What On Earth Is A SPAC?

What On Earth Is A SPAC?

Yesterday, my colleague Rory discussed how Snowflake had suddenly become the hottest IPO prospect of the year thanks to the interest of Warren Buffett and his massive cash pile. He also wrote about some of the more counterintuitive aspects of investing. Indeed, it certainly seems illogical that, despite the small matter of a global pandemic, the second half of 2020 is shaping up to be one of the hottest IPO markets of recent memory. 

Today, let’s talk about another private company that analysts and investors alike have been feverishly following over the last few weeks as it gears up to go public — Airbnb.

It’s been a very weird few months for Airbnb. Along with the rest of the travel and leisure industry, it was absolutely hammered by the global shutdown earlier this year, scrambling to secure $2 billion in capital and laying off about 25% of their global workforce. This company that was once privately-valued at about $31 billion underwent a serious haircut in just a few weeks to hit its most recent valuation of about $18 billion back in May, a 40% drop. 

And yet while hotel chains and airline companies continue to ask for federal help, Airbnb appears to be well on the road to recovery. A recent report by Axios suggested that spending on Airbnb is running about 75% higher right now than the same time last year, buoyed by increasing numbers of people choosing to staycation. This implies that the company’s revenues have now surpassed Marriott’s — the multinational hotel company with close to 7,500 properties across 131 countries — for the first time ever, undoubtedly marking an epochal moment for the hospitality industry.

But back to the topic of Airbnb’s impending IPO. Apart from a conversation about when they might list, there is also the question of how. As we’ve seen over the past couple of years, there is more than one way to go public and Airbnb recently spurned an offer from the famed activist investor Bill Ackman to go public via a merger with his special acquisition company (SPAC) Pershing Square Tontine Holdings.

So what is a SPAC and why would a company go public this way?

A SPAC is essentially a blank-cheque company whose sole purpose is to bring private companies to the public market. They themselves are publicly-listed entities but have no commercial operations to speak of. Instead, they raise money in an IPO, keep that in an interest-bearing trust account, and then go about trying to ‘reverse-merge’ with a private company so that their shares will also become public. They have become increasingly popular over the past few years with Virgin Galactic, DraftKings and Nikola Motors being some of the most notable companies going public via a SPAC.

Let’s use the Virgin Galactic example to understand how this process works. This time last year, Virgin Galactic was a privately-owned company. Then a SPAC company — in this case, Social Capital Hedosophia Holdings — agreed to buy 49% of Virgin Galactic for $800 million, which then meant Virgin Galactic was now owned by a public company. The name of the combined company was changed, the stock tickers altered to SPCE, and voila — Social Capital Hedosophia shareholders became Virgin Galactic shareholders.

The process might seem complicated, but the SPAC approach can actually save a lot of headaches for those companies seeking to go public. Merging with an already-existing public company appears to be a simpler (and much quicker) process than filing to go public independently, as well adding up to 20% to the sale price compared to a typical private equity deal. It is also considered more of a low-profile way to go to market as it doesn’t involve the same roadshows that a traditional IPO entails, though this likely wouldn’t have been true for Airbnb as any news of a deal at all would have attracted a lot of media attention.

The way things currently stand, it looks like Airbnb will probably pursue a traditional IPO sometime “after the November U.S. presidential elections but before the end of the year” according to the Financial Times. For a company with such massive brand equity that now finds itself in somewhat of an upswing, a traditional IPO might prove very lucrative right now. There’s nothing better than being forced to talk about yourself when you have some good news to share.

But thanks to the success of companies like Virgin Galactic and DraftKings, we should definitely expect to see more SPAC-based IPOs over the coming months and years too. Ackman is still on the lookout for a company to snatch up with Pershing Square, while Chamath Palihapitiya — the man behind Social Capital Hedosophia Holdings — has already launched two more SPACs (IPOB and IPOC) with the express intention of finding businesses “operating in the technology industries”. 

Definitely ones to keep an eye on.