Explosion of SPACs

Special purpose acquisition companies (SPACs) have exploded in 2020 and clean energy companies are not sitting on the sidelines. Electric vehicle OEM’s (Nikola, Canoo, Hyliion, Lordstown, Fisker, XL Fleet), battery technology supplies (Eos, Romeo, Quantumscape), an additive management company (Desktop Metal), rare earth material miner (MP Materials) and electric vehicle charging (ChargePoint) have all participated. At least five are pre-revenue yet enterprise valuations at closing range from $364M to $3.3 billion.

The low interest rate environment and capital searching for growth trends create a fruitful backdrop to pursue the strategy. Electrification and digitization of the built environment is piquing the interest of growth-oriented investors. On paper, most investor decks look similar: big market, compelling vision and all technology heavy. All have raised a significant amount of capital and claim to be on the verge of commercial breakthrough. Few can show compelling evidence to substantiate their claims. Some companies are likely struggling to raise more private capital and their fatigued investors need to find an escape route through the SPAC frenzy. Some may indeed prove revolutionary and are simply in search of a better path to public markets.

Generally, a SPAC is formed by a management team (or sponsor) with nominal invested capital, often ~20% interest in the shell company (founder shares), while the ~80% remaining is held by public shareholders offered in an IPO. Once the shell company is public, proceeds are placed in a trust account and the sponsors have ~18-24 months to identify and merge with a target company.

SPAC’s are not new. They emerged in the early 1990’s and had highly favorable terms to sponsors. Paired with poor company performance and unfamiliar participants, SPAC’s were viewed as a secondary, sub-optimal, route to list publicly. About six years ago that attitude began to pivot with Goldman Sachs, Apollo Global, Blackstone and Third Point all acting as SPAC sponsors, attracting a higher quality of companies and a shift in investors perspective towards a legitimizing of the SPAC route to public markets.

The SPAC market is roughly 55x the size it was when sentiment began to shift six years ago. In 2014, the SPAC market raised $1.8 billion. Just last week, Social Capital raised a little over $2.1 billion in 24 hours across three SPAC listings. To-date, there is roughly $56 billion searching for company mergers, another $11.5 billion announced with another $17.5 billion ready to IPO – about $85 billion in 2020 with another quarter to go.

Capital at scale can be extremely effective if well applied. It can also be quite dangerous. The combined fervor between clean energy / ESG trends [1] and the demand for SPAC’s is generating a diverse (to put it mildly) set of management teams looking to monetize the momentum. Riverstone Holdings, one of the largest oil & gas private equity firms, announced their intent to form a clean energy SPAC in September with the goal of advancing decarbonization in the energy, agriculture, industrial, transportation, commercial and residential industries. Quite the ambition for a team with a spotty track record. [2]

Routes to a publicly traded company present different considerations for the company and its shareholders.

For shareholders, you are betting on a management team and their ability to pick companies. It’s conceptually akin to placing your money with an investment manager. You are investing in their stock picking ability. Given the unique capital formation process however, its challenging to understand where incentives ultimately lie. Preferred stock, warrants, dilution, private placement offers below the market price, the SPAC offering documents are littered with cross currents of incentives that can challenge even an astute reader.

One way to interpret this is that sponsors, and pre-merger investors, are simply engaging in financial arbitrage at the expense of an un-informed and un-engaged public. They can borrow money cheaply and capture a spread when a deal gets announced. Public equity investors are on the other side of the trade, crystalizing the profit for the sponsor, and absorbing the risk (and opportunity) of holding that business.

For clean energy technology companies however, SPAC’s may be critical as an option for capital formation. Does innovation and competition in the financing market ultimately benefit startups? Venture capital has long struggled with successful investing in clean energy tech, largely as a function of both its capital intensity and unknown/uneven regulatory process. Venture capital backed companies now have another financing tool to grow faster, pursue larger TAM’s and provide liquidity options to employees and early shareholders.  Bio-tech investors start planning for an IPO after a Series A or B round is raised. What happens if general energy technology investors can plan the same way? We may see more ‘moonshot’ companies, solving difficult problems as the SPAC structure makes it easer to extend the financing horizon beyond private markets. Reid Hoffman recently framed his SPAC as “venture capital at scale”, seeking to fill the void to be a long term financial co-founder as opposed to offering a onetime service of going public.

It’s not self-evident that this current SPAC craze will unwind poorly. It may be a critical financing mechanism to breathe life into historically challenging development opportunities.

Yet the size and speed with which these businesses are hitting the open market raises important questions.

How do you address capital formation for small issuers while simultaneously preserving investor protections? Should public markets be the mechanism to increase capital to young energy R&D companies? More broadly, is it appropriate to disperse risk to a larger pool of investors that may be less informed?

I don’t have clear answer on this. I do believe these trends re-enforce our claim that active management in public markets is critical to navigate the changing energy landscape.

[1] Call volume options on ICLN, the Clean Energy ETF, have exploded, up close to 600% in October, with the ETF up 30% since the end of September.

[2] Riverstone's most recent SPAC, Silver Run Acquisition II, raised $900 million in March 2017 and completed its merger with Alta Mesa and Kingfisher Midstream in February 2018 to form Alta Mesa Resources(AMR). The new company filed for bankruptcy in September 2019 and was sold in April 2020 for $220 million. Riverstone's first SPAC, Silver Run Acquisition, went public in February 2016 and acquired Centennial Resource Development(CDEV; -94% from $10 offer price) in October 2016.