What Is a Special Purpose Acquisition Company (SPAC)?
A special purpose acquisition company (SPAC) is a company without commercial operations and is formed strictly to raise capital through an initial public offering (IPO) or the purpose of acquiring or merging with an existing company.
Also known as "blank check companies," SPACs have existed for decades, but their popularity has soared in recent years. In 2020, 247 SPACs were created with $80 billion invested, and in 2021, there were a record 613 SPAC IPOs. By comparison, only 59 SPACs came to market in 2019.
- A special purpose acquisition company (SPAC) is formed to raise money through an initial public offering (IPO) to buy another company.
- At the initial public offering or IPO, SPACs do not have business operations or stated targets for acquisition.
- Investors in SPACs range from prominent private equity funds and celebrities to the general public.
- SPACs have two years to complete an acquisition or they must return funding to investors.
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How Does a Special Purpose Acquisition Company (SPAC) Work?
SPACs are commonly formed by investors or sponsors with expertise in a particular industry or business sector and pursue deals in that arena. SPAC founders may have an acquisition target in mind, but don't identify that target to avoid disclosures during the IPO process.
Called "blank check companies," SPACs provide IPO investors with little information prior to investing. SPACs seek underwriters and institutional investors before offering shares to the public. During a 2020-2021 boom period for SPACs, they attracted prominent names such as Goldman Sachs, Credit Suisse, and Deutsche Bank, in addition to retired or semi-retired senior executives.
The funds SPACs raise in an IPO are placed in an interest-bearing trust account that cannot be disbursed except to complete an acquisition or it will return the funds to investors if the SPAC is ultimately liquidated.
In 2019, SPAC IPOs raised $13.6 billion in 2019, more than four times the $3.5 billion they raised in 2016. Interest in SPACs increased in 2020 and 2021, with as much as $83.4 billion raised in 2020 and $162.5 billion in 2021. As of March 13, 2022, SPACs have raised $9.6 billion.
A SPAC has two years to complete a deal or face liquidation. In some cases, some of the interest earned from the trust can serve as the SPAC's working capital. After an acquisition, a SPAC is usually listed on one of the major stock exchanges.
What Are the Advantages of a SPAC?
SPACs offer advantages for companies that have been planning to go public. The route to public offering using a SPAC may take a few months, while a conventional IPO process can take anywhere from six months to more than a year.
Additionally, the owners of the target company may be able to negotiate a premium price when selling to a SPAC due to the limited time window to commence a deal. Being acquired by or merging with a SPAC that is sponsored by prominent financiers and business executives provides the target company with experienced management and enhanced market visibility.
The popularity of SPACs in 2020 may have been triggered by the global pandemic as many companies chose to forego conventional IPOs because of the market volatility and uncertainty.
What Are the Risks of a SPAC?
An investor in a SPAC IPO trusts that promoters are successful in acquiring or merging with a suitable target company in the future. However, there exists a reduced degree of oversight from regulators and a lack of disclosure from the SPAC, burdening retail investors with the risk that the investment may be overhyped or even fraudulent.
Returns from SPACs may not meet expectations offered during the promotion stage. Strategists at Goldman Sachs noted in September 2021 that of the 172 SPACs that had closed a deal since the start of 2020, the median SPAC had outperformed the Russell 3000 index from its IPO to deal announcement. However, six months after deal closure, the median SPAC had underperformed the Russell 3000 index by 42 percentage points.
As many as 70% of SPACs that had their IPO in 2021 were trading below their $10 offer price as of Sept 15, 2021, according to a Renaissance Capital strategist. This downward trend could signal that the SPAC bubble that some market experts had predicted may be bursting.
Though popular in recent years, SPACs face new accounting regulations issued by the Securities and Exchange Commission as of April 2021 causing new SPAC filings to plummet in the second quarter from the record levels of 2021's first quarter.
Many celebrities, including entertainers and professional athletes, became so heavily invested in SPACs that the SEC issued an "Investor Alert" in March 2021, cautioning investors not to make investment decisions based solely on celebrity involvement.
By early 2022, SPACs decreased in popularity due to increased regulatory oversight and less-than-expected performance.
Real-World Examples of SPACs
Richard Branson's Virgin Galactic was a high-profile deal involving special purpose acquisition companies. Venture capitalist Chamath Palihapitiya's SPAC Social Capital Hedosophia Holdings bought a 49% stake in Virgin Galactic for $800 million before listing the company in 2019.
In 2020, Bill Ackman, founder of Pershing Square Capital Management, sponsored his own and the largest-ever SPAC, Pershing Square Tontine Holdings, raising $4 billion in its offering on July 22. In August 2021, Ackman planned to liquidate the SPAC but as of 2022, the SPAC has not been liquidated with efforts still underway to find a deal.
How Can an Individual Invest in a SPAC?
Most retail investors cannot invest in promising privately held companies, however, SPACs are a way for public investors to now ‘partner' with investment professionals and venture capital firms. Exchange-traded funds (ETFs) that invest in SPACs have emerged and these funds typically include some mix of companies that recently went public by merging with a SPAC and SPACs that are still searching for a target to take public. As with all investments, depending on the specific details of a SPAC investment, there will be different levels of risk.
What Are Some Prominent Companies That Have Gone Public Through a SPAC?
What Happens If a SPAC Does Not Merge?
SPACs have a specific time frame in which they need to merge with another company and close a deal. This time frame is usually between 18 and 24 months. If a SPAC cannot merge during the allotted time, then it liquidates and all funds are returned to investors.