SPACs – writing blank cheques for an IPO?

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Stéphane Monier | Chief Investment Officer | Lombard Odier Bank | mail me |


‘Blank cheque’ companies are attracting billions of dollars from retail investors and hedge funds in search of capital gains and access to private market returns. These Special Purpose Acquisition Corporations (SPACs) promise firms a simpler, cheaper and alternative path to a public listing. They also come with caveats that investors should carefully examine.

SPACs are shell companies with a two-year lifespan, created with a promise to buy another business within that time. When investors place USD 10 shares with the SPAC, which then searches for a firm to take public, they do not yet know what the target will be.

Every week sees dozens of SPACs launched[1]. Over the last year, SPACs have raised more than USD 137 billion, according to Bloomberg, ten times more than in 2019. An estimated 40% of those investment volumes come from retail investors, around twice the retail share of participation in regular listed US equity markets. That has prompted a fishing frenzy for target companies, which are often start-up technology firms developing automotive or space technologies, sustainable energy, or older businesses in private equity portfolios.

High-profile sponsors in high-profile industries raising capital are helping to drive investor demand. The largest SPAC to date is the USD 4 billion raised last year by hedge fund Pershing Square Capital’s founder Bill Ackman. There are many other examples. Chamath Palihapitiya, the venture capitalist, used a SPAC in 2017 to take a 49% stake in Sir Richard Branson’s Virgin Galactic, and was reported last month to have created another seven[2] special purpose corporations. Just last week one of Michael Klein’s SPACs bought e-vehicle company Lucid Motors Inc., a Tesla, Inc. rival. On 26 February, former Credit Suisse Group CEO Tidjane Thiam was reported to be looking for a financial services target for a pool of SPAC investments worth USD 300 million.

Another large share of the cash comes from hedge funds including Millennium Management, Magnetar Capital and Polar Asset Management, which are reportedly active in the SPAC market, and may also enjoy additional trading rights in the vehicles in the form of warrants. Institutional investors may be using SPACs as a substitute for low-yielding fixed income returns as they have the option to exit with some equity optionality before a deal is announced.

In this low-yield environment, one of the attractions is that SPACs allow investors to withdraw their money, plus interest, if they do not like the announced target. They are therefore buying optionality on potentially high-growth private companies that would otherwise be out of reach. If too many investors drop out of the proposed deal, the SPAC, which usually takes a 20% stake in the common stock for a nominal price, can also withdraw from the deal.

What’s wrong with IPOs?

Pricing is one of the most obvious shortcomings of traditional IPOs. Because many investors take a


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