Established as alternative paths to IPOs, SPAC or a special-purpose acquisition company offers investors a faster IPO road. Also known as a blank check company, SPAC forms to raise capital through an initial public offering (IPO) to merge or acquire an existing private company.
Created as paths to IPOs, SPAC or a special-purpose acquisition company offer investors a fast IPO road. Also known as a blank check company, SPAC forms to raise capital through an initial public offering (IPO) to merge or acquire an existing private company.
How are SPACs formed?
SPACs are founded by operational expertise, known as sponsors, that make initial investments in the SPAC. The sponsor brings expertise to the table, including managing the selection, financing, and legal processes to acquire a target.
SPACs typically have between 18 – 24 months after the IPO to merge or acquire a “target company”. Once a deal is announced, the de-SPAC transition begins.
Why do companies go public via SPAC?
Why not just file for a traditional IPO? Well, SPACs do have their advantages.
- Going public via SPACs is a faster process than an IPO. SPAC deals usually occur in 3–6 months, while IPOs typically take 12–18 months.
- SPACs are also less expensive than IPOs. While percentage fees vary depending on deal size, SPACs are generally less costly.
- Companies benefit from the additional operational expertise that comes with the SPAC’s board of directors.
- SPACs come with more regulatory flexibility, so far. Target companies don’t need to provide historical numbers so much as forward-looking projections.
What is the Difference Between a SPAC and an IPO?
In an IPO, a private company with the help of an underwriter sells its existing or new shares to the public exchange. In a SPAC transaction, the private company becomes publicly traded by merging with a listed shell company.
While investing in SPACs enables retail investors to gain exposure to young companies, it’s important to understand that they have different disclosure rules than those governing IPOs. Unlike a traditional IPO, the SPAC IPO price isn’t based on a valuation of an existing business. When the SPAC begins trading, its market price may fluctuate, and these fluctuations may bear little relationship to the ultimate economic success of the SPAC.
SPACs come with drawbacks. Here are some of the risks that are present during the process
- Compressed timeline. The responsibility of finalizing the required financials & establishing public company functions such as investor relations & internal controls falls on the target company.
- Slow but steady increased regulations over SPAC deals. The Securities & Exchange Commission (SEC) announced new accounting regulations in 2021 for SPACs. Some market analysts expect greater regulation could be on the way.
- Chance of capital redemption. Investors who bought shares in the SPAC could choose to redeem their shares, & if too much is redeemed, then cash availability becomes uncertain.
- This results in another risk, shareholding dilution. When cash availability becomes uncertain because of too much capital redemption, the SPAC may be forced to raise more capital in a move known as Private Investment in Public Equity (PIPE). This, in turn, results in the dilution of existing shareholders’ stakes.
Mechanics of the listing day
Since SPACs are publicly-traded companies, you can buy shares the same way you could buy individual stock. After the closure of the merger, the target company becomes a public entity listed on a stock exchange. SPAC company stock issued to public shareholders at the original IPO, called “units,” may be sold to cash out their shares of the newly acquired target company. Shareholders may also exercise warrants, which gives them the right to buy shares of stock at a predetermined price.
Basic steps describing how SPACs work:
- Founders establish the SPAC.
- The SPAC raises capital through an IPO.
- The securities sold at the IPO are offered to investors in “units,” which represent shares of common stock in the SPAC.
- Investors also receive “warrants,” which give shareholders the right to buy shares of an acquired company in the future at a predetermined price.
- Proceeds from the IPO are held in an interest-bearing trust account, typically invested in Treasury bonds.
- The SPAC founding members and the team have a certain period of time, ranging between 18-24 months, to identify and target a private company to acquire or merge with.
- Once the target company is acquired, the SPAC founding members profit from their stake, while investors receive an equity interest in the acquired target company.
