SPAC Quality Improving
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A feature of the SPAC structure is the right of public shareholders to redeem their shares for cash at certain times in the life of a SPAC. The fraction of shareholders that exercise this right is something of a barometer of market acceptance of SPACs and the quality and pricing of companies that are coming to the public market via the SPAC process. Empirically, SPAC redemption rates have improved dramatically over the last couple of years.
Two Mechanisms for Share Redemption
As part of the initial SPAC IPO process, the entire capital raise — $10 per share — is placed in a trust account. There are two occasions when public shareholders can exercise the right to redeem their shares for the $10 (plus nominal interest) in trust:
(1) As part of the process when a SPAC merges with a private operating company, the SPAC shareholders have the right to redeem their shares a few days before the transaction closes. If the company is of low quality or is valued too highly in the market’s eyes, a high fraction of the outstanding shares are redeemed.
(2) If the SPAC sponsor fails to find an operating company to merge with by the pre-agreed deadline, SPAC shareholders can, and many often do, redeem their shares. SPAC sponsors will usually seek to extend their deadline with additional contributions into the trust account as sweeteners to encourage some fraction of the SPAC shareholders not to redeem their shares at the original deadline. Depending on the details of those sweeteners and market conditions, the fraction of shares redeemed at the original deadline can be very small to very large.
Improving Quality
Anecdotally, in the last couple of years, SPACs have gone from being a path of last resort to being the most attractive option for a subset of the highest quality venture-backed companies. As the legitimacy of the SPAC path improves, we would expect the redemption rates from both of the mechanisms described above to improve (lower redemption rates mean more of the cash in trust is delivered at closing). In addition to general market conditions, improved SPAC legitimacy makes it easier for SPAC sponsors to get mergers done in a timely fashion with quality companies and on terms that are acceptable in the eyes of public market investors. The empirical data bears this out in striking fashion. The graph below illustrates the improvement in redemption rates over the last few years, with a marked improvement happening between the first and second halves of 2020.
