“Blank Check” Companies – Journal

In the global capital markets, the latest trend is the overabundant issuance of “bankers’ checks” or initial public offerings (IPOs) of special purpose acquisition companies (SPACs). From a niche market in 2003, SPACs eclipsed previous records by grossing $162.53 billion by December 2021. There were 613 SPACs through December 2021 as acceptance of this financial vehicle is spreading to other international markets, continuing the odyssey of the SPACs.

SPACs are companies with no independent business operations and are formed strictly to raise capital through an IPO to acquire or merge with an existing company – a new form of listed shell company – held by sponsors. SPAC. These sponsors have traditionally been seasoned corporate executives, private equity specialists or hedge fund managers with strong connectivity to the financial network. They are critical enablers of raising capital through SPAC listing through an IPO with the goal of acquiring a business or income-generating assets with IPO money.

In SPAC listings, shareholders are effectively placing bets on the acumen of sponsoring negotiators. An important due diligence question is whether an increasing number of companies are taking advantage of bubbly stock markets. The other fundamental question is whether stock exchanges play their role as financial intermediaries when issuers and investors trade in stable, transparent and fair markets.

However, on the risk side, SPACs are highly speculative or risky investment vehicles because they are much more cash-strapped and speculative than traditional IPOs, so they are very prone to default risk.

Special purpose acquisition companies lack transparency, especially when the target company is unknown

Nevertheless, the SPAC frenzy has been such that the Singapore and Hong Kong stock exchanges in Asia, the London Stock Exchange in the UK and the Nasdaq in the US compete for business and adjust rules to attract new quotes. This hot new trend of raising capital and going public is reverberating even in nascent and emerging capital markets; the Abu Dhabi Stock Exchange is the latest to catch the buzz.

This innovative way of entering into transactions is also making waves in the Pakistani stock market: the Securities and Exchange Commission of Pakistan (SECP) amended the regulations for public offerings to introduce a regulatory framework for SPACs in September 2021. The idea is motivated by the SECP. efforts to provide a viable and sustainable ecosystem and regulatory environment more conducive to capital formation in the country through the primary market.

This venture promises to expand the country’s financial base with the lowest bank account stake in the region. But the structure and design of SPACs raises many questions as to when Islamic finance clauses should be given due consideration after the recent ruling by the Federal Shariah Court and given the high demand for avenues of sharia-compliant investment in the market.

Market experts believe that for any such initiative to introduce innovative structures in the Pakistani capital markets, additional consideration should be taken in designing a fair, transparent and inclusive financial system that encourages bids Sharia-compliant to the general public. A careful examination of the new regulations shows that the exercise is based on common practice in international markets; however, some considerations of Islamic commercial law are not addressed.

The SECP requirements state that the paid-up capital requirement for SPAC must be Rs 10 million and it must raise at least Rs 200 million through a public offering. Promoters/sponsors, administrators and the CEO of SPACs must meet the fit and proper criteria specified by the SECP.

Firstly, SPACs have yet to debut on the Pakistan Stock Exchange. Nevertheless, the current SECP rules do not require the classification of SPACs in terms of conventional or Sharia-compliant nature – a key decision-making implication for Islamic-minded investors who constitute a growing segment of the economy. and the financial sector.

While SECP’s endeavor is to remain relevant to global financial markets and pursue innovation in Pakistani financial markets, the underlying opacity of the SPAC construct calls for greater caution and vigilance. A typical SPAC replication would limit the investment pool as a large majority of retail investors and many institutional investors in the market seek halal investment opportunities, which are free from usage (riba) and speculation – the guidelines fundamentals of Islamic finance.

Second, conventional SPACs inherently lack transparency, especially when the target company is unknown, leading to “blank check company” jargon. Thus, this blind investment arrangement gives rise to uncertainty or gharar – a prohibition of Islamic commercial law.

However, the latest SECP amendment requires that for each new transaction, shareholder approval must be required after providing mandatory information about the target company being acquired or merged to resolve the issue, but it is silent on the criteria regarding the Sharia-compliant nature of the target company and the nature of the financing raised for the acquisition or merger of the target company.

Third, in light of the recent ruling by the Federal Shariah Court, Pakistan must implement an Islamic economic system by 2027. Regulators must be careful and vigilant to consider issues prohibited by Islamic law in the development of new financial instruments. They must offer instruments that meet the financial needs of the market and that are oriented towards the requirements of the Islamic framework.

Certainly, there are limits to what the commission can do to adjust the underlying clauses of the SPAC. But now is the right time for the commission to involve its own Shariah board and other external stakeholders, such as scholars and practitioners working in the Islamic financial sector, to have provisions in the SPAC regulations that promote and encourage Sharia-compliant public offerings. Such forward-looking measures would help the commission adjust its rules accordingly and long before the first SPAC reaches investors.

It is recommended that a dedicated section be introduced in the SPAC regulation which defines the criteria for a Shariah-compliant SPAC. It should provide guidelines on the selection of target companies for acquisition and merger, define Sharia-compliant pathways for investing funds in escrow accounts, and incorporate certain monitoring and disclosure mechanisms to have a governance structure. of business.

Developing regulations to deliver the first Sharia-compliant SPAC is also an opportunity that can serve as an example to global markets and regulators. Additionally, this step will help improve the market base by attracting untapped retail investors seeking Sharia-compliant investment opportunities.

Ahmed Ali Siddiqui is the Director of the Center of Excellence in Islamic Finance at IBA and Dr. Tasawar Nawaz and Dr. Nader Virk are researchers at CEIF

Posted in Dawn, The Business and Finance Weekly, October 31, 2022

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