SPACs have been around for a while but suddenly they’re extremely fashionable.
You might have seen the name plastered around everywhere and find yourself wondering what on earth they are.
I’m going to breakdown all you need to know about SPACs and explain why everyone is talking about them.
What is a SPAC?
‘SPAC’ stands for ‘super powerful accumulation conglomerate’… just kidding. The letters actually refer to:
Not exactly the coolest sounding name but that’s besides the point. A SPAC presents a pretty interesting way for companies to raise money and go public.
How do SPACs work?
SPACs are basically shell companies with no real operations.
They are created with one single purpose - to take over the world. Sorry, that’s another joke.
SPACs go public through an initial public offering (IPO), which means investors can buy shares. Once the SPAC has gone public, they go on the hunt for a private company to buy.
Once they buy a private company, they merge to create one singular unit. This means that the company they purchase and merge with becomes public.
I’m sure you’re thinking - ‘cool story bro.’ But wait, these special purpose acquisition companies actually provide some interesting benefits and challenges.
What are the benefits?
I’m going to breakdown these upsides into two categories. One for the businesses that SPACs buy and one for investors.
Here are some of the benefits for companies:
- Going public and organising an IPO is expensive. Being bought by a SPAC means companies can skip the queue, head straight to ‘GO’, and collect way more than £200.
- This influx of new capital means that businesses can grow, and they can grow faster than they perhaps could have flying solo.
- SPACs are often run by managers and business people with experience. Being bought by a seasoned team means businesses can use all that experience to their benefit.
Then on the other side you have the investors:
- You might get access to a new up-and-coming company at a bargain price.
- Putting your money in the hands of experienced people means they can potentially find you a great investment.
- Downside risk is minimal because investors’ money is put to one side earning interest until a deal materialises.
What are the downsides?
Although SPACs are very cool and somewhat mysterious, they have quite a few drawbacks for investors:
- You don’t know what company they're going to buy. It could be a business you don’t like or something that doesn’t fit in with your overall strategy.
- It can take a long time for SPACs to actually buy and company and all that time your investment is sitting around earning a small amount of interest.
- For most SPACs, the founders get to keep a whopping 20% of the equity.
Are SPACs a good investment?
They’ve worked out well for some investors and probably will continue to do so.
However, they’re a bit of a lucky dip. Whether they work out in your favour entirely depends on who the company eventually buys.
There is plenty of upside potential, but also significant risk. The benefits to companies can be plentiful as they get an IPO fast-pass.
But this doesn’t necessarily mean a home-run for investors.
SPACs are interesting organisations and provide a useful alternative to traditional IPOs.
Investors looking at them should try and do as much research as possible and truly try and understand where their money is going before jumping in.
It makes much more sense to concentrate on investments that you understand and can properly research before delving into the world of SPACs.
As more people try to find gains in an over-heated market, I’m sure SPACs will remain a popular choice. But this doesn’t mean they’re a perfect choice.