Special Purpose Acquisition Company (SPAC)

What Is A SPAC?

A special purpose acquisition company (SPAC) is a shell company that raises money in an initial public offering (IPO) with the purpose of eventually buying an as-yet-to-be-determined private company. Essentially, investors provide money to the sponsors of the SPAC so that they can quickly acquire a company they believe is a good investment.^[1]

SPACs are often called "blank check" companies because investors really don't know what they're investing in. However, while SPACs can be risky, they're not as big a crapshoot as they sound.^[1]

Rather than investing in an actual company, investors are putting their faith in the sponsors—or founders—of the SPAC, who tend to be well-known entrepreneurs, investment firms, hedge funds, even celebrities. For example, recent SPAC sponsors have included the likes of Richard Branson, Bill Ackerman, and Michael Jordan as well as Fidelity Investments, T. Rowe Price, Morgan Stanley and Goldman Sachs.^[1]

Investors are betting that the sponsors have their eyes out for companies that will eventually turn out to be winners, even though their actual bets have yet to be determined or at least not disclosed. Generally the sponsors have expertise in the industries in which they are likely to be investing.

SPAC Rules

SPACs are regulated by the Securities and Exchange Commission in the U.S. and there are rules that SPACs must follow to protect investors.

The money raised in a SPAC IPO is held in an interest-bearing trust account until it is used to make an acquisition. SPACs have up to two years to make an acquisition, after which they must return the funds to investors if they don't find an attractive investment. In the meantime, the SPAC's sponsors are not permitted to collect a salary. Sponsors generally control 20% of the SPAC's outstanding shares.^[2]

The fair market value of the acquired company must be 80% or more of the SPAC's funds.
SPACs are usually priced at US$10 a share, meaning they are within reach of small retail investors—assuming they can get their hands on some shares. Investors also usually receive warrants that give them the right to purchase more shares at a later date; both the shares and the warrants trade separately in the public market after the IPO.^[2]

Risks And Rewards

Investors are betting that the company the SPAC buys will turn out to be the next Apple, Amazon or Google, but there are risks involved.

While the money in the SPAC is held in trust until it is put to use and therefore seems well protected, investors run the risk of missing out on other more lucrative investments in the meantime. In fact, the sponsors may not find a suitable company in the time allotted. Investors also run the risk that the price of their SPAC stock and warrants will fall, although that's true of all investments.

SPAC Issuance Volume Booms

While SPACs have actually been around for decades, there's been something of a boom in them in the year 2020. For example, 128 IPOs came to market through early October 2020, raising a total of US$49.1 billion, according to SPAC Research. That's up from 59 deals and US$13.6 billion in all of 2019.^[1]

Some SPACs have raised a lot of money. For example, Pershing Square Tontine Holdings—the SPAC sponsored by Bill Ackerman's Pershing Square Capital Management—has amassed US$5 billion to US$7 billion to invest.^[3]

Summary

An SPAC, or special purpose acquisition company, is a shell company that raises money in an initial public offering with the purpose of eventually acquiring companies. SPACs are often called "blank check" companies because investors really don't know what those acquisitions will be. Instead, they are relying on the expertise of the SPAC's sponsors, who are usually well-known entrepreneurs and professional investors with a strong track record of making investments.