For an asset class that had previously struggled to be noticed for almost 20 years, we sure have gotten a lot of attention lately. First it was the SEC’s statement on SPACs vs. IPOs regarding projections and liability risk. Now, in one of the more amazing instances of a solution being worse that the problem, the SEC has deemed warrants a liability rather than an equity. As a result, SPACs have ground to a halt while armies of lawyers, accountants and bankers try to solve the riddle of how to restate financial statements for roughly 800 SPACs. It brings to mind the old exploding whale carcass story. Stop me if you’ve heard this one before….
Back in 1970, a 45 foot, 8 ton dead whale washed up on the beaches of Oregon. The local citizens decided that the best way to clean up the situation was to blow the whale up with dynamite (yes, this is a true story). Even better, instead of the recommended 20 sticks of dynamite, they decided to use 20 cases of dynamite.
Well, as you can imagine, this “explode the whale solution” was far worse than just leaving it be. On the day of the scheduled blast, the whole town showed up and were asked to watch from a “safe” 1/4 mile distance. However, when the dynamite was detonated it proceeded to shower all of the townspeople that came out to watch with rotting whale blubber. And the best part? After the smoke and raining whale guts had cleared, half of the whale was still there. It didn’t even fix the problem. Anyway, the point is, sometimes it’s better to try and not “oversolve”. Currently, it’s raining whale blubber over at the SEC and I’m sure none of their staff is too pleased about all of the extra work they will now have to do reviewing restated financial statements.
Whales notwithstanding, the other most recent statement from the SEC is in regards to projections and their current hesitancy to allow SPACs to use them. The main thrust of the argument is that this would be “safer” for the investing public. Naturally, we thought it would be interesting to see if projections were in fact problematic.
To that point, we looked at all of the SPAC combinations that closed in 2020 and compared their estimated 2020 revenue numbers against their recent 10-K filings to see just how much they were off, if at all. Interestingly, while putting this together I came across this article from S&P Global that stated only,
“16.75% of the index’s member companies that issued quarterly EPS guidance in 2018 went on to report results within their guided range. The percentage of companies with results within their guided range has declined on an annual basis every year since at least 2014.“
(This article was written in August of 2019). But, the reason companies were off in their guidance was because they were beating their numbers and the reasons why are to “game the system”. Per S&P….
“The vast majority of the time, companies beat their guidance, and especially in high-growth sectors like tech and software, doing so has become synonymous with success. In interviews, former CFOs and corporate governance experts described a mix of factors and pressures that drive management teams to undersell their forecasts to curb the repercussions that might come from missing guidance. Companies’ habit of setting beatable targets is widely known and expected, analysts said. But critics of the practice say it has enshrined a custom that ultimately only misleads investors.”
Let’s think about that for a moment. Companies are intentionally misleading the public on their earnings guidance. Under-selling projections is just as problematic as over-selling too. I guess the take away is that unless a company absolutely 100% nails their earnings number, they’re screwed. This seems like a really tough ask.
However, what about SPACs? Much has been made about SPACs and their ability to use projections to sell their combinations (versus IPOs, which don’t). The implication being that SPACs are drastically over-projecting their numbers. As you’re about to see, that’s actually not the case.
With that in mind, we took a look at the 2020 class of SPAC combinations. Meaning, we looked at all SPACs that had closed their announced mergers in the year 2020 and compared it to their recent 2020 10-K actual revenue numbers. However, a few notes on the deals included: 66 SPACs completed combinations in 2020. Of those 66, 13 have not commercialized yet (they are either biotech/pharma and do not have FDA clearance, or had previously projected zero revenue for 2020). Additionally, there were another eight SPACs that were foreign filers, and as such, they are not obligated to file 10-Qs or 10-Ks. They can simply file a 6-K if they want to, but they don’t have to and eight of them haven’t done so yet. Another two simply did not provide 2020 guides in their investor decks.
What we were left with is 45 de-SPAC’d companies and as you can see below, the results weren’t that bad. In fact, both the median and the average for the group is in positive territory. You’ll notice the SPACs that exceeded their projections in green and the ones that missed in red. However, note that those were the ones that fell out the range of 10% positive or negative, which we took it upon ourselves to decide was a fair range of error. No company can be perfect, but a 10% negative or positive measuring post seemed fairest. Additionally, this group was ranked largest to smallest.
As you can see, on average SPACs recorded a value of -2.10% below average revenue results based on announced combination projections. However, there were some big swings on both ends. So if we if we take the median, -8.10%, the majority of the teams missed their 2020 projections.
As you can see, the near term projections are not unreasonable. Plus, once a company is public, it is typical to provide refreshed quarterly and yearly guidance. This guidance is routinely updated because the future is, and should be, a moving target. Not a static one. Furthermore, even the SEC recently noted that using projections, “…can also be a key component for boards and other participants in negotiating and understanding the economics – indeed, the fairness – of the transaction.”
To sum up, the SEC currently has one exploding whale on their hands, do they really want another one? As the saying goes, if ain’t broke, why fix it.
Below is a table comparing estimated 2020 revenues from 40 SPAC’s merger presentation vs. the proforma company’s actual reported 2020 revenues1,2
- BWMX: Projected revenues use $196M converted to Mexican Peso at the company’s projected conversion rate of 20.0MXN/USD (investor presentation)
- UK: Estimated and actual revenues in local currency (RMB)