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Roula Khalaf, Editor of the FT, selects her favourite stories in this weekly newsletter.
The writer is a former investment banker and author of ‘Power Failure: The Rise and Fall of an American Icon’
Sometimes I wonder if investors ever learn from their foolish choices. Take, for instance, the denouement of the latest version of the craze for special purpose acquisition corporations, or Spacs.
You will recall that these were all the rage during the pandemic, although I could never figure out why so many investors got snookered by them. The idea behind Spacs, which have been around for decades and used to be called “blank-cheque” companies, is relatively simple.
A couple of connected guys get together and decide they are going to “sponsor” a Spac. They come up with a silly name that aspires to greatness, write a prospectus, and then try to raise equity for their empty shell of a company by selling shares in an initial public offering to investors. If successful in raising money from other people, the sponsors then have two years or so to find a private company with which to merge.
The formerly private company then trades publicly, with the hope that the stock goes up and everyone involved makes money. The sponsors, of course, usually get rich either way, since they end up with roughly a 20 per cent ownership stake in the Spac for which they paid peanuts.
There are risks for the sponsors. If they fail to find a merger partner during the two-year window, they must return to investors the money they raised, plus interest, including the underwriting fees related to the Spac IPO. That can hurt. Just ask Bill Ackman, the flamboyant hedge fund manager. In 2021, at the height of the pandemic, he created a Spac, Pershing Square Tontine Holdings, and raised $4bn through an IPO, the largest Spac ever. But he could not find a deal in time and, in 2022, the company announced it had to unwind it and return investors’ money. According to Spac Research, more than 350 Spacs have been liquidated since the start of 2022, without finding a merger partner.
Usually, though, it’s the retail investors who ended up holding the bag. A few of the many awful examples will suffice. The Spac created from the ashes of WeWork went bankrupt before being sold out of Chapter 11 protection after a debt restructuring. The one that merged with Lordstown, the electric-car manufacturer went bankrupt and emerged as Nu Ride Inc. The Spac that merged with AppHarvest, an indoor farming company backed by JD Vance when Donald Trump’s running mate was a venture capitalist? Filed for bankruptcy protection last year and has been liquidated. Bird Global, the scooter company that once boasted a market value of $2.5bn, filed for bankruptcy protection before its assets were sold.
According to Bloomberg, in 2023 there were “at least” 21 bankruptcies of Spacs that found merger partners. Not all Spacs have gone bankrupt, of course. Some are like Sir Richard Branson’s Virgin Galactic, the space flight company that merged with a Spac sponsored by a serial launcher of these vehicles Chamath Palihapitiya. The publicly traded Virgin Galactic is down nearly 99 per cent from its all-time high, while Palihapitiya cashed out in 2022, raising $200mn by selling his personal holding of shares. Bloomberg pegs investor losses for those Spacs that went bankrupt in 2023 from peak market capitalisations at $46bn.
Apparently, memories are short. According to the Financial Times, Spacs have been making a comeback in the first half of the year, as traditional IPOs have been far and few. Funding for them is up 20 per cent so far in 2024, above 2023, according to Dealogic, with some $3bn of new equity capital raised. More than 20 new Spacs, hoping to raise $4.3bn, have filed IPO documents since June. That compares with the $1.8bn that they raised in the second half of last year.
Aside from the fact that everyone involved with things such as Spacs — fee-hungry Wall Street bankers, hubristic and greedy sponsors, too many overly optimistic investors — has already forgotten the recent carnage, there does seem to be an element of logic to the revival.
There are still thousands of relatively large private companies looking to go public, many of which are backed by anxious venture capital firms or private equity firms looking for an exit strategy. Even though the last week of July was one of the busiest in the IPO market since December 2021, Wall Street bankers don’t expect much new IPO activity until well after the Labor Day holiday at the start of September, if then. Spacs can potentially fill the void in the traditional IPO market.
But that can only happen if investors buy into Spac mania again. They don’t have to and, frankly, they shouldn’t given the track record.
Too often, it’s the Spac sponsors and the Wall Street underwriters of Spacs who emerge unscathed, laughing all the way to the bank. With a little investor discipline and restraint, however, the latest blossoming of the Spac phenomenon can be nipped in the bud.