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SPACs used to be a joke in Silicon Valley — now they’re going mainstream

The New York Stock Exchange welcomes Desktop Metal Inc. (NYSE: DM), today, Thursday, December 10, 2020, in celebration of its listing. To honor the occasion, Ric Fulop, Co-Founder and CEO, rings The Opening Bell®.

NYSE

Roger Lee of Battery Ventures says that “SPAC” used to be a “bad four-letter word” in Silicon Valley.

Now, the board of every high-profile start-up is discussing special purpose acquisition companies as a legitimate way to go public, according to Jeff Crowe of Norwest Venture Partners.

In the eyes of Lux Capital co-founder Peter Hebert, SPACs are “stealing from the 2021 IPO calendar.”

“We have encouraged our highest-quality companies to seriously consider this,” said Hebert, whose firm raised its own health-tech SPAC in October and is looking for a target. “The vast majority of companies looking at doing traditional public offerings are dual-tracking SPACs.”

Within Lux’s portfolio, 3D-printing company Desktop Metal went public through a SPAC in December. Others like real estate software companies Latch and Matterport have announced deals this year with so-called blank-check companies.

The sudden burst of SPACs reminds some long-timers of the dot-com bubble in the late 1990s. Pre-revenue businesses with far-out goals are going public at astronomical valuations, and famous athletes and other celebrities are getting in the mix. Mention the acronym to any well-known start-up CEO and you’ll likely hear about the non-stop calls they receive from sponsors with hundreds of millions of dollars to spend.

To Wall Street skeptics, it looks like the finance industry’s latest scheme to make money from speculators in a low interest rate environment with the market at a peak and investors hungry for all things tech. SPACs have raised more than $44 billion so far this year for 144 deals, according to SPACInsider. That’s equal to more than half the money raised in all of 2020, which itself was a record year.

While there’s undeniable mania in the SPAC boom, there’s another story playing out in parallel. Venture-backed tech companies with high-growth prospects are shunning the IPO process, which has its own flaws. Instead they’re getting comfortable with the idea of hitting the market in a way that would have been unfathomable just a year ago.

In a SPAC, a group of investors raise money for a shell company with no underlying business. The SPAC goes public, generally at $10 a share, and then starts hunting for a company to acquire. When it finds a target and a deal is agreed upon, the SPAC and the company pull in outside investors for what’s called a PIPE, or private investment in public equity.

The PIPE money goes onto the target company’s balance sheet in exchange for a big equity stake. The SPAC investors get stock in the acquired company, which becomes the publicly-traded entity through what’s known as the de-SPAC.

One major advantage: SPACs allow companies to provide forward-looking projections, which companies typically don’t do in IPO prospectuses because of liability risk.

“An IPO is what I would call backward-looking,” said Betsy Cohen, who led a SPAC that recently took car insurer Metromile public. “Because a SPAC is technically a merger, you’re required to tell investors what the merged companies will look like after the merger and project forward.”

It’s also a much faster process than the IPO, which involves spending many months with bankers and lawyers to draft a prospectus, educate the market, carry out a roadshow and build a book of institutional investors.

Fin-tech companies have been big SPAC targets

Many of the better-known SPAC targets so far have been at the intersection of tech and financial services. For these companies, cash burn rates are high and real GAAP profits often won’t come for years, even under the best circumstances.

Metromile, whose technology allows drivers to pay by the mile rather than a monthly fee, started trading on Wednesday after merging with INSU Acquisition Corp. II, a