On 22 February 2021, luxury electric vehicle manufacturer Lucid Motors agreed to go public by merging with the Special Purpose Acquisition Company (SPAC) Churchill Capital Corp IV in a deal that valued the combined company at USD 24 billion. While SPACs are a dominant trend in the U.S. (representing 198 out of the 244 IPOs to date in 2021), continental Europe lags behind, with an incipient revival of SPACs in Germany with the IPO of Lakestar SPAC 1 SE in February 2021. To date, no SPAC has been incorporated in Switzerland and listed on Swiss stock exchanges. However, this might be about to change, not least because of the revision of the law on joint-stock corporations. Against this background, this article briefly highlights the key aspects of a SPAC-transaction and discusses three selected issues these vehicles have to face in Swiss capital markets law and regulation. 

By Claude Humbel / Thomas van Gammeren (Reference: CapLaw-2021-16)

1) SPACs: An Overview

a) Preliminary Remarks

SPACs are companies formed to raise capital through an initial public offering (IPO) for the exclusive purpose of using the proceeds to acquire one or more unspecified business or assets to be identified after the IPO in a business combination. 

b) Brief Timeline of a SPAC-Transaction

i. Pre-IPO-Phase

In the formation phase, financial sponsors assemble a management team and fund an equity stake in the SPAC. The equity investment then funds the initial business operations to launch an IPO. Although the ratio can vary, the founders’ stock customarily represents approximately 20% of the post-offering stock.

ii. IPO-Phase

Shortly after the SPAC is established, it goes through an (expedited) IPO in which capital is raised with the goal of buying a target company. Apart from the following peculiarities, the IPO of a SPAC follows the structure of a traditional IPO. As there are no historical financials to be disclosed or assets to be described, the IPO prospectus of a SPAC mostly consists of boilerplate language and the D&O biographies. Typically, it indicates that the filer is a blank check company. Further, it describes the sector in which the SPAC intends to conduct a business combination and the criteria to be used for determining the suitability of a target company. In an IPO, SPACs typically issue tradeable “units” that consist of common shares carrying voting rights and warrants. Albeit being initially marketed as a unit, shares and warrants can be traded separately. Upon closing of the IPO, the SPAC funds a trust account (i.e., an escrow account) with the capital that has been raised through the IPO.

iii. De-SPAC Transaction

Following the SPAC listing, the management has a fixed amount of time to find an appropriate acquisition target (usually 18–24 months). Once the management has identified such target, shareholders have to approve the potential business combination (in the U.S. the preferred method is a reverse merger, in Switzerland a business combination in which the SPAC is the surviving entity seems more viable). Investors that oppose this combination have rescission and redemption rights as specified in the SPAC’s organizational documents. If the requisite percentage of investors (usually 60–80%) approves the management’s proposal, the latter executes the combination. If needed in order to finance a portion of the purchase price, the SPAC arranges committed debt or equity financing, such as a private investment in public equity (PIPE) commitment. After the combination, the target company will be listed. On the other hand, if the business combination is not consummated within the set period of time, the SPAC is liquidated.

c) Advantages and Downsides of SPACs Compared to Traditional IPOs

i. Main Advantages 

One advantage of a SPAC-IPO is that the preparation and registration process is accelerated to a matter of weeks, instead of months for operating businesses, and significantly reduces both legal and other underwriting fees. Going public through a SPAC also offers the target company a quicker and cheaper public listing than traditional IPOs and even – to a certain extent – direct listings. By not having to spend time and financial resources on marketing, roadshow, book-building, etc., the management of the acquiree can save costs that come with a traditional IPO. Other (indirect) cost savings can relate to the underpricing risk that traditional IPOs entail. Finally, whereas traditional IPOs depend on market conditions, de-SPACs are largely independent from the latter. Since the target firms do not have to convince public investors by the lengthy marketing of a traditional IPO, this method of going public often comes into play when volatility is high and the (cyclical) IPO markets are ebbing. 

ii. Potential Downsides

Quantitative studies have shown that private owners that chose to exit their company through business combinations with SPACs have earned less than those that preferred an IPO to go public. Although this result is driven by the pre-exit characteristics of the companies and not due to the exit mechanism itself, it reveals another potential risk inherent in such transactions, i.e., the risk for investors of investing in sub-par companies that are attracted by the prospect of an expedited public listing. In our view, this risk is mitigated by the charter and contractual framework of a SPAC, in particular by the vote on the combination and by the rescission and redemption rights. Moreover, as SPAC listings become a better-known alternative, they might attract more sophisticated companies (see, e.g., the Swiss tech-company HeiQ’s recent listing on the London Stock Exchange).

2) Switzerland’s Stance on SPACs

a) Preliminary Remarks

At the time of writing, no SPACs have been incorporated and listed in Switzerland. However, Swiss banks are major players in the U.S. SPAC market and are currently exploring options to bring this vehicle to Switzerland. Most of a SPAC’s characteristics can be replicated by contractual agreements and charter provisions. Nevertheless, both the Swiss law on joint-stock corporations and Swiss capital markets regulations pose some challenges. One of the impediments is the 10% limitation on the acquisition of one’s own shares under article 659 of the Code of Obligations (CO). This is problematic in light of the obligatory rescission and redemption rights of the investors, both because of the high threshold and because the capital reduction mandated by article 659 (2) CO is a lengthy and costly process. The new capital band under article 653s et seqq. revised Code of Obligations (revCO) might solve this issue and give SPACs the flexibility they need. The capital markets law poses other, more challenging questions. In the following section, we will discuss three of the most prominent questions.

b) Potential Pitfalls in Swiss Capital Markets Law 

i. Qualification as a Collective Investment Scheme or as an Investment
Company under CISA?

At the European level, there is currently no uniform handling of SPACs by the competent financial market authorities. Neither does the Directive 2011/61/EU on the Alternative Fund Managers (AIFMD) explicitly encompass SPACs as a form of Alternative Investment Fund (AIF), nor has the ESMA issued any clarification on the matter (albeit being aware of the legal uncertainty on this question for almost a decade, cf. ESMA, Consultation Paper, Guidelines on key concepts of the AIFMD, 19 December 2012, ESMA/2012/845, at no. 55, p. 33). In Switzerland, FINMA’s verdict on whether SPACs qualify as collective investment schemes or investment companies under the Collective Investment Schemes Act (CISA) is still outstanding. The following section explores this matter. 

(1) The Federal Supreme Court’s Jurisprudence on Collective
Investment Schemes

Neither the CISA nor the Collective Investment Schemes Ordinance (CISO) comment on the question, which is relevant for SPACs too, of when a company can be considered as “operationally active” under article 2 (2) (d) CISA and therefore does not fall under the definition of a collective investment scheme and the scope of the CISA. 

In this regard, the courts and the doctrine propose several and somewhat diverging qualifying criteria. 

In its seminal decision BGer 2C_571/2009, the Federal Supreme Court held that the qualification as an “operating company” under article 2 (2) (d) CISA does not hinge on one single criterion but rather on an overall consideration of all relevant elements in the individual case. It further recognized the merits of the Federal Administrative Court’s ruling (BVGer B-4312/2008), which had based its reasoning largely on the question of whether the assets are managed on behalf of the investors by a third-party that has a substantial legal and factual discretionary power with regard to the investment policy and the competence to in- or divest independently and when it deems appropriate (Fremdverwaltung). The lower court reasoned that a third-party management (and thus a collective investment scheme) is not given if the company’s purpose makes sure that it invests exclusively in a specific operating company (or several, specifically defined operating companies) or if the investors’ participation rights were extended in such a way that the investment decisions were essentially made by the investors and not by the management. While, in fact, the Federal Supreme Court did not disagree with this reasoning, it added that other criteria such as the statutory purpose, the source of funds, the degree and form of organization, the type of risk (market or investment risk) and market appearance have to be taken into account as well. Further, it admitted auxiliary criteria such as the subjective views of the investors on the purpose and the number of investors. In addition, it explicitly held that its criteria are not exhaustive and therefore other arguments – such as the criteria developed in legal scholarship – can flow into the assessment. 

(2) The Federal Supreme Court’s Criteria Applied to SPACs

The Federal Supreme Court has provided some criteria that further the understanding of what a collective investment scheme is and whether SPACs qualify as such. However, the jurisprudence remains blurry and a case-by-case analysis remains necessary since the outcome depends on the organization of the SPAC and its relationship with the investors. The above-mentioned criteria can be boiled down to (i) control, (ii) risks, and (iii) internal structure and value creation, as well as the auxiliary criteria of investor and market perception. 

One paramount question is whether SPACs are self-managed or not (although, dogmatically, the question of whether an investment is an investment scheme should be treated separately, the Swiss jurisprudence hinges on this criterion). Thus, an analysis of the decision-power of the SPAC management is required. While the management has the responsibility to find the target company, the investors maintain control rights that far exceed those of general corporate law. The de-SPAC merger necessitates the approval of the majority of shareholders. Therefore, the investment decision lies in their hands, whereas in collective investment schemes investors hardly ever have the possibility to influence the investment decision. One might point at the passive and fragmented nature of public shareholder bases and the ensuing collective action problem. This is mitigated by the very nature of a SPAC that foresees an active involvement at the crucial investment decision stage. Most importantly, opposing shareholders maintain full control over their investment thanks to the rescission and redemption rights. Thus, the degree of control exerted by a SPAC management is not comparable with the discretionary power of the third-party management of a collective investment scheme. The fact that the IPO proceeds are almost entirely deposited in an escrow account and cannot be used but for a specific transaction that is contingent on the shareholder approval also suggests a material difference to the discretion and leeway enjoyed by a collective investment fund management that can decide on an investment at any time: In SPACs, the management’s access to the funds is only possible in the aftermath of, and not before, the vote on the business combination. This element clearly points against the qualification of SPACs as collective investment schemes.

As the CISA aims to protect investors (article 1 CISA), it has to be assessed whether the investors ought to be afforded this additional layer of protection. From a ratio legis perspective, the risk involved for SPAC investors is considerably lower than for investors in collective investment schemes. By placing most of the IPO proceeds in an escrow account, investors’ funds cannot be invested by the SPAC management while it seeks a target. Furthermore, SPAC investors can control their risk threshold and exit from an unsatisfactory investment by exercising their rescission and redemption rights once a merger is proposed or by simply selling their (listed and therefore liquid) shares. Additionally, the management cannot surreptitiously change the risk allocation of the investment. Moreover, the managers of SPACs usually have “skin in the game”, as they hold up to 20% of equity. In sum, the need for supplemental protection is not comparable to collective investment schemes and does not justify the additional protection awarded by the CISA. 

The assessment of whether a SPAC is an investment scheme or rather an operating company further revolves around its purpose, organization and the way it creates value. It can be argued that notwithstanding their statutory purpose (i.e., the acquisition and long-term control of an operational company) SPACs initially have neither direct operational activities nor a strong internal organization. Besides, the jurisprudence on collective investment schemes has reiterated that the duration of a capital investment is irrelevant (BGE 116 Ib 73, at 2c), which might be problematic as SPACs are not operative from the beginning. While this may hold true, the rationale behind article 2 (2) (d) CISA is that in operating companies value creation lies within the sphere of influence of the management and does not hinge on external (i.e., market) factors. Similarly, the value creation in SPACs resides in the merger with a successful and operating target company and, thus, builds on internal factors. Finally, while one cannot state that SPACs are “operative” from the beginning, it would be mistaken to assess that SPACs are investing the assets they have previously raised in an IPO if the funds are deposited in an escrow account (and not invested in treasuries). On the contrary, it would be objectionable to label an escrow account that is presumably burdened with negative interest rates in the current negative interest rate environment as an investment. In our opinion, the intended purpose of a SPAC cannot be disregarded solely because it is not operational for a short interval of time. Consistent with this purpose-driven reasoning, article 2 CISO grants newly established companies that intend to avail themselves of the exception for listed companies in article 2 (3) CISA an interim period of 12 months in order to complete their listing. While not directly applicable in the case at hand (see 2 [b] [i] [3] below), this supports the argument that the final purpose of the listed SPAC, viz. the business combination with an operating company, ought to be decisive – even though it is achieved after an interim period. Whereas, in our opinion, this criterion alone does not lead to a conclusive response as to the nature of a SPAC, it also does not preclude a potential qualification of a SPAC as an “operating company” under article 2 (2) (d) CISA. 

(3) Qualification as an Investment Company?

In order to assess whether a joint-stock corporation qualifies as an investment company under the CISA, it must first be determined whether it pursues an investment activity. From the discussion above it follows that SPACs are not investment companies under the CISA, provided that they are properly structured, deposit the proceeds from the IPO in an escrow account, and subsequently use these assets for the exclusive purpose of combining with an operating target. Correspondingly, a SPAC could not be listed as an investment company under the current definition contained in article 65 (1) SIX Listing Rules, which defines investment companies as “companies under the [CO], the sole purpose of which is to pursue collective investment schemes to generate income and/or capital gains, without engaging in any actual entrepreneurial activity as such” (emphasis added). The fact that in the Swiss context SPACs will usually be the surviving (holding) company after the de-SPAC transaction and thus engage in actual entrepreneurial activities is a strong indicator against a possible qualification as an investment company. If, contrary to the view expressed here, one came to the conclusion that SPACs are not operating and self-managed companies, it remains conceivable that properly structured SPACs could still avail themselves of the exception in article 2 (3) CISA (however, they would fall under the AMLA, see 2 [b] [ii] below). 

(4) Interim Conclusion

Whereas the question whether SPACs are collective investment schemes depends on a case-by-case assessment, there are several and substantial differences that suggest that SPACs are neither collective investment schemes nor investment companies and, therefore, do not fall under the CISA if they are properly structured.

ii. Consequences from an Anti-Money Laundering Perspective

In its revised Circular FINMA 2011/01 (in force since 1 January 2017), the FINMA reiterates at no. 94 that investment companies, which do not fall within the scope of CISA pursuant to article 2 (3) CISA, are still encompassed by article 2 (3) AMLA. This both applies to Swiss joint-stock corporations that are listed on a Swiss exchange, and investment companies that only have qualified investors under article 10 (3), (3^bis) and (3^ter) CISA and registered shares. In light of the above, SPACs that are adequately structured neither fall under the CISA nor the AMLA-regime.

iii. SIX Listing Rules 

The third issue that SPAC-IPOs currently face relates to the prospectus. While compliance with the Financial Services Act (FinSA) and the Financial Services Ordinance (FinSO) is achievable, the SIX Listing Rules are more challenging: article 11 requires that the issuer must have existed as a company for at least three years, which is not the case with SPACs. In principle, exemptions from this rule are possible if it appears desirable in the interest of the company or the investors and if the necessary transparency for a well-founded investment decision is guaranteed (article 2 SIX Directive Track Record). Although SPACs do not fit perfectly in any of the categories enumerated in article 3 SIX Directive Track Record, that list is not exhaustive and its rationale covers many elements that characterize SPACs. Due to its nature, the duration of existence of a SPAC is irrelevant for its admission. Therefore, and since both investors and companies have an interest in the listing of SPACs, the SIX Regulatory Board might grant exemptions for such vehicles, provided that all necessary investor information is granted and the prospectus clarifies their peculiarities. As a consequence of the fact that SPACs are not investment companies under the SIX Listing Rules, they will presumably not be listed on the SIX Swiss Stock Exchange’s Investment Funds segment.

One caveat remains, however, as in order to prevent possible circumvention of the Listing Rules, exemptions from the track record requirement can only be granted to SPACs that have not yet identified any target at the time of listing.

3) Outlook

Whereas SPACs have gained a substantial market share in the U.S., they yet have to establish themselves in the Swiss capital market. However, it is only a matter of time until the first Swiss SPAC will be listed on a Swiss stock exchange, as they have the potential to represent an attractive alternative to traditional IPOs for Swiss companies that wish to go public. In our opinion, the legal pitfalls discussed above can be tackled if SPACs are structured properly.

Claude Humbel (claude.humbel@rwi.uzh.ch)
Thomas van Gammeren (thomas.vangammeren@nkf.ch)