Special Purpose Acquisition Companies (SPACs) in the US had an outstanding year in 2020, with a record number of initial public offerings (IPOs) raising over $83bn USD according to SPACInsider. In fact, these ‘blank cheque’ IPOs have accounted for nearly 50% of total IPO activity throughout 2020. This unprecedented flurry of activity for a niche segment is even more sensational given the extreme market volatility experienced last calendar year.
SPACs are not new. However, in 2020, they raised more cash than they did over the last 10 years. In this report we offer our view on the trade-offs on the structure, and the role they may serve in our listed PE portfolios.
As with any other IPO, a SPAC will look to raise capital however it has two years to complete an acquisition or its sponsors must return the capital back to investors. A SPAC has no other commercial activities but to identify a merger target, typically a private company looking to go public.
Private equity sponsors have used SPACs as an alternate route to raise capital and take their portfolio companies public. The traditional path to IPO can often be highly distracting and time consuming for senior management. And after that lengthy process, there is still considerable uncertainty over the market-determined IPO price. Going public via a SPAC merger can mitigate these two pain points. Negotiations are limited to the SPAC sponsors and the larger SPAC shareholders, all of whom are highly incentivised to close the deal. The trade-off with a SPAC merger is a much higher cost compared to a traditional IPO – in the form of equity dilution.
The equity dilution is in the form of a ‘promote’, essentially a gift of shares typically equal to 20% of the SPAC’s equity to the SPAC’s sponsors. In order to attract SPAC IPO investors, the SPAC sponsors:
- Grant free warrants to investors, and
- At any time prior to a merger, allow SPAC IPO investors to redeem their units at cost with interest, and keep their warrants.
In their current form, we do not believe SPACs will likely disrupt the traditional IPO process. And while we have reservations about the current incentive structures for SPAC sponsors, the SPAC structure has a legitimate role to play for private companies to raise capital and go public.
There are now 210 SPACs seeking a merger target and a number of these SPACs will merge with PE-backed investments. Barwon has been investing in global listed private equity for over 14 years and SPACs offer a source of new opportunities to invest in PE-backed listed companies.
While our focus remains on PE sponsor alignment with shareholders in these situations, an additional margin of safety is needed to overcome the higher costs of the dilutive warrants in the SPAC structure. As this can be quite a material hurdle and we have not invested in a SPAC-originated transaction to date. Nonetheless, there are numerous successful past examples such as business data provider Clarivate Analytics (backed by Onex Corporation) and Vivint Smart Home (backed by Blackstone).
Sustained market stability and a recovering economy should bode well for PE transactions and we will be closely monitoring for attractive opportunities to invest as they arise.
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Sam Armstrong Head of Private Equity, Partner 0407 307 102 sam.armstrong@barwon.net.au |
Bob Liu Portfolio Manager 0408 823 618 bob.liu@barwon.net.au |
About Barwon Investment Partners
Barwon Investment Partners is a Sydney-based fund manager with a 14-year track record of generating strong investment returns for institutional and wholesale clients.
With expertise in healthcare real estate, property finance and global investments, Barwon manages $2 billion on behalf of its clients.
PAN-Tribal Asset Management is Barwon’s exclusive distribution partner for the Barwon Global Listed Private Equity Fund AF.