SPACs: A Fast Track to Public Markets
Special Purpose Acquisition Companies, or SPACs, have been around for decades but have become popular in the last few years.
SPAC vs. Traditional IPO: What’s the Difference?
A SPAC is a publicly traded shell entity formed with the purpose of merging with a private company, allowing that private company to go public. In contrast, a traditional IPO involves a private company directly offering its shares to the public on a stock exchange to raise capital and become publicly traded.
SPACs have sparked considerable public debate. While some see them as a “backdoor” route to going public, others view SPACs as an efficient way for private companies to raise capital and achieve liquidity.
How SPACs Work
SPACs exist for the sole purpose of merging with a private company and facilitating the transition to a publicly trading entity. The funds raised in the IPO are held in a trust until the SPAC management identifies a target for acquisition. Investors then vote on whether to proceed with the merger. If approved, the private company becomes public via the SPAC’s structure. If no acquisition is made within two years, the funds are returned to investors.
Targets for SPACs are often valued with the help of additional funding from institutional investors through private investments in public equity (PIPEs). Investors can choose to redeem their shares if they’re not interested in the proposed merger. SPACs usually have two years to find a merger target; after two years, funds raised are returned to investors.
SPACs’ Rise in Popularity
SPACs have existed for decades but have recently seen explosive growth. In 2020, SPAC IPOs raised a record-breaking $83.4 billion, and hundreds of mergers were either completed or announced. In 2021, the market surged further, reaching $162 billion. Last year, SPACs made up 43% of total IPOs.
This popularity is driven by several factors, including the opportunity for high-growth companies to access capital quickly and the involvement of high-profile sponsors and investors. Their expeditious life cycle and significant potential investment return adds to their attraction. With SPACs increasingly entering the mainstream, it’s clear they are more than a passing trend.
Opportunities and Risks
SPACs offer attractive potential returns for both sponsors and investors, but like any investment, they come with risks. Success depends heavily on identifying the right target company and negotiating favorable terms. Private companies must also be prepared to transition to public company status on an accelerated timeline, which can strain limited resources.
For sponsors, SPACs offer the ability to leverage industry expertise and financial knowledge to bring companies public, often within a short period and at lower costs. This potential for quick returns has attracted a range of sponsors, including institutional investors and private equity firms.
The Appeal for Corporations
For larger corporations, SPACs provide a strategic tool to acquire innovative companies with minimal risk. By using a SPAC, corporations can secure high-potential acquisitions while limiting their financial exposure.
Growing Demand for SPAC Board Members
As the number of SPACs grows, so does the demand for experienced board members. Directors considering joining a SPAC board must carefully evaluate the reputation of the sponsor, the level of involvement required, and potential risks, such as litigation tied to underperformance of the post-merger company. Ensuring adequate directors and officers (D&O) insurance coverage is also essential.
Preparing for a SPAC Merger
Private companies looking to go public via a SPAC should focus on preparing for the public market transition. This includes defining clear deal goals, such as how much control the existing owners are willing to relinquish, and determining how the capital raised will be deployed to fuel growth. Private companies should also ensure they have the internal resources to meet public company reporting requirements and operational demands.
Looking Ahead
SPACs have transformed the capital markets, providing private companies with a fast track to public listing. While the rise of SPACs is likely to continue, success requires a clear understanding of the risks and rewards involved in these complex transactions. With proper preparation and a focus on long-term strategy, SPACs offer a viable path to growth capital and liquidity.
