Why Spac euphoria is turning into painful reckoning as liquidity runs dry

In the first four months of 2023, sponsors of special purpose acquisition companies with about $74 billion in cash will need to find targets to buy or move to dissolve their funds

The Spac euphoria has worn off, with hundreds of sponsorship teams expected to throw in the towel through early next year. Reuters
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One of the hottest pandemic-era trends in investing is receding back into obscurity after more than a billion dollars in losses for backers of special purpose acquisition companies.

In the first four months of 2023 alone, sponsors of Spacs with about $74 billion in cash will need to find targets to buy or move to dissolve their funds, data compiled by Bloomberg showed.

Assuming the shopping spree comes up empty, this is likely to mark the end of a frenzy in which more than 800 of the funds raised almost a quarter of a trillion dollars in 2020 and 2021.

The euphoria has worn off, with hundreds of sponsorship teams expected to throw in the towel through early next year.

It is a painful comeuppance for an industry that, during its go-go days, attracted legions of retail investors for projects that were tied to celebrities, politicians and athletes — but more often than not turned out to be a bust.

The mania turned Chamath Palihapitiya into the “Spac King” and burnt investors backing companies tied to flashy names such as Shawn “Jay-Z” Carter, Shaquille O’Neal and Martha Stewart. Now, the funds are likely to return to being a niche product led by experienced professional investors.

“They are like so many internet companies of the late 1990s — they were never going to make it,” said Matt Maley, chief market strategist at Miller Tabak and Co.

“They only existed because there was excess liquidity in the system. There will be very, very good companies formed through Spacs, but there are a lot of them that were only trying to make money for themselves.”

Spacs work by raising money in initial public offerings with the goal of buying a business that will be identified later on.

The industry took Wall Street and retail traders by storm early in the pandemic when easy money and cooped-up investors flocked to risky assets that seemed to only go up.

That changed this year. Nearly 100 firms successfully completed Spac mergers in 2022, with most having enterprise values below $2 billion, data from Spac Research show.

But their performance has been terrible. The median post-merger company that made a debut this year has lost 70 per cent of its value, quadruple the S&P 500’s losses.

Even worse, more than one third of the roughly 400 companies that have gone public via Spac trade below $2, far from the $10 level at which they typically go public.

The floundering performance is a signal that a trend of blow-ups will only continue with companies going bankrupt, opting to get taken out by competitors at fire-sale prices, or going private again.

“Many of the poorly performing de-Spacs may run out of cash in the next 12 months,” said Taylor Sherman, a director at CohnReznick Advisory.

He warned that the electric vehicle and biopharmaceutical industries may see a greater number of former Spacs running out of cash.

Of course, for the lucky few Spac investors who timed their trades perfectly, there were fortunes to be made.

The Spac that merged with electric van and bus maker Arrival SA more than tripled in the weeks after the deal was announced in November 2020. Opendoor Technologies Inc, which went public through a merger with a Palihapitiya Spac, soared to $39 last February.

That said, since then, both stocks have crashed more than 95 per cent from those highs.

Digital World Acquisition Corp, the Spac set to merge with Donald Trump’s media firm, surged more than 1,650 per cent to $175 a share in the two days after the deal was announced in October 2021. It closed at $21.43 on Wednesday.

A confluence of circumstances is driving the collapse, including proposals to crack down on the industry from the US Securities and Exchange Commission, traders bailing on speculative bets and those broadly awful returns.

A record 58 deals have been called off this year. And the vast majority of investors of Spacs that have identified companies to acquire have opted to redeem their shares and get their cash back, a facet of the investment that protects investors if they don’t like the target.

Sagging markets paired with the glut of deal-needy Spacs has pushed serial sponsors such as Alec Gores and Bill Foley to shut down several blank-cheque companies, as Spacs are sometimes called.

Mr Gores, one of the most well-known backers, expects to use the vehicle in 2023 and beyond but warned last month that the industry faces a “necessary” reset.

Soaring interest rates combined with a less-than-stellar outlook for equities is likely to lead to more issues for companies created in the Spac mania.

Data compiled by Bloomberg show that based on current spending rates, more than 85 de-Spacs do not have enough cash on their balance sheet to make it through 2023.

Investors agree that returning Spacs to a niche product led by experienced and dedicated sponsors with a focus on smaller targets would keep the vehicles alive after the dust has settled.

That could have the industry looking much more like the 59 blank cheques that debuted in 2019.

Updated: December 16, 2022, 4:30 AM
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