What Are SPACs? Blank Check Companies Explained

Imagine someone asked you to invest in a company with no products, no revenue, no employees, and no business plan. Just a pile of cash and a promise: "Trust us, we'll find something good to buy." That's essentially what a SPAC is; a Special Purpose Acquisition Company, also known as a "blank check company." In 2020 and 2021, investors poured hundreds of billions of dollars into these vehicles. By 2023, most of them wished they hadn't.

What Is a SPAC? The Quick Answer

A SPAC (Special Purpose Acquisition Company) is a shell company with no operations that raises money through an IPO; typically at $10 per share — with the sole purpose of merging with a private company within 18-24 months, effectively taking it public. The SPAC sponsor receives roughly 20% of shares for a nominal investment, creating a massive incentive to complete deals regardless of quality. Studies show the average post-merger SPAC has significantly underperformed the broader market, and the SPAC boom of 2020-2021 ended with most investors losing money.

How SPACs Work: The Four-Step Process

A SPAC follows a specific lifecycle that distinguishes it from a traditional IPO:

1. The IPO: A sponsor (usually a well-known investor, executive, or celebrity) creates a shell company with no operations. This company goes public through an IPO, typically selling shares at $10 each. The IPO proceeds go into a trust account, where they sit until the SPAC finds a company to acquire.
2. The search: The SPAC sponsor has a window; typically 18-24 months — to find a private company to merge with. During this period, the trust money earns interest (usually invested in Treasury bills), and the sponsor searches for acquisition targets.
3. The merger (de-SPAC): When the sponsor identifies a target, they announce the merger. SPAC shareholders vote on whether to approve the deal. If approved, the private company merges with the SPAC and becomes a publicly traded company; effectively going public through the back door without a traditional IPO process.
4. The public company: After the merger, the combined entity trades on the stock exchange under a new ticker. The private company is now public, the SPAC shareholders own shares of the new company, and the sponsor retains their (very generous) stake.

If the SPAC fails to find a target within its deadline, it must return the trust money to shareholders (plus accrued interest). This provides a floor on the investment; in theory. More on this later.

The SPAC Sponsor's Deal: Why They Love SPACs

To understand SPACs, you have to understand the sponsor's economics, because the incentive structure is the key to everything:

• The promote: The sponsor typically receives 20% of the SPAC's shares for a nominal investment (sometimes just $25,000). This is called the "founder shares" or "promote." If the SPAC raises $500 million in its IPO, the sponsor gets $100 million worth of shares essentially for free. This is an enormous incentive to complete a deal; any deal.
• Warrants: Sponsors also receive warrants (rights to buy shares at a set price in the future), adding to their potential upside.
• No downside risk: If the SPAC doesn't find a target and liquidates, the sponsor loses their nominal investment but none of the IPO proceeds (that money goes back to shareholders). The risk-reward for sponsors is wildly asymmetric.

This incentive structure is the fundamental problem with SPACs. The sponsor has massive upside from completing a merger and minimal downside from a bad deal. This creates a strong motivation to do a deal; even a mediocre one — rather than return money to shareholders and walk away. For investors, the 20% dilution from the promote is a headwind that the merged company needs to overcome just to break even.

NAV Trust and the Pre-Merger Safety Net

Before a merger is completed, SPAC shares have a built-in safety net: the trust account. Since the IPO proceeds sit in Treasury bills, each SPAC share is backed by approximately $10 (plus accrued interest) in the trust. This means the downside before a merger is limited — if you don't like the proposed deal, you can redeem your shares for your pro-rata share of the trust.

This redemption right is actually quite useful. It means pre-merger SPAC shares function almost like a Treasury bill with a free lottery ticket attached. If the SPAC announces a great deal, your shares might jump above $10. If it announces a bad deal (or no deal), you can redeem for approximately $10. Heads you win, tails you break even.

Professional SPAC investors exploited this structure aggressively during the boom, buying SPACs near NAV and either selling on merger announcement pops or redeeming for trust value. This arbitrage strategy was quite profitable; for the professionals. Retail investors who bought SPACs above NAV (driven by hype about the expected merger target) didn't have this safety net.

SPAC Redemptions: The Hidden Problem

Here's where SPACs get interesting, and where many deals fall apart. When a merger is announced, shareholders can choose to redeem their shares instead of participating. In the 2022-2023 period, redemption rates soared above 80-90% for many SPACs.

Why is this a problem? The private company agreed to merge with a SPAC that had, say, $300 million in trust. If 90% of shareholders redeem, only $30 million remains. The merged company now has far less capital than expected, but the same expenses, the same sponsor promote dilution, and the same market expectations. It's like buying a house and discovering 90% of your down payment has disappeared.

High redemption rates have killed many SPAC deals outright and left others severely underfunded. Companies that completed mergers with heavily redeemed SPACs often found themselves public but cash-starved; the worst of both worlds.

The SPAC Boom: 2020-2021 Mania

The SPAC market exploded in 2020 and 2021 in one of the most extraordinary speculative manias in recent financial history:

• In 2020, SPACs raised $83 billion, more than the previous decade combined.
• In 2021, SPACs raised over $160 billion across nearly 600 IPOs. More money went into SPACs than into traditional IPOs.
• Celebrity sponsors included Shaquille O'Neal, Jay-Z, Serena Williams, Colin Kaepernick, and dozens of others. Having a famous name became a qualification for managing hundreds of millions in investor capital.
• Companies that likely couldn't have survived a traditional IPO process went public through SPACs, often accompanied by wildly optimistic revenue projections.

The conditions that created the boom were specific: near-zero interest rates, massive stimulus-fueled retail investor participation, a hot IPO market that created FOMO, and the perception that SPACs were a "safer" way to invest in companies going public.

The SPAC Bust: 2022-2023 Reality Check

The comedown was brutal:

• The average SPAC that completed a merger in 2020-2021 lost over 50% of its value within two years. Many lost 80-90%.
• Dozens of SPAC-merged companies faced SEC investigations, restated financials, or went bankrupt entirely.
• Those optimistic revenue projections? The vast majority missed their targets by enormous margins. A study found that SPAC targets achieved, on average, less than 25% of the revenue they had projected.
• SPAC IPO volume dropped over 90% from its peak. Many SPACs couldn't find targets and returned money to shareholders.
• Redemption rates on new deals exceeded 80%, making it nearly impossible to complete transactions.

The SPAC bust was predictable to anyone who examined the incentive structures. Sponsors had every reason to complete deals regardless of quality. Companies went public via SPAC specifically because they couldn't withstand the scrutiny of a traditional IPO. And retail investors bought into the hype without understanding the dilution or the sponsor economics.

Notable SPACs: The Good, the Bad, and the Ugly

A few high-profile SPAC outcomes illustrate the range:

• DraftKings: One of the most successful SPAC mergers. Went public via SPAC in 2020 and has become a legitimate public company in the sports betting space. Still, investors who bought at the 2021 peak around $70 saw the stock fall below $15 before recovering somewhat.
• Virgin Galactic: Merged with a Chamath Palihapitiya SPAC in 2019. Peaked above $60 per share on retail enthusiasm. Then fell over 95% as the company struggled with delays, cash burn, and the reality of building a space tourism business.
• Lucid Motors: The EV maker went public through a SPAC in 2021, briefly reaching a market cap of over $90 billion, more than Ford — while producing only a handful of cars. The stock later lost over 90% of its value.
• Nikola: The electric truck company went public via SPAC and briefly had a market cap exceeding $30 billion. Its founder was later convicted of fraud. The stock fell over 99% from its peak.
• Clover Health: Another Chamath SPAC. Went public in 2021, was targeted by a short seller who alleged undisclosed regulatory investigations, and lost over 90% of its value.

The SEC Crackdown

The SEC took note of the SPAC mania and its aftermath. In 2022 and 2023, the Commission proposed and implemented several significant reforms:

• Projections liability: Previously, SPACs could include wildly optimistic forward-looking revenue projections in their merger filings, protected by a safe harbor that didn't apply to traditional IPOs. The SEC moved to eliminate this safe harbor, holding SPACs to the same standards as traditional IPOs.
• Enhanced disclosures: New rules required clearer disclosure of sponsor compensation, dilution effects, and conflicts of interest.
• Gatekeeper liability: The SEC pushed to hold underwriters, auditors, and sponsors more accountable for the accuracy of SPAC disclosures.
• Enforcement actions: The SEC brought enforcement actions against multiple SPAC sponsors and merged companies for misleading investors.

These reforms effectively closed many of the loopholes that made SPACs attractive to sponsors and lower-quality companies. If SPACs have to meet the same disclosure and liability standards as traditional IPOs, much of their advantage disappears.

SPACs vs. Traditional IPOs

Understanding why SPACs exist requires understanding what they offer compared to a traditional IPO:

• Speed: A SPAC merger can be completed in 3-6 months. A traditional IPO typically takes 6-12 months or longer. For companies that want to go public quickly, SPACs offered a faster path.
• Certainty of pricing: In a traditional IPO, the price is determined by investor demand during the roadshow and can fluctuate. In a SPAC merger, the valuation is negotiated between the sponsor and the target company. This certainty was attractive to founders.
• Forward-looking projections: Traditional IPOs are restricted in the financial projections they can share. SPAC mergers (at least before the SEC crackdown) allowed companies to present optimistic multi-year projections. This was valuable for pre-revenue companies that didn't have historical financial performance to show.
• Lower scrutiny: The traditional IPO process involves extensive due diligence by underwriters and months of SEC review. The SPAC process, historically, involved less scrutiny — which is exactly why lower-quality companies preferred it.

Why Most SPACs Underperform

The data on SPAC performance is damning. Multiple academic studies have found that post-merger SPACs underperform the broader market by wide margins. The reasons are structural:

• Sponsor dilution: The 20% promote means the merged company starts with an automatic 20% dilution headwind. The company needs to generate 25% just to break even for public shareholders.
• Adverse selection: The best companies can go public through traditional IPOs with top-tier banks. Companies that choose SPACs often do so because they can't withstand traditional scrutiny. This isn't always true — DraftKings was a legitimate company — but the average quality of SPAC targets is lower than the average IPO.
• Misaligned incentives: Sponsors are incentivized to complete deals, not to find the best deals. The 20% promote makes even a mediocre deal profitable for the sponsor.
• Hype cycles: Many SPACs targeted "hot" sectors (EVs, space, fintech, sports betting) at peak valuations. Buying into trendy sectors at peak prices is a reliable way to underperform.
• Retail investor base: SPACs were disproportionately held by retail investors during the boom, meaning less sophisticated price discovery and more susceptibility to hype.

What to Do Next

SPACs are neither obsolete nor the default path for public markets. They're a financial tool that was massively abused during a speculative mania and is now operating under tighter regulation and greater investor skepticism. If you encounter a SPAC investment opportunity, here's how to evaluate it:

Examine the sponsor's track record — not their celebrity status, but their actual investing results. Understand the promote and dilution. Read the merger proxy carefully, especially the financial projections — and apply deep skepticism to those projections given the industry's track record. Never pay significantly above NAV for a pre-merger SPAC unless you have strong conviction in the expected target.

For most individual investors, the lesson from the SPAC era is simple: when a financial product is being aggressively marketed to retail investors with promises of easy access to exciting companies, the people benefiting most are the ones selling it to you, not the ones buying it. Keeping your portfolio diversified and tracking all your investments in one place — something Clarity is built to do — helps you see through the hype and focus on what's actually building your wealth over time.

This article is educational and does not constitute investment advice. Past performance does not guarantee future results. Consider consulting a financial advisor before making investment decisions.