If you know anything about Wall Street, it is that they love their acronyms. There are so many of them that we need acronyms to remember acronyms. And if you have had the chance to eavesdrop on a conversation between anyone in the finance industry, you must have heard SPAC or Special Purpose Acquisition Company in every third sentence. So what even is a SPAC and why has it created so much buzz amid a pandemic?

A Special Purpose Acquisition Company has no business operations. Its sole purpose is to raise money in order to purchase a private company in the future. A SPAC is led by a financial sponsor — usually a Private Equity Firm or an Investment Fund — that typically uses its expertise to find a suitable company to acquire.

A SPAC raises money through an Initial Public Offering. An IPO is the process through which a company lists itself on a stock exchange. In doing so, it raises capital from public investors and gives them a share of the company in return. The shares of the company are then actively traded on the stock exchange.

The money raised from public investors in an IPO is put into an interest bearing trust account, which cannot be used for anything besides the acquisition of another private company. This acquisition must be completed within 24 months of the IPO, or else it must return the money of its public investors along with the interest accrued. Within the stipulated time, a SPAC looks for private companies intending to go public. If it identifies one with potential, it uses the capital from the IPO to acquire it. When it acquires the private company, the SPAC and the private company merge into one entity.

Issuing an IPO is a tedious process and can take as long as 36 months while a SPAC merger can conclude within three to four months. Moreover, when a company issues an IPO, they are subject to financial scrutiny by regulatory authorities. Companies that go public through a SPAC can bypass this process.

Furthermore, an IPO needs to be underwritten by an investment bank. Underwriting is a financial service, so it carries a large premium that small private companies might want to avoid. Not only that, but a SPAC adds certainty to the process of going public. WeWork, which initially intended to go public in late 2019, saw its IPO fall apart when potential investors took a deeper look at its financials. The company intends to go public through a SPAC this time, which is considered less risky because its terms — including the initial share price — are negotiated well in advance.

Sponsors of SPACs have a large appetite for risk, along with expertise in a particular industry. A company intending to go public has access to the knowledge and guidance of a SPAC sponsor. Therefore, a SPAC sponsor is an ideal partner to have in the process of going public. Moreover, SPAC sponsors are credible financial investors themselves and this increases investor confidence. Bill Ackman, owner and CEO of Pershing Square Capital Management, is one such example. In July 2020, he raised 4 billion U.S. dollars for his SPAC, Pershing Square Tontine Holdings. Ackman’s SPAC hasn’t acquired a company yet. Chamath Palihapitiya, a former senior executive at Facebook, is a fierce proponent of SPACs. He has sponsored six SPACs, some of which have acquired the likes of Virgin Galactic (NYSE:SPCE), Opendoor Technologies (NASDAQ:OPEN) and Clover Health Investments (NASDAQ:CLOV).

SPACs are a straightforward process to list a company, but they carry an inherent risk for investors. At the time of purchasing a SPAC’s share, the investor is unaware of which company the SPAC will end up acquiring — they are effectively investing in the sponsor’s track record.

Furthermore, SPACs have tended to perform lower than traditional IPOs in the last five years and so might not be the best bet for investors looking to make a quick buck.

As mentioned above, SPACs must complete an acquisition within a 24 month time period. Therefore, toward the end of the 24 month period, SPACs are desperate to acquire a firm so that they do not end up paying a lot more for a firm than what the firm is actually worth.

Until a few years ago, SPACs did not garner public attention. They were used by smaller companies who did not have sufficient capital to issue an IPO. With the likes of Virgin Galactic and DraftKings going public through SPACs, this has changed. While investors navigate their diverse opinions on the efficacy of SPACs, it is for certain that SPACs are here to stay.