In 2020, interest in dummy companies, or, in other words, SPACs or letterhead companies, has unexpectedly increased. In 2020 alone, 248 SPACs went to the IPO. This is more than in the last 10 years combined. These companies were able to raise capital in the amount of USD 83 billion, which was a record in the entire history of SPAC, but it did not last long. In just 4 months of 2021, 298 SPACs entered the IPO, and they were able to raise capital in the amount of USD 97 billion.
What is going on? Where to queue? In this article, we will analyze the topic of SPACs, why they are created, how you can make money on it, and what are the risks of investing in these companies.
What is SPAC?
Special Purpose Acquisition Companies (SPAC) Is a non-operating company whose shares are traded on an exchange. SPAC is run by a primary sponsor or team that makes the initial investment with outside investors. It is much easier for these companies to enter an IPO, since they do not need to provide special financial statements and disclosures, unlike ordinary companies.
The purpose of SPAC is to find and buy private companies, the shares of which will subsequently be traded on the stock exchange. The search takes an average of 2 years. The money raised during the SPAC IPO is most often invested in bonds and then goes to buy a future company.
The more funds a SPAC company raised in an IPO, the more likely it is to be able to merge with a private firm. Basically, the shares of blank companies begin to trade on the stock exchange at a price of 10 USD per share. Subsequently, the share price may increase in value depending on how close SPAC has come to a merger with a private firm.
Why is SPAC attractive to investors?
Consider an example with a company Ilona Mask Space X. Space x is a private company, and it is not available for investment for an ordinary investor. The company is promising, its top manager is talented, and there is every chance that Space X will eventually become a public company. When she announces the date of the future IPO, the collection of applications from investors who wish to buy shares before the start of trading will begin.
There may be many applicants, and therefore, not all applications will be satisfied. Another problem is that not all investors have access to PreIPO. As a result, some of the market participants will be cut off from investments in the company and will be able to buy shares only on the first day of trading.
Further, if an investor has access to PreIPO, and he still managed to buy Space X shares before the start of trading on the exchange, he will not be able to sell them as long as the Lock-Up period is in effect (usually it lasts from 90 to 180 days). During this time, the paper may rise in price, and then fall, and it will be impossible to do anything with it.
SPAC allows you to invest in private companies without restrictions, because their shares start trading on the stock exchange even before the merger. After the announcement that a bidder was found for the acquisition, SPAC shares are starting to rise sharply in price. Sometimes, in one trading session, shares grow by hundreds of percent, but then, of course, a rollback follows.
Upon completion of the merger process, securities continue to rise in value. But here an important condition for growth is the object of the merger. If the company is actually promising, then the value of the securities will grow, and if not, the price may drop even below 10 USD.
Why is the SPAC merger attractive to private companies?
In order to make a company public, the issuer must:
- Conduct negotiations with underwriters (the larger the underwriter, the higher the chances of a successful IPO) and institutional investors who need to be convinced of the business prospects.
- Comply with SEC standards
- Make the IPO public through the media.
All this requires significant financial investments and does not guarantee the success of the IPO.
In the case of SAS, these procedures can be avoided. The company is simply taken over, and the shares of the new, merged firm continue to be traded on the stock exchange. The assessment of their value by market participants is carried out at the stage of preparation for the merger of the two companies, that is, after the announcement of the merger and before the formal closing of the transaction.
Risks of investing in SPAC
The blank company is given two years to find the object for the merger. If during this time the merger does not take place, then the SPAC, at the request of the SEC, must be liquidated.
Historical statistics (up to 2018) show that 80% of SPAC find a private firm to merge. But the sharp rise in the IPO of blank companies in 2019 has dramatically reduced the percentage of mergers, to 50%. As a result, the choice of SPAC for investment has become more complicated, and the risks of being wrong have increased.
The large number of SPACs on the market has led to increased competition and competition for private companies, as a result – many mergers can take place at inflated prices, and the approaching liquidation date will push executives to acquire dubious companies. The price of SPAC shares in such a situation may fall below 10 USD, which makes the investment unprofitable.
What to look for when choosing a SPAC?
Since these companies do not conduct any activity, we have nothing to analyze. In this case, the only reason to buy shares is the knowledge of the SPAC founder or his team, as well as their past experience with blank companies. Another parameter is the amount of money raised: the larger the amount, the higher the likelihood that SPAC will be able to merge with a promising company.
As you know, the RoadShow before the IPO SPAC is also held, only at it potential investors are presented not with a business model, but with the company’s management and its team. It is assessed how experienced they are in this business, and the prominence of the key manager plays an important role.
Top 3 SPAC
Pershing Square Capital Management
The first blank company to look out for is Pershing Square Capital Management (NYSE: PSTH)… It was founded by a billionaire By Bill Ackman… Pershing shares began to trade on the exchange at a price of 22 USD, which is already unusual for blank companies.
The excitement of investors around the shares of this company led to the fact that the securities rose in price by more than 50% over several months, and this despite the fact that no information about the merger with anyone was reported. Bill Akman managed to raise capital in the amount of USD 5 billion during the IPO. And now, with this bag of money, he is actively looking for a suitable acquisition.
According to Akman, he is looking for a company with a capitalization of USD 10 billion, which boasts a strong balance sheet, high growth potential and the prospect of being included in the S & P500 index. The requirements are quite high. There are less than 18 months left to search.
After the excitement, Pershing Square shares dropped in price and are now trading at USD 24 per share. This is very close to the price of the placement, which makes them attractive for investment. There is money, the search continues.
Soaring Eagle Acquisition Corp
It’s one thing to invest in a blank company backed by a well-known investor, and quite another when the company is run by experienced managers.
Soaring Eagle Acquisition Corp (NASDAQ: SRNGU) was founded by a team led by Harry Sloan, Jeff Sagansky and Eli Bakerwhich brought to the exchange DraftKings (NASDAQ: DKNG) and Skillz (NYSE: SKLZ)…
DraftKings is by far the most successful merger of any SPC. DraftKings shares are traded at 62 USD per share, which means that the return on investment in SPAC has exceeded 500%.
During the IPO, Soaring Eagle managed to raise USD 1.7 billion, and now the company’s management with this amount is looking for a private company to acquire. Soaring is the seventh SPAC to be listed on the exchange by Harry Sloan and his partners. The shares are trading at 10 USD per share and there are more than 20 months left to find a candidate for the merger.
Churchill capital IV
Investments in the first two companies are quite risky, because there is a possibility that they will not be able to find a private company to merge. In this case, you can pay attention to SPAC, which has already found an object for acquisition, and this information has become available to the public.
Such a company is Churchill Capital IV (NYSE: CCIV)… In February, it became known that Churchill Capital was negotiating a potential deal to list Lucid Motors. Lucid Motors Is an American electric vehicle manufacturer. Is one of the promising private startups, and investors are showing increased interest in this company.
On rumors of a merger, Churchill Capital shares rose in price from 10 to 65 USD. After the excitement subsided, the volatility in securities decreased and now the shares are traded at 23 USD. The deal is scheduled to close in the second quarter and the shares will continue to trade under the ticker LCID…
Electric vehicle stocks are still in demand among investors. Lucid Motors is another promising company that is already building a plant with a capacity of 34,000 electric vehicles per year. Lucid’s management plans to increase production to 400,000 electric cars.
Over the past two and a half years, a lot of SPACs have appeared on the market. If in 2010 there were only 10 of them, then in 2021 there are already more than 500 of them. It is obvious that a bubble is inflating in the SPAC market.
While the economy is stimulated and Biden distributes money, everyone is in a hurry to get some of these funds into their account as soon as possible. Eventually, the managers open SPAC one by one. As soon as we have finished working with one company, two new ones are registered.
But one must understand that there are not so many valuable private companies, and there will not be enough for all. If we take the statistics for 2020, we can see that during this time 494 companies went to IPO, of which 247 were IPO SPAC. That is, there were only 251 real working companies.
There are now over 500 SPACs on the market looking for mergers. Based on last year’s IPO data, it can be assumed that every second SPAC will eventually be liquidated, and the fact that some companies will opt for a standard IPO in the end may further increase the number of liquidated blanks.
Therefore, investments in SPAC are, of course, attractive for their profitability and have a low level of risk, since after 1.5 years it is possible to sell the company’s shares without any significant losses. But in fact, you freeze some of the funds in these companies, which could be directed to more reliable instruments. In this situation, it is more expedient to invest in SPAC when the object for the merger is already known.
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