What’s driving the SPAC boom?
With such a surge in activity it’s worth taking a step back to consider what’s driving the boom. Some of their popularity stems from events of the past 12 months, but there are other factors at play.
- SPACs are great for their sponsors, who in most cases get 20 percent of the equity in the listed entity for an outlay of just $25,000 (although as competition for assets grows, many sponsors are reducing their "promote" as an incentive). The average SPAC IPO in 2020 raised around $336m, and while the sponsors are locked in for a period after the de-SPAC deal closes, the returns are so attractive that new sponsors keep on coming. They have to put some of their own money on the table (usually 2-3 percent of the IPO proceeds) but this is only at risk if the SPAC fails to find a target.
- The buzz. Since they “went mainstream” (and in a big way) last year, private equity firms, banks, institutional investors, former Wall Street CEOs, politicians and even sports stars have emerged as sponsors. FOMO has taken over to the point where the SEC has recently issued a warning about the risks of celebrity SPACs.
- They are attractive to investors. When a SPAC lists, investors buy $10 units that comprise a share and a fraction of a warrant (the right to buy new shares for an agreed price, usually $11.50, in the future). After 52 days, the shares and warrants split into separate listed securities. An investor can cash out in full at any time by selling the share in the market for $10 or more while holding the warrant, betting that the stock will rise above $11.50 and they can turn a profit. In addition, once the SPAC chooses its target, an investor who doesn’t like the deal (or even one who does) can redeem their shares just before closing for the per-share value of the trust (typically more than $10 a share) but still hold onto their warrants. In the world of SPACs, there truly is such a thing as a free lunch.
- For targets, SPACs are potentially an easier route to the public markets than a traditional IPO. Significantly, the price of the target is negotiated at the beginning of the process rather than the end, reducing market risk.
- Major PIPE investors are backing the trend. SPACs are required to put their IPO proceeds (less a portion of underwriting commissions and IPO expenses) into a trust fund to pay for the de-SPAC transaction. However, because shareholders have the right to redeem ahead of the deal, sponsors must raise extra money to cover any potential shortfall. This is usually in the form of PIPEs in which there is huge interest from big names including Fidelity and Wellington Capital. Even though they are the "least locked up" investors, there is a sense among many that their presence gives SPACs added credibility.
- SPACs ascribe greater value, particularly for early-stage companies. A loophole in the US securities laws currently enables SPAC deals to be priced and marketed to PIPEs based on the target’s financial projections, whereas traditional IPOs do not benefit from the same statutory safe harbor protections for the use of such forward-looking statements. This means that nascent businesses pursuing a traditional listing find it harder, if not impossible, to sell their story to the market. IPOs also have underwriters who worry about liability and historically do not permit the use of projections in their offering documents. SPACs don’t have a similar underwriter-like party with these liability concerns. Unless the SEC takes action, this dynamic will continue to be used as a differentiator by SPACs facing off against other bidders in auctions, with SPACs offering valuations higher than their rivals can reach.
- De-SPAC deals can keep founders in control. In most de-SPAC transactions, the target’s shareholders end up holding the majority of the stock. Founders often emerge as the biggest single shareholders and some even get high-vote stock so they can remain in charge even as they sell their shares in the market
- SPACs: the M&A craze that shows no sign of slowing
- What’s driving the SPAC boom?
- SPACs go global
- Countries compete for listings
- The GameStop effect
- China, sanctions and overseas investment
- Where have all the distressed deals gone?
- Explore Q1's top 50
- Global M&A value and volume
- M&A monitor archive
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