A Special Purpose Acquisition Company raises capital through an IPO or Initial Public offering for acquiring a company or merging with it. SPACS are no-operational companies formed with the sole purpose of providing a plank for acquiring or merging with an existing company. The other name of SPAC, which exists on paper, the shell companies, provides an alternative path to IPO and are also known as shell companies or blank check companies that raise money and trade on a stock exchange. Typically, the stock price or spacs share price is $10 per share.
Investors are showing much interest in SPACs over the past two years, and in 2021, SPACs $162 billion in the capital by taking the IPO route. The number of SPACs formed in 2021 was 613, more than double in 2020 when only 248. The total number of shell companies formed during the two years is more than the total number of such companies in the past two decades.
SPACs share price is not the real attraction for investors
The stock price of a SPAC is not the main attraction for investors who eye for the warrant combined with the common stock. The opportunity to exercise the warrants is the biggest attraction for investors so that after identifying the target of acquisition and closing transactions, they can get more common stock shares. With the help of the warrant, the holder receives the right to buy more stock at a fixed price anytime later.
The exercise price of the warrants is about 15% higher than the IPO price. After a few weeks after completing the IPO, the holders can trade the warrants separately from the SPAC stock. The company must place at least 85% of the capital raised through IPO in an escrow account for carrying out a future acquisition. However, the practice is to set aside 97% of the proceeds in the escrow account and use the remaining 3% for covering SAPC operating expenses and underwriting fees, including legal and accounting fees and fees for due diligence. Funds in the escrow account are invested in government bonds.
In brief, the above modus operandi explains how to do SPACs work.
The post IPO scenario
Soon after the IPO, the management team of the SPAC searches for a company worth acquiring or merging with. During this time, the stock price should hover near the IPO price because of the safe custody of the funds invested in government bonds. However, there are chances of the stock price falling below the IPO price during market sell-offs. To understand what is happening behind the hype of SPACs, one must admit that there is not much substance in the hype. According to Bloomberg, an index of companies that became public via SPACs show that at least 25 companies performed below expectation by more than 50 percentage point in the S&P500 Index.
The SPAC story in 2022
A quick look at the list of SPACs in 2022 shows that more than 500 such companies listed in the US have completed IPOs. According to Bloomberg, these companies are now searching for a company that can go public. The shell companies have the edge over companies going through the traditional IPO because any SPAC offers a faster timeline, has greater potential to raise more capital, and can better market the company’s projections to public investors. If this is not enough attraction, then the cake’s topping indeed is. Over and above, the most attractive perk is that the sponsor and management team remain as a shareholder pots merger.
SPACs are under SEC’s scanner
It’s been a priority for the Securities and Exchange Commission to formulate regulations for shell companies, and the agency is now paying particular attention. The SEC is investigating quite a few shell companies, including the acquisition of SBTech, a Bulgaria-based sports betting technology provider by DraftKings. This US-based sports betting operator also runs a daily fantasy sports contest. Allegations about violation of the Securities and Exchange Act of 1934 by Clove Health, a Medicare Insurance company, are also under the SEC’s investigation. Investigation of many other companies is underway.
The pressure of closing deals speedily to return investors’ money means that the risks are high, which can impact spacs share price adversely.
