Sadly, I have learnt what SPACs are the hard way. Having listened to one of SPACs biggest prophets, Chamath Palihapitiya, I was convinced that my money was in safe hands under his management. Yet in hindsight this hot new trend is risky, and individuals should be aware of where they are putting their money!
To put it into perspective my experience, I jumped in on the IPOC bandwagon at $12. This rose to over $13 within days, and I thought I was onto a winner. Before sharply dropping 20%, then continuing to fall, with the price moving sideways ever since.
You are probably wondering what exactly I am referring to when I say SPAC, and if you do have an idea, you may be interested to hear what events caused this price roller coaster. In short, this occurred because the Special Purpose Acquisition Company (SPAC) I had invested in did not live up to expectations. Through this article I will outline what a SPAC is, what to be aware of, and where the dangers may lie if you decide to invest in to a SPAC. And hopefully you will not lose out like me!
What is a SPAC?
Blank-cheque companies, or SPACs, are an alternative method to the traditional IPO process. A SPAC is a shell company which is created solely for raising capital (money) with no internal operations. They aim to take a private company public, through a quicker and cheaper route than the traditional IPO. SPACs have gained prevalence in a tumultuous year, recording $36.2 billion in proceeds, compared to $13.6 billion in 2019 and $10.8 billion in 2018.
How does a SPAC work?
SPACs are promoted by a sponsor, often someone who is highly regarded in the investment world such as Chamath Palihapitiya or Bill Ackman. An individual that investors will feel their money is well entrusted with. The sponsor and their team are then tasked with finding a suitable company to take public through their newly created blank-cheque company.
Often the SPAC will identify a sector to acquire a company in. This is where my investment into Chamath Palihapitiya’s IPOC turned sour. Set out originally, the SPAC’s intention was to acquire a tech company, and with tech doing so well at the moment, investors, including myself, flooded in and pushed the price up. When it was announced that the target was in fact Clover, a Medicare/insurance company, hopes fizzled out and so did the money. This resulting in the stock price falling, and then travelling sideways at its initial $10 price.
So, I’m sure by now you have got a feel for the issues that could arise when investing in a SPAC, but here’s a few real life scenarios for you to consider before diving headfirst into one yourself:
· Richard Branston’s commercial spaceline aiming to capitalise on space travel is one of Chamath Palihapitiya’s projects.
· Launching its first human test flight today, one would argue that it is a good investment. But the question remains, how can a company which has not yet turned a profit, or delivered a product, be valued at 3x its initial SPAC offering price of $10?
· The online fantasy sports gambling platform which went public at the start of the year has undoubtedly been fuelled by the pandemic and people working from home.
· It has nearly 5x growth in the last 12 months with bullish momentum which isn’t seeming to slow down.
· Sponsors usually take 20% of the SPAC’s equity which can lead to a big payday; Michael Klein pocketed a tidy $60m from a $25,000 investment, plus equity worth $400m.
· A Financial Times study found that the majority of SPACs gone public between 2015 and 2019 are trading below their $10 initial listing price.
· Jumping in on the SPAC hype was Nikola, an ever so familiar name for electric vehicles, valued at $23 billion despite zero sales or revenue.
· Founder Trevor Milton is plagued with a not-so-desirable past that investors overlooked when piling in with their money.
· The infamous advert that showed one of their trucks driving when in fact it was fraudulently rolling down a hill, with no propulsion of its own, but gravity.
· Experienced an unjustifiable all-time high of $90+, which came crashing back down to just under $20.
SPACs have been one of the hottest American equity classes in this turbulent year as IPOs have been flourishing. However, their volatile nature and reliability on sponsors puts into question the sustainability of this alternative route to taking a company public.