One of the very interesting topics Directors are hearing about is a liquidity structure called a SPAC (Special Purpose Acquisition Company). As Directors get invited to join Boards of SPACs or do their diligence if a SPAC is right for their private company, I share some information I think will be helpful.
Also known as a “blank check company,” SPACs are companies with no operating history whose sole purpose is to raises money to acquire another company. SPACs are formed by investors or sponsors who have a particular interest or expertise in a certain industry or business sector, but at the time of their forming they do not identify what their target acquisition is. Thus, investors in a SPAC don’t know what company they will ultimately be investing in and are rather investing in the people running the SPAC itself. If they are unable to complete an acquisition within two years, a SPAC must return their funds to the investor.
Though SPACs have been around for many years, they are in the midst of a resurgence at this moment after years of a checkered history. They developed a reputation in the 1980s as penny-stock frauds and it is only in recent years where they have managed to reinvent themselves. Today you will find SPACs underwritten by recently retired senior executives looking for short-term opportunities as well as companies such as Deutsche Bank, Goldman Sachs GS +0.3%, and Credit Suisse CS -1.1%. These players have offered a legitimacy and proven track record of strong management which in turns inspires more confidence in investors and businesses alike.
SPACs have become so popular that so far in 2020, at least 41 of their acquisitions have gone public, a major increase considering that there were a total of 59 going public in 2019. IPOs in 2020 have raised gross proceeds of $12.3 billion as opposed to the gross proceeds in 2020 which only totaled $13.6 billion. Some high profile SPACs include Bill Ackman’s Pershing Square Tontine which has a $4 billion target, the largest blank-check fund to date; Spartan Energy, backed by Apollo Global Management APO +2.8%, is merging with Fisker, an upstart electric-car maker, in a $2.9 billion deal; and in the largest blank-check merger to date, banker Michael Klein’s SPAC Churchill Capital Corp III is acquiring health services company MultiPlan in a deal which is valued at $11 billion.
Investing in a SPAC is as close to a risk-free opportunity imaginable for the shareholder. Part of the appeal of a SPAC to investors is that they sell units in an initial public offering at $10 each which will give the investors a common share and fraction of a warrant. Cash raised in a SPAC IPO goes into a trust where it will earn interest until a merger or acquisition is completed. Once complete, the shareholders are able to redeem their stock for a proportionate share of the cash in the trust. They are essentially buying a SPAC’s share when it’s trading at a discount.
If the SPAC deal falls through the shareholder can redeem their shares and receive trust value, and if the deal is a hit and the shares trade higher than the trust value, investors can sell at the market price. Alternatively, if the investor sees a deal and does not approve, they are able to ask for their money back, though they will most always vote in favor of the deal as it will hurt their warrants if it fails.
A risk for investors in a SPAC to watch out for is rising debt that coincides with a merger or acquisition, or a lack of cash to complete an approved deal if other investors take advantage of the redemption option. When this happens, a SPAC may seek new funding from other sponsors or investors, or through a private investment in public equity (PIPE), which could potentially dilute existing shareholders. For instance, if a new shareholder in a PIPE deal comes in at $7 a share, the stock will tend to trade down to that price after the transaction closes and the original investors will have lost the opportunity to redeem their shares at a higher price.
Others worry that the abbreviated process in which a company goes public through a SPAC leads to less scrutiny than the traditional IPO, and this ultimately provides less time for investors to seek out information about the risks as there isn’t the same level of scrutiny applied. Disclosures do not come at the same time and format, and as such investors may feel the pressure to make a decision without having a full picture of the situation.
Businesses and SPACs
Going public through a SPAC has been seen as an attractive option for owners of small companies who wish to retain control of their business operations, and selling to a SPAC can add up to 20% of the sale price compared to a standard private equity deal. When acquired by a SPAC, the business owner is offered guidance of an experienced partner who can take them through the IPO process in a more efficient way. The process of going public through a SPAC is quicker and easier than staging an IPO
That being said, there are risks for businesses aiming to go public via a SPAC. They will still require shareholder approval which can slow up the process, and given that a SPAC only has two years to complete an acquisition this can lead to the deal falling apart. Additionally, owners may be able to retain control but they will still be sharing a large slice of the economics with the SPAC sponsor. In many deals, SPAC founders have the right to buy 20% of the company at a low price once it goes public, and this will give them a large payout even if the company’s shares slump.
There is no doubt that SPACs are on the rise and will continue to see success in the future, but as with any business dealing it is important to look at the whole picture of your company and determine what the best option is for you. The Board of Directors of a company aiming to go public should take a close look in what the company’s goals are before entering into a SPAC merger and make sure to properly vet the SPAC itself.
Some questions to consider are: Is this SPAC run by an experienced management team and do they have reputable investors and sponsors? Does our company wish to retain management control after going public? Is our documentation in line and are we ready for an expedited process that would see us going public within two years?
Jumping on to the SPAC trend just because it is popular may not be the best choice and practice so it is imperative to make sure that their goals and practices are in line with your company’s. I encourage all Boards of companies’ that have goals of going public to educate themselves on SPACs as this is surely something they will be approached by. Knowledge and understanding of these emerging trends will help Boards to make informed decisions for the future of the company and its’ stakeholders.