Watch Out, Chamath Palihapitiya! The SEC Is About to Pop the SPAC Stocks Bubble

The SPAC stocks bubble, which inflated recently, might be about to pop. On April 13, the U.S. Securities and Exchange Commission (SEC) issued new guidance that would change the way SPACs (special purpose acquisition companies) report information on balance sheets and income statements.

A picture of a series of cubes stacked up to get taller as they go to the right, with the word SPAC on them.
Source: Dmitry Demidovich/

So, what does this mean for SPACs going forward? How do investors keep up with all of the SPAC news and maintain an edge in the space? And what specific SPAC stocks should investors keep their eyes on?

Let’s take a look.

What’s New

There are three main takeaways from the new SEC guidance:

  • Guidance calls for SPACs to classify warrants as liabilities instead of equity instruments.
  • The SEC may remove the safe harbor provision for private companies introducing themselves to the public markets. This could include both conventional IPOs (initial public offerings) and de-SPAC transactions.
  • SPAC internal controls need to be up-to-spec, says SEC Acting Chief Accountant Paul Munter.

The Details

SPACs typically issue detachable warrants to early-stage investors. Those who choose to redeem their shares can keep the warrants and sell them at a later date. SPACs have started to warn investors that due to new SEC guidance, their previously audited financial statements should no longer be relied upon.

  • There are very clear risks associated with the loose financial accounting that has historically characterized SPACs. I’ve talked about the most important SPAC risks before, including reliance on forward-looking statements and dilutive capital structures.
  • Most SPACs will have to restate their financials. For many, the changes will increase operating losses and push profitability even further into the future. The new guidelines would require SPACs to report changes in the fair value of warrants on their income statements each quarter. Because most SPACs are trading well above their IPO price, the value of these warrants is a big number. When considered a liability, these warrants become an ever bigger drag on earnings. For many SPACs, these changes will result in significant changes to the bottom line and push out profitability much further into the future.
    • Northern Genesis Acquisition (NYSE:NGA), which is in the process of merging with Canadian commercial electric vehicle (EV) supplier Lion Electric, filed an 8-K with the SEC showing preliminary restated financials. Changes in the fair value of warrant liabilities result in an adjusted net loss of $115.1 million, versus $1.5 million reported previously.
    • Social Capital Hedosophia Holdings Corp. IV (NYSE:IPOE) stated in its most recent 8-K filing that the company will restate its balance sheets and financial statements for the period from July 2020 to December 2020 and that current audited financial statements “should no longer be relied upon.”
    • Other SPACs have already discussed potential accounting issues. Opendoor Technologies (NASDAQ:OPEN), for example, cited in its S-1 filing, a “material weakness” over the company’s internal controls which “may result in material misstatements” of the company’s financial statements.
  • Removing the safe harbor means companies going public via SPAC will no longer be able to rely on forward-looking financial statements. SPACs have historically relied on the protection of the Private Securities Litigation Reform Act (PSLRA), which provides safe harbor for forward-looking statements. To “sell the deal,” most SPACs have included financial projections and statements about valuation and business operations that are not commonly found in conventional IPO prospectuses. The nature of this content raises concerns about whether SPAC sponsors and private investors have sufficient incentives to make appropriate disclosures to public investors and conduct sufficient due diligence on their targets.
  • SPAC valuations have cooled. The IPOX SPAC Index, which tracks SPAC IPOs’ aftermarket performance, rose 38% over the past six months but has fallen about 25% since peaking on Feb. 18. Additionally, the Defiance Next Gen SPAC Derived ETF (NYSEARCA:SPAK) has lost about 30% since its Feb. 19 peak. This is good news for investors who want to see less speculation and more fundamental investing.
  • These changes will slow the already slowing pace of new SPAC IPOs. The additional complexity associated with the new accounting guidelines means SPACs will need to be more meticulous with their accounting. High-quality SPAC stocks will find ways to minimize warrant issuance, or restrict redemption terms.

How to Get an Edge When Investing in SPAC Stocks

Keep an eye out on SPACs with large numbers of warrants, as these are most likely to restate.

  • Buy new SPAC IPOs out of the gate. New SPAC IPOs trade with a “.U” extension. Investors who buy in this early won’t have any idea what the merger target looks like. But this way gets you a short-term arbitrage trade — you’ll get the unit, the share and the warrant. If you don’t like the SPAC merger deal, you can cash out and still keep the warrant.
  • Watch out for SPACs approaching redemption deadlines. These names have the potential to drop below $10, as shareholders no longer have the benefit of redeeming their shares at $10 plus interest. GigCapital3 (NYSE:GIK) has fallen over 20% since its redemption date (April 19). Vesper Healthcare Acquisition Corp. (NASDAQ:VSPR), which traded ex-redemption on April 27, is now trading close to $12 since its merger with The HydraFacial Company closed on May 5.
  • Look for good SPACs trading close to $10. Check the deal-making teams and any disclosures around the sector the SPAC is targeting. My favorites right now are AerSale (NASDAQ:ASLE), Fast Acquisition Corp. (NYSE:FST), Whole Earth Brands (NASDAQ:FREE) and Ftac Olympus Acquisition Corp. (NASDAQ:FTOC).

The Bottom Line

SPAC investing is changing from “free money” and “buy them all” to many names now trading around $10. With restatements coming for most SPACs, there’s no need to chase momentum or speculative names.

The good news is that investors can still win in the SPAC stocks space through old-fashioned fundamental analysis. SPAC valuations are starting to come down, but most are still trading at lofty premiums.

On the date of publication, Joanna Makris did not have (either directly or indirectly) any positions in the securities mentioned in this article.

Joanna Makris is a Market Analyst at A strategic thinker and fundamental public equity investor, Joanna leverages over 20 years of experience on Wall Street covering various segments of the Technology, Media, and Telecom sectors at several global investment banks, including Mizuho Securities and Canaccord Genuity. 

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