By: Aman Singla, Kritika Venkateswaran, Siddharth Tripurani (NYU)
Over the past few years, private companies have been seeking the attention of Special Purpose Acquisition Companies, also known as SPACs. Commonly known as “blank check or shell companies”, SPACs are publicly listed shell corporations that raise funds for the sole purpose of acquiring or completing a reverse merger with private companies. The concept has been around for two decades but experienced major growth between 2015 and 2019, with 59 new SPACs emerging in the market in the latter year. The benefit that SPACs provide to their target firms is an easy process to make their company publicly listed. When the SPAC goes public, it has already gone through the U.S. Securities and Exchange Commission's IPO registration process. Thus, once a merger with a SPAC is completed, the target company usually does not have to take the traditional IPO route which has more arduous tasks that come along with it.
All the funds raised by investors for the SPAC are secured in a blind trust until the SPAC’s owners/management decides the acquisitions that it’s going to undertake. Additionally, SPACs are given 2 years to complete their intended acquisition or they must return the funds to the shareholders. Investors are kept in the dark about the potential acquisition so that the share prices don’t fluctuate too much in the decision making process. Previously, investors had the right to vote on a deal but over time, the access to information motivated investors to “shark” out others in the SPAC. Hence, the right to vote and the right to redeem shares are now separated, allowing the SPAC to be defined by those who manage it. Every SPAC share is usually set to $10, however, recent excitement over successful SPAC acquisitions has sent many of their share prices above $10 which also means that if an acquisition fails, those who paid the premium to buy SPAC shares will face a loss. Bill Ackman, the founder of hedge fund Pershing Capital, also founded its SPAC counterpart, Pershing Square Tontine Holdings, in 2020 amidst the pandemic. When Ackman’s SPAC went public in July, it raised over $4 billion and is claimed to raise an additional $3 billion in the foreseeable future.
II. Who is involved? Which industries are seeing a growth in SPAC?
Sponsors (SPAC Creator)
We start with the creators of the SPAC: the sponsors. For these players, incentives tend to be clear, since the sponsor acquires a special class of shares that equates to 20% of the shares in the SPAC for a nominal cash consideration, known as the “promote.” These sponsors also reap other benefits in leading the SPAC, such as the option to organize a PIPE deal concurrently with the acquisition and the chance to offer some input on the strategy of the acquired business, oftentimes through a position on the board.
The proliferation of SPACs would not be possible without newfound interest from
capital providers. Why have investors suddenly become so willing and eager to
allocate capital to these vehicles? For one, the limited flow of new companies
into the public markets has left some asset managers who had capital set aside
for new listings without any targets. Buying into a SPAC IPO is quite a different
process than a traditional IPO. Potential returns come at an undefined point in
the future when the business combination is announced, with an added kicker in
the form of warrants. Nonetheless, the SPAC backers gain access to the deal that
the sponsors eventually negotiate, which in theory would be with an innovative
company that otherwise would not have been able to list on the public markets.
Ultimately, given the high burn rate associated with R&D costs, capital
expenditures, and multi-site clinical trial management, cash on hand is the lifeblood of these companies. Public investors have been a key source of capital
for biotech companies progressing into large-scale clinical trials and those who
are negotiating licensing fees and expensive manufacturing contracts. Assuming
sponsors, investors, and private companies see eye-to-eye on valuations, SPACs
can provide them with quicker access to the public markets than a traditional
IPO and mitigate much of the dilution and valuation discounting that occurs with
crossover rounds and IPO transactions.