What Are SPACs and Should You Invest in Them?
Now, why do spags exist? A primary reason is the reverse mergers that occur was back with a publicly traded company purchasing a private company is in some ways simpler and easier way for private companies to become publicly traded compared with doing their own initial public offering. One Reason, the appetite for IPO's varies. There are some times where markets are more receptive to IPO's, and that's when a lot of private companies startup companies want to go public. Other Times not so much with a back. It's already public. and. So it's a way for a private company to become public without having to go through the road shows and much of the paperwork and legal hassle of going public. Another reason is often when a startup goes public doesn't initial public offering they lock up period for existing shareholders. It's not necessarily great press for a newly public company to have its founders selling a lot of their shares. With us back, they have the cash already raised and it's easier for founders and other principles of the private company to be able to liquidate more of their shares in the company. The other thing with initial public offering is often times money is left on the table. The underwriters try to price the initial public offering at ten to fifteen percent discount to the fair value of the company. But what that price is very difficult to determine and oftentimes after the initial public offering in the first few hours the IPO jump significantly in price, which means the private company didn't get that money that was money that was trading in the secondary market. It wasn't money that flowed to that private company is part of that public offering. With specs, there's a negotiated price. So the private company knows what they're getting. They know what the valuation is and so they potentially can get more money. How then do specs work? Well specs also need to raise capital so they do an initial public offering. It's usually combined with one common share plus a warrant or a fraction of a warrant, and what a warrant is gives the holder the right to buy more stock at a fixed price at a later date. It's an incentive for SPAC holders to potentially get more shares of the company wants that target is identified. The initial public offering is help for the back and at least eighty, five percent of the proceeds needs to go into an escrow account for future acquisitions. In practice, it's closer to ninety seven percent of the proceeds with three percent held in reserve for underwriting fees for the initial public offering operating expenses for this back to cover due diligence cost legal accounting et CETERA. Most of the money goes into this escrow account, which is then invested in government bonds. So before the acquisition, it's fairly risk free investment. Most of the time, the specs are issued at A. Price of ten dollars per share. In theory, it should stay about ten dollars per share because it's just an escrow account invested in government bonds and shareholders of this they don't know what the potential acquisition target will be. In practice, we're seeing specs sell for more than the IPO price because holders believe the management team of back is going to identify a very attractive company that will be profitable to the SPAC shareholders. So sometimes, they can bid up the price of this back. For example, that back that pershing square bill ackman's company came out with July is trading about twenty percent above its IPO price. The specs sponsors have a specified period to identify a potential target. Typically it's about two years and if they're not able to identify an acquisition and close an acquisition, then the trust is liquidated and the money in escrow account is return his shareholders. If the back sponsors do identify potential target firm, then they make an announcement, it's called the announcement date. Then the back shareholders are notified that there is a potential acquisition target. At that point that's back sponsors perform additional due diligence negotiate a structure of the acquisition. The SEC has to review the terms of the acquisition because the private company will be made public. And then there's a proxy vote for the shareholders of this back and they are deciding to issues. Whether they approve the acquisition or disprove, they don't want to Spec to go forward with it. The. Second thing that they are voting on whether they wanted to liquidate their shares in this back they have an opportunity to get out at the net asset value of the trust, which is the value held in the escrow account divided by the number of shares. Outstanding. If more than fifty percent of the shareholders approved the acquisition and less than twenty percent of the shareholders vote for liquidation. Then the transaction is approved and the target firm is listed on Stock Exchange. If more than fifty percent, approve it but more than twenty percent want their money back. Then this back is also liquidated.