Going public and reverse mergers; the SPAC bonanza of 2020 has broken records on Wall Street, but why did so many choose this method?
SPACs (Special Purpose Acquisition Companies) have seen a surge in interest this year with a number of high-profile deals, from Draft Kings to Nikola, plus many more to be seen in the future. A SPAC is a way of going public, much like an IPO, but with less fanfare.
A SPAC is a company that is formed with no commercial operations in mind, but with the purpose of raising capital through an IPO. Once the company is public, the funds raised from its IPO get locked into a trust account. Within two years this ‘blank-check company’ must make an acquisition deal or it will face liquidation. This merger deal essentially brings the acquired company public and lists them on a major exchange.
Why are so many SPAC’s right now?
The speed of a SPAC deal gives many smaller private companies the ability to go public without the added time that it takes to go through the SEC filing and review. In 2020, this option has been seen as preferable as any added time in the process could see a change in the market. SPAC mergers, therefore, are a great way to expedite the process of going public when economic uncertainty is high.
Going public via a reverse merger has the benefit of allowing companies to disclose forward-looking projections rather than their financial history. For many companies that have not yet posted a profit but expect to in the near future, this is preferable. The risk here is that once public, a firm may not be able to meet expectations, triggering increased scrutiny. Nikola (NASDAQ: NKLA) did just this, posting little to no revenue in its first two quarters and eventually culminating in fraud investigations that are currently ongoing.
Whilst SPAC acquisitions have risk, they are also perfect for smaller and mid-cap companies who wish to go public without putting up the funds to go on what is essentially an IPO roadshow. Publicly listing via a SPAC doesn’t just save money in the short term but it gives the company funds and interest from the trust account which will allow the newly public firm to get to work without all the fanfare from an IPO.
Throughout 2020 there have been 217 SPAC IPOs, bringing in $74.08 billion, which is a considerable amount more than 2019’s 59 deals totaling in $13.6 billion. 2020’s SPAC reverse merger boom is one of the biggest movements on Wall Street this year. The easy nature of going public this way is the main reason for many choosing to do so and this in itself is a sign of a frothy market, filled with uncertainty.
Some examples of 2020’s high profile SPACs
2020 saw a good few high-profile SPACs, including DraftKings back in April, which brought $700 million worth of funding to the company in a deal with Diamond Eagle Acquisition Corporation. Nikola also went public by signing a deal with VectoIQ, which raised more than $700 million through the acquisition and PIPE deals. Furthermore, the largest-ever SPAC raised $4 billion this year when the company Pershings Square Tontine Holdings went public.
Last year, the best-known SPAC deal was Virgin Galactic (NYSE: SPCE), the space company headed by Richard Branson. The company merged with Social Capital Hedosophia, raising $800 million, then it held a secondary offering which raised a further $460 million in August this year.
Does a SPAC mean guaranteed success?
As IPOs receive increased scrutiny over the pricing process (cough, cough DoorDash), the expensive and timely nature of attempting to go public this way, has caused many to regard SPACs as a better alternative. Yet, going public, in general, is not a guaranteed success and for that reason, many companies choose to remain private. SPACs, in particular, have had a bad reputation in the past, with many SPAC managers using their company as a way to make a quick buck at the expense of investors.
These days, although the structure has changed, investors in the IPO of a SPAC will often see a loss on their investment. Managers of blank cheque companies, on the other hand, tend to do enormously well from acquiring a company. Managers pay relatively small amounts for their investment, then those heavily discounted shares they receive can be worth upwards of tens of millions. If the newly public company performs poorly, managers still make a profit.
Essentially, SPACs can be a great, if not a risky investment for investors. In 2020, this is no less true and the significance of so many of them only serves to emphasize the volatile nature of the market.
A MyWallSt subscription gives you access to over 100 market-beating stock picks and the research to back them up. Our analyst team post daily insights, subscriber-only podcasts and the headlines that move the market. Get your free trial now!
MyWallSt operates a full disclosure policy. MyWallSt staff currently hold long positions in companies mentioned above.