By: Max Ash  | 

A SPAC-tacular Rise

Whether you’re a seasoned investor or you’re a newly-minted Robinhood day trader, a certain four-letter acronym has been increasingly popping up on your screen: SPAC. Otherwise known as a Special Purpose Acquisition Company, these so-called “blank check companies” have increased in popularity as an alternative to a traditional IPO or reverse merger. There were 41 total SPAC deals in 2019. DraftKings, Nikola, and Virgin Galactic are some of the big names that have chosen the SPAC route. In 2020 so far, there has been $31.3 billion of investor cash poured into 78 SPAC deals. And the year isn’t even close to over yet. 

What exactly are they? SPACs are essentially shell companies that have already gone public with no operating history that are created with the sole purpose of raising money to acquire another company (which otherwise would have gone public through an IPO). When investors pour money into a SPAC, they do not know what company said SPAC will be acquiring. The caveat: if the SPAC is unable to complete an acquisition within two years of its formation, all funds are returned to the investor(s). A traditional IPO is underwritten by a certain number of banks. When a private company wants to public through a SPAC, they are merging with an (already public) SPAC, essentially bypassing the usually drawn-out and expensive IPO process.  

Those investing in the SPAC actually receive returns even before the SPAC has acquired its target company – the cash raised in the SPAC’s IPO goes into a trust and earns interest until the intended transaction is completed. So, worst-case scenario, if a transaction isn’t completed within the two-year time timeline, the investors have still made some return on their money and don’t go home empty-handed. Another advantage for SPAC investors is that they are given input in the investment/transaction decision. Were the investor to put his money in a venture capital pool, the investment decision would be made solely by the fund management team at the VC. 

Now that we’ve introduced SPACs, the question still stands: why would a company want to “go public” through one, as opposed to the traditional method of an IPO? Here are some reasons:

One: If a company were to pursue a traditional IPO, like WeWork, the negotiations could be drawn-out, leading to investors questioning and critiquing the company’s business model. This leads to disputes, and, in some cases, the IPO crumbling. When you go public through a SPAC, the cash is already there and negotiations are swift. 

Two: COVID-19 has basically erased IPO roadshows (due to the need for traveling), which were essential in the capital raise for a traditional IPO. Merging with a SPAC, completely bypasses the roadshow step, since the cash has already been raised. 

Three: Going public through a traditional IPO introduces the possibility of an IPO “pop” and the stock is vulnerable to full market risk, while a SPAC affords the comfort of price certainty much earlier in the process while limiting the risk from the volatility of the market. 

Even with the advantages of a SPAC, some companies are still going the way of a traditional IPO; Airbnb recently rebuffed an offer to merge from Bill Ackman’s record $4 Billion SPAC, choosing an IPO instead. That said, its popularity is increasing by the day and has the potential to become a household name, especially among young Robinhood day traders. But what remains to be seen is, if the SPAC craze is a fad, or if it’s here to stay. 

Photo Caption: A spectacular question is if they are here to stay. 
Photo Credit: Pixabay