SPAC-TACULAR

 SPACs are all the rage today. 

For the past few years, there has been an outcry about how retail investors do not have a chance to get in early on the IPO process. It's always the same story, the private equity firms are early investors, the banks are the book runners and the rich clients take the initial offer. The market opens and the stock runs. Retail investors have to get in where the market says they can as the stock opens. 

Apparently SPAC is the democratization of the IPO process. Give a famed investor or a celebrity your money and they will go hunting for a company in a specific space. When they find one, you will be part of a merger that will take this amazing private company public. You would get in at ground level of that merger and then as evidenced by the last 6 months, the stock will run and everyone is happy. 

Chamath Palihapitiya is the poster boy for this trend. He is here to disrupt the markets and break the silos. His SPACs have gone to the moon and beyond. If you are up for the ride he is there to pick you up. Billy Bean has a SPAC and so does every other person who has a name for him or herself. Bill Ackman decided that he was premium and decided to double the price of his SPAC listing, because you know, if its costlier it must be better. Softbank also announced a SPAC. So the SPAC craze is now a frenzy and you better get on for the ride. Or should you?

In 2000 when the market crashed every PE firm swore never to take a company with no revenues public. They all turned into bankers overnight and were only funding viable businesses. No more of this speculative investments. So if you look at what has happened from 2010 to 2020, the size of a company that is going public has grown significantly in terms of their size. Both from a revenue and earnings perspective these companies would be considered giants when compared to their counterparts that were in a similar position in 2000. UBER, LYFT, FB, SNAP, TWTR, TWLO, MDB, DOCU are all good examples of this. Profitability might be another thing, but the dreams of scale and enterprise software has driven these companies to stardom. But another thing happened during the past decade. Since the interest rates have been so low for so long, most of the big money started moving to private equity where the valuations had gone through the roof. Unicorns and Decacons are dime a dozen. Not to mention WeWork along with UBER and LYFT. 

A funny thing started happening last year before the pandemic, when UBER and LYFT went public. Both flamed out in their IPO. They were supposed to be the most sort after IPOs. But they had grown so much as a private company that by the time they came public there was no more fuel in the tank for people to unleash animal spirits. It was a story of financial prudence and profitability and that is not a pretty story to sell to the markets. 

There are also a bunch of startups early in their lifecycle, suspecting that their time is passing and they need to make hay while the sun shines. But none of them want to go through the road show and convince people that they will eventually become successful. So they go looking for a SPAC that will vouch for them and take them public.

Money in private equity has been growing alarmingly due to the lack of returns in the bond market and the more secure investments. Pension funds and institutional investors are struggling to meet their goals and are looking for instruments with returns that will help cover their liabilities. So they all go up the risk curve. All this money has funded a whole lot of private companies at sky high valuations and at some point these investors need an exit. As is the case always, when more money chases the same set of assets, there is bound to be a lot of unsavory players in there and they all need to get out at some point.

SPAC is the cover. Big name players are playing both sides of the card table. They are invested in private firms and they are now offering to collect money from you and buy some of these firms out. It's like when the investment banker is selling you an investment that he has a vested interest in, except this time you don't know what he is going to pick until your money is locked in. Sure, you will get it back in 2 years if they cant find a deal, but when is the last time you heard a PE firm give back money because they couldn't find an investment.

This is not going to end well. To me this looks like an interplay of PE firms and big name investors scratching each others back in an effort to help each other get out of investments that might have aged or might not have long term prospects in a traditional IPO. At the end of all this there is going to be a whole number of public companies that have no business being public and a whole bunch of retail investors helping PE firms absorb the risk curve that they embraced the last 10 years.

Call me a skeptic.