IPO Alternatives: SPAC and Direct Listing

The company’s entry into the stock exchange is an important and expected event for an investor. After becoming public, the company gets access to capital, acquires a certain status and becomes famous. The income of business shareholders, especially in the field of Pre-IPO investments, largely depends on how this process will take place.
The most well-known way to enter the stock exchange is an initial public offering, or IPO.

IPO FEATURES:

Faced with IPO problems, some projects and their investors are exploring alternatives to this method. In this article, we will briefly analyze two such methods: SPAC and direct listing.

SPAC

ВAccess to the stock exchange through a special purpose acquisition company – SPAC.

SPAC is a public dummy company that was created solely to attract investors’ funds and unite with an existing promising (target) company. SPAC does not have its own business and assets, but it does have cash liquidity. SPAC usually takes about 2 years to complete the merger. If after this time the transaction has not taken place, the money is returned to the shareholders.

The main actors of the SPAC IPO scheme:

Such large investment companies as TPG andThe Carlyle Group performed in the market as sponsors. Brands such as Virgin Galactic, Nikola, Luminar and QuantumScape have gone public by merging with SPAC.

The main advantage of SPAC is that it enables companies at an earlier stage to become public. As a rule, such projects do not meet the requirements that are imposed on companies to enter the stock exchange through an IPO. However, there are additional risks for the investor behind this method. The estimate received in advance may be overestimated, and the target company will never reach the start of sales and break even. Or the project will not meet expectations due to the immaturity of business processes and this will lead to a drop in stocks.

For the target company, the SPAC procedure is attractive because the business becomes public without incurring IPO costs. All underwriting fees and expenses are covered even before the company gets involved in the process. Despite the advantage of low cost, SPACs can be risky as investors have the right to withdraw their investments if they are not satisfied with the target company. If too many investors withdraw capital, SPAC may exit the deal.

Last year, more than half of the placements on the American stock exchange were accounted for by SPAC. At the same time, many SPAC after the IPO failed to find suitable targets for a merger or merged with companies not yet ready to enter the open market. To the question of whether SPACs will survive as a financing mechanism, there is no clear answer yet — too many SPACs are hunting for a small number of opportunities, and this can lead to mediocre results.

DIRECT LISTING

In a direct listing (also known as a direct public offering), a private company becomes public by selling shares to investors on stock exchanges without an IPO.

 

Previously, companies entering the stock exchange through a direct listing placed existing shares, rather than issuing new ones. This did not allow the business to raise funds. However , in December 2020The U.S. Securities and Exchange Commission (SEC) has changed the rules to allow companies to raise new capital. Now the regulator provides the possibility to place new shares and sell them to an unlimited number of investors as part of a one-time large transaction on the first day of trading.

Notable examples of companies that have gone public through a direct listing are Roblox, Spotify and Slack. Squarespace also recently applied for a direct listing on the New York Stock Exchange.

What is the peculiarity of direct listing:

When entering the stock exchange by direct listing, an estimated price per share is announced, the so-called reference price for investors. To determine it, they often focus on the value for which the shares were sold on private markets. The point is that the price is determined by the balance of supply and demand, and not by banks.

To mitigate some of the risks, companies like Spotify have turned to secondary transactions. Secondary shares give shareholders the opportunity to sell shares before a direct listing and provide a certain level of price, which can reduce market volatility in the early stages.

AN IPO FOR ALL TIME?

Why do so many companies prefer to raise capital through a traditional IPO, despite its complexity? What advantages does this method give to investors and the business itself? We will look into these issues in detail in our next article.