This week, Southeast Asia’s most valuable start-up agreed to merge with one of Altimeter’s special purpose acquisition companies (SPACs). The $40bn deal is a record-breaker and a significant milestone in the burgeoning market for SPACs.
At least, that’s one way of looking at it. The other is that it comes at the peak of the hype surrounding blank cheque companies.
With sky-high valuations, increased regulatory scrutiny, and concerns that funding is drying up, fears are growing that the SPAC bubble is finally about to burst.
Mounting challenges for the SPAC trend
By mid-March this year, SPACs in the US had already raised $87.9bn — topping the $83.4bn total issuance last year, according to a report by CNBC’s Yun Li. However, according to Li, the market is facing several challenges, including the hunt for good quality companies. The search becomes harder when there are nearly 500 SPACs on the lookout.
One worrying statistic is that only 25% of SPACs listed since 2019 have managed to complete a deal, according to the Financial Times. The paper notes that sponsors often have two years to complete a deal, otherwise they have to return capital back to investors.
Amount SPACs had raised in the US by mid-March 2021
As growth companies, higher interest rates could make SPACs less attractive to investors in the current marketplace. That certainly seems to have played out on CNBC’s SPAC 50 index, which tracks the 50 biggest pre-merger companies in the US. Over the past month, the index has dropped 4% (as of 12 April), lagging the S&P 500’s gains in the same period.
ETFs tracking the investment trend have also been hit hard, with the Defiance Next Gen SPAC Derived ETF [SPAK] and the SPAC and New Issue ETF [SPCX] both on a downward trend since mid-February.
Another problem is that private investment in public equity (PIPE) funding is drying up. While a SPAC raises money through the sale of equities, it also raises money through institutional investment. At the start of the SPAC boom, large finance companies like Fidelity were putting their money behind these blank cheque companies, with some even paying a premium to invest.
However, with the proliferation of SPACs, these institutional investors are baulking at the hefty valuations.
According to the Financial Times, SPAC deals are now being “recut to offer more favourable terms to PIPE investors”, with some now negotiating larger stakes for the same amount of money.
Other concerns include greater regulatory oversight, with the US Securities and Exchange Commission (SEC) having written to several SPACs in March in an exploratory exercise.
In a statement released last week, John Coates, acting director of the SEC, warned companies against providing “enticing but misleading” information regarding growth in deals with SPACs, The Wall Street Journal reports.
Is the SPAC boom over?
January and February might have been a peak for SPACs, but that’s not to say the party is over. Grab’s record-breaking merger is an example of this, as is the UK-based used car platform Cazoo, which is choosing to list in the US via a $7bn SPAC deal.
“Where we had been at a crazy, mad, rush pace in January and February, we’re kind of at a standstill right now on the IPO side,” said Ari Edelman, partner in Reed Smith’s corporate practice.
“Where we had been at a crazy, mad, rush pace in January and February, we’re kind of at a standstill right now on the IPO side” - Ari Edelman
One pitfall of SPACs is that investors don’t know which companies will be targeted to go public, instead they are reliant on the management team’s investment nous. Depending on risk appetite, investors could opt to gain exposure via a SPAC-focused ETF, wait to see which company a SPAC has lined up to invest in, or wait until a merger completes.
So, what is likely to happen across the SPAC landscape? There could be a flight to quality companies and downward pressure on the lofty valuations. Greater oversight and better value for investors isn’t a bad thing — even if it causes a slowdown in the trend.