SPAC Investing: A Complete Guide for Investors
SPAC investing is becoming increasingly popular. As more companies choose this method of going public, more investors are curious about investing in SPACs. Let’s take a look at what it is and how SPAC investments work.
What is a SPAC?
A SPAC is a special purpose acquisition company. Also known as blank-check companies, these companies have no business operations. The company is formed to raise funds in an initial public offering (IPO). It then uses the funds to acquire a private company, effectively bringing it to the public market.
SPACs are usually formed by investors with knowledge and experience in a particular industry or market. Typically, the company intends to pursue an acquisition within that industry. However, although the founders might have a particular company in mind, it isn’t disclosed. This is because while it might be the ideal target, it isn’t guaranteed. So, SPAC investing can be a risk because investors don’t know for sure what they’re investing in.
SPAC Investing and the IPO Process
The SPAC IPO process is simpler and faster than the traditional IPO process. A traditional IPO requires a lot of time, money and paperwork. A SPAC still needs to file a prospectus with the SEC. But since a SPAC has no business, there’s little to report. In the SPAC prospectus, the company will talk about things such as:
- Risk factors
- Use of proceeds
- Management
- Proposed business
- Management’s analysis of financial condition
- Management’s analysis of results of operations
SPAC stock will usually be priced at a standard $10 per share. The proceeds will be placed in an interest-bearing trust. The company then has up to two years to find an acquisition.
SPAC investing has become popular in the last few years. But why is that? As mentioned, the SPAC IPO process is faster and requires fewer steps. Instead of taking six to nine months like a traditional IPO, a SPAC IPO can be accomplished in weeks. It also provides less risk than a traditional IPO. And the acquired company doesn’t need to find investors. SPAC investing provides the money and the investor demand. This allows a direct market listing.
SPAC Investing: Advantages and Disadvantages
Here are some advantages of SPAC investing…
- Lure of getting in on the “next big thing” before it takes off. Many investors want to be in on the next disruptive innovation. SPAC investing provides investors with this opportunity.
- More certainty on pricing than a traditional IPO. Acquisition pricing is negotiated with the sponsor and outlined in the merger agreement. This is unlike a traditional IPO, where a pricing range is set and changes based on market conditions.
- Faster than a traditional IPO. An IPO takes months to a year, whereas a SPAC merger takes weeks.
- Less regulation. SPAC mergers face less regulatory demands than in an IPO.
Here are some disadvantages of SPAC investing…
- Failure to find a target. Some companies fail to find a target company in the two year period.
- Risks of increased regulation. The SEC added new accounting mandates for SPACs in 2021. Moreover, there are rumors of increased regulation on the way.
- Underwhelming performance. SPAC shares were especially volatile in 2021. Many investors are disappointed as the majority of companies that went public last year via SPAC have produced weak returns.
Now that we’ve discussed SPAC investing’s advantages and disadvantages, let’s explore some of the most common questions that people have about it.
Common SPAC Investing Questions
Here are some common questions people have about SPAC investing…
What happens when you buy SPAC stock? When you buy SPAC stock, it’s commonly at $10 a share and a partial or full warrant.
What is a SPAC warrant? A SPAC warrant gives you the right to purchase common stock at a particular price. For example, let’s say you get a warrant for $12 at a 1:1 ratio. That means one warrant equals one share. If the stock price goes up to $20 after the merger, you can exercise your right to buy it at $12. This gives you an instant gain of $8.
Make sure you read the SPAC’s prospectus to understand the rights you have as a SPAC investor.
What happens to SPAC stock after the merger? After a merger is completed, shares of common stock automatically convert to the new business. Other options investors have are to:
- Exercise their warrants
- Cash out
What happens if a SPAC doesn’t merge? SPACs are typically not allowed to use the raised proceeds for any reason other than an acquisition. So, if no acquisition is made within two years, it will take the money from the trust and return it to investors.
Like any investment, investing in SPACs comes with its own risks. But as SPAC investing grows in popularity, investors should see more coming to the market.
About Amber Deter
Amber Deter has researched and written about initial public offerings (IPOs) over the last few years. After starting her college career studying accounting and business, Amber decided to focus on her love of writing. Now she’s able to bring that experience to Investment U readers by providing in-depth research on IPO and investing opportunities.