Identifying and Negotiating with a Target Company

Introduction

The SPAC search period (the 18 to 24 months between the SPAC IPO and the eventual de-SPAC merger) is when the sponsor identifies a target company, negotiates the merger terms, and prepares for the proxy filing and shareholder vote. The work in this period determines whether the SPAC's eventual de-SPAC delivers value to public shareholders or destroys it. The mechanics of target identification, the letter of intent that opens negotiations, the due diligence that runs in both directions, and the merger-agreement negotiation all shape the eventual deal economics. This article walks through how each step actually works.

The sponsor's search for a target follows several recognizable patterns depending on the sponsor's network, the SPAC's industry thesis, and the broader market environment.

Proprietary Deal Sourcing

Most experienced sponsors source potential targets through their own networks of operating-company executives, private-equity portfolio relationships, sector specialists, and banker contacts. The sponsor's track record in a specific sector typically produces inbound interest from companies that have heard about the SPAC and want to evaluate the path. Proprietary sourcing produces the highest-quality targets because the sponsor is dealing directly with the operating company without competing against other SPACs.

Investment Banker Introductions

Investment banks introduce SPAC sponsors to potential targets, often as part of broader strategic-advisory conversations the banks are running with private companies considering their public-market options. The banker introductions create competitive dynamics: a target evaluating SPAC paths often hears from multiple SPACs through different bankers, with the SPAC sponsor selection becoming a bake-off similar to a traditional IPO underwriter selection.

Reverse Inquiry

Some target companies approach SPAC sponsors directly, often after exploring traditional IPO and finding the structure unattractive for their specific situation. Reverse inquiry typically signals that the target has specific reasons to prefer a SPAC path (forward-looking projections, speed, sponsor industry expertise) and is a common dynamic when the IPO market is challenging.

The Industry Thesis Filter

Sponsors with a specific industry thesis evaluate targets within that thesis. A SPAC focused on energy transition technology evaluates batteries, hydrogen, carbon capture, and grid-scale storage targets; a healthcare-focused SPAC evaluates clinical-stage biotechs, medical devices, or healthcare services companies. The thesis filter narrows the universe but increases the sponsor's expertise in evaluating each candidate.

The letter of intent (LOI) is the first formal document between the SPAC sponsor and the target company. It establishes the framework for negotiation without creating binding merger obligations.

What the LOI Contains

The LOI describes the most important elements of the proposed transaction: the structure (typically a SPAC merger with the operating company as the surviving entity), the proposed valuation, the consideration mix (cash from the trust account plus stock in the combined company), the timeline to definitive agreement, and the confidentiality and exclusivity terms. The LOI is non-binding on the merger itself but typically includes binding terms on confidentiality (preventing the target from disclosing the negotiations) and exclusivity (preventing the target from negotiating with other SPACs or strategic buyers during the LOI period).

What the LOI Locks In

The LOI locks in the bilateral negotiation. Once both parties sign, the target cannot solicit competing offers and the sponsor commits to the proposed valuation and structure as the starting point for negotiation. The LOI period typically runs 30 to 60 days, during which the working group runs detailed diligence and drafts the definitive merger agreement.

Negotiating LOI Terms

The principal negotiation in the LOI is around valuation, the cash-versus-stock mix in the consideration, and the structural protections each side wants. Targets push for a higher valuation (typically 5 to 8 times projected forward EBITDA or revenue, depending on the sector and growth profile); sponsors push back to leave room for the dilution of their promote and warrants while still providing public shareholders with value. The negotiation reflects each side's relative leverage and the sponsor's track record of completing deals.

Letter of Intent (SPAC Context)

A non-binding agreement signed between a SPAC sponsor and a target operating company that establishes the framework for merger negotiations. The LOI describes the proposed valuation, structure, consideration mix, and timeline, while binding both parties to confidentiality and exclusivity for the negotiation period (typically 30-60 days). The LOI is the formal starting point for the de-SPAC process and locks in the bilateral negotiation while detailed diligence and merger-agreement drafting proceed.

Unlike a traditional IPO where the underwriters run diligence on the issuer, a SPAC merger requires diligence to run in both directions: the SPAC and its advisors investigate the target, and the target investigates the SPAC sponsor.

SPAC Diligence on the Target

The SPAC sponsor and its advisors run typical M&A diligence on the target: financial diligence (audited statements typically including a PCAOB audit if not previously available), legal diligence (corporate structure, contracts, IP, litigation), commercial diligence (customers, competitors, market position), and operational diligence (technology, supply chain, management bench). The diligence is similar in scope to a private-equity buyout but with the additional layer that the target will become a public company through the merger, requiring public-company disclosure standards.

Target Diligence on the Sponsor

Target companies running serious SPAC negotiations conduct meaningful diligence on the sponsor: prior SPAC track record, sources of the sponsor's at-risk capital, conflicts of interest, post-merger plans for board governance and management. The target needs to understand whether the sponsor will be a constructive partner post-merger or whether the sponsor's incentive to complete any deal will produce challenging dynamics during the negotiation.

Sponsor Conflict of Interest (de-SPAC)

The structural conflict between the SPAC sponsor's incentive to complete any merger (because the founder shares convert and the at-risk capital is preserved) and the public shareholders' interest in a high-quality merger that creates value post-closing. The conflict is most acute as the search period deadline approaches, when the sponsor's incentive to close any deal becomes strongest. The SEC's 2024 SPAC rules require expanded disclosure of these conflicts in the de-SPAC proxy statement, but the structural conflict itself remains.

Mutual Due Diligence Findings

Findings from either side's diligence flow back into the merger negotiation. A material finding on the target side (a customer concentration issue, a litigation exposure, an accounting question) may force a price reduction, structural protections, or in extreme cases a deal termination. A finding on the sponsor side (a conflict of interest, a track record concern) may force the target to negotiate stronger sponsor commitments or board protections.

After diligence concludes, the working group negotiates the definitive merger agreement that will govern the de-SPAC transaction.

The Definitive Merger Agreement

The merger agreement specifies every binding term: final valuation and consideration, representations and warranties from both sides, conditions to closing, termination rights, post-merger governance arrangements, and any earnout or contingent consideration. Negotiation typically runs 4 to 8 weeks after diligence concludes, with senior advisors from both sides driving the principal terms while junior team members handle detailed drafting.

Key Negotiated Provisions

Several provisions receive the most negotiation attention. The minimum cash condition specifies how much cash the SPAC must deliver to the combined company at closing (after redemptions); a minimum cash condition that fails terminates the deal. The target's representations and warranties define the post-closing claims framework if disclosure issues surface. The post-merger board composition allocates seats between the sponsor and the target's pre-existing shareholders. The earnout structure (if any) ties additional sponsor or target compensation to post-merger stock-price triggers.

Public Announcement and the Switchover

After the merger agreement is signed, the deal is publicly announced and the working group transitions from negotiation to de-SPAC execution: filing the proxy statement or Form S-4, running through SEC review, securing PIPE or forward financing if needed, conducting the shareholder vote, and ultimately closing the merger. The target identification and negotiation phase ends at announcement; the de-SPAC execution phase begins.

A signed LOI, two-way diligence, and a definitive merger agreement put the SPAC and the target on the same page about valuation, structure, and conditions to close. Whether the deal actually closes is a different question entirely, governed by the proxy filing, the redemption window, and the cash that survives both. The de-SPAC process is where those mechanics play out.