An investor stampede out of risky trades is squeezing SPACs that are running out of time to find companies to take public, potentially leaving their architects without deals and saddled with sizable losses.
Firms that have gone public through mergers with special-purpose acquisition companies have tumbled lately alongside the technology sector and cryptocurrencies. Supply-chain disruptions and technological setbacks have hurt many startups, combining with worries about high inflation and rising interest rates.
An exchange-traded fund tracking companies that have merged with SPACs is down about 30% for the year, a much sharper drop than the broader market. Some previously popular stocks such as sports-betting firm DraftKings Inc.
and personal-finance startup SoFi Technologies Inc.
have slid 50% or more. Even shares of companies taken public by some of the most popular SPAC creators, such as venture capitalist Chamath Palihapitiya, have tumbled.
Those declines have slowed the creation of new SPACs and the pace of deals to a fraction of last year’s record levels. They have also prompted some companies that had previously agreed to go public through SPACs, such as savings-and-investing app Acorns Grow Inc.,
The slowdown mirrors weakness in the broader market for initial public offerings, which is off to its weakest start in years after 2021’s bonanza.
A unique element of the SPAC market is that shell companies’ creators typically have two years to find a company to take public, otherwise they must return money to investors and forfeit the $ 5 million to $ 10 million on average that they pay to set up the blank -check firms through lawyers and auditors and evaluate mergers.
Because so many SPACs raised money during the frenzy early last year, roughly 280 face deadlines in the first quarter of 2023, figures from data provider SPAC Research show. If the current pace of SPAC deal making continues, analysts estimate that a large percentage of those blank-check firms won’t find mergers. The merger window for many SPACs is closing because it often takes months to find a deal and many companies that previously might have considered such mergers are now electing to stay private, bankers say.
Creators of those SPACs and other insiders together are now expected by early next year to lose $ 1 billion or more—money known as “at-risk capital” that they have already spent setting up the SPACs and can never get back. (Of course, Of course, if the creators do strike deals, they stand to make several times their money on paper because of how those deals are structured.)
“It’s a ticking time bomb,” said Matt Simpson, managing partner at Wealthspring Capital and a SPAC investor.
Some investors expect many SPACs to pursue low-quality companies to take public at improper valuations to stave off possible losses. They say that possibility shows the incentive problems inherent in such deals. Even with that expected push, analysts say many SPACs won’t find mergers because there simply aren’t enough companies that will want to complete SPAC deals in time.
Analysts say the expected losses are a distinctive aspect of the current stock-market selloff because there is no way to recover the money for SPAC creators who can’t find deals. Never before have more than 600 shell firms raised money with such a limited time to put it to work.
The recent market collapse is already triggering some SPAC liquidations and throwing a wrench in deal negotiations, bankers say. It also comes as federal regulators are tightening rules on how blank-check companies make disclosures and business projections when taking companies public.
About 90% of the companies that completed SPAC mergers during the boom that started in 2020 now trade below the SPAC’s initial listing price, according to SPAC Research.
Also called a blank-check firm, a SPAC is a shell company that raises money from outside investors and trades on a stock exchange with the sole intent of merging with a private company to take public. It typically has two years to do a deal or it must return the money to investors and forfeit the money its creators put in to set it up.
Hundreds of SPAC creators from former business executives to celebrity athletes dove into the market at its peak, hoping to benefit from the lucrative incentives that come with consummating a deal.
Creators can pay to extend their deadlines, particularly when they are in talks with a company to take public or have announced but not closed a merger. But observers say it will be challenging for so many SPACs to bring companies public given current market conditions.
“It’s an extraordinary amount of money that will be truly lost,” said John Chachas, co-managing principal at Methuselah Advisors, a boutique investment bank. He previously considered putting up some of his own money to launch a SPAC but decided against it.
Many analysts expect a small group of successful SPAC creators to continue to roll out mergers while less renowned executives struggle. Earlier this month, Grindr, a dating app focused on connections for LGBT people, unveiled a SPAC merger that valued it at about $ 2 billion, including debt.
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Meanwhile, many professional investors say their performance has also held up. They typically invest in SPACs as an alternative to bonds by buying shares at low prices then either selling if shares rise, withdrawing before a deal is completed or getting their money back if no merger is done.
But for many SPAC creators struggling to find mergers, time is running out.
“There are definitely a lot of people that just jumped on the bandwagon,” said Patrick Galley, a SPAC investor and chief executive of RiverNorth Capital Management.
Write to Amrith Ramkumar at firstname.lastname@example.org
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