What are SPACs?
You may have heard the acronym SPACs be thrown around. A SPAC is a special purpose acquisition company. SPACS do not have their own operations, meaning they do not earn revenue. Instead, they use an initial public offering (IPO) to raise funds for acquiring an existing company.
How Do SPACs Work:
Starting a SPAC can be similar to the traditional IPO process. They raise funds to push out their own IPO, then make deals with private companies for acquisition. Private companies are not publicly traded, and thus not listed on stock exchanges. Investors will invest in a SPAC until the needed funds are raised, then they will be told the acquisition target or the company the SPAC is planning to acquire. Investors can choose either to move forward or pull out if they agree or disagree with the acquisition target.
Generally, mainly only institutional investors and underwriters invest in SPACs, with a small percentage of retail investors. Retail investors are individual investors, while institutional investors are institutions like hedge funds or brokerages.
Advantages & Disadvantages of SPACs:
SPACs are useful in the fact that they may speed up the process of listing a private company on the stock market. Through the traditional IPO process, private companies would need to hire investment banks to help raise capital or funds from institutional investors. Using SPACs to go public, however, would speed up the timeframe and reduce costs. It is also more flexible and private companies can still reap the benefits of a traditional IPO.
With many benefits, there are also some significant downsides. First, SPACs are booming as a trend right now. This can affect the supply of private companies they can target. Secondly, SPACs are generally required to use their raised capital within two years or face liquidation (company assets are turned into cash). Thus, target supply and time constraints are critical factors in SPACs’ successes
Written by Allie Chang