SPAC vs IPO vs Direct Listing: Which to Choose?
When a private company decides to go public and list its shares on the stock market, it has several options to consider. The most common methods include an Initial Public Offering (IPO), a Special Purpose Acquisition Company (SPAC), or a Direct Listing.
Each of these methods has its own advantages and drawbacks. In this article, we will explore the differences between these approaches to help you determine which one might be the right choice for your company.
IPO: High Profile, High Cost
An IPO, or Initial Public Offering, is the most traditional way for a company to go public.
In this process, the company creates additional shares, which are underwritten by an investment bank acting as an intermediary. The bank charges a fee to the company and works closely to ensure the IPO’s success.
To proceed with an IPO, a company must meet various regulatory requirements, including submitting a detailed registration statement (Form S-1) to the SEC.
This statement provides up-to-date financial information and other data necessary for investors to evaluate the company’s prospects.
The investment bank helps set an initial offer price for the shares and then purchases those shares from the company. These shares are then sold to retail and institutional investors through various distributors, including other investment banks, mutual funds, and insurance companies.
The IPO process also involves a roadshow, which is similar to a marketing campaign. The primary goal of the roadshow is to generate interest and demand for the company’s shares.
The underwriter evaluates the success of the roadshow in capturing investor attention, helping set a realistic IPO price.
Two common methods of distributing shares to prospective investors are book-building and auctioning. Both have their own processes and considerations.
Moreover, IPOs come with significant costs, as underwriting fees can range between 3.5% and 7% of the offering total. This can result in substantial expenses for the company, particularly if it raises a significant amount of capital.
Lastly, IPO shares typically have a lockup period, meaning they cannot be sold for a specified time after the IPO, typically lasting between 90 to 180 days.
SPAC: A Unique Approach
A Special Purpose Acquisition Company, or SPAC, is also known as a blank check company. SPACs have gained popularity in recent years.
A SPAC is formed as a company with no commercial operations, and its sole purpose is to raise funds through an IPO, intending to acquire or merge with an existing company.
SPACs are generally created by individuals with expertise in a specific sector. The funds raised during the SPAC’s IPO are placed in a trust account, to be used exclusively for completing an acquisition.
If a SPAC fails to identify a target company within a specified period, it is liquidated, and the funds are returned to investors.
Unlike an IPO, a SPAC listing process is typically faster, often taking just a few months to complete. Promoters of the target company may negotiate a premium valuation as the deal must be concluded within a specific timeframe.
If well-known executives back the SPAC, it can benefit from an experienced team and improved market visibility.
However, investing in a SPAC involves a level of trust in the management team, as the regulatory requirements are lower for SPACs. A registration statement for a SPAC describes a company with no operations, making it a speculative investment.
Direct Listing: Simplicity and Transparency
A direct listing is a straightforward and cost-effective approach to going public. In a direct listing, a company allows existing shareholders, including investors, employees, and co-founders, to sell shares directly to the public without the involvement of intermediaries like underwriters.
One of the primary advantages of a direct listing is its cost-effectiveness. It avoids the dilution of existing shareholder wealth and eliminates the need to issue new shares. Additionally, there is no lockup period, allowing for immediate liquidity.
A direct listing requires the company to meet specific requirements set by the exchange on which it plans to list.
One potential downside of a direct listing is that it may not generate as much investor enthusiasm as an IPO, as there is no underwriter to conduct a roadshow or guarantee the sale of shares.
Which Listing Process Is Best?
The choice between an IPO, SPAC, or direct listing depends on the needs and resources of the company. None of these methods guarantee success or failure; they are simply tools that are appropriate for different situations.
An IPO is ideal for companies looking to raise capital and create brand awareness, and it is often chosen by larger companies that can afford the associated costs.
SPACs offer speed and certainty in raising funds, attracting larger companies looking to go public, but they can involve significant transaction costs and equity dilution.
Direct listings are cost-effective and straightforward, but they may lack the marketing and support provided by underwriters, making them suitable for companies with strong brand recognition.
In the end, the health and prospects of the company going public matter more than the method chosen. Investors should carefully evaluate the financials, management team, and industry trends before investing in any early-stage company, regardless of how it goes public.
Choosing the right path to take your company public is a crucial decision. Each method, whether it’s an IPO, SPAC, or direct listing, comes with its unique characteristics and considerations.
Understanding the advantages and drawbacks of each approach will help you make an informed decision about which option aligns best with your company’s goals and resources.
Remember that a successful transition to the public market depends on factors beyond the method you choose, including the company’s financial health, management team, and industry trends.
In this regard, it is always recommended for aspiring companies to engage a pre IPO advisory service to ensure they are in the best position to go public.