Teach your kids about Money: SPAC ATTACK!

Updated May 13, 2023

What you need to know about a SPAC: 

Anyone with an ear for finance has heard a LOT about SPACs.  But what exactly is a SPAC anyway? A SPAC, or special purpose acquisition company, is a shell company established by investors to merge with a private company and take it public.  And what do DraftKings, Virgin Galactic & Lucid Motors have in common? You guessed it.  They were all taken public by merging with a SPAC. 

As an alternative to a traditional IPO (initial public offering), SPACs have skyrocketed in popularity.  Often known as a “blank check company,” SPACs allow investors to pool their money and go public as a shell company, even though they won’t know what their acquisition target is.  Once the capital is raised (and typically priced at $10/share), the SPAC’s founders search for a company to merge with while the funds are held in a trust account. 

The SPAC management team has about two years to find a suitable company, otherwise the funds are liquidated and money is returned to investors with interest.  If the SPAC shareholders approve a deal, investors can trade their shares for those of the merged company OR redeem their SPAC shares to recoup their initial investment (plus interest from time in trust).  If successful, the SPAC sponsors are ultimately entitled to a 20% stake in the new, merged company. 

Why SPACs matter:  

The rise of SPACS has completely eclipsed the ascent of private equity deals, which took decades to achieve similar purchasing power.  So what fueled the SPAC boom? 

Though SPACs have been around for decades, they have historically been associated with scams.  All that started to change in the last few years, as investors began to see SPACs as an effective and efficient backdoor to taking companies public. 

So why the sudden SPAC attack? With roadshows off the table due to Covid, the Fed maintaining low interest rates at the time and the unwavering rallies in equities have all made this alternative investment more attractive. Additionally, amateur investors who would have otherwise been on the sidelines have found a way to get in the game. SPACs look particularly appealing as they allow investors to avoid tight regulatory scrutiny associated with traditional IPOs.  While traditional IPOs can take two or three years to close, SPACs can allow companies to go public in a matter of months.  These factors and more have led to an unprecedented number of SPACs in the pipeline, leading some experts to believe a SPAC bubble is in the making.   

Penny For Their Thoughts: Celebrity SPAC investors from Shaq to A-Rod to Ciara have only fueled the SPAC fire. How have celebrities influenced the SPAC craze? Do you think it’s wise to follow a celebrity’s lead when it comes to investing?