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How SPAC acquisition funding turned Wall Road's new favourite enterprise

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For most investors these days, it's literally a "PIPE dream".

PIPEs, or private investments in public equity, are mechanisms for companies to raise capital from a select group of investors outside the market. However, as PIPEs are increasingly used in conjunction with an increase in SPAC mergers, a larger group of fund managers are seeking access to this security, with limits on who and how many can invest.

While SPACs, or special purpose vehicles, enter public markets to raise capital to fund a future acquisition, PIPEs are allocated to a small group of investors. The managers of the funds participating in the PIPE sign a nondisclosure agreement with trade restrictions and are brought over a proverbial "wall" where they seek to obtain material, non-public information about the target from the SPAC. They can then decide whether or not to invest at the SPAC's IPO price or sometimes at a discount, and drive what they hope is a pop when that takeover is announced.

Bankers from several companies have told CNBC that they recently received a surge in inbound interest from investors looking for future PIPE opportunities.

"Many of these deals are doing very well and have been well received in the post-announcement period," said Warren Fixmer, who runs SPAC Equity Capital Markets at Bank of America. "The alpha generation she represents obviously attracts a broader group of investors."

In 2020, PIPEs raised $ 12.4 billion in additional capital to fund 46 SPAC mergers, according to Morgan Stanley. Your data looked at SPAC deals with valuations in excess of half a billion dollars. On average, PIPE capital has nearly tripled the SPAC's purchasing power, Morgan Stanley said. For every $ 100 million raised through a SPAC, a corresponding PIPE added another $ 167 million, the data showed.

Big money in PIPEs

Some of the largest PIPEs have exceeded $ 1 billion in size and have been tied up in the past few months. The last one came on Monday morning with the acquisition of Alight Solutions by Foley Trasimene & # 39; s Acquisition Corp. announced, which included a private placement of $ 1.55 billion. Another Foley SPAC took advantage of a $ 2 billion private placement and announced a deal to purchase Paysafe in December. Chamath Palihapitiya's SPAC, Social Capital Hedosophia V, is deploying a $ 1.2 billion PIPE to acquire SoFi. In addition, Altimar Acquisition Corporation announced an agreement with Owl Rock and Dyal to float the combined alternative asset manager with a PIPE of $ 1.5 billion.

More committed PIPEs will lag behind the SPAC IPOs. So if 2020 was the year of the SPAC surge, 2021 and 2022 will be when these vehicles will merge.

Morgan Stanley data showed that more than $ 90 billion worth of "dry powder" still needs to be used for acquisitions in the next two years or less. That implies that a total of $ 117 billion in PIPE capital is expected to be raised in connection with SPAC mergers during that period, Morgan Stanley said.

With this in mind, potential PIPE investors are calling en masse brokers and wanting to be involved in financing these mergers, bankers from three different companies told CNBC.

The proliferation of this product raises concerns about the possible lack of understanding by the broader cohort of SPAC investors as to how these investments work.

"There are two generic losers or people at risk: the first is the existing shareholders, the second is the perception of the fairness of our capital markets," said Harvey Pitt, former chairman of the Securities and Exchange Commission. "People who are not familiar with the disclosures, people who are unable to take advantage of these discounts, and people who see it The power of their holdings has been downgraded due to so-called dilution. "

Investors in the PIPE typically get their securities at a discount that is at least equal to the market price, and sometimes they even get stocks that are below the IPO price. About a third of the SPACs in the 2019-2020 merger cohort who issued shares in PIPEs sold those shares at a discount of 10 percent or more from the IPO price. This was the result of a recent SPAC study by Stanford Law School and the New York University School of Law. Ultimately, this can be dilutive for investors who acquired shares when the SPAC went public.

PIPE investors can put stocks under pressure

A key question, Pitt said, is what kinds of information investors get in PIPEs versus those in the broader market. While he notes that it would be "perfectly appropriate" for the SPAC to share potential merger plans or similar things, other details about the company's future could be a gray area.

However, proponents of PIPEs say they can act as a signal to validate the market and therefore improve performance. These 2020 SPACs, which contained PIPEs, had an average performance of 46 percent a month after closing their deals, according to Morgan Stanley. Those without PIPEs saw less than half (21 percent) gains over the same period.

Once investors in the PIPE are eligible to sell, it can put pressure on the overall stock as it expands the float. Usually this takes place in the weeks after a SPAC contract is signed – far shorter than the typical IPO lockout.

Because of these factors, PIPEs could be an area that will see closer government scrutiny this year as investors begin to better understand the rules and potential financial implications of these securities relative to public holdings in the SPACs.

"It's not illegal to participate in any of these deals, but there are, say, minefields throughout the process that could turn what could be legal into something that is illegal or cross that line," said Pitt, who currently serves as the CEO of Kalorama Partners, a consulting firm. "This is why there has to be a check, and this is why these transactions are checked."

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