What Investors Should Know Before Buying a SPAC

SPACs have rapidly become the hottest way for companies to go public, but they aren't well understood by many investors. In this Oct. 29, 2020 Fool Live video clip, Fool.com contributor Matt Frankel, CFP discusses the SPAC that was recently launched by Boston Omaha (BOC 0.52%) and answers viewer questions about how investing in this and other SPACs works. 

Matt Frankel, CFP: This one is more of a comment, Colin Earl says, "I've been a shareholder of Boston Omaha for over three years, it has under-performed, but I believe in Alex Rozek, which is Warren Buffet's grand-nephew and his team long term. Will this give Boston Omaha more leverage to do a large company buyout? The only SPAC I currently hold is Chamath." I'm not even going to try to say his last name. The question didn't either. "His SPAC that acquired Opendoor (Social Capital Hedosophia II (IPOB)) ticker symbol is IPOB which is still trading under that symbol a few months back.

So will it give Boston Omaha more leverage?" It depends how this goes. The ideal scenario is that this will be a successful SPAC and will help them establish a track record. Chamath just IPO another three SPACs, IPOD, IPOE, and IPOF. The reason that he was able to successfully IPO all three of those on the same day and raise the money, and they're all trading for more than the IPO price right now is because he's built a track record. He was the one who did Virgin Galactic (SPCE 2.90%), that was IPOA, then open-door IPOB. He's already found a target for IPOC (Social Capital Hedosophia III (IPOC)). It's a Medicare company. So ideally this will help Boston Omaha buildup a track record. As an investor that's what I'm hoping for.

If this a successful SPAC, they can leverage us to make another one because 150 million in terms of a SPAC isn't a huge one. So it could help them get essentially 20 percent of another company for nearly free. then so on and so on and so on. So if this is successful, this could be the first in a series of SPAC acquisitions for them. That's really what the hope is here. Boston Omaha could raise more money by selling additional shares of its own stock if that's what it wanted to do. Let's say if it was eyeing a 200 million dollars company that wanted to buy, it could probably raise the capital for that. There are a lot of people out there like me and you who believe in the management team who would be willing to participate in a secondary offering, but they're not doing it that way.

They want to get into the SPAC game because the economics are favorable for the sponsor there. They want to see how this goes and if they can build up a track record of success.

Sinstock says, "How do you buy a SPAC, is it like a stock?" Yes, before they make an acquisition, they trade on the public markets just like a stock. For the first roughly two months of their public life, they trade as units. So there's usually a U at the end of the symbol, which is why Boston Omaha has YSACU. Then at some point, roughly around the two months mark, they split into both common shares and warrants. So that's how you would invest in the spec.

There's a question between if you should invest in the shares themselves or warrants. That's your personal preference. Warrants are like buying options. They're definitely the more risky bet, but with more upside. If you invest in just the shares, then you're investing in whatever business the SPAC is going to acquire on a one-to-one basis like we mentioned. If you invest in the units, you get a little bit of each. You get the shares of whatever they acquire, and you also get some warrants, which give rights to buy additional shares at a later date. The usual strike price, or the conversion price is 1,150 with a spec warrant by the way.

So if you're going to buy a SPAC, I'm a fan of buying the units so you get a little bit of each. Keep in mind that if the SPAC does not successfully find an acquisition target, which about half of them don't. Money is returned to shareholders. But the warrant, not all the money, but the money representing the common shares are returned to shareholders. But the warrants will expire worthless. So if you invest in warrants before a SPAC finds an acquisition target, you're taking a real gamble there. There's a lot of questions, I'm trying to keep track of this.

Blake said, "Would you be able to go into more information about the warrant?" Hopefully, I did that just now. The warrant structure is generally the same. I guess unusually they convert at 1150 a share. Different specs have different amounts of warrants they give out with the units. So at Boston Omaha, you get one warrant for every two shares of Yellowstone that you buy. So once it starts trading separately, if you bought 100 shares of the IPO, you would have 100 Yellowstone common shares and 50 warrants to buy more shares.

"How do you buy just the warrant?" It depends on your broker, one if it's allowed, I know brokers like Robinhood don't allow for warrant trading, but most brokers do. You'll have to check with your broker what the actual symbol is. For a TD Ameritrade, for example, it will be the stock symbol and then backslash with a W if you're looking for a warrant. So it depends on your broker. I would say if you're interested in warrants, check with your broker on how they're listed. But like I said, with SPACs, it's more of a gamble. Because if they don't find an acquisition target, they expire worthless, and you're essentially betting on the price of whatever they acquired to be above 1,150 within five years. Which if a SPAC IPO is at $10, that's a 15 percent upside. It's not a crazy bet, but you are relying on some upside for your investment to even be worth anything.

Let me see. I think we might have time for one more. Joseph says, ''I believe Boston Omaha wants to be a diversified company, why would they create a SPAC versus simply raising capital by issuing new Boston Omaha shares and then use the capital to buy whatever they want to buy? '' The short answer is the structure of a SPAC is very economically favorable for the sponsor. As I mentioned, Boston Omaha spent $25,000 to get 20 percent of this $150 million SPAC. If it works out. There's almost unlimited upside potential for that. So I'd say Boston Omaha is really using its fiduciary duty to its shareholders here. Because it's really economically a favorable way to acquire a new business.