Foreclosure Crisis Trips Up a SPAC
October 15, 2010, 10:00 am
The foreclosure crisis has an unusual capital markets twist. A law firm at the center of the controversy in Florida, the Law Offices of David J. Stern, sold its foreclosure-servicing business to a special purpose acquisition company, or SPAC, the Chardan 2008 China Acquisition Corporation, less than a year ago. The newly formed company is called DJSP Enterprises.
When I last wrote about SPACs, it was to note their looming death. SPACs are specially formed public companies set up to acquire a single public company and take it private. I have previously criticized these entities on the following grounds:
A purchase of SPAC securities is typically an investment in a single, to-be-determined acquisition. At the time of his or her purchase, a public investor is uncertain what business or industry the SPAC will enter, the size of the SPAC’s acquisition and the leverage it will bear and whether the SPAC’s management will have any facility in the industry of the investment. Their influence on these matters is instead limited to a vote on the acquisition.
However, this vote is one that has an inherently coercive aspect to it; a nay vote entitles investors only to their share of the remaining offering proceeds, an amount that is less than their original investment. By this time, you are unlikely to want to take the loss instead preferring to take a flyer on the acquisition. A SPAC investor is also left relying upon the SPAC sponsors to select an appropriate target.
These problems appear to have borne fruit. According to SPAC Analytics, SPACs have significantly underperformed the market. Their index of special purpose acquisition companies shows that since their reappearance back in 2003, SPACs are down 17.8 percent, compared with a fall of 4.5 percent in the Russell 2000. During this time, there have also been some terrible blow-ups. This includes American Apparel which, after a long struggle, was itself acquired by a SPAC, the Endeavor Acquisition Corporation, in 2007. American Apparel has struggled with liquidity problems of late and averted breaching its debt covenants at the last minute when its primary lender, Lion Capital, agreed to modify American Apparel’s loan.
The DJSP Enterprises SPAC was always a particularly risky deal. The initial SPAC was formed under the laws of the British Virgin Islands. This presumably was to take advantage of tax laws and the laxer disclosure laws applicable to foreign issuers, particularly those that are not listed elsewhere.
About The Deal Professor
Steven M. Davidoff, writing as The Deal Professor, is a commentator for DealBook on the legal aspects of mergers, private equity and corporate governance. A former corporate lawyer at Shearman & Sterling, he is a professor at the University of Connecticut School of Law. He is the author of “Gods at War: Shotgun Takeovers, Government by Deal and the Private Equity Implosion,” which explores modern-day deals and deal-making.