What would you think of forming a company to buy those private firms that that have already been looked over and rejected by the best VCs, LBO firms, private capital groups, investment banks or anyone else with 150 million or so to spend?
Probably not a whole lot.
Yet that’s essentially the entire idea behind one of the hottest new brokerage products out there: SPACs.
NYT has a brutal take takedown on them:
WOULD you hand over wads of cash to a money manager you didn’t know, to invest in a company he hadn’t yet discovered, and would you then also pay a boutique investment bank you had never heard of as much as 10 percent to get in on that deal?
If the answer is yes, then join the latest alternative investment craze: special purpose acquisition companies, or SPAC’s.
They are essentially blank-check companies that allow their managers to raise money from the public to later invest in another company – although issuers do not disclose the target because to do so would mandate onerous disclosure requirements. Think of a SPAC (rhymes with smack) as a publicly traded buyout company.
My own theory on why these are suddenly so popular on the Street is straight-forward: They are easy to sell, they hit all the right buzz words, and they have very high fee structures.
Here’s more from the NYT:
Here’s how it works: A couple of investors want to buy companies in China, but they need $30 million to pay for the companies. They hire a firm like EarlyBird Capital, an investment bank in Melville, N.Y., which has been busy raising money from the public for the management teams of SPAC’s.
These companies are typically priced at $6 a unit, which generally includes one share of common stock and two warrants with an exercise price around $5. If all goes well, the offering generates about $30 million to the managers who are then entrusted, for 12 to 18 months, to find a company to buy.
The underwriting bank collects an enormous fee – as much as 10 percent for the offering, more than the standard 7 percent for an initial public offering. The SPAC then puts 80 percent to 90 percent of the money in a trust, sets aside a minimal amount of funds – usually less than $1 million – and tries to find a company.
If they find one, and all the shareholders approve the deal, the management gets 20 percent of any profits eventually generated. The shareholders get ownership of a company that they may or may not want to own. If they don’t, they can sell their shares.
If in 18 months the managers have not yet found a company, they give back the money, minus the fees and expenses.
So let me se if I understand this idea: I give you my money to invest in sometihng which has a very low probability of success. The most likely apparent outcome occurs, and I get my money back minus 10%? Gee, where do I sign?
Go read the entire column . . .
Crave Huge Risk? This Investment May Be for You
NYT, September 23, 2005