Special purpose acquisition companies (SPACs) have attracted a lot of investor interest over the past few years. Capital pool companies (CPCs) and reverse takeovers (RTOs) remain a common means of becoming a public company.
These alternative ways to become a public company allow private operating companies to get listed on a Canadian stock exchange without going through the traditional initial public offering (IPO) process.
If you are considering investing in any public company, you should understand the risks.
On this page you’ll find
What are alternative ways of becoming a public company in Canada?
There are several ways a private company can become public, including:
- an initial public offering (IPO) which involves filing a prospectus with a securities regulatory authority like the OSC.
- a direct listing on a recognized stock exchange.
- a qualifying acquisition with a special purpose acquisition company (SPAC).
- a qualifying transaction with a capital pool company (CPC) listed on the TSX Venture Exchange (TSXV).
- a reverse-takeover (RTO) transaction involving an existing public company (often a shell company).
In a traditional IPO, a company with an active business typically files a prospectus with a securities regulatory authority, like the OSC and obtains a listing from a stock exchange to list their securities.
All IPO prospectuses are subject to review by OSC staff for compliance with applicable requirements. Such reviews often result in revisions to the prospectus but the review process does not guarantee that a company’s disclosure is complete or accurate. Regulatory staff do not evaluate the merits of an IPO or determine whether an investment in a company is appropriate for an investor. Rather, responsibility for full, true and plain disclosure lies with the company and others involved in the preparation of the company’s prospectus.
Companies becoming public through a SPAC or CPC transaction, or by way of an RTO are considered to have become public through an alternative means. That’s because typically a private company will “take-over” or merge with an existing company listed on an exchange, that does not have a business. While a prospectus may be required for these companies, it is not always the case.
Since 2016, 145 companies became public in Canada by way of a SPAC, CPC or RTO transaction.
They represent a range of industries including psychedelics, cryptocurrency, gaming, finance, manufacturing, cannabis, biotech/pharma, technology, real estate and mining.
As with any potential investment, you should understand the alternative ways a company can go public, and the risks associated with each, before investing.
New Entrants to Canada’s Capital Markets, 2016/17–2020/21
| Capital pool company (CPCs) | Reverse Takeovers (RTOs) | Special purpose acquisition company (SPAC) | Traditional IPOs | |
| Total | 77 | 53 | 15 | 88 |
| Minimum total value of capital raised through IPOs | CAD $38 million | n/a | CAD $3 billion | CAD $14 billion |
What is a special purpose acquisition company (SPAC)?
A special purpose acquisition company (SPAC) is a company that does not have a business. It has no operations, no product and no service.
A SPAC is created by an investor sponsor, typically a person or entity with industry and public company experience. A SPAC raises capital (minimum $30 million) by issuing securities to the public through an IPO.
Unlike a traditional IPO, at the SPAC IPO stage, the company does not have an operating business or assets, other than cash. At this stage, potential investors will be focussing on the experience of the SPAC’s directors or officers, referred to as SPAC founders, to identify a business to be the target of the qualifying acquisition.
The proceeds from the IPO are placed in escrow. The intention is to use them to make a qualifying acquisition of a business or asset identified after the IPO is completed.
A SPAC should be considered a very speculative investment. If you invest, you will not know what company the SPAC may acquire. Although the target business sector is often identified in the IPO. That’s why SPACs are frequently called “blank-cheque companies.”
Listing a SPAC is a two-stage process in Canada that involves:
- Filing and clearing an IPO prospectus with a provincial or territorial securities regulatory authority, like the OSC and listing the securities on the exchange (either the TSX or NEO Exchange).
- Identifying and completing a qualifying acquisition. A SPAC must file and clear a second prospectus (called a non-offering prospectus) that includes information about the target business with its securities regulatory authority.
In Ontario, the TSX and NEO Exchange are primarily responsible for monitoring the SPAC’s listing rules. The TSX adopted rules for SPACs in 2008 and the NEO Exchange subsequently adopted similar rules.
An IPO investor can vote against the transaction if they do not approve of the proposed qualifying acquisition in the non-offering prospectus. IPO investors also generally have a right to redeem their shares and have their pro-rated portion of the funds held in escrow, returned to them.
IPO investors will not have the right to vote on a qualifying acquisition if 100% of the IPO proceeds have been placed in escrow. But they still have the right to redeem their shares if they are not in favour of the proposed transaction.
Who invests in SPACS?
In 2020 and 2021, SPACs became a popular way to raise capital and attracted the interest of institutional investors such as pension plans and hedge funds with an appetite for risk. About USD $250 billion was invested in SPACs in the U.S. during this time period.
In the first quarter of 2021 alone, 295 SPACs were created in the U.S., with $96 billion invested. In 2020, SPACs accounted for more than 50% of the new publicly listed companies in the U.S..[1]
In Canada, SPACs are a relatively new method of raising capital. Fifteen SPACs raised CAD $3 billion from 2016-2021.
What are SPAC timelines?
After a SPAC has raised its capital, it has up to 36 months to complete a qualifying acquisition with a target company. If a transaction cannot be completed within the 36-month period, the capital that was raised must be returned to the investors, and the SPAC is delisted from the exchange.
What does it mean for SPAC shareholders when a SPAC identifies a target company?
When a target company is identified by the SPAC, the SPAC needs to obtain a majority of the SPAC shareholders’ votes to complete the qualifying acquisition. However, shareholder approval is not required if 100% of the SPAC’s IPO proceeds, as well as any additional equity raised as allowed by the TSX’ or NEO’s SPAC rules, are placed in escrow.
SPAC shareholders, other than SPAC founders with respect to their founding and other specified securities, generally have a redemption right. Investors can redeem their shares before the transaction with the target company if they are not in favour of the proposed transaction. A SPAC can place a limit on the number or percentage of redemptions allowed. But if they do, this limit must be clearly set out in the prospectus.
What are the risks of investing in SPACs?
Investing always comes with risk and investing in SPACs is no different. SPACs are considered to be complex and highly speculative investments and may pose additional risks for investors.
There are a few issues you should be aware of before you invest in a SPAC:
- Details of the acquisition – at the time you invest in a SPAC IPO, you will not know the entity that you are ultimately investing in.
- Potential conflicts of interest — sponsors are required to make an upfront investment in the SPAC and may be more interested in finding any target before the deadline. In other words, the target company identified for acquisition may not be in the best interest of the shareholders who have a longer investment horizon.
- Dilution – U.S. studies have found that dilution is a significant risk when it comes to investing in SPACs. [2] This may be true for Canadian SPACs as well, due to their similarity with U.S. SPACs.
- Rights and remedies – an investor may not have the same rights and remedies that they would have if they invested in a company through a traditional IPO. For example, not all gatekeepers involved in the SPAC IPO will be liable for a misrepresentation in the qualifying acquisition prospectus. This may impact the due diligence that is conducted on a target qualifying acquisition.
What is the expected future for SPACs?
SPACs are facing increased scrutiny by U.S. regulators. This has led to a significant decline in the popularity of SPACs both in the U.S., and worldwide. The SPAC rules in Canada are not the same as in the U.S., but it appears interest in raising capital using a SPAC has also dropped in Canada.
Market turbulence caused by rising inflation and interest rates and the fact that post-qualifying acquisition SPAC shares often trade below their IPO price may have also contributed to the decline in new SPAC IPOs in the U.S.[3]
What is a capital pool company (CPC)?
A capital pool company (CPC) is similar to a SPAC but is only permitted to raise up to $10 million. CPCs help early-stage private companies by providing an alternative way to become a public company. The CPC program was created by the TSX Venture Exchange (TSXV).
How does a CPC work?
A CPC has many similarities to a SPAC. A CPC does not have a business. It also has no operations, no product and no service. It also has a two-step process involving an IPO followed by a qualifying transaction.
The funds raised at the IPO stage are used to identify a target company that will become the public company trading on the exchange. If the CPC completes its qualifying transaction with the target company, the shares of the resulting company continue trading on the TSXV.
At the IPO stage, a CPC must file a prospectus that is reviewed and cleared by the TSXV (rather than the provincial securities regulator as is the case with a SPAC). In Ontario, the OSC also completes background checks on the CPC’s promoters.
Unlike SPACs, there is no time period within which a CPC must complete a qualifying transaction. At the qualifying transaction stage, the CPC must file a disclosure document. It includes information about the target and must be reviewed and cleared by the TSXV. Depending on the type and location of the target business, a CPC may be required to file a second prospectus with the OSC, instead of the TSXV disclosure document.
CPCs are the most common way companies go public on the TSXV.[4]
What are the risks of investing in CPCs?
Investing in a CPC carries some risks which include:
- Details of acquisition – an investor does not know what company the CPC may ultimately invest in when completing its qualifying transaction.
- No redemption right – unlike SPACs, CPCs do not have a redemption right.
- Limited voting rights – CPC shareholders can only vote on certain types of qualifying transactions, such as qualifying transactions with non-arms lengths parties. If a shareholder is not in favour of a qualifying transaction, but the majority of shareholders are, or if a shareholder vote is not required, the shareholder would need to sell their shares over the stock exchange. This is different than the redemption feature available to SPAC shareholders, where investors can elect to redeem their shares and obtain the pro-rated portion of the funds held in escrow, returned to them. For CPCs, a shareholder may have to sell their shares for less than they initially invested.
- Rights and remedies – An investor may not have the same rights and remedies that they would have if they invested in a company through a traditional IPO. For example, certain statutory rights for liability because of a misrepresentation in a company’s disclosure documents may not be available.
What is a reverse takeover (RTO)?
A reverse takeover (RTO) is another way a private company can go public and get listed on a stock exchange. Often, an RTO involves a listed “shell” company with little or no operations. A “shell” company may result from a previous public company, with an exchange listing, winding up its business, but remaining listed on the exchange with cash as its main asset. The main value of a listed “shell” company is its exchange listing to private companies that want to become public.
The disclosures relating to RTO transactions are mainly reviewed by the stock exchanges, as opposed to the securities commissions. Companies that become public companies through an RTO do not have to file a prospectus. RTOs can take place on all stock exchanges. RTOs are also known as “reverse mergers” or “back-door listings.”
How does an RTO work?
A private company can become public, and get listed, without filing a prospectus by completing an RTO. Where an RTO involves a listed “shell” company, the listed “shell” company issues shares to the private company’s shareholders in exchange for shares of their company.
An RTO typically involves an active private company that becomes a public company through a transaction such as an amalgamation, or a share exchange, where shareholders in the private company will exchange their shares for shares in the public “shell” company.
As a result of the RTO, shareholders of the private company, as a group, would obtain enough shares to control the new resulting company. After the RTO, the public company’s business is basically the operation of the private company. The management of the private company generally becomes the management of the new resulting company.
Most often, approval of an RTO by the public “shell” company’s shareholders is required. However, there may be exceptions depending on the type of corporate transaction or the rules of the exchange. An investor that is not already a shareholder of the public “shell” company or the private company would invest in the new resulting company by acquiring shares on the stock exchange on which the resulting company is listed.
What are the risks of investing in a company that became public through an RTO?
RTOs can pose several risks for investors including:
- No prospectus requirement – While the required disclosure in the disclosure document reviewed by the stock exchanges is similar to that of a prospectus, there are no requirements to file a prospectus.
- Management inexperience – the management of the new public company after the RTO may have little or no experience managing a public company, and it may not be familiar with Canadian corporate and/or securities law requirements.
- Foreign operating company – where an RTO involves a foreign operating company, there may be additional risks because of the location of operations. For example, if the foreign company is located in an emerging market or in any country with less robust regulation. These risks are similar in a traditional IPO, however, in those cases, the risk may be mitigated somewhat by conditions placed on the issuer as part of the IPO process.
- Rights and remedies – as is the case with a SPAC or CPC, an investor may not have the same rights and remedies that they would have if they invested in a company through a traditional IPO.
Conclusion
You may be considering investing in securities of a company that became public by an alternative way to access the Canadian stock market. It is important to understand how the ways of becoming public may impact the risk of your investment.
This article only provides an overview of SPACs, CPCs and RTOs. These vehicles are complex and may carry risks for investors.
You should consider speaking with a registered investment dealer to help you determine if you should invest in a company that has entered the market through a SPAC, CPC, or RTO.
Investors should also refer to any applicable securities law requirements, or consult with a legal advisor, to better understand the rights and remedies that are available in the event of a misrepresentation in the prospectus or other disclosure documents at the different stages of a SPAC, CPC and RTO.
[1] https://hbr.org/2021/07/spacs-what-you-need-to-know
[2] A Second Look at SPACs: Is This Time Different? (2022) Michael Klausner, Michael Ohlrogge and Emily Ruan; A Sober Look at SPACs by Michael Klausner, Michael Ohlrogge , and Emily Ruan (2020)
[3] SPAC IPOs Plummet. Here’s What’s Behind the Slump (NASDAQ)
