SPACs and their Risks

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Northern Flicker
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SPACs and their Risks

Post by Northern Flicker »

Gary Gensler (head of the SEC) gave a
speech
yesterday presenting his view of SPACs and their risks. Some tidbits:
Once SPAC sponsors find a target company, they often raise additional capital through transactions known as private investments in public equity, or “PIPEs.”

These deals give new investors — mostly large institutions — an opportunity to put money into the SPAC target IPO.
and
For example, PIPE investors may gain access to information the public hasn’t seen yet, at different times, and can buy discounted shares based upon that information. That’s among other benefits.

What’s more, retail investors may not be getting adequate information about how their shares can be diluted throughout the various stages of a SPAC. This dilution largely falls on the “remainers,” not those who cash out after the vote.

For instance, SPAC sponsors generally get to pocket 20 percent of the equity — but only if they actually complete a deal later.
If the sponsors are presented a deal that overvalues the target company, it still may be a good deal for the SPAC sponsor, despite not being a good deal for the SPAC investors, a misalignment of interests.
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Re: SPACs and their Risks

Post by inbox788 »

The SPAC investors didn't like the BuzzFeed story and voted with their feet and the market agrees.

If you click this today, you can see it shot up to nearly $15 Monday and closed $6 today
https://www.google.com/finance/quote/BZ ... ?window=5D

BuzzFeed SPAC Raised Only $16.2 Million Ahead of Much-Anticipated IPO
BuzzFeed is expected to list on the Nasdaq Monday under the ticker symbol BZFD.
https://www.thestreet.com/investing/inv ... of-listing
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Re: SPACs and their Risks

Post by 000 »

I thought the stock market was efficiently pricing in security risks. :confused :mrgreen:
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Re: SPACs and their Risks

Post by Northern Flicker »

Market efficiency is the condition that public information is priced in efficiently. A major point of regulatory activity, which Mr. Gensler also discussed in the speech, is ensuring that investors participating in the market have access to the same information at the same time. Private information is not priced in efficiently-- insider trading would be a non-issue if it were.

How much dilution the SPAC investors take on depends on how many decide to remain in the deal. That number is not available to them when they decide, but the sponsor and target company have the final tally when they decide whether to move forward.
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Re: SPACs and their Risks

Post by ChinchillaWhiplash »

Are SPACs being included in TSM indexes? Wonder what % of index they take up?.
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Re: SPACs and their Risks

Post by Northern Flicker »

Unlikely that they are included before a merger.
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Re: SPACs and their Risks

Post by nisiprius »

ChinchillaWhiplash wrote: Fri Dec 10, 2021 11:41 pm Are SPACs being included in TSM indexes?
No. JoMoney found the answer to that one.

CRSP Equity Indexes Methodology Guide

Image
Wonder what % of index they take up?
Well, they are zero percent of the index. Maybe the reason is illiquidity and thus inability to get an accurate market value?

In the market, according to Size of SPAC IPOs in the US 2003 to October 2021, $138 billion total in 2021, $83 billion in 2020. You can roll the mouse along the chart and read out other years but they're small. Except that I guess all SPACS vanish when they succeed; what happens if they don't? Anyway, the total must be less than $250 billion, in a stock market of $50,000 billion.

So less than 0.5%. A lot more than I would have thought. But, still, unimportant to Boglehead-style investors.
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Re: SPACs and their Risks

Post by ChinchillaWhiplash »

Glad to see that info! SPACs? We don’t need no stinking SPACs. At least I don’t want them in my portfolio :beer
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Re: SPACs and their Risks

Post by Northern Flicker »

nisiprius wrote: In the market, according to Size of SPAC IPOs in the US 2003 to October 2021, $138 billion total in 2021, $83 billion in 2020. You can roll the mouse along the chart and read out other years but they're small. Except that I guess all SPACS vanish when they succeed; what happens if they don't? Anyway, the total must be less than $250 billion, in a stock market of $50,000 billion.
Once the SPAC completes an acquisition to take a company public, it is publicly traded company. Whether or not the SPAC investors did well should have little or no bearing on the value for the company that the market will establish.

I suppose it is possible that there is a higher level of regulatory risk-- if the SPAC process is less well regulated than the normal IPO process, there is higher risk of investor litigation afterwards. But the market should price this in.

Another disturbing point is that the SPAC deal is supposedly validated by the presence of the PIPE-- if these institutional investors want in, you supposedly can trust they have done detailed due diligence, and can be confident moving forward as a SPAC investor. But it turns out they apparently are getting a somewhat sweeter deal, typically.
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Re: SPACs and their Risks

Post by 000 »

Northern Flicker wrote: Fri Dec 10, 2021 10:47 pm Market efficiency is the condition that public information is priced in efficiently. A major point of regulatory activity, which Mr. Gensler also discussed in the speech, is ensuring that investors participating in the market have access to the same information at the same time. Private information is not priced in efficiently-- insider trading would be a non-issue if it were.

How much dilution the SPAC investors take on depends on how many decide to remain in the deal. That number is not available to them when they decide, but the sponsor and target company have the final tally when they decide whether to move forward.
Isn't the purported existence of information asymmetry itself public information which should thus be priced in?
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Re: SPACs and their Risks

Post by nedsaid »

I remember Valuethinker saying that increased investor interest in SPACs is a classic sign of a market mania. Could be. Might also be that Wall Street has found a way to shortcut the IPO process and make it easier to take companies public.
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Re: SPACs and their Risks

Post by Northern Flicker »

"Easier" is not the adjective I prefer for a process that circumvents IPO regulations that are in place for a reason.
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Re: SPACs and their Risks

Post by willthrill81 »

000 wrote: Fri Dec 10, 2021 9:40 pm I thought the stock market was efficiently pricing in security risks. :confused :mrgreen:
If you believe that the EMH always holds, I have a bridge that you would just love to own. 8-)
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Re: SPACs and their Risks

Post by Northern Flicker »

Where's the bridge?
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Re: SPACs and their Risks

Post by impatientInv »

Are SPACs slowing down in 2022? They seemed to lose a bit of steam in January, but are doing OK now.. Bad year for SPACs is probably good for the overall market.

Image
Last year was a banner year for special-purpose acquisition companies, but so far it’s unclear if this year will pan out to be nearly as active for the SPAC market.
The public markets have been rocky since the beginning of the year, and far fewer companies have made public market debuts. And many of the SPACs that went public last year ended the year trading down, which could impact the pipeline this year.
https://news.crunchbase.com/news/compan ... 2022-list/

https://www.cnbc.com/quotes/.SPACCNBC
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Re: SPACs and their Risks

Post by amphora »

C’mon there’s very little risk in pre-deal SPACs because you have the imbedded put to tender your shares for $10. 8-)

Post-deal SPACs are another story…
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Re: SPACs and their Risks

Post by milktoast »

Pre-IPO -> IPO via traditional or SPAC always tends to benefit the insider investors. When I was involved with an IPO back in the dot com era, before the roadshow the company took an extra round of funding at low valuation. No new investors, just dilution of the employee shares. And then they sold them off post IPO for an 8x gain over 6 months. By the time the lockout expired, the market had crashed and the employees didn't get much.

That's traditional way to treat employee shareholders during an IPO; and employees are necessary in order for the IPO to succeed. How well do you think the SPAC insiders would treat public shareholders that provide absolutely nothing of value besides their investment dollars?
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Re: SPACs and their Risks

Post by nisiprius »

According to a story I found, there are three ETFs that invest in SPACs:

Defiance Next Gen SPAC Derived ETF (SPAK)

Image

SPAC and New Issue ETF (SPCX)

Image

Morgan Creek Exos SPAC Originated ETF (SPXZ)

Image

Whee!
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Re: SPACs and their Risks

Post by arcticpineapplecorp. »

thought an update was necessary:
SPACs wipe out half of their value as investors lose appetite for risky growth stocks.

The proprietary CNBC SPAC Post Deal Index, which is comprised of SPACs that have completed their mergers and taken their target companies public, has fallen nearly 50% this year. The losses more than doubled the S&P 500′s 2022 decline as the equity benchmark fell into a bear market.

https://www.cnbc.com/2022/06/27/spacs-w ... tocks.html
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Re: SPACs and their Risks

Post by nisiprius »

I did notice that I've heard almost nothing about SPACs this year. (And I didn't even know what they were in 2020).

I wonder how those three SPAC ETFs have been doing.

SPAK, Defiance Next Gen SPAC Derived ETF

Image

SPCX, SPAC and New Issue ETF

Image

Morgan Creek Exos SPAC Originated ETF

Image
Last edited by nisiprius on Mon Jun 27, 2022 5:03 pm, edited 1 time in total.
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Re: SPACs and their Risks

Post by billaster »

One SPAC to keep your eye on is Digital World Acquisition Corp, DWAC, which disclosed today that has received subpoenas from a federal grand jury in the Southern District of New York requiring board members to testify to the jury. DWAC is also under investigation by the Enforcement Division of the SEC which also has subpoena powers.

It seems one of the issues is DWAC's relationship to its merger target prior to the DWAC IPO. Prior contact is forbidden by SEC rules. To do otherwise is just an illegal backdoor around IPO rules related to the target.

Under SEC regulations a "blank check company" or SPAC is "a development stage company that has no specific business plan or purpose or has indicated that its business plan is to engage in a merger or acquisition with an unidentified company or companies, or other entity or person." The SPAC can't have a target under consideration before the SPAC IPO.

DWAC initiated a merger agreement with a target company TMTG just 19 days after its IPO which raises red flags about how it could have accomplished such an agreement, including due diligence, so quickly without illegal prior discussions with the target.

It looks like both the Justice Department and the SEC are going to play hardball with SPACs that are executed as illegal IPO workarounds.
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Re: SPACs and their Risks

Post by northfork »

nisiprius wrote: Mon Jun 27, 2022 2:33 pm I did notice that I've heard almost nothing about SPACs this year. (And I didn't even know what they were in 2020).
I just had one complete that I bought with fun money - GGPI =>PSNY. Seemed like it was all over the investment news but probably just google targeting me for content. I'm going to hold long term. It was interesting to go through the merger process.
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Re: SPACs and their Risks

Post by gougou »

ChinchillaWhiplash wrote: Sat Dec 11, 2021 8:34 am Glad to see that info! SPACs? We don’t need no stinking SPACs. At least I don’t want them in my portfolio :beer
SPACs before merger mostly trade at $10 with minimal risk because you have the option to tender your shares for $10 and not participate in the deal.

SPACs after merger are eligible to include in the TSM index. I think these ones really stink and I don’t want them in my portfolio.
The sillier the market’s behavior, the greater the opportunity for the business like investor.
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Re: SPACs and their Risks

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Re: SPACs and their Risks

Post by jebmke »

AerialWombat wrote: Mon Jun 27, 2022 11:05 pm As an angel investor in and founder of tech startups, I love SPACs. They’re amazing vehicles for obtaining an exit. I wish there were more of them.

As a retiree living off a Boglehead portfolio, SPACs are demon spawn. I want them nowhere near my index funds, don’t trust the companies that go public using them, and wish there were fewer of them.
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Re: SPACs and their Risks

Post by nisiprius »

Matt Levine's latest MoneyStuff column, which I receive via a no-cost email subscription from Bloomberg, is entitled SPAC math no longer adds up. I think this is a key passage:
The argument above is loosely based on a well-known 2020 paper called “A Sober Look at SPACs,” by Michael Klausner, Michael Ohlrogge and Emily Ruan. From the abstract:

We find that costs embedded in the SPAC structure are subtle, opaque, higher than has been previously recognized, and higher than the cost of an IPO. Although SPACs raise $10.00 per share from investors in their IPOs, by the time a SPAC merges with a private company to take it public, the SPAC holds far less in net cash per share to contribute to the combined company. For SPACs that merged during our primary sample period of January 2019 through June 2020, mean and median net cash per share were $4.10 and $5.70, respectively. Between June 2020 and November 2021, net cash per share was somewhat higher but far below $10. We find that SPAC costs are not born by the companies they take public, but instead by the SPAC shareholders who hold shares at the time SPACs merge. These investors experience steep post-merger losses, while SPAC sponsors profit handsomely.
One of the authors just successfully sued a SPAC, arguing that
Part of the information GigCapital3 shareholders didn’t receive was that the shares the SPAC used to purchase Lightning eMotors were worth around $5.25 per share—not $10, according to Will.

“If Gig3 had less than $6 per share to contribute to the merger, the proxy’s statement that Gig3 shares were worth $10 each was false—or at least materially misleading,” she wrote. “Moreover, Gig3 stockholders could not logically expect to receive $10 per share of value in exchange.”
Levine opines
“Gig3 stockholders could not logically expect to receive $10 per share of value in exchange.” But that’s just logic. There is some practical sense in which, in like 2020, the answer was pretty much “ehhh there is enough value to go around here, it’s fine, everything goes up, don’t worry about how much the sponsor is getting paid or who’s paying them.” Now things are tighter, and there is reason to worry.
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Re: SPACs and their Risks

Post by asset_chaos »

nisiprius wrote: Mon Jun 27, 2022 2:33 pm I did notice that I've heard almost nothing about SPACs this year. (And I didn't even know what they were in 2020).
Some data can back up your notice. Google Trends says the search term SPAC peaked in March 2021 and spiked again in October 2021. The search interest then returned to the level prior to 2020. Indirect evidence that SPAC-mania has died down.

Image
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Re: SPACs and their Risks

Post by billaster »

asset_chaos wrote: Mon Jan 09, 2023 7:32 pm
nisiprius wrote: Mon Jun 27, 2022 2:33 pm I did notice that I've heard almost nothing about SPACs this year. (And I didn't even know what they were in 2020).
Some data can back up your notice. Google Trends says the search term SPAC peaked in March 2021 and spiked again in October 2021. The search interest then returned to the level prior to 2020. Indirect evidence that SPAC-mania has died down.
The spike in October 2021 is due to one particular SPAC, Digital World Acquisition Corp (DWAC) announcing that it had an agreement to acquire Trump Media & Technology Group (Truth Social). The merger has been on hold since then as the SEC investigates securities violations and a Justice Department criminal probe.
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Re: SPACs and their Risks

Post by Valuethinker »

nisiprius wrote: Mon Jan 09, 2023 4:01 pm Matt Levine's latest MoneyStuff column, which I receive via a no-cost email subscription from Bloomberg, is entitled SPAC math no longer adds up. I think this is a key passage:
The argument above is loosely based on a well-known 2020 paper called “A Sober Look at SPACs,” by Michael Klausner, Michael Ohlrogge and Emily Ruan. From the abstract:

We find that costs embedded in the SPAC structure are subtle, opaque, higher than has been previously recognized, and higher than the cost of an IPO. Although SPACs raise $10.00 per share from investors in their IPOs, by the time a SPAC merges with a private company to take it public, the SPAC holds far less in net cash per share to contribute to the combined company. For SPACs that merged during our primary sample period of January 2019 through June 2020, mean and median net cash per share were $4.10 and $5.70, respectively. Between June 2020 and November 2021, net cash per share was somewhat higher but far below $10. We find that SPAC costs are not born by the companies they take public, but instead by the SPAC shareholders who hold shares at the time SPACs merge. These investors experience steep post-merger losses, while SPAC sponsors profit handsomely.
One of the authors just successfully sued a SPAC, arguing that
Part of the information GigCapital3 shareholders didn’t receive was that the shares the SPAC used to purchase Lightning eMotors were worth around $5.25 per share—not $10, according to Will.

“If Gig3 had less than $6 per share to contribute to the merger, the proxy’s statement that Gig3 shares were worth $10 each was false—or at least materially misleading,” she wrote. “Moreover, Gig3 stockholders could not logically expect to receive $10 per share of value in exchange.”
Levine opines
“Gig3 stockholders could not logically expect to receive $10 per share of value in exchange.” But that’s just logic. There is some practical sense in which, in like 2020, the answer was pretty much “ehhh there is enough value to go around here, it’s fine, everything goes up, don’t worry about how much the sponsor is getting paid or who’s paying them.” Now things are tighter, and there is reason to worry.
Good piece.

In the London Stock Exchange, SPACs are known as "shell companies". Various entrepreneurs would attract followings in the City of retail investors and fund managers, and do deals using them. This was very much the 1970s and 1980s, they were heavily cracked down on, particularly in the post dot com period.

"When playing poker, if you haven't figured out who the mug is in 5 minutes, then you are the mug". (If you ever saw the exquisite film Molly's Game that's one of the things that becomes obvious https://www.imdb.com/title/tt4209788/ ).

In other words this is a situation with asymmetric information and you, the retail investor, are the one with less information.

If it's a way to achieve an IPO with fewer IPO rules (put in place to protect investors) and less due diligence, why should I want to participate in this? Particularly knowing that IPOs are asymmetric - they underperform, on average, post 1st day trading.

The companies so listed via SPAC are likely to be less mature and of lower quality, on average, so why as an investor (playing the law of averages) should I want to participate?

I believe the various index providers have rules about when these post-SPAC companies are incorporated into the index, to prevent a front-running position where hedge funds etc know it will be included into the index, so buy in advance of that and sell to index funds when the stock is included.

From memory the bubble in SPACs was in early 2021. I think like a lot of phenomena (Gamestop), and the general rush to ecommerce, a big factor was people sitting at home with too much time on their hands. Watching stocks go up and down. It all felt very early 2000 dot com era-ish.

Having just made a major household purchase at an actual, live retail outlet -- look and feel is still important -- I can see how that was overdone.
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