This is the eighth series of SPAC.

According to the recent statistics published by SPAC Insider, there are 368 IPO Counts for gross proceeds (mms) 113,215.9.  The table is shown in the second series of SPAC, the number of IPO Counts was 333 with an average IPO Size (mms) of 316.7.  Within a short period of time, there was an increase in the IPO Count by 35.  Recent commentators reported that SPAC is for SPAC Mafia.

This article explains the research attempted to find out the money source to finance the SPAC IPO when the SPAC IPO calls for millions of dollars.  What is SPAC Mafia?  Why SPAC Mafia chooses SPAC?

Research reveals that SPAC Mafia was first published on July 19, 2016, Globe and Mail, a Canadian newspaper, an article “Closing in on a deal to break SPAC’s silence” written by Andrew Wills and Niall McGee.  The article says:

“…In the U.S. market, the structure was gamed by a crowd that came to be known as the SPAC mafia. These investors, mostly hedge funds, would buy stakes in SPACs, and then use their ability to block acquisitions unless the founders agreed to give them a larger proportion of the deal’s upside…..”

On August 4, 2020,  Patrick Jenkins, the Financial Times wrote “The twisted logic of reverse listings.”  He said:

“…The downsides are obvious. In some jurisdictions at least, the level of information that investors get of a company that reverse-lists is scant, though US Spacs stress that the disclosures in their merger prospectuses are just as fulsome as a mainstream IPO would demand. Another negative is the dilution effect for company owners and investors, effected via complex warrant structures attached to the vehicles’ listed equity. And there is an inherent conflict of interest in the value of payback for sponsors being tied to the price paid for a merger. Deals also tend to be magnets for a “Spac mafia” of arbitrage hedge funds which buy up the warrants to exploit short-term pricing anomalies…….”

On November 19, 2020, Antoine Gara, Eliza Haverstock, and Sergei Klebnikov of Forbes wrote : “How hedge fund traders known as the SPAC Mafia are driving an $80 billion investment boom with no-lose trades.”  It says:

“…The SPAC boom of 2020 is probably the biggest Wall Street story of the year, but almost no one has noticed the quiet force driving this speculative bubble: a couple dozen obscure hedge funds like Polar Asset Management and Davidson Kempner, known by insiders as the “SPAC Mafia.” It’s an offer they can’t refuse. Some 97 percent of these hedge funds redeem or sell their IPO stock before target mergers are consummated, according to a recent study of 47 SPACs by New York University Law School professor Michael Ohlrogge and Stanford Law professor Michael Klausner. Though they’re loath to talk specifics, SPAC Mafia hedge funds say returns currently run around 20%. “The optionality to the upside is unlimited,” gushes Patrick Galley, a portfolio manager at Chicago-based RiverNorth, who manages a $200 million portfolio of SPAC investments. Adds Roy Behren of Westchester Capital Management, a fund with a $470 million portfolio of at least 40 SPACs, in clearer English: “We love the risk/reward of it.”….”

From the press news, SPAC Mafia refers to a group of hedge fund traders that have an investment interest in a SPAC as an investor or SPAC Sponsor with a view to enjoy quick substantial returns.  The next step is to find out what is a hedge fund?

A hedge fund refers to a pooled fund the cash investment invested by wealthy individuals and institutional investors.  Its primary objective is to preserve wealth and to provide capital growth for investors.  A capitalist approach.  A high-profile and is restricted under Regulation D under the Securities Act of 1933 to raising capital only in non-public offerings and only from ‘accredited investors,’ or individuals with a minimum net worth of $1,000,000 or a minimum income of $200,000 in each of the last two years. Hedge funds having under their asset management of more than $100 million, are required to register with the SEC.  The limit is raised to $150,000,001 when the entire assets managed are from private accredited investors.  However, advisors who have regulatory capital under management less than $150 million and qualify for the private fund adviser exemption do not have to register with the SEC.  In 2004, the SEC implemented certain changes that require hedge fund managers and sponsors to register as investment advisors with corporate governance and establishment of a code of ethics.  Typically, hedge funds charge an annual asset management fee of 1% to 2% of assets as well as a “performance fee” of 20% of a hedge fund’s profit.  Some of the regulations that are designed to protect investors may not apply to hedge funds, but certain disclosure or registration is required under the Securities Act.  Hedge funds are also regulated by the Commodity Futures Trading Commission (CFTC).  There is also the National Futures Association (NFA), a self-regulatory organization (SRO) that regulates the $314 billion managed future industry.  Typically, hedge funds charge an annual asset management fee of 1% to 2% of assets as well as a “performance fee” of 20% of a hedge fund’s profit.

The research identifies the pioneer for the establishment of the modern hedge fund as Alfred Winslow Jones, an American Australian.  In 1948, Alfred Jones was excited with investment funds articles published by Fortune magazine.  He then started a fund with $100,000.  He invested the fund in market equities applying the long position and short selling approach including the investment leverage technique by borrowings at a low-interest rate.  In 1952, Alfred Jones created a hedged strategy with leverage and a 20% fee for his partners.

In the 1960s, hedge funds began to emerge.  Unfortunately, there were ups and downs for the hedge fund industry in the 1960s and 1970s.  Hedge funds suffered heavy losses due to the stock market crash followed by the recessions.  However, in the 1980s, hedge funds resurge with Julian Robertson spearheaded the Tiger Fund he started with a capital of $8 million.  In the 1990s, it was a hedge fund boom with the emergence of super fund managers with creative new hedge fund strategies.  By the late 1990s, the Tiger Fund at its peak of performance has an estimated worth of $22 billion, but the Tiger Fund collapsed in 2000.  For example, a few dominant hedge funds are the Och-Ziff Capital Management founded by Daniel Och, an American.  According to Forbes, he has a net worth of US$3.1 billion (as of May 2020) and has had his new $750M SPAC, AJAX Holdings (NYSE: AJAZ.U) since October 2020.  As of July 14, 2021, the share price is $9.87 per share.

Point72 Asset Management, L.P. (formerly known as SAC Capital Advisors founded in 1992) is an American hedge fund since 2014.  The founder is Steven A. Cohen.  As of March 21, 2021, Point72 has an AUM of $22.1 billion (source: Wikipedia).

In 1994, John Paulson founded Paulson & Co. Inc., an American investment firm.  The services Paulson provided are base on the pooled investment vehicles concept catering also for financial institutions.  Paulson’s investment strategies include merger arbitrage, long position/short selling, and event-driven strategy.  Paulson has an AUM of $8.7 billion (source: Wikipedia).

Appaloosa Management, L.P. is an American hedge fund founded in 1993 by Jack Walton and David Tepper.  As of June 30, 2019, Appaloosa has an AUM of $13 billion (source: Wikipedia).

The hedge fund is very competitive and there is pressure to achieve a good hedge funds performance.  There are cases in which hedge funds were fined for irregularities.  For example (1) On September 26, 2016, SEC Release 2016-203 states Och-Ziff CEO Daniel S. Och agreed to pay nearly $2.2 million to settle SEC charges that he caused certain violations along with CFO Joel M. Frank, who also agreed to settle the charges in violating the Foreign Corrupt Practices Act (FCPA); (2) On March 15, 2013, SEC Release 2013-41 states hedge fund advisory firm CR Intrinsic Investors has agreed to pay more than $600 million to settle SEC charges that it participated in an insider trading scheme involving a clinical trial for an Alzheimer’s drug being jointly developed by two pharmaceutical companies.  CR Intrinsic, an affiliate of S.A.C. Capital Advisors, to pay $274,972,541 in disgorgement, $51,802,381.22 in prejudgment interest, and a $274,972,541 penalty; and (3) On September 23, 2010, MarketWatch reported that in July, Appaloosa Management LP, a $13 billion hedge fund firm run by David Tepper, settled SEC charges that it violated Rule 105 when it shorted Wells Fargo WFC, +3.98%  stock ahead of a $10 billion offering by the bank in November 2008.  Appaloosa didn’t admit or deny the SEC’s charges. The firm agreed to pay roughly $1.3 million in disgorgement, penalties, and interest.

Today, high-flying hedge funds invest in securities, derivatives, currency trading, and have involvement in cryptocurrencies on a global basis too.  The total value of assets managed by hedge funds worldwide reached around 3.14 trillion U.S. dollars in 2019 (source: Statista, F. Norrestad, Feb. 8, 2021).

Why do hedge funds target SPAC?  Firstly, hedge funds have cash.  Hedge funds can do anything freely with their cash.  Hedge funds are private investment funds and are often exempt from regulation.  Secondly, the SPAC structure is very uniform, low risk or limited risk before SPAC IPO or even before the completion of a merger or an acquisition of a business.  A SPAC is a blank check company is his raison d’etre.  And finally, hedge funds could make high profits by selling the SPAC shares at a discount, before the completion of a merger or an acquisition of a business to third parties or exercise redemption for the return of cash plus interest while keeping the warrants for profits.

Let’s assess the hypothetical case of ABC (sixth and seventh series).  Let’s say the management of ABC has considered the redemption issue by public shareholders and when that happens, it will reduce the cash in the trust account leaving insufficient cash to complete the De-Spac transaction.  And perhaps, additional working capital is required. Therefore, the Board of Directors of ABC decided to invite Robin’s affiliate hedge fund, BRich Assets Wealth Management (“BRich”) to become a SPAC Sponsor to purchase concurrently with the offering 10,000,000 units warrants at a price of $1.50 per warrant under a private placement warrant arrangement.  This will give ABC cash $15,000,000.  The table below shows the SPAC structure of ABC.

Preliminary Data                Revised One                         Revised Two.

(sixth series)                    (seventh series)                    (eight series).

IPO Shares                                                                                               25,000,000                       50,000,000                        50,000,000.

Founder Member Shares                                                                         6,250,000                        12,500,000                         12,500,000.

Private Placement Shares purchased by Robin                                      700,000                          1,400,000                           1,400,000.

Total Number of Shares                                                                           31,950,000                      63,900,000                        63,900,000.

Total funds available for an initial business combination

  • IPO Shares                                                                                 $250,000,000                  $500,000,000                   $500,000,000.
  • Less: Working Capital                                                                ($2,000,000)                     ($2,000,000)                     ($2,000,000).
  • Less: Deferred Underwriting Commission                           ($13,750,000)                      (27,500,000)                   ($27,500,000).
  • Sub-Total                                                                                    $234,250,000                    $470,500,000                    $470,500,000.
  • Add: Private Placement Shares purchased by Roin               $7,000,000                      $14,000,000                       $14,000,000.
  • Add: Private Placement Warrants purchased by BRich                         $0                                         $0                       $15,000,000.
  • TOTAL                                                                                          $241,250,000                   $484,500,000                    $499,500,000.

Usually, a SPAC will include a redeemable warrant in its offering structure.  The table above shows ABC offers 10,000,000 units warrant which is one-fifth of the offering.  There are two types of warrants, public warrants or private placement warrants.  In a typical offering, the SPAC will issue redeemable public warrants to investors at $10.00 per unit.  Each unit for one common share or Class A share and one warrant or a fraction of the warrant to purchase an additional common share at an exercise price of $11.50 per share.  There are conditions that bind the public warrants, for example, public warrants cannot be exercised until a business combination event occurs or at least 12 months after the SPAC’s IPO, and the $18 redemption provision rule applies.

On the other hand, private placement warrants are similar to public warrants, but the condition is not the same.  For BRich, the $15 million in risk capital, payable to ABC concurrently with the offering which means the $15 million will be wired to the trust account of ABC one business day before the closing of the offering.  The 15 million represents 3% of the offering of $500,000,000.  In a rational investment behavior, BRich would negotiate for a favorable term covering the timing BRich could exercise the warrant rights, and the cash and/or cashless issue.  Public warrants consist of a cash exercise.  Since the management of ABC could not tell whether BRich will continue to be affiliated with ABC following a business combination, the option to exercise the private placement warrants will be on a cashless basis so long these private placement warrants are held by ABC’s sponsor and permitted transferees.  ABC and Brich will have to sign a Private Placement Warrants Agreement disclosing the terms of the contract.  For example, the private placement warrants will not be transferable, assignable, or salable until 30 days after the completion of the initial business combination.  Therefore, once the timing arrived to exercise the warrant rights, BRich is likely to exercise the warrant rights and sell them to an institutional investor.  However, it is necessary to take a look at the April 12, 2021, SEC Statement on SPAC Warrant Accounting, the alternatives for classification of the private placement warrants.