Matt Higgins, former judge on the reality TV show Shark Tank, is a seasoned investor whose company, RSE Ventures, helps young companies build their businesses.
So it came as no surprise that in November 2020, Mr. Higgins adopted one of Wall Street’s biggest recent obsessions by firing a plumber. Special purpose buyout companies – known for their acronym – are fictitious entities that sell shares to the public and use those funds to purchase an operating company. Investors get their money back if SPAC doesn’t find a business to buy it within two years.
Last summer, Omnichannel Acquisition, a SPAC backed by Mr. Higgins, agreed to buy Kin Insurance, a fintech firm. But last January, both sides called off the deal, citing “unfavorable market conditions.” In May, Mr. Higgins decided he had had enough. It liquidates Omnichannel and returns the $206 million raised by SPAC to investors.
“We spent months and months of work getting Kane ready to go,” said Mr. Higgins. “But the market has completely turned on us.”
Wall Street’s love affair with SPACs is fading.
After two hot and heavy years, during which investors pumped $250 billion into SPACs, rising inflation, rising interest rates and the threat of recession have raised doubts. Increasingly, investors are withdrawing their money from SPACs, which they are allowed to do at the time of the merger. With stocks of high-growth companies taking a beating recently, they were less willing to bet on the success of SPAC mergers – which often involve risky companies -.
At the same time, regulators are ramping up scrutiny of SPACs. The Securities and Exchange Commission has opened dozens of investigations into SPACs and is proposing stricter rules. Increased regulations will make SPAC deals less profitable for the major investment banks arranging them, because they will have to allocate more resources to compliance. They, too, began to retreat.
“You can see this cliff coming,” said Usha Rodriguez, a professor of corporate law at the University of Georgia School of Law who has emerged as a leading expert on SPACs.
Debris is piling up.
On Tuesday, Forbes Media became the latest company to cancel its planned merger with SPAC. About 600 SPAC companies that went public in the past two years are still trying to close deals, according to data from Dealogic. Nearly half of them may not find goals before the two-year working window closes. At least seven SPACs have been folded since the beginning of the year. Another 73 companies waiting to go public have put their plans on hold. Box performance tracks Of the 400 SPACs it has fallen by 40 per cent over the past year.
Although SPACs have been around for decades, they have long had a bad reputation. Only companies whose finances would not survive investor scrutiny en route to a traditional initial public offering used SPACs to go public. That changed at the start of 2020, when prominent financial firms, venture capitalists, and hot startups embraced SPACs as a faster and easier path to public markets than an IPO.
Wall Street banks have been very eager to arrange these cookie-cutter deals for exorbitant fees. Desperate investors bought in with enthusiasm.
Suddenly, everyone from hedge fund managers like Bill Ackman to celebrities like NFL quarterback Patrick Mahomes, and tennis legend Serena Williams, jumped on the SPAC bandwagon. Retail investors also participated, as stock trading took off during the pandemic. Even former President Donald J. Trump struck a deal with SPAC last year to bring his fledgling social media company to the public.
“Why did VCs switch to SPACs all of a sudden? Because reputable investment banks started underwriting them,” said Mike Stegemueller, a professor of finance at Baylor University.
The SPAC deals were an important new source of revenue for Wall Street banks. Since the start of 2020, the 10 largest banks regulating public offerings of SPACs have generated just over $5.4 billion in fees, according to Dealogic. Citigroup, Credit Suisse and Goldman Sachs incurred the largest fees.
Companies that sell shares to the public through an IPO have to go through a rigorous process with strict rules. But SPACs face little regulation, as the companies going public do not have actual operations yet. Shares are usually priced at $10 apiece.
Early investors also receive collateral, a type of security that gives them the right to purchase additional shares later at a pre-set price. If SPAC’s stock goes up after it finds a partner in the merger, the guarantees can be financially rewarding.
SPAC has two years to find an operating company to purchase it; Otherwise, the money must be returned to the investors. Since investors don’t know what business SPAC will eventually buy, they have the option to redeem their shares when they vote on the merger – meaning that the combined entity could end up with much less cash than what SPAC collected.
The SPAC boom was driven by a prolonged period of low interest rates, which drove investors to the riskier corners of the market in search of higher returns. SPAC became particularly popular with hedge funds that were looking to make a profit from the difference between the share price of SPAC and the guarantees they held.
This has helped prominent venture capitalists embrace SPACs as a faster way to deploy technology startups. In late 2019, Richard Branson merged Virgin Galactic, his airline, with SPAC led by Chamath Palihapitiya, a Facebook CEO turned venture capitalist. The following year, the popular online gaming company DraftKings went public at SPAC Deal Guaranteed by Goldman Bank, Credit Suisse and Deutsche Bank.
The SPAC format also provided a lifeline for companies like WeWork, which had to pull its initial public offering in 2019 when investors turned down the office sharing the company’s financial statements. But that wasn’t an obstacle when WeWork merged with SPAC last year and secured $1.3 billion in much-needed capital.
“Last year was one of the best in terms of SPACs,” said Gary Stein, a former investment bank analyst and entertainment industry consultant who has invested in such companies for nearly three decades. “This is probably one of the most difficult years for me to navigate.”
Two things have cooled the enthusiasm for SPACs. Inflation is on the rise, prompting the Federal Reserve to raise interest rates and investors to pull money from SPAC deals to stop them elsewhere. Regulatory scrutiny in the SPAC market is also on the rise, which has made these deals less attractive to the players involved.
In recent months, investors have repeatedly invoked their contractual right to redeem their SPAC shares. historically, About 54 percent of the shareholders He will choose to redeem the shares when the merger is announced. Now, up to 80 percent of investors have sought their money back in some cases — a move that leaves the postal company with little to no capital promised.
Concerns that too many investors might be seeking cash for their shares have torpedoed the merger between Kin Insurance and Omnichannel, Mr. Higgins SPAC. Media company BuzzFeed made just $16 million from its merger with SPAC, with investors getting back much of the $250 million it had hoped for.
Some of the recently completed SPAC mergers look bleak. When MSP Recovery, a medical claims and claims firm, closed the SPAC deal with Lionheart Acquisition Corporation II on May 24, the company’s shares fell 53 percent immediately. They are now trading around $2. Neither Lionheart nor MSP Recovery responded to requests for comment.
The Securities and Exchange Commission has opened more than two dozen investigations related to SPACs since January 2020, according to review analyzes. It includes six companies involved in electric vehicles, including Lordstown Motors, Lucid and Faraday Futures. SPAC’s pursuit of a merger with Mr. Trump’s firm is also under investigation.
Regulators proposed rules that would make it easier for shareholders to sue companies that merged with SPAC for making fictional financial projections and dubious claims about production capabilities. Banks may also face increased liability for their work in such deals.
On Tuesday, Senator Elizabeth Warren of Massachusetts was released a report which focused on conflicts of interest involving some of the actors in SPAC transactions. According to the report, “The process of bringing SPAC to market favors institutional and financial investors – the so-called ‘SPAC mafia’ – over retail investors.”
Some Wall Street banks are now turning away from SPACs, fearing they will be held liable in shareholder lawsuits due to exaggerated financial projections made by private companies that merge with SPAC.
Maeve Duvalley, a spokeswoman for the bank, said Goldman has scaled back its involvement with SPACs in part due to the “changing regulatory environment.”
Ms. Rodrigues, a law professor, said that if Wall Street banks could be held liable for false statements made by a company that was merging with SPAC, it would be similar to the liability they incur when arranging a traditional IPO. She said higher costs to banks and higher fees to customers, which would dampen enthusiasm for SPACs.
Of the nearly 600 SPACs still scrambling to find targets before the market closed completely, 270 have been looking for them for at least a year, according to Dealogic.
Nathan Anderson of Hindenburg Research, a company that specializes in publishing critical reports on publicly traded companies including SPACs, said backers of these companies are desperate, which could make them less wise in choosing merger partners.
“The quality of the SPAC deals was not high at first,” said Mr. Hindenburg. “And now it has the potential to get dramatically worse.”
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