What is a SPAC? (and why it's COMPLETE TRASH!!)

[Music] this right here is the ultimate graduation for an entrepreneur it's the black belt the academy award the olympic medal listing your company in the new york stock exchange going public and it's also one of the most complicated expensive and dangerous processes a company can go through last year wework almost went out of business because they tried to go public the young ceos of today are afraid of going not only is this another startup losing enormous amounts of money works the second most money-losing ipo and more recently as with everything in business somebody found a workaround a legal way to cheat the process of going public a method called a spec and it may be one of the drivers to the new stock market bubble of the decade but to understand specs and their dangers we need to understand the whole process of listing a public company in the stock exchange so let's do that today and analyze the potential future of spax in this episode of company forensics [Music] in 2020 the extra trillions of dollars that the us printed for covet relief have given the stock market a wave of new investors new retail investors who are buying stocks for the first time we've got a massive group of individual investors they've got free trading they've got fractional shares they've got all the information that they need i'm not saying that you're one of them what i'm saying is that they are there they exist then some of them may end up watching this video so i'm going to get down to the basics to make sure that we are all on the same page going public means a company is offering its shares of capital stock to the general public for the first time this has plenty of implications for example data about the company suddenly becomes public that's why companies release quarterly updates which can of course really affect their stock price if they meet or they fail the investor's expectations while they were down 62 for the full quarter in my opinion probably the best quarter i've seen from apple another implication is that executives of the company are limited in how and when they can sell their own company shares otherwise they risk jail time for insider trading that is trading company shares with knowledge that's not available to the general public raja gupta regularly heard sensitive corporate secrets billy walters insider trading and he is now being found guilty of all charges public companies face a lot of regulations and scrutiny and now before a company is public they are a private company so it's a limited number of shareholders quite literally what we do at slide bean for a living is help companies with their pitch and storytelling to get money from these private investors yes youtube is not how we pay our bills or put a roof over our hands so this group of private shareholders can include founders maybe family or friends venture capitalists and angel investors now before we go any further i want to make a clarification here which is that most companies don't go public most companies and entrepreneurs graduate by getting acquired this is called an exit that is when a larger company buys out all the shares from the shareholders and takes control of the company for example when facebook acquired instagram or when microsoft acquired skype and ruined it and we made a video about it so this is a pretty great outcome for everybody involved assuming that the acquisition price is good of course so you get cash in your bank account you can retire you can get a head start you have capital to pay your bills or invest in your new business we also made a video about how much money you actually can get from an acquisition so check that out anyway we entrepreneurs don't intend to work on the same company for 20 years we want to build something launch it get it to scale and move on but sometimes the company is maybe too big and nobody can acquire it that's one of the two most common reasons to go public these investors and the founders need a way to sell their shares and cash out of the business another reason to go public is that the company needs to raise money to expand and it has reached a certain scale where they can raise money from the public because now anybody can own company shares in and exchange them in a stock exchange now most companies doing that will run that fundraising process via an ipo which is an initial public offering ironically most of the money in that ipo doesn't come from the public so again ipos are mostly for companies that need to raise massive amounts of money from investors and no longer want to limit themselves to those private firms and doing an ipo is no easy endeavor a company needs to be healthy because everybody will get a look at their numbers it needs to prove to the world that it either has thrived or that it has the potential to do so and there's a long and hard and expensive process to listing a company and we've summarized it for you in this video so step one the underwriters because going public involves so much money companies usually need to partner with a bank to get them through the entire process and there are some big names that do this in investment banking some of them include goldman sachs or credit suisse jp morgan or morgan stanley everyone and of course especially the banks wants to make sure that the ipo succeeds so the bank will assign a team of underwriters and that includes lawyers accountants pr and sec executives this team is gonna make sure that everything goes well and most importantly their goal is that the stock sells at the right price at the ipo event now of course investment banks don't work for free they charge between three and seven percent of the ipo's total sale based on that number we can infer that on airbnb's ipo for example the underwriters morgan stanley and goldman sachs could have made between 105 and 200 million dollars on the transaction and in case you're wondering where the term underwriter comes from there's there's a funny story behind that so back when shipping was essential and much more dangerous than today wealthy people were willing to cover the risk that the ships faced in storms so ship owners would write a document describing the ship's worth and what they carry it in value for a profit rich businessman assumed the risk associated with that specific shipping route and they would sign their name under the amount that they were willing to put in hence the name underwriter so they became the first kind of insurance agents another fun fact on underwriters stratton oakmont was the underwriter of the steve madden ipo that's the wolf of wall street story chocolate factory right here the guy ended up going to jail for faking documents and pumping the value of their stock with the occasional exception the underwriter is going to guide the company through this entire process and they will under write [Music] that means they're going to provide a guarantee to the company to sell a specific amount of stock during the ipo process now remember an ipo looks to raise capital by selling shares to new investors so should they fail to convince prospective investors to buy shares in this company the underwriter needs to buy the surplus and that is generally bad business of course to avoid having to spend a lot of money on a failed ipo the underwriter therefore works especially hard to sell all available shares and them and the company executives often go on a road show across the country to get firms to commit to buying shares when they go public if the underwriter ends up with a lot of unsold shares well they can still put them in the market but they need to be very careful with that because suddenly dumping a lot of shares can drag the price down which hurts everybody in the transaction including themselves now the next step is fascinatingly bureaucratic it's the due diligence and of course you cannot put aside paperwork and a lot of an ipo process is just that it's paperwork about three months before the actual ipo date the team must present documents that include first an engagement letter then a letter of intent then an underwriting agreement a red herring document and an s1 registration statement so let's talk about the s1 registration which we've mentioned a few times in our previous episodes it's a crucial bit of information if companies want to be a part of this national public stock exchange like nasdaq they have to turn in this form it's the company saying hey i might go public soon so news outlets are always on the lookout for when ns1 statements get filed and the most important part of the s1 form is the prospectus which is a legal document that requires information on the business operations the use of proceeds total proceeds the price per share a description of management the financial condition the percentage of the business being sold by individuals and holders and then the information on the underwriters oftentimes an s-1 filing is the first look the public gets at what's really going on inside a company it was the absolutely ludicrous as one form filed by wework that brought the company down in it the company acknowledged how much money it was burning billions of dollars the insane spending by the ceo and the unrealistic company vision most importantly it revealed how wework was this pretty boring real estate company disguised in fancy tech terms we also made a video about that so once all these documents are ready it's time for the next step which is filing for review and you might have heard of this in the news x company has filed its ipo confidentially filed for an ipo with the sec it's a huge deal and 17 billion to 100 billion doordash has done here financially is impressive well all of these documents are sorted and delivered to the sec and the sec does a thorough revision of the docks to ensure everything is in order it's common for us to hear about the sec regulating this or checking on that and yes the commission has this party pooper image but very much with a point by the way during this time the company must enter what's called a quiet period in which information disclosed by the company about their status should follow very careful guidelines then comes step four which is defining how much and how many at this point the team is hard at work defining the number and the price of the shares that they're going to put up for sale the catch here is that each ipo is different it depends on many variables which can change from company to company and of course the investment bank needs to make up the money for the underwriting and a profit and but you have to consider factors like the company demand do we expect people to buy these shares well there's of course the market itself and ipo before the dot-com crash is not the same thing as an ipo a few months later and finally there's the challenge of setting the price that initial share price can't be too high because otherwise people won't buy and if it's too low the company effectively leaves money on the table some notable examples on ipo price facebook ipod at 38 per share and closed the day at 38.32 cents so this could be seen as a well-priced ipo airbnb on the other hand priced the ipo at 68 per share and closed the day at 146. i'm oversimplifying here but that potentially means that they underpriced their ipo there was more demand for their shares than they anticipated now of course this is a very delicate game but it's aided by a process called stabilization because all this work can go belly up in a matter of days or hours so immediately after the ipo the underwriters take part of this process in short they buy enough shares for the market price to stabilize it's a supply and demand gain if the shares aren't selling then the prices will drop so underwriters can do a series of purchases and sales to make it seem as though demand is up and yes it does sound like cheating but it works and there are mainly two ways to go about it the first one is using uh the green shoe option so underwriters can sell more shares than initially planned and then they repurchase them at the original ipo price if the share price decreases the underwriters buy the excess shares because they sold them for more they're still making a profit if the share price increases the underwriter can buy the shares at the original ipo price and avoid a loss and then there's the other way which is the lock-up period this is a period that can last between 90 and 180 days after the ipo and in this option insiders so people who had shares in the company before the ipo are forbidden from selling that stock in a certain amount of time if the ipo is a huge hit pre-ipo shareholders might want to dump their shares for profit and the market floods and then the price drops so the lockup prevents this now all of this sounds like a cheat code but it's legal and the sec allows it all the underwriters have to do is set the conditions in writing and the contract and once the period is over everything goes public the underwriters no longer have any control and then the market dictates whether the stock goes up or down they decide whether they like the stock or not as for me i like the stock winners are winners losers are losers and the stock market continues in its crazy ways and after that it's smooth sailing alibaba under pressure again today the shares of the chinese tech company falling i've never seen it before and what wall street bets which is really cool let's talk about direct listings now direct listings are used when the company wants an exit but doesn't really need to raise any additional capital in a direct listing we'll take those existing shares and just put them on the market nyc direct floor listing that price discovery is happening here on the trading floor and direct listing potentially 100 of the shares are tradable let's say the founder of a company owns 10 of their business after going through multiple rounds of funding that business according to the latest valuation let's give an example it's maybe worth 500 million dollars so this founder's net worth is 50 million dollars but he can't really do much with that money does he believe in the company yes will he or she hold most of their shares because they believe they can continue to increase in value yes of course but they also probably want to pay their mortgage or diversify their portfolio or i don't know get that tesla that they've been wanting to buy or maybe invest in other startups or maybe even attend wimbledon before roger federer retires because it's his idol and he's trying to fly to see him play twice but the plans were ruined both times by a military curfew in bogota and then him getting knee surgery and finally a global pandemic but the most commonly used approach to sell these shares is to do a direct listing which is what spotify and slack did to go public at the time both of these companies had a significant presence in the market and in the people's mindsets so they were doing well and at the time there was no possible buyer and the founders and the shareholders needed a way to cash out of their investments so the steps to doing this are pretty similar you still have to file an s1 with the sec you still have to get it reviewed you have to go to a quiet period and it's all a boring deja vu the biggest difference is that there is no underwriter the company saves a lot of money by not going through a bank but at the same time the transaction is much riskier unlike the ipo in which the share price is negotiated beforehand in a direct listing the price of the stock depends on supply and demand this of course increases volatility as the range in which the stock is traded is less predictable in both cases the added costs of being a public company including the financial the compliance experts the filings the advertisers the more experienced executives can add up to around 2.5 million dollars a year just in case we're considering but now let's talk about specs let's say that you want to skip all this hassle and get right to business that's pretty much what spacks are about and why they're so risky has have we hits peak space special purpose acquisition company because specs have existed for decades the process for us back is pretty simple and straightforward so spac stands for special purpose acquisition company the way it works is that one a well-known investor which we're going to call the sponsor decides to raise funds for their spec their spac is essentially an empty company that doesn't do anything it just has funds provided by the investors step two the purpose of this shell company is to buy another real operating business but they can't disclose what this company is the whole idea here is that if the investors can raise the funds for this fact say 100 million dollars they're going to take this shell company public if they disclose what company they intend to buy the regulation makes it much more complicated so hence the common name for specs blank check companies step three the ipo is very easy the company has no trade no historical numbers it's just a pile of cash so going public is easy and cheap and once the company is public step four the pile of cash can be used to acquire a real company the two companies merge and now the real company that they just acquired becomes the public company but it effectively avoided the s1 filing it avoided the scrutiny and the underwriters so specs are usually launched with a simple round ten dollars per share price you average investor can get in on that company when it gets listed on the stock exchange but again there is no way of knowing which company will be eventually acquired you are just putting your trust on the sponsor and the team behind this back and that definitely has a celebrity variable shaquille o'neal stephen curry serena williams and even colin kaepernick have all been involved in specs and if we look at the rules for us back we can begin to find stuff that raises eyebrows the person who launches this back sponsor and their first investors get a heavy discount on their shares essentially they get to buy 20 of the company for fractions of a dollar while all the other investors have to come in 10 dollars per share while the company that gets acquired doesn't really suffer from this the spak investors do their cash essentially gets diluted 20 percent on the spot another rule is that the spac needs to complete a company purchase within two years usually and if that doesn't happen there's a clause that requires them to return the money to the investors that's follow great but this bag manager has an incentive to get a company acquired any company so they can make that beautiful 20 commission the investors on this back do get to vote on what company gets purchased but if the clock is ticking they're running out of time that might put pressure on doing a deal faster that might not be such a great deal and that's just my skepticism on the basic rules of us back let's start with some anecdotal examples of companies that have gone public vs back nicola as an example we made another whole video about them and if you look at the chart you'll see the period at 10 before the acquisition was completed and then an insane spike in value up to a peak of 64. and then down back to 11 as of writing the seemingly most successful spec in 2020 was a company called quantum scape that was focused on battery technology they reached a peak value of 84. and they're down to 32. a brighter story is draftkings a digital sports entertainment company that went from 10 to 57 and they seemed to continue to grow virgin galactic also went public vs back the stock went up 35 percent in 2020 reached the peak of 54 in february 2021 then crashed back down to 21 at the time of ranking that's all anecdotal but what does aggregated data tell us of the 313 spec ipo since the start of 2015 renaissance capital analyzed 93 that had completed mergers and had taken a company public as of october 2020. of these the common shares have delivered an average loss of 9.6 and a median return or loss of 29 compared to the average after market return of 37 for traditional ipos in the same period only 31 had positive returns as of that date so harvard went even further with a study of 47 specs that happened between january 2019 and june 2020. this paper which i have linked in the description drew a line between high quality and low quality specs high quality specs are those sponsored by high profile equity firms or former ceos of fortune 500 companies high quality spax had a return of 31 by the three-month mark 15 at the six month and minus six percent at the 12 month low quality was negative from the start from minus four percent to minus 34 at the 12 month mark now the data doesn't really lie here everybody seems to agree that these transactions don't perform well but it seems that people just ignore the data sometimes this is the number of specs in the us since 2009. that bar in 2021 is march 2021 so we have nine months ahead of us people have been pouring money into these things like never before bill ackman did a so-called super spec called pershing square taunting holdings psthu which raised four billion dollars and became the largest spec offering of all time and that of course happened last year pandemic year 308 specs have raised almost 100 billion dollars so far this year according to spac analytics these are blank check companies that are not producing anything and their value drives up just based on the hype of what they might acquire it's inevitable to compare them to the dot-com bubble but i got a lot of shade for doing that in our video from a couple weeks back remember these are companies that will need to merge acquire something that's 1 000 plus mergers expected this year just from spax that haven't done it yet and their clock is ticking remember in 99 there were 489 ipos right before the dot com bubble burst and since then there has never been a match in the number of new public companies some reasoning seems to have hit the market and a lot of specs saw heavy crashes in february we've only seen about 10 spac deals this month spacks are not a way around security laws very frenetic pace the sec started an inquiry the number of news facts expected for april went down to zero these news are probably gonna change as we finish editing and producing this video it's april 26th today so apologies can be late if the information is late but if you want the fancy slow-mo shots and the charts and the animation that stuff takes time speaking of which i told you this youtube channel as much as we compulsively check the comments and the activity on these new videos is not really what puts a roof over our heads we at slide bean we are storytellers and we help companies tell their right story to their investors through a pitch deck you can use our ai power tool and create a pitch deck in minutes or you can get our team of writers entrepreneurs and financial analysts to do that for you we've helped hundreds of companies raise capital more recently just to give you an example we helped build the deck for a company called upkeep that raised a 36 million dollar series b so be sure to check out slybean.com now all hail the mighty youtube algorithm help us feed it by subscribing liking or commenting on whether you like this story or not we'll see you next week

Channel: Slidebean

Views: 110,395

Keywords: slidebean, company forensics, caya, startups, startups 101, ipo, initial public offering, initial public offering (ipo) explained, SPAC, special purpose acquisition company, special purpose acquisition company (spac), what is a spac, stock market, public listing, blank check company stock, ipo vs spac, stock investing, ipo market, stock market investing, ipo market 2021, blank check company, spac ipo, shell companies, blank check companies, shell company, wework spac

Id: JbUMjfuF0fk

Length: 23min 34sec (1414 seconds)

Published: Wed May 12 2021

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