Every once in a blue moon, when the right mix of regulatory challenges and market conditions align, something in finance becomes suddenly trendy. In 2020, the trend-de-jour has been the Special Purpose Acquisition Company or "SPAC". For those of you who read through the front page of the Wall Street Journal each morning, this acronym is certainly not new. SPACs have gotten a tremendous amount of media attention in recent months, and as interest in them has grown, investment banks have revived or created SPAC teams to provide the relevant advisory services to clients. But just what is a "SPAC"?
The fundamental answer to that question is - "an alternative to a traditional IPO". As retail investors, we tend to think about IPOs as just something that companies do to raise money that has the pleasant side effect of allowing us to buy shares for our personal portfolios. IPOs do both of those things, but behind the scenes they are massively complex and massively expensive for companies to navigate. The typical IPO process involves a private company hiring investment banking advisors, who then pull together the information required for the company to file an S-1 with the SEC (e.g. DoorDash). From there, the investment bankers fly the private company's management around the world for a "roadshow", where the bank and the company's management pitch the stock to large institutional investors to gauge interest and fill out the order book for the new shares about to be issued. Only then does a company actually "IPO" and start trading on public markets, which comes with a whole host of additional financial reporting and auditing requirements, etc. The bottom line is that going public can be very costly and very time consuming for the company and its executives. This is where SPACs step in.
A SPAC is essentially a shell company that has no actual operations and is listed on the public market with the exclusive purpose of identifying and acquiring a private company, effectively taking it public. The SPAC vehicle goes through the IPO process much like other companies would, but is able to IPO quickly and cheaply since it has no business or financial operations to speak of. This makes the IPO process easy to navigate since there isn't really anything to scrutinize. From there the SPAC looks for a private company to purchase with the funding raised from its quick and easy IPO, saving the private company the pain of going through the IPO itself. After being acquired by a SPAC, the private company takes over the SPACs ticker and begins trading like normal on the stock exchange.
Typically, the investors who bought shares of the SPAC during its IPO are hedge fund, private equity, and institutional investors who are willing to give the SPAC a specified number of years to make an acquisition. The type of company the SPAC can purchase also tends to have specific requirements, e.g. doing business in a specific industry - like medical-technology. This alternative to the traditional IPO process has been very popular over the last year. According to SPACInsider, over 214 SPACs have listed on public markets through early December 2020, well up from 59 in 2019:
The SPAC process has been particularly popular with upstart technology companies due to the fact that in the process of being acquired by a SPAC these tech firms can disclose their (highly) optimistic projections for future growth - a practice that is effectively forbidden in a traditional IPO under laws preventing misrepresentations to potential investors. All this means less risk of legal reprisal for high flying tech companies that want to cash in on red hot equity markets while shirking some of the time and cost commitments going public typically involves.
Whether or not the SPAC is here to stay depends on what happens next, and whether the companies that have chosen to list via SPACs are successful in using the structure. Given the press growthy tech companies have been receiving as of late and the number of newly formed SPACS, the IPO-alternative may be here to stay.