Beware the SPAC Cliff

Special Purpose Acquisition Companies, or SPACs, have become all the rage in the last year. These “blank check” companies raise money from investors and then look for a company to acquire. They’re multiplying like rabbits:

More than 300 such blind pools have come public so far this year according to SPACInsider, raising an aggregate $99 billion. That blows past the prior $83 billion, full-year record established in 2020. For context, the pre-coronavirus peak in aggregate IPO proceeds stood at just $64.8 billion.

More here (see the 4-9 post).

That means hundreds of companies all competing for the same pool of private acquisition targets. This has pushed up prices substantially, and SPACs may be overpaying for their acquisitions:

SPAC-sponsored deals took place at a median price of 12.9 times sales in the first three months of the year, more than triple the 4.1 times median price-to-sales ratio for non-blank check transactions.

SPACs typically have two years to find a company to acquire. If they succeed, the people who run the SPAC will get about 20% of the total value of the deal. If they don’t acquire a company, the party ends, and the money goes back to investors.

With hundreds of companies from this year and a backlog from previous years all searching for deals before their two year window is up, it’s no surprise they’re overpaying.

With 117 SPAC-related deals announced so far this year, 497 blank-check entities are currently seeking their own dance partner, according to Refinitiv, while only about a quarter of all SPACs listed in 2020 or 2021 have completed a transaction.

The clock is ticking: Entities that fail to find a merger target within two years are typically unwound, with promotors obliged to return capital to investors. “There is a lot of indigestion,” a senior bank executive tells the FT.

If the SPAC sponors buy an overpriced company, they still get 20% of the money. If they don’t buy anything, they don’t. What do you think they’ll do?

The incentives aren’t well aligned. If the SPAC sponors buy an overpriced company, they still get 20% of the money. If they don’t buy anything, they don’t. What do you think they’ll do?

Sure enough, overpaying for companies is leading SPACs to perform poorly. An index of SPACs is down about 20% from its peak earlier this year.

Expect to see more and more SPACs frantically overbid for deals as their two year cliff approaches. Bad for SPAC investors, good for private company shareholders.

For more on SPACs and financial markets, check out these posts:

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Photo: “YIELD TO THE MAN FALLING OFF THE CLIFF!” by Bods is licensed under CC BY-SA 2.0

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