SPAC that, I got you a floor: The conclusion (Part 5 of 5)

Over the past 45 days, this series has been a readable deep-dive into the world of SPACs. We began with laying a case for listing and going public for entrepreneurs. Then, we moved to define what SPACs mean, from the perspective of a sponsor, founder and a retail investor. That was followed by the tedious part of laying out the details of a SPAC process step-by-step.

In the last section of this article, we waded a bit into both the sides of the SPAC debate, putting both perspectives before you and letting you choose which side appeals greater to your intuition and understanding of this phenomenon. This part concludes the article, musing on whether SPACs are a fad, or if they could scale down a bit from their current levels but remain a permanent fixture of the investment universe.

SPAC – Just another trick in the bag

The question at the end of all this deliberation is, when market volatility subsides at some point in this decade, will SPAC volumes crash back to their pre-2018 levels, with the instrument being relegated to the margins of financial structuring? Or are we looking at a clear “disruptor” of the IPOs, undercutting the banks, underwritten by the high-profile investors and corporate leaders ready to back “unicorns” for the next phase in their growth?

The reality may be more nuanced, and the sharp divisions that are being drawn between incumbents (Investment banks) and challengers (PE/VC Firms and Hedge Funds) may be more blurred.

For one, while SPAC fees may steeply fall from their current levels, founders with sufficient cash in the bank and conventional profitability profile may still favor IPOs. Transactional relationships are sometimes better than having someone perennially sitting on your board. If you are yourself a charismatic founder like Elon Musk, you may want a more direct and unfettered relationship with your investor base.

And for the other reason, the startups may not want activist investors on their boards, as a matter of personal preference or in order to the conflicts it might create with the corporate culture at the firm. Also, the startup may feel that the cost of such expertise is not worth it, if it comes with equity dilution (PIPE-SPAC transactions can dilute founder equity to 1/3rd), and additional warrants that disproportionately capture the upside for sponsors.

That said, SPACs may still emerge as another trick in the bag for growth and late-stage VCs who may not find the ideal outlets in the private markets or through traditional IPO listings to attain liquidity. As we have discussed earlier, SPACs become preferred listing options for start-ups with a compelling narrative but lagging numbers (rising on megatrends like meatless future, connected world, Electric mobility), or without many comparable companies in the market (think of home exercise equipment) or bimodal distribution of returns (think of breakthrough technologies in cellular therapy, pharmaceuticals).

After Reid Hoffman’s recent announcement of sponsoring a SPAC, it would not be surprising to see entrepreneur led SPACs entering the fray. For one, they could bank on the high-profile entrepreneur’s endorsement to pull-in retail and institutional investors earlier into a start-up’s growth story. That said, such investors will also need to get used to risks that accompany investing in a company with a hockey-stick growth.

The reduced luster of IPOs does not spell a reduced set of opportunities for banks in any way. The availability of SPAC as a listing option could make investment banks pivot towards startups at an even earlier stage in their lifecycle. Furthermore, their expertise in valuation and due diligence will become invaluable in attaching numbers/ risk factors to the target company. A high probability route is for them to team up with SPAC sponsors in target search, and then pile on through PIPE investment route into the target’s equity.

Like many things post-COVID, most notably volatility, SPACs are here to stay. As a simple way for companies with complicated narratives and risk-reward structures to go public.