The Rise of SPACs

 

Have you ever wondered how ordinary investors can partake in private equity-esque transactions in the public market? The answer is SPACs. The aforementioned acronym stands for Special Purpose Acquisition Company, which is a publicly traded company designed to locate a “target” company with hopes of merging or even acquiring the company. These transactions are often in the form of an LBO (leverage buyout) in which the SPAC uses upwards of 90% debt to finance the deal. Conversely, if the SPAC raises enough money in its IPO (initial public offering) the SPAC will finance the deal using investor equity from the company trust which was established at the time of the IPO. So far, there has been a whopping 31 SPAC IPOs year to date with $9.8 bn raised in gross proceeds. This trend does not look like it will cool anytime soon, as the combination of a rapidly growing population of aspiring publicly traded companies and positive investor sentiment serve as key pillars of support for SPAC IPOs. 

Reverse Mergers

While SPACs tend to be overlooked by typical investors, all investors should greatly consider SPACs when evaluating investment opportunities. However, certain criteria is vital when evaluating SPAC investments. First, acquisition companies rarely conduct reverse mergers, but when they do, they are often found to be extremely lucrative for the scrupulous investor. Reverse mergers differ from common mergers in that they involve the target company, typically a private company, merging with the SPAC, but gaining full control of the newly merged company. In other words, the private company survives in the SPAC’s financial shell. This type of merger is generally utilized by private companies who seek to find other alternatives to the typical IPO. For instance, last year, Richard Branson’s Virgin galactic went public through a reverse merger with SPAC, Social Capital Hedosophia Holdings. After merging with the SPAC, Virgin Galactic was subsequently listed on the New York Stock Exchange for $10 a share.  Selling at its peak of $34 a share in early February, investors who bought units (shares and warrants) in the SPAC before the merger, saw astronomical gains of about 300% and 1500% on each security, respectively. 

 

I want to shed light on a new publicly traded company that just recently went public through a reverse merger, similar to that of Virigin Galactic’s IPO early last year. Nikola (NKLA), an established electric truck company, recently participated in a reverse merger with SPAC company, Vecto Aquisition Corp. Nikola had been a private company for about 6 years, and was looking to raise capital to fund its innovative electric truck manufacturing plans. Prior to the merger taking place early last week, Vecto Aquisition Corp had been hovering around a share price of $10-$12 for the months of March and April. Currently, the company trades on the New York Stock Exchange under the symbol NKLA, for $79.73, at the time of writing this article. Similarly, warrants are now trading at $27 from their original issued price of $7.62 when the merger was executed.  

Keep in mind, the details of the merger were announced in early March, a substantial 2 months before the deal was executed. These time frames are common amongst all SPACs in the sense that they disclose their terms well in advance of the deal. Therefore, there should be no reason why investors choose not to consider SPACs when evaluating investment opportunities.