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The front of the electric car Fisker Ocean. The electric-vehicle company went public through a SPAC last month.
If a private company wants to sell shares on public stock exchanges, it needs to file an initial public offering (IPO), submit voluminous amounts of paperwork to detail its business, hire advisors to take the company public, and traverse the wild mood swings of investors on that first day. It’s a pricey, frequently annoying, and occasionally perilous ride; last year’s Uber IPO lost more value on day one than any in U.S. history, and WeWork’s IPO dramatically flamed out, making firms reluctant to follow that path.
Financial engineers being who they are, however, there’s always a way around pesky rules. That’s where the SPAC comes in. SPAC stands for “special purpose acquisition company,” and it’s a way for a budding startup to end-run the entire enterprise I just described. There’s a price attached to this, of course. The SPAC, as it exists today, seems to be another in a long line of financial innovations that exist to allow financiers to run roughshod over companies and pummel smaller investors.
There’s nothing new about a SPAC, but recently it has seen a renewed resurgence. Let me briefly describe it. A SPAC is just a pool of money formed into a shell corporation by a sponsor. It collects large sums from institutional investors: mutual funds, pension funds, and the like. The SPAC then registers an IPO itself, despite having no business and no products. Within two years (and usually quicker than that), it purchases a private company, and that merger makes that company public without having to go through the IPO process.
“If we go back ten years or so, SPACs were the back alley of finance,” said Andrew Park, a senior policy analyst with Americans for Financial Reform. Usually only companies that had fraud attached to them or some other reason to avoid transparency would use one to go public, and the connotation was so negative that it would taint the business going forward.
But that sentiment has almost completely flipped. Now IPOs are seen as bad, or at least undesirable, given the regulatory requirements and legal fees and long timeframe. “Capital tends to find the path of least resistance,” Park said. And enough high-powered financiers have embraced SPACs to make them both fashionable and convenient.
SPACing has accelerated as the pandemic has created more distressed companies looking for quick cash from the capital markets.
SPACs have of late purchased such companies as the fantasy sports site DraftKings, Richard Branson’s space-travel firm Virgin Galactic, restaurant chain TGIFridays, and Hostess, the maker of Twinkies. SPACing has accelerated as the pandemic has created more distressed companies looking for quick cash from the capital markets.
Just in the past couple months, we have seen SPAC deals for often-confused-with-Tesla electric carmaker Nikola; EV counterpart Fisker; convenience store conglomerate GPM Investments; and marketing firm Digital Media Solutions. In July, ex-Citigroup banker Michael Klein consummated the largest SPAC deal in history for health management company MultiPlan (itself a shadowy, predatory monopoly). This is Klein’s third SPAC, and he just filed for a fourth.
The SPAC sponsors that create the shell companies include private equity firms like TPG Capital, Apollo Global Management, Third Point, and Blackstone. Venture capital firm Ribbit just committed $600 million to a SPAC, longtime investor Bill Foley ponied up $1.2 billion, and activist Bill Ackman’s $4 billion SPAC is the largest ever. “We’re in a unicorn mating dance,” Ackman told Bloomberg News, expressing his desire to nab a multi-billion-dollar tech startup. Airbnb, SpaceX, and data-surveillance company Palantir are candidates.
Almost 50 SPACs have gone public this year; there were zero as recently as 2009. When websites like SPAC Insider spring up, you know there’s a frenzy.
Think of SPAC sponsors as akin to private equity firms. They collect all the money from other investors, and they make the deal to buy the company, which allows them to set the terms. Sponsors put up a modicum of capital but reap many of the rewards, including a big stake in the underlying company. “In the case of Ackman, in another context he buys up your shares and writes a letter asking you to replace the management,” Park said. The owner of a private company opting for absorption into Ackman’s SPAC, by contrast, “just gave up control to him.”
That might not matter much to the private companies being bought. They like the idea of hiding their true financial outlook from regulators and the investing public. (Only after its SPAC deal did we learn that the entire quarterly revenue for Nikola, for example, came from solar installations for the executive chairman's house.) And they gain certainty, a clear price for the deal, rather than the uncertainty of an IPO. “The main advantage is the lack of transparency, since the company doesn't have to register with the SEC and provide the level of detail to potential public investors,” said Eileen Appelbaum of the Center for Economic and Policy Research. “This suggests there may be dangers ahead for shareholders.”
That’s come to pass in a series of SPAC mergers for energy companies, which fared extremely poorly afterward. A Goldman Sachs survey of 56 SPAC mergers since 2018 found that they generally underperform the market.
To corporate executives, though, the SPAC provides a form of exit strategy. The goal is not to raise capital and build a productive business, but to get paid and get out. Workers in the business might not love being swallowed into the gaping mouth of an Ackman or someone else who views their livelihood as a plaything for financial engineering. But the business owners don’t much care.
So the companies are happy, the SPAC sponsors are happy, everyone is happy, it seems, except the folks who actually put up the money in the SPAC. That would be the pension funds, the foundations, the little people of the world.
Tyler Gellasch, executive director of the investor adviser Healthy Markets Association, explained that initial investors in the SPAC, who put up the introductory stake, get almost no disclosure information about the company they’re buying. Unlike WeWork’s IPO paperwork, which sat out there for weeks for anyone to poke holes in, the SPAC disclosures are minimal, and they come out only after investors have given over their money to a SPAC sponsor to buy the company out. “They’ve already got your money, and you’ve mentally committed to buying something like the target,” Gellasch said. They don’t call it a “blank check company” for nothing; investors really are handing over a blank check to the sponsors, and the details are often glossed over.
Those details can give major rights to the sponsor in how the company is run. It can funnel large fees to the sponsor. It can exempt the sponsor from liability over disputes with the purchase. Investors get to approve the SPAC deal within days of the announcement, as they would with a normal merger, but because the money is already out the door, that’s largely a formality. So because of the incentive structure, SPACs can be a way for a powerful financial operator to snooker investors, including pension funds that support millions of workers.
If sponsors really screw over investors they won’t get a shot to do another SPAC again. So the key is to find a sweet spot where the sponsor just gently skims from those brought into the deal. There are certainly worse ways to engineer greed on Wall Street. SPACs are just another accepted, institutional practice of funneling wealth upward to the richest people in the world.
And another innovation is being built on top of this innovation: A company has built an exchange-traded fund out of SPACs, so more investors can trade the companies that come out of them. This just seems like an enticement for dumb money to get ground into dust.
As Jamie Catherwood explains, the SPAC is just another financial contraption, controlled by large investors as a convenient tool for smaller ones. Whenever you hear about such an allegedly generous offer, hold your wallet tight.
