“Trust in us”, is pretty much the proposal that the founders of blank check companies, better known as Special Purpose Acquisition Companies (SPAC), pitch to investors. While it is true that a verbal commitment of future success is nowhere near enough to convince investors to throw in their money most of the time, SPACs have been booming and deal-making at groundbreaking rates and unheard-of efficiencies. The pandemic-induced economic depression has caused the markets for traditional IPO to gradually diminish, while SPACs triumphs in popularity, becoming the new favorite of the investment world.
When did SPAC become so popular?
So, what’s with all the hype? And how did it even come about? While it is difficult to gauge a specific time at which SPACs became the next fad, Bill Ackman’s record-breaking launch of a SPAC worth $4 billion USD certainly served as an impetus. On July 22, 2020, Ackman’s SPAC Pershing Square Tontine Holdings Ltd. began trading on the New York Stock Exchange. In the months of March, April and May, SPAC IPO’s deals and price have significantly exceeded traditional IPOs. As of July 2020, 47 SPACs have already IPO’d as compared to only 59 in all of 2019 and 46 in all of 2018. Pitchbook statistics also revealed that SPAC IPOs raised over $18 billion in 2020 which accounted for approximately 38% of all IPOs.
What is a SPAC?
What exactly is a SPAC? Essentially, it is a shell company, or a blank-check company that raises a blind pool capital through an Initial Public Offering (IPO) for the purpose of acquiring or merging with an existing company in the future. The money raised through the SPAC IPO is put into a trust where it is held until the SPAC identifies a merger or acquisition opportunity to pursue with the invested funds. Shares of a SPAC are typically sold in relatively inexpensive units that include one share of common stock and a warrant. If the SPAC fails to complete a business combination in the required timeframe (18-24 months), all public shares are redeemed for a pro rata portion of the cash held in the trust account.
Why a SPAC?
As the COVID-19 pandemic caused a plethora of organizations to close down, the unemployment rate is at an all-time high and the market is experiencing the most severe fluctuations we have seen in decades. Given the numerous uncertainties and risks, SPAC has the following unbeatable advantages:
1. Flexible structure:
For the sponsors, SPAC acts as a vehicle to find investment opportunities. Its unique transaction structure provides flexibility for SPAC sponsors in selecting targets, transaction timing and transaction terms. The two-year trading window allows SPAC sponsors to remain patient in times of economic fluctuations and have the opportunity to obtain better prices and lower acquisition costs when valuing companies in urgent needs of capital.
2. Predictable returns:
For investors, SPAC provides greater certainty in a rather volatile market. The investor's funds will be deposited into the third-party custody account immediately after the IPO of the SPAC, and there will be interest charged during the period of waiting. If the SPAC successfully finds a target company and its merger and acquisition, the shareholders of the original SPAC will actually become the shareholders of the new company after the merger; if the SPAC fails to find a target company or fails to obtain the approval of the shareholders' meeting, the investors can recover part or all of their investment at the original stock-issued price plus accrued interest.
3. Simplified IPO process for the target company:
SPAC provides a simplified public offering process for acquisition targets. The SEC's IPO process was completed at the time of the SEC's IPO. Although there is an additional SEC disclosure process when the SPAC merges with the target company, this process is much more convenient and faster than applying for a complete traditional IPO.
Needless to say, SPACs will certainly continue to thrive in the coming years, and its growing dominance makes them one of the most promising options for investors for the next few years. The sudden rise of this new fad is unprecedented, while seemingly auspicious, but definitely won’t last forever. So, the next time some founders approach you with a “Trust in us”, and before you flag them as a potential scam, keep an open mind, seize the opportunity and understand what they are actually saying is really “Trust in SPACs”.