April 15, 2021

SPAC Warrant Valuations

SPAC Warrant Valuations Special Purpose Acquisition Companies (SPAC)

On April 12, 2021, the SEC issued Staff Statement on Accounting and Reporting Considerations for Warrants Issued by Special Purpose Acquisition Companies (“SPAC”).1 The focus of the statement was to highlight potential accounting implications of terms contained within many SPAC warrant agreements and to provide guidance on what to consider when making the determination between classifying the warrants as equity versus classifying them as a liability.

The result of this determination may have significant consequences from an accounting, financial reporting and valuation standpoint. This article highlights typical valuation implications and common approaches that may be used to value both private placement and public warrants. The terms of each are frequently similar but not identical.2

In many agreements, the public warrants will have a redemption feature where the warrants are redeemable at the option of the company for a nominal amount (such as $0.01). For example, clauses will frequently be included that state something similar to the following: “…the outstanding warrants may be redeemed, at the option of the company at the price of $0.01 per warrant provided that the closing price of the common stock reported has been at least $18.00 per share on each of twenty (20) trading days, within the thirty (30) trading-day period…” The private placement warrants (in most cases)3 are economically equivalent to the public warrants except that they may not contain such a redemption feature.

Based on a review of numerous warrant agreements, an acceptable approach to determine the value of the warrants at various stages within the SPAC life cycle could be as follows:

1. At IPO and reporting periods until SPAC Unit split4

a. Private Warrants – Likely Modified Black Scholes (if no make-whole provision)5,6

  1. Inputs
    1. Probability of Successful Business Combination
    2. Time to Acquisition
    3. Post Transaction Volatility
    4. Share Price
    5. Strike Price
    6. Risk Free Rate

Using a method like this, could result in relying on Black Scholes with a few modifications. First, three items would need to be estimated: (1) What is the probability of a successful acquisition, (2) When will the acquisition occur, and (3) A reasonable post transaction volatility estimate.7

Then, a Black Scholes calculation could be performed with the following inputs:

  1. Share Price – $10 (or whatever issuance price is)
  2. Strike Price – $11.50 (or whatever agreement states)
  3. Risk Free Rate
  4. Post Transaction Volatility (as discussed above)
  5. Time – Estimated transaction announcement date to warrant expiry

This value could then be discounted by the risk free rate from the transaction announcement date to the valuation date.

Finally, it could be multiplied by the probability of successful acquisition.

b. Public Warrants – Depends on agreement (likely a Monte Carlo Simulation)

Either it could be a Black Scholes as described above (Private Placement Warrants) or a Monte Carlo Simulation to capture the terms that cannot be modeled using a Black Scholes such as situations when the warrants will be redeemed if “the share price is over $18 for 20 of the prior 30 trading days”. Similar to modified Black Scholes discussion above, it could potentially be appropriate to begin the Monte Carlo simulation (if necessary) at the transaction announcement date and simulate the price until warrant expiry (or until the redemption provision is triggered).

At the conclusion of the simulation, the warrant value could then be calculated and discounted back to the valuation date. Finally, it could be multiplied by the probability of successful acquisition.

2. Post IPO Split but Pre-Acquisition:

a. Private Warrants – see 1.a.8

b. Public Warrants – Level 1 input (if not, see 1.b.)

The public warrants on the valuation date(s) could be reviewed for activity. If there is sufficient volume (i.e., an active market), the publicly traded price could be used. If not, a Monte Carlo simulation could potentially be needed.

3. Post-Acquisition:

a. Private Warrants – Black Scholes

  1. Inputs
    1. Time
    2. Volatility
    3. Share Price
    4. Strike Price
    5. Risk Free Rate

b. Public Warrants – Level 1 input (if not, see 1.b.)

As noted above, this staff statement is hot off the presses, and this an evolving topic and warrant agreements vary. As each agreement is potentially different and therefore, the approach may vary depending on the terms of agreement, you should consult with your advisors to assist you with your analysis of the warrants as a careful review of the respective agreement will be vital in reaching both the proper accounting, financial reporting and valuation conclusions. All of this should make for a very interesting next few months.

Sources

  1. https://www.sec.gov/news/public-statement/accounting-reporting-warrants-issued-spacs
  2. Each agreement is potentially different and therefore, the approach may vary depending on the terms of agreement.
  3. As stated previously, each agreement is potentially different and therefore, the approach may vary depending on the terms of agreement. Additionally, there are frequently other provisions. Such as, if the private placement warrant is sold to a person that is not a permitted transferee, the warrant holder will forfeit its favorable private warrant status and convert into a public warrant. Each clause will need to be reviewed for its valuation impact.
  4. Assumes that cost cannot be used.
  5. In cases where there is a make-whole provision, private and public warrants will likely have a de minimus difference in value. If the difference in value needs to be quantified, a lattice model may be an acceptable approach to determine the value of the private warrants.
  6. An alternative acceptable approach may be to use the implied volatility of comparable SPAC warrants and the full term of the instrument. The modifications under this approach would including solving for the starting stock price, having the time input set equal to the entire term of the warrant and removing the adjustment for the probability of the successful acquisition as it would already be embedded in the volatility.
  7. May be based on the implied volatilities of other post transaction SPAC warrants.
  8. See Footnote 6 above.

Related Industry

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