SPAC, or a special purpose acquisition company, is a firm that starts without undertaking any operations to solicit funds through an initial public offering (IPO). Once enough capital is realized and is kept in a trust account that bears interest, it is later used to acquire a privately owned company. It is also well-known as a blank check company. The SPAC is then given a maximum of two years to make the acquisition. Failure to which, money is returned to the investors as the SPACS sponsor suffers the initial investments’ loss. 

How a SPAC Works

Investors with vast knowledge and experience in a particular business sector or field form a SPAC. The investors or sponsors raise the capital from other investors, which is later used to acquire an existing company that goes public through an IPO. During the SPAC launch, the sponsors either do not know which business to acquire or withhold such information to avoid disclosures and extensive paperwork, a prerequisite by the Securities and Exchange Commission. Thus, the shareholders have no clue of the company to be acquired or how it will run. At this point, the sponsors become the SPAC’s selling point. Most SPAC’s will have their shares trading at only $10 due to the many insecurities at the time, with an assumption of trading at a higher price once an acquisition is made and taken public.

The journey to own a new company can span for years after going public. If at the end of the period the acquisition is not made, liquidation takes place. The funds are returned to the initial investors after deducting the bank and broker fees. A merger takes place once a suitable company is identified. The SPAC’s name and symbol then change to take up the name of the existing business. If one owns a brokerage account with warrants or common shares, they are automatically converted to the new symbol or name. 

De-SPAC Transaction  

This is the stage after a definitive agreement is executed before the target company’s actual merger with the SPAC. A De-SPAC transaction considers aspects of a public firm’s merger with specific considerations not applied to transactions between operating and strategic buyers.

The SPAC has to sign a form S-4/proxy statement with the Securities and Exchange Commission and wait for the approval. If cleared by the SEC, the SPAC and the target company solicit their shareholders’ support for the merger. If the SPAC’s shareholders do not approve of the acquisition, they can either turn down the proposal or redeem their shares. 

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Through the Private Investment in Public Equity, the sponsors can ask new or existing investors to raise more funds for the acquisition. The PIPE proceeds can surpass the original SPAC, thus allowing for capitalization of funds or buying a bigger and better company. The PIPE proceeds can also be used to compensate for the redeemed shares if most investors pull out. 

Once all the shareholders from both parties agree with the acquisition process, and all conditions are satisfied, the SPACs stock ticker is changed to reflect the newly acquired company’s name. The SPAC is then ready to start trading as a public company on the exchange.  

What SPAC’s Look for a Target Company

SPAC’s look for companies whose valuation is roughly 3 to 5 times larger than the SPAC. For example, a SPAC worth $1,000,000 will look for a target company that is $3,000,000 or $5,000,000 in size. The merger may also depend on other factors such as the capital needed or the company’s interest being acquired. 

Terms Used in SPAC Negotiations

  • Public company readiness: A target company should handle the thoroughness of being a public company and give periodic reports required. 
  • An excellent management team: The managing team’s quality at the targeted company is an essential factor to be considered. 
  • Market opportunities: Companies with an enormous market opportunity will be preferred over others. 
  • Industry: The SPAC will target a business in a particular geographic focus or industry. 
  • Valuation: That is the worth of the target company. 
  • Governance: It will comprise of the company’s board of governors/ directors after de-spacing?
  • Liquidity: Terms to be used by shareholders when selling their stock, and the constrains
  • Primary vs. secondary: The amount allocated to buying out the existing shareholders compared to the portion dedicated to the new company’s operations. There is a question the company will engage a pipe after the merger.
  • Warrants coverage: SPAC’s owners to be allowed to buy shares more cheaply. 

Why SPACs are Important

The IPO process becomes shorter compared to when an existing business goes public on its own. The Securities and Exchange Commission rarely has upfront questions or extensive issues as its purpose is well known. The merger process is also simplified once the SPAC is in place than when filling the full registration set. SPACs enable companies to go public even during high volatility and market instability. 

Just in case the SPAC’s investors are not satisfied with the targeted company, they can exercise their redeeming rights. 

SPACs offer companies an additional way to get capital at the late-stage growth, other than going the venture capital or private equity way. It also offers the opportunity to raise money through common shares instead of preferred shares with negative control and protection rights. SPAC’s offers more certainty to the capital to be raised and the company’s valuation, compared to the traditional IPO since the valuation is fixed through a private negotiations merger transaction. The team forming the SPACs sponsors comprises of experienced and accomplished professionals. The investors can then believe in the capacities of the team. 

Companies with a complicated business history or unprofitable operations that are not marketable through the ordinary IPO can go public courtesy of a SPAC. Investors are now more willing to invest in SPAC as they are visible and more established currently. 

The security law rules only allowed historical financial statements to be disclosed in the traditional IPO. However, SPACS can go public using future projections. It is helpful for upcoming companies that have not yet made it to tell their story to interested investors. There are no unforeseen liabilities. The SPAC Company has a clean balance sheet since it has not conducted any business. Therefore, the shareholders of the company being acquired will not face any unforeseen liabilities after the merger. 

Disadvantages of a SPAC

A SPAC may fail to find a suitable company within the stipulated time frame, as the investors’ money is just lying somewhere for all this period. 

The investors may overpay for a targeted company because they need to deal before the grace period lapses. A company’s performance issues may affect the stock price more so if it is at its early stages and is not conditioned to give quarterly reports on its performance. 

There are risks of litigation measures in case the business projections used to solicit shareholders are missed. The target company risks its efforts, time, and legal fees while negotiating for a SPAC deal, only to be rejected by the SPAC shareholders. A target company may not be public ready due to SEC required financial statements or inadequate internal controls.

Difference and Similarities Between a SPAC and an Ordinary IPO

Liquidity: In the ordinary IPO, the bankers are responsible for putting up the 6-months lock up. For PACs, the shares to be sold are left for open discussion between the target company and the SPAC. For instance, insiders have the opportunity to trade almost immediately and lock up for different people or shares.

Roadshow: With the traditional IPO, a two-week roadshow is necessary where the company’s team crisscrosses the country selling its idea to various institutions. No formal process is followed for a SPAC, as the SPAC executive only meets with the principal stockholders.

Pricing: Negations between the SPAC and the target set the company’s net worth going public. However, for the IPO, the bankers are responsible for setting the price and the mind’s incentive. 

Capital raise: The SPAC invests a mixture of money raised through PIPE and the IPO into the new company. The newly merged company can go ahead and raise more money. It is similar to an IPO where funds can be raised and through an offering.

Rejection by investors:  SPACs shareholders may reject a merger proposal. Rejections by the SPAC’s shareholders result in a waste of valuable time and resources. The risk of rejection does not occur in an Ordinary IPO. 

SPACs are a worthwhile acquisition channel providing support from market/industry experts, access to capital, and public listing. 


Chris Douthit
Chris Douthit

Chris Douthit, MBA, CSPO, is a former professional trader for Goldman Sachs and the founder of OptionStrategiesInsider.com. His work, market predictions, and options strategies approach has been featured on NASDAQ, Seeking Alpha, Marketplace, and Hackernoon.