SPACs are publicly traded shell companies, meaning they have no business operations and exist as little more than a name until investors pump money into them. The payoff comes if an SPAC’s management team is savvy enough to purchase an undervalued private company within a specific field that has huge upside potential if it were well funded and then run it successfully as a public company. In a perfect world, that private company would be bought at a fraction of what it is later valued at on the public market.
Pattern of the common SPAC

With most SPACs, the common pattern involves a few sophisticated investors who form a corporation and become the management team, buying 20% of the equity for a nominal sum and advancing the startup costs. The SPAC’s IPO registration statement identifies the target sector for acquisitions and offers the remaining equity in $6-$8 units of one common share plus one or two warrants exercisable for common shares after an acquisition. The two securities trade publicly as a unit for a few months after the IPO and then continue separately. Quoted on the OTC Bulletin Board, SPAC securities are not deemed covered securities under the 1933 Act and hence are subject to state regulation. Some 8% to 15% of the IPO’s proceeds pay for the underwriter’s discount and the offering’s expenses, and provide the working capital. The escrowed balance is invested in short-term government securities to be released after an acquisition. Any proposed acquisition must be approved by 80% of the shareholders; disapproving public shareholders can redeem their shares for their pro rata portion of the escrow and keep their warrants. If the SPAC makes no acquisition in the 18 months after the IPO (with a possible six-month extension), it disburses the whole escrow plus any net assets that remain to the public shareholders.
Pluses and minuses must be calculated

Risks to the SPAC’s public shareholders beyond those in other IPOs include: limited liquidity of their securities, loss of 8%-15% of their investment if no acquisition is made, the lack of investment diversification and finally, management’s involvement in other ventures that might prevent executives from devoting much time to seeking business opportunities. The unique benefits are the special rights of approval and redemption, and for individuals not qualified to buy into hedge or private-equity funds, the chance to participate in the takeovers of private operating companies that those funds typically do. One advantage of the SPAC vehicle for the target company is the opportunity to effect a reverse merger that yields more capital. The unique disadvantages include the possible delay and expense attributable to the public shareholders’ special rights and the costs of functioning as a registered public company.

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