Money that's proven to be key to special-purpose acquisition companies getting mergers done is starting to show signs of drying up, according to market participants familiar with the world of SPAC transactions.
Private investments in public equity, more commonly known as "PIPEs," are an essential source of funding that many blank-check company sponsors rely on to close the acquisitions they were launched to pursue. The funding is typically secured after an acquisition target is identified but before it is announced.
But PIPE funding has recently become harder to come by following a year of explosive growth in the SPAC market, insiders say.
At Citigroup — this year's league-table leader in terms of the volume and proceeds of SPACs advised upon — Tyler Dickson, co-head of the firm's banking, capital markets, and advisory division, has taken notice. His group has advised on upwards of 70 SPAC IPOs this year winning greater shares of the proceeds than runners-up Goldman Sachs and Credit Suisse, according to data from SPAC Research.
"We certainly have seen the congestion in the PIPE market in recent weeks due to the combination of record levels of deals and volatility in high-growth public company equity valuations," he told Insider in an interview this week. "Some PIPEs are working very well. Others are working less well."
These PIPEs — investments that can run up into the hundreds of millions of dollars — typically are backed by large institutional investors like pension funds, mutual funds, or asset managers. PIPEs help SPAC sponsors cover the additional cost of an acquisition beyond the funds already in their trust accounts.
PIPE investors can get the benefit of knowing exactly what the SPAC plans to acquire, unlike retail investors, who might start buying shares of a post-IPO SPAC before its announced merger.
And in some deal structures, PIPE investors may not be subject to lockup periods, meaning they can quickly sell off the equity in a company they've just helped to take public, but at a higher share price than they paid in their PIPE investment.
Coupled with the SPAC boom over the past year, the PIPE market has been flush with cash throughout 2020 and into early 2021. In 2020, there was more than $7.5 billion in funding across 24 PIPEs for US-listed SPACs, according to data from Dealogic. That number ramped up significantly at the start of 2021, with more than $33 billion in funding from 91 PIPEs, according to the same data.
But, in recent weeks, insiders involved in the SPAC process have begun to express growing concerns that institutional investors are showing signs of closing the faucets through which this capital has been flowing so vigorously.
In fact, the PIPE market has already "dried up," according to one SPAC sponsor whose company is on the hunt for an acquisition. The sponsor spoke to Insider under the condition of anonymity to speak freely about market conditions.
"There's just too many deals," this person said, adding: "The deals can't get done, which means the price goes down. It's all self-regulated — painful at the time," but, this person said, it's a form of a highly frothy market trying to correct itself.
SPAC sponsors who can't get deals over the finish line within 18 to 24 months have to return capital to the investors. The sponsor, for their part, is left with a potentially tarnished reputation.
"When you go out to the PIPE market after you've announced your deal," the sponsor said, "when you can't get your PIPE financing post-announcement, that's pretty brutal."
Scrutinizing business fundamentals
To Joe Moglia, a SPAC sponsor whose company is in the process of acquiring a fintech, the crux of the tightening-up of PIPE capital comes down to something simple: Institutional investors who fund PIPEs are taking a closer look at merger targets' operating fundamentals.
They're asking serious questions about whether those fundamentals support targets' valuations and would imply that PIPE investors ought to expect meaningful returns on their investments.
Institutional investors "have to do their homework," he said. "When they do their homework seriously, they're far, far more discrete in terms of what they think makes sense and what doesn't make sense. They're going to be far more selective going down the road."
Formerly, Moglia was the chairman and CEO of TD Ameritrade. His SPAC, FG New America Acquisition Corp., announced in February plans to acquire OppFi, a lender for credit-challenged consumers, in a deal valued at about $800 million. Moglia did not use PIPE funding for his announced deal.
Moglia says the simple math of the number of SPACs seeking merger targets shows there's sky-high demand for PIPE capital, but investors have a limited amount of supply to meet it.
Indeed, of the 254 SPACs that went public in 2020, 131 are still searching for a merger target, according to SPAC Insider. While 92 have announced deals, only 25 have actually completed transactions. And that's not even mentioning the 258 SPACs that have already gone public in the first quarter of 2021. That's a lot of SPAC sponsors competing for capital.
"There's a realization that not all merger candidates are equal, and there's a realization that the market is getting saturated with SPACs," Moglia added.
Taking a breath
According to one top SPAC lawyer, the breakneck speed of SPAC transactions is having a tiring effect on market participants.
"We are seeing, on the PIPE front, exhaustion and being bombarded with deals and pressure to make decisions quickly," David Goldschmidt, a partner who specializes in capital markets work at the law firm Skadden, Arps, Slate, Meagher & Flom, told Insider.
"We have to take a collective breath. The market's got to take a collective breath. The people practicing in this market need to take a collective breath," Goldschmidt said.
Andy Moore, the chief executive of the boutique investment bank B. Riley Securities, which has advised on several SPAC deals, sees broader environmental circumstances as driving the slowdown in the PIPE market.
He said that the notion that the flow of PIPEs is slowing is "a fair characterization," one which he partly attributed to broader macroeconomic factors.
For instance, recent market volatility, he explained, could be a contributor. Plus, the specter of potential rising interest rates could be rattling some PIPE investors.
On Wednesday, the 10-year Treasury yield hit 1.75%, its highest level since January of last year. The prospect of rising interest rates is causing some PIPE investors to reevaluate their investments, Moore said.
"You're going to see a natural tendency for folks to rein their horns in and be a little bit less aggressive with capital that is otherwise committed for an indefinite period of time, and that's exactly what PIPE capital is," he said.
But there's one factor that could help to loosen up the PIPE market again: time
One factor that could help loosen up the PIPE market is time. As more SPACs complete deals to bring companies public, that'll mean additional PIPE money is freed up to be reallocated back into the market.
PIPE investors, whether or not they are subject to lockup periods, will eventually seek to sell their equity in a newly-public company, often for share prices trading higher than what they paid before the acquisition was closed.
That, in turn, opens up new pools of capital that can be deployed in additional PIPEs to help get deals done.
That's the thesis held by Dickson, the co-head of the banking, capital markets, and advisory group at Citi.
"We need some of the recently-priced PIPEs to convert into public equity, which will create fresh capacity in the PIPE market," Dickson said.
"The PIPE market is cooling off a bit, but I believe when you see good announcements in the M&A market drive stock prices up, you'll get a recovery and enthusiasm."
To be sure, though, in spite of the recent reduction in PIPE capital, it's unlikely the funding will disappear completely.
For one thing, SPAC sponsors know how crucial PIPEs are to helping them realize their intended acquisitions: For every $100 million raised by a SPAC, an associated PIPE typically adds another $167 million in financing, according to data compiled by Morgan Stanley that the bank shared with CNBC in January.
Moglia, the SPAC sponsor poised to acquire OppFi, said that institutional investors will find the capital to shell out on PIPEs for companies whose business fundamentals show that they're worthy of it.
"If I'm an institutional investor on the fundamental side, I can see why I want to move a little bit more slowly and I want to do a better job of evaluating whatever merger candidate we're looking at," he said.
But, Moglia added: "There is PIPE money for names that the investor recognizes are a legitimate long-term play."
