The Rise of SPACs: Are They the Future of Mergers?

Special Purpose Acquisition Companies or SPACs, in contrast, have over the past few years become regarded as an equally viable alternative to the traditional IPO route for enabling private companies to become more easily listed. These are known as "blank-check" companies, which makes a initial public offering (IPO) of stocks and merge com with a private issuer, making them an easy loophole to enter the public stock exchange. The explosive growth of SPAC mergers has raised questions about their long-term viability, and whether they represent the future of mergers and acquisitions (M&A).

This article takes a look at the rise of SPACs and their impact on financial markets and whether they represent the future of M&A.

What Are SPACs?

A SPAC (special purpose acquisition company) is a company formed to raise capital via an initial public offering (IPO) with the purpose of acquiring an existing company. SPACs are not listed with commercial businesses. Instead, they go out and raise money by issuing shares to the public in the hope of finding a private company to acquire in a certain amount of time (generally 18 to 24 months). At the merger, aka business combination, the private firm is a public firm, and it does not have to go through the traditional IPO process.

Unlike a traditional IPO, when companies sell directly to the public, SPACs let private companies go public in a more expedient and less burdensome regulatory process. Not necessarily bad for SPACs but a good opportunity as an alternative for fast growing businesses in need of capital.

Impact of SPACs on Mergers and Acquisitions

SPACs have changed the M&A landscape quite a bit, giving private business a quicker way to go public. The attraction is the number of important benefits:

1. Speed and Efficiency: Traditional IPOs typically take months to execute, burdened with regulatory approvals and long due diligence periods. SPACs enable companies to go public in a much quicker timeframe, usually in months.

2. Lower Costs: IPOs can be expensive because of underwriting fees, legal fees, and promotion costs. SPACs are less expensive and more appealing to companies that want to raise the cash at a low SPAC price instead of an elevated price in an IPO, along with exorbitant charges in traditional IPOs.

3. Certainty in Valuation: In a traditional IPO, the firm is valued by the market based on investor demand. SPAC mergers give sponsors and firms the ability to negotiate the valuation directly, providing greater certainty around terms of the transaction.

4. Acess to Capital: SPACs tend to have large pools of capital when they execute their initial public offerings (IPOs), and their funding tends to be enough to now finance target company growth and expansion projects. This access to capital is especially good for those with big ideas but without resources.

   
   

However, these benefits offered by SPACs come with very material risks as well, such as overvaluation, opaqueness, uncertainty around performance,

Case Study: The SPAC Merger of Virgin Galactic and Social CapitalHedosophia

The best known and most prominent SPAC merger may have been the 2019 transaction between Virgin Galactic, the space tourism venture founded by Sir Richard Branson, and Social Capital Hedosophia (SCH), a SPAC founded by the venture capitalist Chamath Palihapitiya. The $1.5 billion deal allowed Virgin Galactic to go public through what is known as a SPAC, or special purpose acquisition company, circumventing the lengthy and expensive process of a traditional initial public offering. The deal made Virgin Galactic the first publicly traded space exploration company to list through a SPAC.

Key Takeaways:

1. Innovative Industry: The acquisition of SCH by Virgin Galactic was reportable based on the industry-disruptive nature of the transaction in the budding space tourism market. The deal opened up access to capital markets for Virgin Galactic and accelerated its path to becoming a commercial space tourism company.

2. Speed to Market: With a SPAC, Virgin Galactic was able to go public quickly, and amid the fast-paced industry development and fierce competition, getting public quickly helped maintain the momentum for success.

3. High-Profile Sponsors: The participation of high-profile sponsors, such as Chamath Palihapitiya, a Silicon Valley investor who has invested early in companies like Facebook, gave credence to the deal and instilled investor confidence.

4. Post-merger Performance: Enthusiasm was high initially, but shares of Virgin Galactic have been patchy since listing. The company is also still having difficulty ramping up its space tourism, and it’s still uncertain if it’ll manage to make good on all its ambitious promises. This highlights the risk of investing in early-stage companies, even when there’s a high-profile backer.

   
   

Implications: The deal between SPAC and Virgin Galactic shows how quick SPACs can get innovative companies publicly traded. But it also highlights the danger of too much hype and the difficulty of scaling an unproven business model. And while the deal gave Virgin Galactic the capital and public listing it was seeking, its long-term success remains an open question.

Are SPACs the Future of Mergers?

SPACs have upended the traditional M&A and IPO landscape, to be sure. SPACs can provide a quicker, cheaper path to the public markets but are laden with built-in pitfalls, from risk of inflated valuations, to lack of due diligence, to management compensation structures that may not be perfectly aligned with public shareholders’ best interests at times.

It will be interesting to see what happens with these mergers as more companies consider SPACs as a route to going public. Mounting regulatory heat by the Securities and Exchange Commission (SEC) and others may require changes in how SPACs conduct business with their existing target companies, possibly requiring disclosures and addressing potential conflicts of interest.

SPACs offer a route by which high-growth companies in, say, technologies, space exploration, electric vehicles and biotech sectors can raise capital on the fly without the hassle of a traditional IPO. But whether they will remain a durable aspect of the mainstream M&A landscape over the longer run depends on whether they can continue to provide long-term value to investors and whether companies can navigate the perils of overvaluation and impulsive deals.

As the SPAC model matures, we will likely see more successful big-name mergers that demonstrate the promise of this unconventional route to being publicly traded. But speculation bubble risk and underperforming business temper the enthusiasm some, at least in the long run.

Conclusion

They are replacing the traditional IPO as a faster and cheaper option for the buyout of a company even breaking the billion-dollar barrier, at a relatively low-cost exchange. The capability of corporates to bring companies access to capital expeditiously, while providing extra certainty from a valuation perspective, makes them a desirable choice, especially in growth sectors. But these risks overvaluation, lack of transparency, and post-merger performance invariably trail behind and cannot be ignored.

Whether SPACs have a future or not depends on whether companies are able to mitigate these risks and prove that they are sustainable businesses. As the information and regulatory developments stack up, it will become more evident over time whether SPACs are a short-lived fad or a decided part of M&A here to stay. Until then they will stay a few thrills but another way in which firms go public, and whether or not it is successful will shape the future of this novel combination model.

Work Cited

1. Forbes. "SPACs: What Are They, and Why Are They So Popular?" Forbes, 2021, https://www.forbes.com/sites/

2. CNBC. "Virgin Galactic Goes Public via SPAC Merger." CNBC, 2019, https://www.cnbc.com

3. Investopedia. "SPACs: The Pros and Cons of Going Public via a SPAC." Investopedia, 2021, https://www.investopedia.com

4. Harvard Business Review. "The Rise of SPACs: Are They the Future of Mergers?" Harvard Business Review, 2021, https://hbr.org

5. Palihapitiya, Chamath. The Big Disruptors: SPACs and the Future of IPOs. Hachette, 2020.

6. Business Insider. "The Pros and Cons of SPACs." Business Insider, 2021, https://www.businessinsider.com