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Blank Check Companies

"Initial Public Offering" - a term we all are familiar with, it enables unlisted companies to raise capital from the public by selling equity. However, we are also aware about the fact that this process is arduous and expensive.

Is there any way to bypass this long process and raise money quickly and at a cheaper rate? Well, SPAC or Special Purpose Acquisition Companies is at our rescue.

SPACs have been around for decades, but only recently has the number of companies opting for the SPAC route grown exponentially. In 2020, SPACs accounted for over 50% of new publicly listed companies in the U.S.

What exactly is an SPAC? It is a company that has no commercial operations (basically, a shell company). It is formed strictly to raise capital through an IPO to acquire or merge with an existing company.

As this company has negligible assets and operations, the IPO process is much less tedious than a standard company. In most cases, the founders do not even disclose the company's name they are targeting to acquire in order to avoid complexities in the IPO process.

This sums up the reason they are called "Blank Check Companies", as investors have no idea what will their invested money be used to acquire. They take a leap of faith in the acumen of the promoters of the SPAC.

The money raised is placed in an interest-bearing account. The promoters usually have about two years to complete an acquisition or otherwise liquidate the company and return the money to the investors.

What are the advantages for an unlisted company to merge with an SPAC?

Firstly, a company can go public through the SPAC route in months, while the conventional IPO process can take anywhere from six months to more than a year.

Secondly, the target company owners may be able to negotiate a premium price at the time of selling to an SPAC because the latter has a limited time window for making a deal. As SPAC promoters, in most cases, are high-profile executives and financiers, the value helps the company to get market recognition.

What's in it for the promoters? They usually take as high as 20% of the equity of the merging company as a "promote" to set everything up.

Still confused about the differences between an IPO and SPAC?

Okay, let's assume that you have a company named ABC, and you think it's the right time to go public and raise money. If you go with the traditional IPO route, it will take around 6-12 months, and you will have to pay vast sums of money either as fees to investment banks or market the IPO among investors.

On the other hand, SPAC provides a form of shortcut since, you will be merging with a company already listed on the exchange for the sole purpose of merging with another identity. After the merger is completed, the name on the stock exchange will be changed to ABC and Congratulations! You have just bypassed the cumbersome traditional IPO process. There is no need for marketing or worrying about not being able to raise enough money as the SPAC promoters already did that when they listed their company. ABC will just have to pay the promotors of the SPAC with either equity or cash or both.

This sounds good for the company as well as the SPAC promoters, but investors have historically not received enough returns in line with the risk they took. According to Renaissance Capital, of the 313 SPACs IPOs, since the start of 2015, 93 have completed mergers and taken a company public. The common shares have delivered an average loss of -9.6% and a median return of -29.1% per share. Seeing this, you will be better off putting your money in an index fund.

As SPAC mergers attract less regulatory scrutiny and the sponsor has to make a deal within a specified time, less attractive companies can go public at the cost of investors. The idea of SPAC is innovative, but in reality, the interests of the sponsor and acquisition company are kept ahead of the investors.

Companies with weak balance sheets, operations and no future plans have made it to the stock exchanges and have eroded investor wealth. Sometimes, the companies which have outright fabricated parts of their balance sheet have been able to raise money.

A little task for you: Go and check out a company's stock price raised through SPAC by "Ucommune International."

You thought PayTm was a blunder? Ucommune International investors can brag about losing about 97% of their money (as on 15/3/22, who knows, it can get even worse)

In my opinion, investors should avoid putting their money in an SPAC. Its advantage of having less regulatory oversight can, on the other hand, be detrimental to the investor. Big financiers and executives are highly motivated by greed and can neglect their duty of putting the "Blank Check" the investors handed them over to proper use.

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