The stockmarket’s “Spac” boom is slowing

There is ample cash available to fund pie-in-the-sky technologies such as flying robotic taxis

(Image credit: © Getty Images/iStockphoto)

published 16 July 2021

Special purpose acquisition companies (Spacs) “are falling short of their promises”, says Rana Foroohar in the Financial Times. They are billed as a “cheaper, more efficient… way to bring new companies public” than the traditional initial public offering (IPO). Last year the vehicles “raised as much cash as they had done over the entire preceding decade”. This year “there have been 30% more Spac issuances than traditional IPOs”. Yet returns for investors often disappoint.

Spacs: the new IPO

Spacs are shell firms that list on the stockmarket in order to raise cash. They then use the money to buy an existing company, providing an alternative route for the target firm to secure a listing on public markets.

Traditional IPOs are burdensome, says Charles Duhigg in The New Yorker. There are strict rules about how much a company can communicate with the public during the pre-flotation “quiet period”. Spacs offer a simpler route to a listing. Some have dubbed Spacs the “second coming of the IPO”, says Daniele D’Alvia for theconversation.com. Another drawback of traditional flotations is that they are usually underpriced. This is to drum up interest by guaranteeing early buyers a quick profit, but from a company founder’s perspective they are leaving money “on the table”. The bubble may already have burst: “only 30 Spac flotations took place in April and May” compared with 299 in the first quarter of 2021.

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The slowdown in Spac issuance was “a direct result” of “increased regulatory scrutiny”, says Therese Poletti for MarketWatch. The IPO process is designed to weed out dodgy claims about a company’s prospects, but the lack of rules for Spacs opens the way to fraud. Still, we probably haven’t seen the end of the frenzy yet. After flotation a Spac usually has a two-year time limit to find a company to merge with. If it fails to do so the vehicle is wound up. There are “more-than 400 already public Spacs searching for targets to find deals”, says Nicholas Jasinski in Barron’s. So there could be a rush of “risky deals” as Spac managers race to beat the deadline, says Poletti. There is a lot of cash ready to fund “pie-in-the-sky technologies [such as] flying robotic taxis”.

A study by the European Corporate Governance Institute found that “Spac share prices tend to fall by about a third of their value within a year of their mergers”, says Foroohar. Another paper found that “fewer than a third of Spacs end up making money for investors”, says Duhigg. Where does the money go? Sponsors, the people who created the Spac, often receive “20% of a Spac’s stock… Such paydays can be worth hundreds of millions of dollars”. As Michael Klausner of Stanford Law School puts it, “The real reason Spacs are so popular right now… is mostly because sponsors are making so much money” from them.

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Alex is an investment writer who has been contributing to MoneyWeek since 2015. He has been the magazine’s markets editor since 2019.

Alex has a passion for demystifying the often arcane world of finance for a general readership. While financial media tends to focus compulsively on the latest trend, the best opportunities can lie forgotten elsewhere.

He is especially interested in European equities – where his fluent French helps him to cover the continent’s largest bourse – and emerging markets, where his experience living in Beijing, and conversational Chinese, prove useful.

Hailing from Leeds, he studied Philosophy, Politics and Economics at the University of Oxford. He also holds a Master of Public Health from the University of Manchester.