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

This article is an overview of the SPAC boom and its effects on financial markets are they here to stay, Is that the new M&A

What Are SPACs?

A SPAC (a special purpose acquisition company) is a company that was formed specifically to raise money through an IPO with the aim of taking an existing company public. They are not listed as commercial companies.

They generally begin with publicly being offered stock to raise capital for the SPAC to eventually acquire a private company within a certain time frame (normally 18 to 24 months).

When they merge, or have a business combination, the private company becomes a public company, and they avoid the standard IPO process.

Compare with a traditional IPO, where the company sells stock to the public, SPACs allow private companies to go public in a quicker, less onerous legal process. Not necessarily bad for aSPAC; but a good nontraditional route for emerging companies that need to raise money.

Impact of SPACs on Mergers and Acquisitions

SPACs have shaken up the M&A process, offering private businesses a faster route to public markets. And the pull is the many significant advantages:

• Speed and Efficiency: An initial public offering ("IPO") often takes months to complete, due to the heavy regulatory timeline and lengthy due diligence. SPACs give a company a far more rapid process to go public generally just months.
• Lower costs: For initial public offerings, there's the risk of pay high underwriting, legal and promotional costs. SPACs are going to be cheaper, and many companies might favor them because they are coming in high SPAC price than the higher IPO cost with the costs of traditional IPOs.
• Certainty in Valuation: In an IPO, the firm is valued by the market based on investor interest. SPAC mergers allow sponsors and firms to negotiate valuation, and thus give greater certainty around deal terms.
• Access to Capital: Funding SPACs typically have significant pools of capital when they conduct their initial public offerings (IPOs). Their financing is generally sufficient now to fund the target company's growth and expansion initiatives. Access to this capital is especially helpful for entrepreneurs with bright ideas but limited means.

But there are very material risks too that these benefits are coming with when they're offered by such vehicles – overvaluation, opaque disclosures, performance, and so on.

Case Study: The SPAC Merger of Virgin Galactic and Social Capital Hedosophia

One of the best-known and most significant SPAC mergers was the 2019 deal between Virgin Galactic, the space tourism company launched by Sir Richard Branson, and the special purpose acquisition company Social Capital Hedosophia (SCH), launched by the venture capitalist Chamath Palihapitiya. The deal, valued at $1.5 billion, allowed Virgin Galactic to go public through the common vehicle known as a SPAC, or special purpose acquisition company, which avoids the costly and lengthy process of a traditional initial public offering. The deal made Virgin Galactic the first space exploration company to become a public company via a SPAC.

Key Takeaways:

• Innovative Industry: Our information indicated the Virgin Galactic's purchase of SCH met the definition of a reportable transaction because it was disruptive to the nascent commercial space tourism industry. The transaction provided access to capital markets for Virgin Galactic and sped its timeline to become a commercial space tourism company.
• Speed to Market: Going public through a SPAC, Virgin Galactic was able to go public fast, and with the super competitive market developing quickly, going public fast helped accelerate the spot in an industry that is developing rapidly.
• High-Profile Sponsors: Having a high-profile sponsor, like Chamath Palihapitiya, an early investor in Facebook and some of the most successful Silicon Valley companies, lent credibility and instilled confidence in investors.
• Post-Merger Performance: Virgin Galactic shares have been a bit patchy since its listing and the company is still struggling to scale its space tourism operation. It remains to be seen if it's able to deliver on its lofty promise. This in effect is a reminder of why investing in early-stage companies can be risky, even if they have a heavyweight investor.

Implication: The transaction with Virgin Galactic demonstrates how fast SPACs can bring disruptive companies public. But it also demonstrates the risks of hype, and of scaling an untested business model. And although it provided the cash and public listing Virgin Galactic wanted, its future is still uncertain.

Are SPACs the Future of Mergers?

SPACs have disrupted M&A and IPOs, you bet. They can offer a faster, cheaper and less cumbersome route to the public markets, but at the cost of a plethora of tripwires - from higher risk of over-optimistic valuations to less-than-thorough due diligence, to misaligned incentives of managers at times who may not always have public shareholders' interests front and center.

The future of these mergers will be fascinating to watch as more companies look at SPACs as a means to take the company public. Increasing regulatory pressure from the Securities and Exchange Commission and others might mean adjustments need to be made to how SPACs do business with their current acquisition targets, perhaps with disclosures and conflicts of interest.

SPACS provide a mechanism for fast-growing firms (in fields such as technology, space, electric vehicles and biotech) to raise money without a traditional IPO. But for them to be a permanent feature of the M&A scene, they'll need to keep delivering long-term value to investors - and firms will need to avoid the traps of overpricing and quick, inebriated deals.

When the SPAC model grows up, we're probably going to see more solid blockbuster SPAC deals proving that this alternative means to a market debut really works. Still, bubbles and weak companies put the kibosh on the enthusiasm, at least from this corner of the world.

Conclusion

They are being used to replace the traditional IPO as an accelerated, less expensive means of the buyout of a company, even crossing the billion-dollar mark at a relatively affordable exchange rate. Corporates have the ability to lead a company to market access to capital swiftly, and at the same time, offer additional certainty from a valuation perspective. That makes them appealing, even in growth sectors. But, the risks of overvaluation, lack of transparency, and post-merger performance always follow.

If SPACs are to have a future, they will need to overcome those issues and establish themselves as sustainable companies. As the mountains of information and regulation continue to grow, time will tell if they will be a short-lived trend or whether they are here for the duration. Until then, they will be a few more thrills in a sometimes-steep ride that companies are taking to list on the market and whether they succeed will influence if this innovative blend of the two is in the future of M&A.

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