The much anticipated Pershing Square Tontine (PSTH) deal has finally been announced. Except, it’s not a “deal”. And it’s also not a “done” deal since there are still a few parts that are being negotiated.  However, the main headline is that PSTH has announced its intention to acquire a 10% stake in Universal Music Group for an approximate enterprise value of $42.4 billion, making it the largest SPAC transaction to-date. Furthermore, PSTH isn’t going to be merging with UMG, but instead will remain public. But not as a SPAC.  And it will be also be creating a “SPARC”, which is also not a “SPAC”.

This is a pretty complicated announcement and Ackman never seemed like a Friday announcement kinda guy, but here we are, so let’s try and make sense of it. There are a lot of moving parts to this so we’re going to break it down in sections.

The Universal Music Group Minority Stake

While many thought PSTH was hunting mature unicorns, it should be noted that Ackman did state that PSTH’s “investment strategy involves the purchase of large minority stakes in high-quality, large capitalization, growth companies during periods when they have underperformed their potential.” (From their prospectus).  And Vivendi’s Universal Music Group slots right into that. And it certainly is “iconic”, which Ackman had alluded to recently.

However, Vivendi plans to list UMG on Euronext Amsterdam in the third quarter of this year, so for now, PSTH (the SPAC) just owns a stake in the company.  As a result of that forthcoming listing, PSTH will then distribute the UMG listed shares to PSTH holders post-listing. The point being, PSTH holders are going to have to wait a little bit longer.

As to how PSTH expects to fund this transaction, $4.1 billion will be used to acquire the UMG shares (and pay transaction costs, which are probably going to be substantial).  $4 billion is currently held in PSTH’s trust, but it will pull on it’s Forward Purchase agreements to the tune of $1.6 billion.  That leaves PSTH with $1.5 billion remaining which will be retained by “PSTH Remainco”.

(The pro-rata share of UMG Ordinary Shares, which at cost, including transaction expenses, represents approximately $14.75 per PSTH share, before accounting for any dilution from PSTH Distributable Redeemable Warrants)

PSTH Remainco

It’s important to note here that PSTH Remainco will no longer be a SPAC as defined by NYSE listing rules. That’s because the initial UMG transaction will “satisfy the requirements of an initial business combination”. However, PSTH Remainco still intends to seek a “future business combination”, so it’s a little unclear as to what PSTH Remainco actually is.  It’s SPAC-like, but not technically a SPAC (a wolf in sheep’s clothing comes to mind).  Additionally, Pershing Square Funds  still has the ability to exercise it’s remaining Forward Purchase rights of approximately $1.4 billion of PSTH’s Class A common shares to fund PSTH’s future business combination transaction.  If you recall, PSTH at IPO had a committed $1.0 billion FPA and an additional $2.0 billion in FPAs that it was not obligated to use, but had the right to exercise.

So all in, PSTH Remainco (they need a snappier name) will have at a minimum $1.5 billion at its disposal to fund a future business combination (even though it’s no longer a SPAC in NYSE’s eyes) and at most $2.9 billion if it exercises it’s remaining forward purchases.

(The pro-rata share of PSTH after the distribution of the acquired UMG shares (“PSTH Remainco”), will have approximately $5.25 in cash per share, before accounting for any dilution from PSTH Distributable Redeemable Warrants)

SPARC

But wait! There’s more!

There will also be a third company, but again, this is not a SPAC…it’s a SPARC.  Or, a Special Purpose Acquisition Rights Company.  The reason it’s not a SPAC is two-fold:

1. In order to be a SPAC, it’s a blind pool where the investors (and team) do not know the intended combination at the initial capital raise
2. The SPARC is rights offering that can only be exercised after a definitive agreement has been announced. So the investor will actually know what the company is at the time of the offering.

Essentially, you’re given a Right to own a company in the future, but you’re not obligated to exercise it if you don’t like the company. So it’s kind of works like both a “vote” and a reverse redemption process, i.e., if you like it, you put your money INTO the company rather than REMOVING it if you don’t like it.

Furthermore, this is a “Tontine” Right….if a percentage of rights holders do not exercise their right, the remaining rights holders enjoy the remaining spoils. That means that remaining SPAR holders have the option to exercise an even greater amount of SPAR rights that other SPAR holders passed on. So that either way, the SPARC still has the potential to raise the same amount if remaining rights holders opt to exercise all of the remaining SPARs in the pool.

As alluded to above, these Rights will be called SPARs and one SPAR will be distributed for each share of PSTH Class A Common Stock outstanding on the record date following the completion of the Redemption Tender Offer and Warrant Exchange Offer (we’ll get to that shortly).

Assuming all SPARs are exercised, the SPARC will raise $5.6 billion of cash from SPAR holders. SPARC is expected to enter into forward purchase agreements with affiliates of the Pershing Square Funds, the SPARC’s sponsor, for a minimum investment of $1 billion, and up to $5 billion, subject to increase with SPARC’s board consent.

So to summarize, SPARC will have a minimum of $6.6 billion of cash ($5.6 billion from the rights exercsise + $1bn in a committed FPA) and up to approximately $10.6 billion (includes up to an additional $5 billion in FPAs) to consummate a future transaction.

Some very important items to note in this SPARC structure:

• There are ZERO warrants involved in a SPARC
• There is no time limit such as the typical 18 or 24 months associated with a SPAC. This is due to the SPAR only being exercised at the definitive agreement stage
• There is also no shareholder vote – you either exercise your SPARs or you don’t. Either way, the amount raised is fixed so there is no redemption risk due to the Tontine structure
• There are no underwriting costs

SPARC Sponsor Promote

The SPARC sponsor promote is similar to the PSTH promote.

The SPARC Sponsor is expected to purchase preferred shares convertible for up to ten years at $24.00 per share into 4.95% of the outstanding shares of the post-combination entity on a fully diluted basis, either by (i) paying $24.00 per share or (ii) by converting on a “cashless” basis and receiving an amount of outstanding shares with a value equal to the market value of such 4.95% of shares in excess of $24.00 per share.

Post-UMG Listing – Tender Offer of Shares

So now that the SPARC and SPARs are out of the way, let’s get back to the intended UMG transaction.

The Transaction will not require a vote of PSTH’s shareholders due to it being a stock purchase and not a merger. However, PSTH does intend to satisfy its shareholders’ redemption rights by doing a tender offer for its shares at a price equal to PSTH’s cash-in-trust per-share, or approximately $20 per share.

Typically, SPACs satisfy redemption rights through a vote by proxy, but we have also seen tender offers and usually with Foreign Private Issuer SPACs (FPIs) because they are required to do it by tender offer.  However, the result is still the same.  You will have the option to tender your shares for the cash in trust value which is another way of saying you can redeem your shares for the cash in trust value at a vote. It’s basically the same thing.

However, if you recall…the Distributable “Tontine” Warrants are tied to whether you redeem your shares or not….skip to the Distributable Warrants section to see what they’re doing with these.

Redeemable Warrants

As stated above, once UMG is listed, PSTH investors can expect a distribution of UMG shares. However, as the 8-K notes and we’re going to repeat this again, this is stock purchase and not a merger.  As a result,  the public’s Redeemable Warrants and the Director and Sponsor Warrants will not be exercisable for shares of UMG.  And because of that, there won’t be any warrants outstanding when all is said and done. So what are they going to do with all of their current warrants?  A warrant exchange offer….

PSTH is going to pull on the “warrant redemption for shares” feature where the SPAC can “call the warrants” based on the VWAP of the shares during the ten trading days prior to the launch of the offer. For this, warrant holders will receive an amount of shares based on a grid found under the “Description of Securities” section in the PSTH prospectus (page 166).

As for the Sponsors and Directors warrants, if you recall, PSTH had Bill Ackman(the Sponsor Warrant) and the Directors (Directors Warrant) purchase warrants as their promote with a ten year life.  These Sponsor and Directors Warrants were only exercisable when the share price reached $24.00.  They haven’t quite worked out yet what they’re going to do with these Sponsor and Directors warrants, so perhaps this is why the deal is still technically in “discussions”.

Distributable Warrants

But what about the “Distributable Warrants”?  A big part of the original PSTH structure, and the reason it’s called Pershing Square TONTINE, is due to the Distributable Warrants.  As a refresher, these contingent distributable warrants are essentially just one big pool of warrants, like a tontine (you can read about it more fully HERE. )  If a shareholder elects to redeem (or in this case, tender) their shares, their contingent distributable warrants aren’t cancelled.  The stay in the pool.  Basically, it just means there’s a bigger pool available for the remaining shareholders who didn’t redeem.

As such, PSTH will distribute Distributable Tontine Redeemable Warrants to remaining shareholders after completion of the Redemption Tender Offer and Warrant Exchange Offer. PSTH will make that distribution to shareholders of record after completion of the Redemption Tender Offer, but before completion of the Warrant Exchange Offer. This means that shares that are redeemed in the Redemption Tender Offer or that are issued in the Warrant Exchange Offer will not receive the Distributable Tontine Redeemable Warrants.

But to make this easier to understand, first there will be a tender offer of shares.  If you do not tender your shares, you receive a distributable “Tontine” warrant, in an amount to be determined depending on how many shareholders redeem their shares.  This gets added to your redeemable warrant holdings. Both the redeemable and distributable warrants are then subject to the warrant redemptions (or exchange) for shares.  The amount of shares you will receive for your warrants will be determined by a 10 day VWAP prior to the lauch of the offer (to determine the price) and will correspond based on the grid you find in the prospectus on page 166.

SUMMARY

All told, this is a pretty innovative move on Ackman’s part.  He somehow Harry Pottered PSTH by taking the one SPAC vehicle and created three new entities.  It’s financial magic!

The only problem is, retail has invested heavily in PSTH and this is a very complicated transaction.  If they can’t wrap their heads around it, you can be sure they’re going to hate it.  But…since this “deal”, and I use that term loosely since it’s not a merger, will not happen until the third quarter, there is plenty of time for PSTH to market this transaction and make it understandable.