Sidley SPAC Insights | New Listing Regime for SPACs in Hong Kong

On December 17, 2021, The Stock Exchange of Hong Kong Limited (the “HKEx”) announced the final rules of the new listing regime for Special Purpose Acquisition Companies (“SPACs”), effective from January 1, 2022. Historically, in the U.S. market, SPACs, also known as “Blank Check Companies,” are designed to raise funds in an initial public offering (“IPO”) with the aim of acquiring a private business at a later stage; the rules of the HKEx generally prohibited the listing of such shell companies. As SPAC listings have become an attractive listing alternative in the U.S. in lieu of traditional IPOs and have lured many Asian issuers, investors and investments into the U.S. capital market since 2020, the HKEx has strategically created its own listing regime for SPACs in Hong Kong to attract more issuers, investors and investments from the Greater China and Asia Pacific regions and other corners of the world, with a view to strengthening Hong Kong’s reputation and position as a primary financial hub in Asia.

As Hong Kong has one of the most active stock markets in the world, the HKEx’s introduction of the SPAC listing regime has been long-anticipated by the market, including global financial institutions which will act as promoters and/or investors. However, to reduce the risk of creating a market for listing of substandard businesses and/or assets, HKEx has established a SPAC listing regime with more stringent rules than those of other markets, including U.S markets. The HKEx’s proposal emphasizes having a high-quality SPAC listing regime that aims to attract prestigious and experienced SPAC promoters and outperforming targets, such as those in the emerging and innovative industries. The HKEx has listened to the market feedback and maintained close communications with market participants, and has fine-tuned certain rules proposed in the consultation paper on SPACs published on September 17, 2021 (the “Consultation Paper”) to make the Hong Kong SPAC listing regime more viable and attractive.

I. Final Rules for the Hong Kong SPAC Listing Regime

The final rules for the Hong Kong SPAC listing regime primarily include requirements on initial offering, trading and distribution, promoters and directors, continuing obligations, warrants, De-SPAC transactions, redemption rights, de-listing, and exceptions. This newsletter provides an overview of certain critical features of the Hong Kong SPAC listing regime as well as our commentary on these features.

A. SPAC Promoters

a) SPAC promoters must meet suitability and eligibility requirements, including the requirement for each SPAC to have at least one SPAC promoter that is a firm that holds:

i. a Type 6 (advising on corporate finance) and/or a Type 9 (asset management) license issued by the Securities and Futures Commission (“SFC”); and

ii. at least 10% of the promoter shares.

b) Any material change in any SPAC promoter holding 50% or more of the promoter shares or any single largest SPAC promoter would require approval from (i) a special resolution by independent shareholders (excluding the SPAC promoters and their close associates) and (ii) the HKEx. A redemption right must be made available to shareholders prior to a general meeting approving such material change.

Sidley Commentary:

HKEx has emphasized having a high-quality listing regime with high-quality promoters and high-quality targets. A SPAC promoter will be deemed as “high-quality” if they have experience:

a) managing assets with an average collective value of at least HK$8 billion over a continuous period of at least three financial years; or

b) holding a senior executive position (e.g. Chief Executive or Chief Operating Officer) at an issuer that is or has been a constituent of the Hang Seng Index or an equivalent flagship index.

HKEx will also take into account other factors in considering whether a SPAC promoter is suitable, including its experience as a SPAC promoter, the performance indicators of the successor company, as well as its character, industry reputation, and integrity.

We believe HKEx has imposed these requirements as it has concerns that substandard promoters may not be capable of identifying an optimal De-SPAC target and may fail to act in the best interest of the investors, including negotiating the best terms of a De-SPAC transaction.

B. Fund Raising Size

The funds to be raised by a SPAC from its initial offering must be at least HK$1 billion.

Sidley Commentary:

HKEx has emphasized the quality of a SPAC by placing a more stringent requirement on the amount of funds to be raised by a SPAC. The U.S. exchanges do not have specific rules on the amount of funds to be raised by a SPAC, while general rules set out by the U.S. exchanges on the minimum market capitalization must be satisfied.

C. Investor Suitability

The subscription and trading of a SPAC’s securities will be restricted to Professional Investors (as defined in the Securities and Futures Ordinance, or the “SFO”) only, excluding retail investors. A SPAC must distribute each of SPAC shares and SPAC warrants to a minimum of 75 Professional Investors, of which 20 must be Institutional Professional Investors (as defined in the SFO) collectively holding at least 75% of the SPAC’s securities. Following the completion of the De-SPAC transaction, retail investors are allowed to trade the securities of the successor company.

In addition, SPACs must meet all other open market requirements applicable to a new listing, including the 25% public float requirement.

Sidley Commentary:

The exclusion of retail investors in SPACs is a requirement more stringent than that of other markets. HKEx has set the above restrictions as it believes that “Professional Investors” are more capable of identifying, assessing, monitoring and mitigating the inherent risks associated with SPACs as shell companies.

Compared to the requirement of 30 Institutional Professional Investors proposed in the Consultation Paper, the HKEx has reduced this requirement to 20 Institutional Professional Investors, which makes the SPAC listings more commercially viable.

D. Dilution Cap

a) A cap on the promoter shares at 30% of the total number of the SPAC shares as of its listing, consisting of (i) no more than 20% of the total number of the SPAC shares and (ii) further issuances of promoter shares of around 10% (i.e. earn-out rights), subject to the successor company meeting certain set performance targets.

b) The minimum exercise price of the warrants (including the SPAC warrants and the promoter warrants) must contain at least a 15% premium to the issue price of the SPAC securities.

c) All warrants, if immediately exercised, will not result in more than 50% of the total number of SPAC shares (including promoter shares).

Sidley Commentary:

The earn-out mechanism for promoters only is unique among international capital markets. This mechanism may better incentivize the promoters to search for the most optimal De-SPAC target and to strike a good deal for public shareholders.

Although HKEx has imposed stricter requirements on the dilution cap than other markets, it has lowered certain proposed requirements in the Consultation Paper. For example, the HKEx increased the dilution cap from 30% to 50%, removed the warrant to share ratio cap, and deleted the promoter warrant cap. The final rules align more with the international market practice and accommodate the SPACs with more flexibility to adjust the portion of the SPAC warrants and the promoter warrants.

E. Investors’ Redemption Rights

A SPAC investor can redeem all or part of its SPAC shares prior to a general meeting approving the following matters:

a) the continuation of the SPAC following a material change in any SPAC promoter holding 50% or more of the promoter shares or any single largest SPAC promoter;

b) a De-SPAC transaction; and

c) any extension of the De-SPAC transaction announcement deadline or the De-SPAC transaction completion deadline.

Sidley Commentary:

HKEx proposed in the Consultation Paper that only public shareholders (i.e. independent SPAC investors) voting against the above matters will be entitled to redemption rights. However, public shareholders may vote against the above matters solely for the purpose of recovering all or part of their investments, which indicates that the voting results may not fairly and accurately reflect public shareholders’ views on the terms and valuation of the De-SPAC Transaction. Therefore, HKEx has dropped the original proposal, and decided to strengthen requirements on independent private investments in public equity (“PIPE”) during the De-SPAC transaction to support the fairness and reasonableness of the De-SPAC target’s valuation and retain the public shareholders who think such De-SPAC transaction is in their best interests.

HKEx also prohibits any limit on the amount of shares a public shareholder may redeem, which will better protect public shareholders in terms of the inherent risks associated with investing in SPACs as shell companies. This final rule would have the effect that SPAC promoters will be responsible for all of the expenses and costs to establish and maintain a SPAC, which will not be recoverable if a De-SPAC transaction will not happen.

F. Eligibility of De-SPAC Transaction

A successor company will need to meet all new listing requirements (including IPO sponsor engagement to conduct due diligence, minimum market capitalization requirements, and financial eligibility tests).

Sidley Commentary:

Compared to traditional IPOs, the De-SPAC transactions are not a shortcut for the De-SPAC targets to go public, as the HKEx treats the De-SPAC transactions as new listing applications. The Codes on Takeovers and Mergers and Share Buy-backs (“Takeover Codes”) of the SFC will still apply to De-SPAC transactions; therefore SPACs will need to apply for waivers from the SFC. Notwithstanding the foregoing, SPACs have certain procedural advantages over traditional IPOs, in particular the pricing certainty provided through an upfront determination of equity value.

G. Mandatory PIPE Investment

The HKEx requires mandatory independent PIPE investments to be conducted simultaneously with the De-SPAC transactions. The required size of the PIPE investment varies depending on the negotiated value of the De-SPAC target, which ranges from 25% of the negotiated value of the De-SPAC target where the negotiated value is less than HK$2 billion, down to 7.5% where the negotiated value is or above HK$7 billion. If the negotiated value exceeds HK$10 billion, the HKEx may accept a lower percentage than 7.5% on a case-by-case basis.

In addition, at least 50% of the independent PIPE investment shall come from at least three sophisticated investors, each of which shall be either an asset management firm with assets under management of at least HK$8 billion or a fund with a fund size of at least HK$8 billion.

Sidley Commentary:

HKEx requires a mandatory independent third-party investment to complete a De-SPAC transaction. Although the final rules on PIPE investments are more stringent and detailed than proposed in the Consultation Paper, this requirement may offer additional comfort on the valuation of the De-SPAC target and protection of the interests of public shareholders, as PIPE investors are generally experienced and professional investors and have sophisticated M&A tools to ensure a reasonable and fair valuation. This requirement is consistent with HKEx’s emphasis on having a high-quality listing regime.

II. Comparison between the Final Rules and the Consultation Paper

The below table set out the key differences between the final rules and the proposals in the Consultation Paper:

Apparently, by establishing more stringent SPAC rules than other world markets in finalizing the SPAC rules, the HKEx not only emphasizes having a high-quality listing regime, but also prioritizes protecting the interests of public shareholders over attracting large volumes of SPAC listings. We believe the introduction of this new listing regime offers a viable alternative to traditional exit options (i.e, IPOs and M&As) for founders and investors in the Greater China and Asia Pacific regions and other corners of the world.