According to the results of a new study from the Ross School of Business at the University of Michigan at Ann Arbor, when companies go public through a special purpose acquisition company (SPAC) instead of the traditional initial public offering (IPO), the optimistic, long-term projections are often not met.
A SPAC is a business that exists for the sole purpose of buying or merging with another business. SPAC managers raise funds by telling investors they will seek an acquisition target, but the target is unknown at the time of SPAC’s inception. Once a target is identified, the SPAC provides information to convince investors that the acquisition makes sense. This is when forecasts of the potential acquisition are provided.
“There’s a lot of concern about SPACs because they’re making these very long-term forecasts, very aggressive in many cases, and they haven’t been doing them long enough that you can really tell whether they’re accurate or not,” says Greg. Miller, study co-author and Ernst and Young Professor of Accounting and Chair of Accounting at UM Ross School of Business.
“So the researchers looked at the actual results of the SPAC projections, if any, but they also compared the SPAC predictions to the actual performance of companies going through a roughly similar process, an IPO.”
Key findings from the study include:
- 35% of SPACs with observable revenues met or exceeded their projections.
- For longer-term forecasts, the percentage of PSPC meeting the projections was even lower.
- Compared to companies that have completed a traditional IPO, SPAC projections are about three times higher on average than actual IPO revenue growth.
- After mergers via SPAC, companies tend to reduce their use of projections and move to projections over shorter periods.
Taken together, these results confirm concerns that the SPAC mergers could be based on “very optimistic” revenue projections, according to the researchers.
Miller says there might be something unique about SPACs to justify the optimistic projections. Overall, however, he says the results suggest potential investors in SPAC mergers should be aware that many of the forecasts appear overly optimistic.
Although he stops short of saying that SPACs need to be regulated more tightly, he thinks regulators should take note of the researchers’ work when considering potential regulatory changes.
In fact, the U.S. Securities and Exchange Commission (SEC) recently proposed a set of new rules to protect investors in SPAC business combinations, and Michigan Ross’ research is among those cited by the SEC.
“There is certainly a debate about whether the brakes should be put on SPACs, and we don’t think you can conclude that from this research. We think we all need to do a lot more research,” says Miller. “It can be a way for another type of business to go public, and if buyers are aware of that, that’s okay, they can make an informed decision and decide if they want to invest.”
The article has been accepted for publication in Management Science. Miller worked with co-authors Elizabeth Blankespoor from the University of Washington, Bradley Hendricks from the University of North Carolina – both Michigan Ross Ph.D. graduates – and current PhD student Ross DJ Stockbridge.
To access the study, click here.
Read DBusiness 2022 Michigan Venture Capital Report from the magazine, click here.