Source:
https://scmp.com/business/banking-finance/article/3166654/how-lack-insurance-spac-directors-threatens-derail-ma
Business/ Banking & Finance

How lack of insurance for SPAC directors threatens to derail M&A deals under Hong Kong’s new listing regime

  • Directors of blank-cheque companies face legal liability risks from a lack of insurance options in Hong Kong, sponsors say
  • Pricey premiums charged for covering SPAC directors’ legal risks could pose risks to M&As
The flag of Hong Kong Exchanges & Clearing (HKEX) is displayed at the Exchange Square complex in Central. The exchange’s new rules have made it possible for SPACs to list from January this year. Photo: Sam Tsang

The dearth of insurance that protects directors of special purpose acquisition companies (SPAC) from legal liability could hold back mergers and acquisitions and prove to be a setback for Hong Kong’s new listing regime, according to sponsors and insurance players.

The lack of so-called directors and officers (D&O) liability insurance in Hong Kong has been cited as a risk factor by sponsors of SPACs – shell companies that raise funds through a share sale and use the proceeds to buy assets within a limited period of time.

Only a few insurers provide such coverage, and those that do charge a high premium, which could make it difficult for SPAC sponsors to fulfil their ultimate goal of delivering a return to investors through mergers with target companies, according to several SPAC applicants pursuing listings in Hong Kong.

“We may not be able to obtain D&O insurance on acceptable terms, or at all, in Hong Kong,” according to a filing by Trinity Acquisition Holdings, a SPAC whose backer includes former Chinese Olympic gymnast Li Ning. “[This] could make it difficult and expensive for us to … complete [an acquisition].”

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There are only “a handful” of insurers in Hong Kong that offer D&O insurance to SPAC directors, and the premium can be five times more expensive than that charged for a traditional IPO, said Murray Wood, Asia-Pacific head of specialty products at global insurance broker Aon.

“Uncertainties clouding the future performance of the private business the SPAC is seeking to acquire is front and centre of the unknown risks cited by many insurers,” Wood said.

The Hong Kong stock exchange, a latecomer to SPACs, allowed their listing in January. This came after a broad consultation that resulted in some of the most stringent requirements compared with other markets such as the US, UK and Singapore.

For example, only professional investors are allowed to buy and deal in shares issued by a SPAC. Hong Kong also only allows large SPACs that raise at least HK$1 billion (US$128 million) to list on its main board, the highest requirement among all exchanges.

The new listing regime could be crucial in helping Hong Kong maintain its competitive edge in the global IPO rankings, after dropping one place behind Nasdaq and New York Stock Exchange in 2021. Last year, the city’s IPO fundraising sank 17 per cent to US$42.6 billion, dampened by a raft of regulatory clampdown in China targeting the tech sector.

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The risks from underwriting D&O liability insurance for SPACs is high because there is a limited source of data and information that an insurer can rely on to determine potential claims, said Eric Hui Kam-kwai, chief executive of Zurich Insurance (Hong Kong).

“Unlike the underwriting practice for other listed companies, insurers can only assess the quality and experience of the SPAC’s management team, and the potential risks involved in the broader industries that the blank-cheque company is targeting,” Hui said.

The actual start-up a SPAC plans to buy is not known until it makes a formal announcement, which in Hong Kong is within 24 months of the SPAC’s listing date. Failing this, the SPAC must liquidate and return the funds to investors.

Zurich Insurance, which currently offers D&O liability insurance to SPACs in the US, is considering expanding the service to Hong Kong, Hui said.

Expensive D&O insurance premiums for SPACs raises the cost of acquiring businesses, making the deal less palatable for the SPAC shareholders who have a vote on the deal, industry players said. The availability of more players stepping in to provide insurance will help develop the overall SPAC market.

In the US, shareholders have attempted to vote down deals, and have filed security class actions alleging inadequate disclosure by SPAC sponsors. As a result directors and officers involved have made claims to indemnify the legal costs.

Class actions related to SPACs in the US rose to 31 last year, from two in 2019, according to insurance broker Woodruff Sawyer.

The heightened concerns over lawsuits have significantly inflated the premium for D&O liability insurance last year, curbing insurers’ appetite to underwrite these policies, said Bernhard Kotanko, senior partner at McKinsey.

Aon’s Wood said that the absence of a class action regime in Hong Kong means that chances of litigation are lower compared with the US, and that bodes well for the future of D&O insurance for SPACs here.

“The market dynamics will not, however, change overnight,” said Wood. “But better times are definitely ahead.”