Breaking Down SPACs or Blank Check Companies
SPAC is abbreviated as Special Purpose Acquisition Company
Investopedia defines SPAC as –
“A Special Purpose Acquisition Company is a company with no commercial operations that are formed strictly to raise capital through an IPO for the purpose of acquiring an existing company.”
SPACs are shell companies formed by investors, industry veterans, private fund houses that act as sponsors. Sponsors make the target acquisition decisions. Sponsors contribute at least 20% of the funds, and the rest raised from retail and Institutional Investors. SPACs are in rage from 2019–20 as this type of companies raised more than $80 Billion by December 2020.
At the time of their IPO’s, SPACs have no existing business operations or targets for acquisitions. SPACs have two years to deploy the funds, or the funds are returned. When a retailer/institutional investor decides to invest in SPACs, it consists of two decisions — the decision to invest in SPACS and the decision to stay with the business once the merger is decided.
The arrangement’s beauty is that the target company acquired merges with the already listed SPAC and goes public at high speed, bypassing the long IPO process and the associated uncertainties. SPACs give retail investors access to promising companies rather than wait for them to mature and hit the IPO road. The target company gets access to the expertise of the sponsors. There is a risk of investment getting blocked for two yrs or a failed investment at the end of two yrs. Also, as the instrument is all rosy now, and the number of SPACs registered is on the rise, there could be a failure to identify successful investment opportunities. Promoters will face stake dilution too.
SPACs was invented in 1993 and are the origin of modern private equity. Blank Check Companies provided private firms with an alternate investment vehicle to raise capital from retailers.
Few companies that joined the SPACs bandwagon recently are Virgin Galatic, Nikola, Draftkings.
