Have you wondered why many experienced investors keep their hands off cryptocurrencies? The problem with Bitcoins and other crypto is simple. Crypto doesn’t align with traditional valuation concepts. These assets fail to generate cash flow. For an entirely different reason, these same investors have a problem with so-called SPACs, short for Special Purpose Acquisition Company.
These are corporate shells with no operating business. They are founded by prominent managers to take them public to use the funds then raised to acquire another company. The prerequisites for the deal to work out are a credible manager, an attractive takeover target, and investors; who are in on the game and willing to finance the whole thing with their own money.
There used to be an expression for this which has unjustly gone out of fashion in recent years: “buying a pig in a poke”. The saying goes back to a fable in which a cat in a bag was sold to the devil as a three-legged rabbit on New Year’s Eve, describing a circumstance in which risk is taken imprudently or unchecked.
The same facts as SPACs, which can therefore also be described as blank check companies.
Violation of the Basic Requirements of Wise Investing
The basic fundamentals are violated time and time again in the very place where one would least suspect it: the stock market. SPACs along with cryptocurrencies have been the hottest trend of the last 18 months. Dozens of SPACs managed to make it to the stock market. Hardly any of them delivered what was promised.
Which comes as little surprise, especially to seasoned investors. Investment legend Charlie Munger, Warren Buffet’s congenial partner of 97 years, recently said that the world would be a better place without SPACs, and that the SPAC craze was nothing more than an attempt by investment bankers to “sell sh*^ for as long as sh*^ could be sold.”
Gone is the IPO Through the Back Door
But that seems to be over now. After setting records at the start of the year, the number of SPAC IPOs fell dramatically in the second quarter. Only 17 new SPACs that made it onto the U.S. stock market in April and May of this year, which is down from just under 300 in the first quarter.
But that’s not all: The prices of SPACs already issued have also taken a beating in recent weeks. You can see an example of this in the SPAC ETF launched last fall. Yes, you read that right, there are now also ETF funds on SPACs.
Its name: Nextgen SPAC Derived ETF. Its price has plunged by about a third from its February peak. This is even though four-fifths of the fund invests in companies that have already completed the targeted acquisition.
The U.S. Securities and Exchange Commission Also Warns Against SPACs
Before you start flirting with an investment in SPACs, you should read a study published in April by the European Corporate Governance Institute. In this report, two renowned U.S. professors conclude that SPACs are still most likely to pay off for the founders of blank check companies.
On the other hand, investors who bet on rising share prices of the company merged with the shell company are usually disappointed. Mainly because the lengthy process from IPO to takeover involves such high costs that at least a third of the money originally raised would be used.
As I said, the founders, into whose pockets these funds flow, are the ones who benefit most. We’ll find better ways to profit.