“Special Purpose Acquisition Companies” or SPACs, are all the rage on Wall Street right now for a number of reasons: they are generating big fees for banks, raising substantial capital for entrepreneurs, and in some cases, big returns for investors.
Here are some of the most talked-about SPACs this year:
- Tortoise Acquisition Corp (SHLL)
- Virgin Galactic (SPCE)
- DraftKings (DKNG)
- Nikola Corp. (NKLA)
SPACs are formed and go public for the sole purpose of raising capital used to merge with or acquire another company.
The key factor that enables a SPAC to raise significant capital by going public before its management team has even identified a business to acquire is the credibility and track record of the management team.
After the capital is raised and the SPAC opens trading, normally at $10 a share, the SPAC management team normally retains some of the capital raised to cover the initial underwriting fee and the operating expenses of the SPAC. The remaining capital is placed in an escrow account until a target company is identified and a transaction completed.
In practice, SPACs rarely trade below their trust values because, at the time of a SPAC’s merger, shareholders have the option of redeeming their shares for a proportionate share of the cash. Outside of periods of extreme market stress such as in March, it tends to be the floor for where SPAC shares trade.
Some SPACs from high-profile sponsors do trade quite a bit above their trust values as investors bet that the team will put together an attractive merger with an operating company worth more than the cash in the escrow account.
A Pioneer in SPACs
One high-profile pioneer in SPACs is former Facebook insider Chamath Palihapitiya. Last year, Richard Branson’s Virgin Galactic (SPCE) merged with Palihapitiya’s Social Capital Hedosophia Holdings Corp., raising $800 million.
I recommended this stock at just over 7 per share, and it currently trades at 21.
Palihapitiya has followed up on this success by launching two more SPACs that have already identified the target company they plan to merge with.
Social Capital Hedosophia Holdings Corp. II (IPOB) is set to merge with the real estate tech company OpenDoor in a $4.8 billion deal.
Social Capital Hedosophia Holdings Corp. III (IPOC) is expected to merge with Clover Health in the first quarter of next year.
Recently, three new Palihapitiya-backed SPAC companies raised a total of $2.1 billion in three initial public offerings.
Social Capital Hedosophia Holdings Corp. IV (IPOD) raised $400 million in the offering. Social Capital Hedosophia Holdings Corp. V (IPOE) raised $700 million, while Social Capital Hedosophia Holdings Corp. VI (IPOF) raised $1 billion.
All three special purpose acquisition companies priced each individual unit at $10 and all the companies will focus on a merger partner in technology industries. The shares are now trading on the New York Stock Exchange.
I’m sure some investors will make a small bet on each of these three new SPACs since there is no way of knowing right now which one, if any, might be a winner. Another option is to wait until each has merged with their target company but by then, they may already have made their move.
SPACs will strike many conservative investors as unorthodox, but it looks like they are filling a void in the IPO market and will be with us for some time.