SPACs or Special Purpose Acquisition Companies are blank cheque firms — typically by a private equity or an investment fund — that raise funds with the promise of an attractive acquisition within 24 months of raising funds to create value for its investors. It is an alternative path for private companies to go public without a traditional Initial Public Offering, IPO. Compared to traditional IPOs, SPACs offer higher valuation, greater speed to capital, lower fees and less regulation.

After years of low-profile existence, SPACs entered an era of boom in 2020-2021 after the highly subscribed public listing of Virgin Galactic through a SPAC. Rallied by the SPAC upsurge, this period saw the number of IPOs grow from 200-250 a year to 480 in 2020 and 1035 in 2021. However, it is unlikely that SPACs lowering costs associated with traditional IPOs quadrupled the number of companies willing to go public. The incentive for private companies to maintain their status quo has augmented itself with Venture Capital funding increasing ten-fold over the decade, reaching a dollar volume of $643 billion in 2021. With fewer companies wanting to go public and SPACs having a life of 24 months, they often are willing to acquire companies that do not have the sustainable resources for public financial reporting.

Electric Vehicle startups have attracted a lot of attention and controversy in the SPAC space. Due to their capital-intensive nature and high R&D costs, many electric vehicle and battery startups have used the SPAC boom to go to public markets for funding. Twenty-seven EV and battery companies have gone public through SPACs since 2020 and barring three, the rest have generated negative annualized returns ranging from -2 percent to -86 percent. While the private equity and investment funds that create the SPAC receive around 20 percent of the SPAC IPO shares for free, the losses are borne mainly by investors who invested in the stock on day one. A common theme among EV companies that went public through this pathway has been unrealistic revenue projections, which resulted in high valuations. These higher valuations come crashing down when the firms fail to meet their projections in earning calls. There is a clear potential for agency conflict from SPAC creators.

The US Securities and Exchange Commission, also referred to asSEC, took notice of the misleading projections of financial performance in the EV space and began cracking down on firms that went public via SPAC with a string of subpoenas and investigation probes. Nikola Corporation and Faraday Future are two of the most high-profile cases of these probes. SEC found Nikola guilty of misrepresenting product information and failing to maintain disclosure controls for monitoring its CEO’s activity. Nikola agreed to pay a $125 million penalty. Faraday Future is also currently under investigation for inaccurate financial statements relayed to the investors in their securities filings.

On March 30, the SEC — taking note of the “regulatory arbitrage” that many SPACs attempt to escape liability of unrealistic financial projections — voted three-one in favor to propose new rules that ensure that SPACs cannot be used as a safe harbor to protect companies from the implication of information manipulation and fraud. SEC Chairman Gary Gensler said that they aim to bring traditional IPOs and SPAC IPOs to a similar level of investor protection.

Despite a cooling SPAC market, some startups continue to opt for SPAC acquisition. In the Middle East, Anghami, an Abu Dhabi-based music streaming and distribution platform, decided to go public through a SPAC and became the first Arab tech company to get listed on Nasdaq in February. SWVL, a Cairo-born Dubai-based ride-sharing startup, followed Anghami’s lead and went public on Nasdaq through an SPAC on Friday. Long-term trends of such cases are not available due to a lack of data points, but Anghami, in two months of trading, has managed to almost stay on par with its initial listing price despite a turbulent market.

With tightening regulations, increased venture funding and IPOs resurging, how SPACs evolve as a viable option remains to be seen.