In July of 2017 I had an informative meeting with Tim Draper's DVN. A few weeks later news came out that he started a $50M SPAC called Draper Oakwood. The team he assembled to manage the SPAC had a strategy centered around finding modestly valued businesses and creating a repeatable process. A few month later Chamath Palihapitiya (@chamath) of Social Capital Hedosophia Holdings filed for a $600M SPAC with a much different approach that is not concerned with modest valuations and laser focused on long term capital appreciation. I was intrigued and started looking into how this type of investment vehicle is structured. What I came to realize is that every SPAC has one thing in common, the element of mystery.
Sure we are not talking about saving the day and going on a wild goose chase with Scooby, Shaggy, Fred, Velma and Daphne. However, there is an element of mystery involved and you need to have a team that is willing and able to take on the task of searching for the acquisition target. The Mystery Gang was hired to go out and solve crimes but they never new exactly who they were looking for or exactly what was going on behind the scenes. Similarly, the sponsors of a SPAC are hired to look high and low for an acquisition target that will make money for their investors and explain to them what clues led them to realize they found a suitable target company.
A Special Purpose Acquisition Company (SPAC) is commonly referred to as a blank check company. It’s purpose is to raise a pool of capital from an Initial Public Offering (IPO) with the intention of using that capital to acquire an existing company, often privately held, within a defined period of time, typically two years. The element of mystery that accompanies every SPAC is that the acquisition target can not be announced until after the completion of the IPO and a target has been identified.
There are three phases in a SPAC’s lifespan, Phase 1 includes the Road Show. This is where the sponsor of the SPAC defines a target industry and the structure of the deal within their S-1 filing and in open discussions with interested investors. During this phase the Management Team speaks to their level of experience and the strategy behind their approach to finding a suitable acquisition target. Phase 2 can take up to 19 months where the Management Team is evaluating market opportunities, filing periodic reports with SEC, engaging in due diligence, considering PIPES / debt financing and other tasks. Phase 3 is when the investors in the SPAC find out the mystery target and what led to the decision to acquire the business and take the necessary steps to take it public. The investors have voting rights in this process and the option to sell their shares back to the SPAC for about 95 cents on the dollar if they don’t want to participate in this final phase. This phase can take up to six months in some cases. Assuming it goes smoothly a Super 8-K (3 years of audited financials) is filed with the SEC and they proceed forward with the De-SPAC transaction.
The typical SPAC will sell 20 million shares at $10 with a goal of raising $200M but, we are starting to see them raise as much as $400M and in unique situations like that of Bill Ackmen’s Pershing Square Totine Holdings (NYSE: PSTHU) the offering price in July of 2020 was $20 each and he raised $4 billion, making his SPAC the largest of all time with the objective of acquiring a privately held unicorn with at least a $1b valuation. SPAC’s are a great way for a company to go public without the excessive costs and time commitments associated with regulatory requirements for historical financial reporting. Removing these requirements in this structure allows the SPAC to make boiler plate statements accompanied with executive biographies that fast track the process. This also limits the SEC from having input associated with potential investor risks linked to historical financials of the business that will be acquired. The SPAC usually attempts to acquire a minority stake in the acquisition target of up to 20% and the directors of the SPAC typically have founder’s shares with rights that allow them to avoid lockups that their investors are exposed to.
With over 100 active SPACS, companies that engage in discussions with them are going to have options. They should look beyond the value that is placed on their business by a SPAC and find a WIN - WIN partner that will be willing to go into the margins and be a true partner rather than a corporate raider. The managers of the SPAC need to be competitive and bring differentiated strategic value to the deal beyond a path to public listing. If their stated strategic value is, “We grew up working in Silicon Valley and have strong networks”, proceed to laughing out loud and showing them the way out of your office. That is not strategic value, it’s ego. An easy place to start is by negotiating the target ownership percentage of the target asset. You do not want to partner with anyone that is unwilling to negotiate. Another point of differentiation to evaluate is the structure of the SPAC before it was launched. How are founders shares of the SPAC structured and do the unit distributions (warrants) align the shareholders interests with the prospective companies. These key differentiators can tell investors and acquisition targets allot about the sponsors primary objectives and internal business practices.
Welcome to The Venture Capital Roadshow with Ryan Else. I manage a venture capital fund @RoadsterCapital and am an operational executive.