A look inside the SPAC reckoning
This week brought news that Europe’s biggest blank-cheque company, backed by LVMH founder Bernard Arnault and former UniCredit chief Jean Pierre Mustier, is set to be wound up after failing to find a target.
That is nothing new. SPAC investors have received tens of billions of dollars of redemptions in recent months.
So I thought it might be worthwhile to revisit SPACs – the hottest trend of the pandemic era – and provide an update on the state of the asset class.
SPAC 101
Special Purpose Acquisition Companies raise cash through stock market listings before searching for a private company to merge with.
Think of them as a backdoor way for a private company to list on the stock exchange, without the risks (and costs) of an IPO.
They took off in the US in 2020 (over 800 funds raised almost a quarter-trillion dollars in 2020 and 2021), but many have failed to find target businesses to buy and are now being forced to return funds as they hit deadlines.
The fallout
Investor losses have been mounting, with post-merger companies resulting from SPACs losing a median of 70% of their value.
Bloomberg’s take on the situation – “SPAC Euphoria Turns Into Painful Reckoning as Liquidity Runs Dry” – says it all. Companies merging with Spacs (“de-SPACs”) have massively underperformed the stock market, with AXS De-Spac ETF falling nearly 75% in 2022.
Expensive mistakes
And it's not just investors who are losing money.
SPAC sponsors, who tend to provide 3-7% of listing proceeds upfront to cover costs — have lost their investments because they haven’t been able to get deals done.
The FT reports that the average loss for SPAC founders from liquidation has been around $9mn.
Unintended consequences
To me, SPACs always seemed to me to be a terrible unintended outcome of increased regulation making IPOs more difficult.
This largely stems from the post-Enron Sarbanes-Oxley act, which imposes huge costs on public companies. In the olden days, companies would IPO much earlier in their lifecycle, allowing retail investors to participate in the higher growth rates of younger companies. Now, because of SarbOx, companies stay private longer, and those economic returns are only going to a small group of elite institutional and UHNW investors.
SPACs seemed to be a way to “solve” the staying-private-for-longer problem, but in a really convoluted (and professional services heavy way), when the right thing to do would have just been to make it easier and better for younger companies to list earlier in their lifecycle.
What goes up…
SPACs were supposed to be a creative way for smaller companies to list when the IPO market was unavailable to them. They became something else entirely – a dangerous, complex, and costly way for people who should know better to speculate on private assets.
At the dark heart of the SPAC structure is a misalignment between sponsors and investors. Promoters – typically compensated in shares and warrants representing 20% of the SPAC’s value and rushing to get deals done before tight deadlines – are incentivized to rush due diligence and overpay for assets.
I don’t think there are many – if any – successful SPACs out there today trading above their merger/IPO price. But the inexorable rise of SPACs in 2020-2021 probably fuelled the crazy fundraising boom of that era as VC/PE faced more competition for targets.
As the whole market comes back down to earth, it’s not surprising to see this weird corner of the market deflate as well.
