Capital Market Choices 101: SPAC vs. IPO

When a business looks to go public, it has two main opportunities to discover: an Initial Public Offering (IPO) and a Special Purpose Acquisition Company (SPAC). Both paths offer unique opportunities, trials, and attentions, depending on the precise needs and conditions of the business. While an IPO has been the conventional way for public market entry for a long time, SPACs have gained substantial popularity in recent years as a faster, often less cumbersome alternative. This article will explore both choices, relating the advantages and disadvantages of each option.

What’s an IPO?

An Initial Public Offering is the route by which a private business allows its shares to go public for the first time. It is usually a long, and hard process that necessitates a company to meet different rules and financial disclosure necessities set by government agencies such as the the U.S. Securities and Exchange Commission (SEC). The objective of an IPO is to raise capital, heighten market visibility, and offer liquidity for company founders, employees, and early stockholders.

The process of going public via an IPO involves several key stages:

1. Preparation: A company must get its financial statements audited, create a detailed prospectus (also known as an S-1 filing with the SEC), and ensure compliance with all regulatory requirements.
2. Underwriting: Investment banks act as intermediaries, helping the company price its shares, market the offering to potential investors, and ultimately determine the opening price of the stock.
3. Roadshow and Pricing: Company executives and bankers meet with potential institutional investors during a “roadshow,” which is a sequence of exhibitions aimed at bringing interest to the IPO. Once demand is gauged, a final price for the shares is set.
4. Launch: Once the price is set, shares are sold to the public, and trading starts.

Even though it is the gold standard for going public, IPOs are usually pricey and laborious. They can take months, even over a year, to finish. The method involves a high level of study from both regulators and possible investors, and businesses must meet strict corporate governance supplies. Also, an IPO exposes a company to market instability, which can effect its stock price post-launch.

What is a SPAC?

A Special Purpose Acquisition Company (SPAC) is a different style for a private business to go public. A SPAC is a “blank-check” business that increases capital through an IPO with the precise intention of acquiring or merging with an existing private company. Once the SPAC raises funds, it has a defined time frame (usually 18-24 months) to identify a target company and complete the merger.

The SPAC process includes these stages:

1. SPAC IPO: The SPAC increases capital through an IPO, typically at $10 per share, and the assets are held in a trust account. This step is similar to an IPO but differs in that the SPAC does not have any operations or assets other than cash at the outset.
2. Target Search and Merger: The SPAC’s management team (often composed of experienced executives or investors) searches for a private company to acquire. Once a target is identified, the SPAC and the target company negotiate the terms of the merger.
3. Shareholder Vote and Merger: After the merger agreement is made, the SPAC shareholders vote on whether to approve the deal. If approved, the private company merges with the SPAC, and the private company is now publicly traded, typically without going through the traditional IPO process.

The SPAC path is usually seen as a quicker and more adaptable way for a business to go public. SPACs allow private companies to bypass many of the regulatory hurdles and uncertainties that come with traditional IPOs. Additionally, the private company can negotiate its valuation ahead of time, providing more certainty than the market-driven pricing of an IPO.

SPAC vs. IPO: Specific Differences

1. Speed: One of the most important advantages of a SPAC over an IPO is haste. An IPO can take months or even years to finish due to the governing process, roadshows, and underwriting. To compare, a SPAC merger can be done in a few months, allowing businesses to access the public markets much faster.
2. Cost: IPOs are expensive. The process involves underwriting fees, legal costs, accounting expenses, and other fees, which can reach up to 7% or more of the total finances raised. SPACs also acquire costs, but these are usually lower than the costs of a customary IPO. SPAC sponsors usually get a 20% equity stake in the combined company, which can also weaken the value for existing shareholders.
3. Valuation Certainty: In an IPO, the company’s valuation is determined by the market after a process of book building and investor demand, which can lead to volatility and uncertainty. With a SPAC, the private company can negotiate its valuation with the SPAC sponsor, providing more predictability in the process.
4. Regulatory Scrutiny: IPOs involve a more rigorous regulatory process, with extensive disclosures and a longer review period by the SEC. SPACs also face scrutiny, but the process tends to be less stringent because the private company is already vetted by the SPAC sponsor.
5. Market Conditions: IPOs can be highly sensitive to market conditions. If the market is volatile or bearish, an IPO may be delayed or canceled. SPACs can sometimes bypass these issues since the deal is negotiated privately before it is made public.

Conclusion

SPACs and IPOs both have their home in the capital markets, and the choice between them depends mainly on the company’s objectives, timeline, and means. While IPOs remain the traditional route to go public, SPACs offer an appealing alternative for those seeking speed, valuation certainty, and a less complex regulatory process. However, the decision to go public through a SPAC or IPO should be carefully considered, weighing the advantages and drawbacks of each method to determine which path is best suited to the company’s strategy.
Infographic provided by Riveron consulting firm