ESMA warns against investor protection risks and provides guidance on expected disclosures.

By Nicola Higgs, Chris Horton, James Inness, Rob Moulton, Oliver Seiler, Isabella Porchia, and Charlotte Collins

On 15 July 2021, ESMA published a statement on the prospectus disclosure and investor protection issues raised by special purpose acquisition companies (SPACs). SPAC activity in the EU has increased significantly in recent months, but there is not a harmonised regulatory approach to SPAC transactions across the EU, partly because structures and approach will depend on what is permitted under national law. Therefore, ESMA intends to clarify regulatory expectations regarding SPACs so that potential investors are provided with clear, comprehensible, and comparable information when making their investment decisions.

ESMA’s guidance aims to ensure a coordinated approach across the EU, including expectations as to how issuers should satisfy the specific disclosure requirements of the Prospectus Regulation, and how SPAC shares and warrants should be considered under the MiFID II product governance regime.

Whilst in the UK the recent FCA consultation on SPACs places an emphasis on opening up UK markets to SPACs (provided they meet specified investor protection requirements), ESMA’s focus is on establishing more consistent SPAC prospectus disclosure standards across the EU. The UK approach centres more on structural features, whereas ESMA is purely focused on disclosures, which could lead to divergence between the EU and UK prospectus content requirements for SPACs.

Prospectus Regulation requirements

Because SPAC transactions are complex and different approaches are taken in different jurisdictions, ESMA is concerned to ensure that that the information provided to investors is uniform so that they can make informed decisions.

ESMA sets out the following guidance on which disclosures national regulators should expect to see when reviewing prospectuses for SPAC IPO transactions:

Disclosure Regulatory expectations
Risk factors Risk factors should address the conflicts of interest inherent in SPAC transactions, the governance of the SPAC, the decision-making process concerning the business combination, and any possible future dilution. Issuers should use a table or diagram to indicate the amount of possible dilution in different scenarios.
Strategy and objectives Issuers should provide detailed information about their investment policy/strategy, and the criteria for the selection of the target company. This must be consistent with the rest of the prospectus. ESMA provides the example that, if the issuer intends to invest in a “green” target or a tech company but is also able to select a target outside of these sectors, the name of the issuer should not imply that it will only invest in ESG or tech companies.
Escrow accounts and the reinvestment of the proceeds Issuers should include information about any escrow account or the reinvestment of the proceeds of the offering in the period before the acquisition of the target company, including any reliance on third parties and any investment policy.
Relevant experience and principal activities of board members / management Issuers should include an indication of the principal activities performed by board members / management outside of that issuer that are relevant to their role within the issuer. They should also include information on their relevant management expertise and experience.
Conflicts of interest —sponsors The prospectus should disclose conflicts that could arise due to the fact that, for example, the sponsors may lose their investment if no target is found, or the SPAC could invest in companies associated with the sponsors.
Shares, warrants, and shareholder rights Issuers should provide detailed information on the share and warrant structure. In particular, ESMA expects the prospectus to contain detailed information regarding the procedure for approving the business combination, and the disclosures that will be provided about the target company. ESMA expects that, even if no prospectus is required for the business combination, issuers should provide a level of disclosure about the business combination, similar to that included in an approved prospectus.
Major shareholders The prospectus should include information on any shareholders with interests that are notifiable under the issuer’s national law, and the level of such interests, as well as information on whether major shareholders have different voting rights. Negative disclosures are also required on these points.
Related party transactions Issuers must provide information about any related party transactions.
Material interests Issuers should include information about conflicts of interest, in particular if parties associated with the sponsors provide any services to the issuer.
Information on the proceeds of the offer Issuers should ensure that the prospectus includes information about the financing of the acquisition of the target company in the event that the proceeds do not cover the entire acquisition price.
Information on the intention of certain persons to subscribe in the offer Issuers should include an indication as to whether major shareholders or board members intend to subscribe for the offer, and whether any person intends to subscribe for more than five per cent of the offer.
Information on the offer price The prospectus should disclose any material disparity between the public offer price and the effective cash price of securities acquired by members of the board or senior management, or which they have the right to acquire.

ESMA considers that national regulators should also expect disclosures to be included on the following matters:

  • The future remuneration of the sponsors and their possible role after the acquisition of the target company
  • Information about the future shareholdings of the sponsors and other related parties
  • Information about possible changes to the governance after the acquisition of the target company
  • Detailed information about the possible scenarios that may arise if the sponsors fail to find a suitable target to acquire, including possible scenarios such as the winding up of the issuer and de-listing of the shares

MiFID II product governance obligations

In addition to its expectations under the Prospectus Regulation, ESMA notes that manufacturers and distributors of SPAC shares and warrants should carefully scrutinise such products as part of their product approval process, in order to assess whether retail clients should be excluded from the positive target market, or even included in the negative target market. It is clear that ESMA’s view is that SPACs may not be appropriate for retail investors, given the complexity inherent in their typical structure, and the product governance rules require firms to consider the ultimate underlying market when defining and describing the target market.