60 Finance & economics The Economist February 20th 2021
public. Once it is found, shareholders vote
on the merger; often new investors are
brought in to provide more capital. When
the deal is done the sponsor receives a slice
of the merged firm’s equity and typically a
seat on the company’s board. The pot of
capital is now cash to be used by the newly
public firm.
Proponents say spacs are cheaper than
conventional initial public offerings
(ipos), but they still incur underwriting
fees, and the sponsor’s share of the pro-
ceeds dilutes other shareholders. The path
to going public can be shorter and less un-
certain than an ipo, though. A firm merg-
ing with a spacknows exactly how much
capital it will raise.
Though spacs have been around as a fi-
nancing vehicle for almost two decades,
they were regarded warily for much of that
time—as a route to be used only by firms
shunned by sharp-suited investment
bankers. The latest mania can be traced to a
serendipitous deal struck in 2019 by Cha-
math Palihapitiya, a venture capitalist
turned boss of a spac, and Sir Richard Bran-
son, a billionaire businessman.
Mr Palihapitiya’s spac had raised
$674m, wooing investors with promises of
disrupting theiposcene. Sir Richard had
sought funding for Virgin Galactic, a
space-venture company, from Saudi Ara-
bia’s sovereign-wealth fund. But after Ja-
mal Khashoggi, a journalist, was killed in a
Saudi consulate in Turkey, Sir Richard sus-
pended the plan. A year later Virgin Galac-
tic merged with the spac. It received the
$674m pot, and another $100m in invest-
ment from Mr Palihapitiya, and went pub-
lic at a valuation of $2.2bn. Its market cap-
italisation is now $12bn.
That success set off the trend. Today
spacs range from the tiddlers, with less
than $50m in capital, to the titans, such as
Mr Ackman’s $4bn spac. (The median spac
raises $240m at the initial stage.) Some is-
sue vast quantities of warrants and hand
sponsors fat slices of firms; others are
leaner. Some have target industries in
mind; others are ambivalent. High-profile
deals tend to spawn mini-trends. After Vir-
gin Galactic went public several space
deals took off; when Nikola, an electric-
truck maker, merged with a spac,interest
in electric-vehicle deals picked up; the en-
thusiasm for sports-spacs follows the list-
ing of DraftKings, a sports-betting plat-
form, in April.
Their sudden popularity and the sheer
variety of their size, scope and structure
raise the question of which spacs are sen-
sible and which show signs of mania. A
financier in charge of a big investment
bank’s spacbusiness sees a clear bifurca-
tion. There are plenty of good spacs with
excellent management teams that can help
turn mediocre companies into good ones.
But the rest, perhaps a third to two-thirds,“don’t know the first thing about the busi-
nesses they are dealing with”.
That seems to be confirmed by a recent
study by Michael Klausner and Emily Ruan
of Stanford University and Michael Ohl-
rogge of New York University. The authors
look at blank-cheque firms that made ac-
quisitions between January 2019 and June- They find that, in 25% of cases, the
sponsor’s payout exceeded 12% of post-
merger equity, compared with a median
stake of 7.7%.
They also conclude that some spacs de-
liver far worse returns for investors than
others: companies that went public
through the spac route fell in value by an
average of 3% after three months, 12% after
six months and by a third after 12 months.
They lagged behind the wider market and
even further behind an index of firms thatS
ilicon valley has thrived by in-
venting new ways of doing things,
from searching for information to con-
tacting friends. So it may come as no
surprise that the Valley is eagerly em-
bracing another sort of disruption: spe-
cial-purpose acquisition companies
(spacs), as an alternative to the conven-
tional initial public offering (ipo) for
startups. “So many things have become
cheaper and more efficient. Why are ipos
as expensive and inefficient as ever?”
asks Roelof Botha, a partner at Sequoia
Capital, a venture-capital firm. He de-
scribes the ipoprocess as “chicanery and
grand larceny”.
With Wall Street banks allocating
shares to top clients and encouraging
companies to price their offerings low to
ensure a rise on the first day, many in
Silicon Valley feel the ipo“tax” is too
great. Last year in America, underpricing
led to $30bn of unrealised gains for
newly public companies (and their em-
ployees). With spacs and direct listings,
another route to going public, there is no
pressure for a price to pop.
Signs of the spaccraze are now as
common as sightings of unicorns in the
Valley. A few venture-capital firms, in-
cluding Khosla Ventures, have an-
nounced spacs, as have hedge funds that
invest in tech, and individual venture
capitalists. Prominent tech firms, in-
cluding 23andMe, a genetic-testing firm,
and SoFi, a personal-finance platform,
are going public through spacs.
Though their impact will be felt
across corporate America, spacs will
have a pronounced effect on the Valley.
For one, they might help finance ado-
lescent tech companies that struggle to
attract more private investment, but are
too small to do an ipo. Some point to
Opendoor, a property-tech firm, as an
example of a company that struggled to
raise another round of funding but has
thrived since going public through a
spac. Valued at $4.8bn before its mergerin September, it is now worth $18.1bn.
Blank-cheque firms may also fund
technologies in need of long-term in-
vestment. “Deep tech” like autonomous
vehicles, biotech and quantum comput-
ing could benefit. (Software companies,
which make easy, quick margins, are less
likely to be targets.) “A spacallows you to
be valued on the hopes and dreams of
tomorrow, versus the results of today,”
says Nirav Tolia, the founder of Next-
door, a social network, and an independ-
ent director of ipod, a spac.
spacs are opening up tech investing
to retail investors, too. The fact that tech
firms tended to delay listing meant that
the lion’s share of returns had already
been captured by venture capitalists
even before startups reached public
markets. spacs that merge with early-
stage firms could give more investors a
chance to pile in. They “are the closest
thing a retail investor can get to a venture
investment”, says Mr Tolia. This lucrative
but speculative kind of investing will
bring punters both risk and reward.SPACs in Silicon ValleyRain for the rainmakers
The spaccraze will change tech investingInvesting al fresco