- Based on a sample of 111 SPACs we find that the return following a merger is significantly negative. Evidently, SPAC investors, while protecting themselves from downside risk, are also sacrificing the large potential merger returns that ordinary shells offer.
- The extent to which shell firms are an investable alternative asset largely depends upon the depth of this rather illiquid market. Most shell firms have fewer than three market makers and trading tends to be thin and concentrated among a relatively small shareholder base.
Volume 17, Issue 4, September 2011, Pages 850–867
Shell games: On the value of shell companies ☆
A reverse merger allows a private company to assume the current reporting status of another company that is public. This can be done quickly, without fundraising, road show, underwriter, substantial ownership dilution, or great expense. Private firms that go public via reverse merger are often motivated by the need to quickly secure financing through privately placed stock (PIPEs) and the desire to make acquisitions using stock as payment. In each of the last eight years reverse mergers have outnumbered traditional IPOs as a mechanism for going public, and reporting shell companies are providing fuel for much of this growth. We study 585 trading shell companies over the period 2006–2008. The purpose of most of these shell firms is to find a suitor for a reverse merger agreement. These companies have no systematic risk, operations, or assets, and their share price tends to decline over time. Yet, these firms have investors. When a takeover agreement is consummated, shell company three-month abnormal returns are 48.1%. We argue that this exceptional return is compensation to investors for shell stock illiquidity and the uncertainty of finding a reverse merger suitor. We show that shell company returns are much greater at the consummation of a merger than those of a similar entity that in dollar terms is more popular among investors — Special Purpose Acquisition Companies (SPACs).