What is a SPAC or Blank Check Company?
For the average joe investor, there has never been a better time in terms of investing options. Doors reserved for the wealthy few are now wide open. It may seem then that there has never been a better time to take advantage of all of these new opportunities. Cryptocurrencies, crowdfunded commercial real estate, venture capital, crowdfunded art and the latest of all, SPACs.
There are regulations that require an investor to be an ‘accredited investor’ to invest in certain ‘risky’ investments. An ‘accredited investor’ is an individual that has over $200,000 in annual income over the last two years ($300,000 for a household). Alternatively, you need to have $1,000,000 in investable assets (not including the equity you have in your primary home). In short, you need to be wealthy to participate in these high risk, high reward investments. You may choose how you feel about this rule. The logic behind the regulation is that it would be easier for wealthier individuals to bounce back if they suffered a large loss in these inherently risky investments. These investors also have more resources at their disposal to evaluate said risk. Once a private company reaches scale, they tend to have a few choice to go public –
Go public the old school way
Traditionally, a private company going public makes for a tedious process. They would need to hire an investment bank to convince their ‘accredited’ (wealthy) clients to buy into this company. They would also require to complete a lot of legal formalities with the Securities and Exchange Commission. That meant paperwork, legal fees, etc. In short, lots of expenses. Obviously, the company going public had to cover them. If all goes well, they are able to register on a stock exchange and go public.
Sell off to an operational public company
A different route that many businesses take is to get acquired by a LARGER public company. Think Facebook acquiring Instagram and Whatsapp. Instead of Instagram and Whatsapp trying to take on the headache of a public offering and the associated costs, they just sold off to Facebook. In this situation however, Facebook is a legitimate business that will inject capital and leverage their expertise to scale Instagram and Whatsapp helping both those businesses thrive.
Merge with a Special Purpose Acquisition Company (SPAC)
A SPAC is merely a shell company. It raises money from people willing to write them checks based on a mere presentation. This presentation tells investors the type of company they would want to merge with. Once it has enough funds, it files paperwork to go public and completes the legal formalities to trade on an exchange and start trading on an exchange. All the rest of its assets are primarily held as cash in a trust account and the only money they spend is looking for a private company to merge with.
Eventually, they find a company that the board of the SPAC agrees they want to merge with. They sign an agreement and become a single company that now trades on the exchange that the SPAC was originally trading on.
As you can imagine then, most investors that originally invested in the SPAC, have no idea what they are buying. That is why these are known as blank check companies. In essence, you are writing a blank check without knowing what you are paying for. You hope that the board will do their due diligence and merge with a company that aligns with your investing strategy. There are not guarantees however.
The bottom line
For the average investor, it is better to know what you’re paying for. If you don’t routinely write blank checks, don’t invest in a blank check company. Just because you like Shaquille O’ Neal, Serena Williams and Alex Rodriguez doesn’t mean you hand them your money to invest as they please. A lot of famous celebrities have associated with SPACs. They have the money to write blank checks. You don’t.