upon completion of the De-SPAC Transaction). In addition, at least one such independent investor must be an asset management firm with assets of at least HK$1 billion under management or a fund with a fund size of at least HK$1 billion.

Application of the Takeovers Code

The Stock Exchange considers that SPACs will be primary listed in Hong Kong and are unlikely to be subject to laws and regulations of other jurisdictions except for those of their place of incorporation. On this basis, after consulting the Takeover and Mergers Panel of the Securities and Futures Commission (“SFC”), the Stock Exchange proposes that the Codes on Takeovers and Mergers and Share Buy-backs (the “Takeovers Code”) will apply to SPACs prior to the completion of a De-SPAC Transaction. However, it is proposed that the application of Rule 26.1 of the Takeovers Code in relation to a De-SPAC Transaction which would result in the owner of the De-SPAC Target obtaining 30% or more of the voting rights should normally be waived, subject to a formal application to be made by the owner of the De-SPAC Target to the SFC.

Conclusion

The Stock Exchange acknowledges that its proposal would result in a SPAC listing regime that is more stringent than that of the US, with a view to maintain and enhance Hong Kong’s reputation for high quality listings. The consultation will remain open for 45 days until 31 October 2021. The Stock Exchange will consider the responses and comments received before deciding any further appropriate action and publishing a conclusions paper. Members of the public and market practitioners are reminded to submit their responses should they hold any opinion on Hong Kong’s SPAC regime.