40% of the same de-SPAC filings also disclosed going concern issues Analysis by Hudson Labs forensic expert, Andre Castillo
SPACs continue to get bad press with the news of the “SPAC King'' Chamath Palihapitiya winding down two of his SPACs, IPOD and IPOF.
Chamath’s de-SPACs (SPACs that have merged with acquisition targets) have failed. In fact, all five of his de-SPACs are trading well below their starting prices. It’s no wonder he doesn’t want to go through the same process with IPOD and IPOF.
Chamath’s de-SPACs aren’t the only ones that have struggled. According to PitchBook’s de-SPAC Index, de-SPACs in the aggregate have underperformed significantly against the S&P 500 since 2018.
At the time of Michelle Celarier’s Institutional Investor article in April 2022, the de-SPAC Index had a decline of 31.6% since 2018 while the S&P 500 had a gain of 50.4%, an astounding margin of over 80%!
The reasons for de-SPACs’ underperformance have often been fundamental problems with their management and underlying business operations.
The Hudson Labs team found that almost 50% of annual and quarterly SEC filings for de-SPACs reported material weaknesses or ineffective controls. This compares to about 20% in the population overall.
Almost 40% of de-SPAC filings reported substantial doubts about continuing as a going concern.
For all EDGAR issues, only about 22% of relevant filings reported going concern issues.
Our analysis looks at filings (Form 10-Q, Form 10-K, & Form 20-F) for 314 de-SPAC from January 1, 2020 through present.
Internal control disclosures: de-SPACs vs. the average public company
Ineffective internal controls or material weaknesses in internal controls have an association with future downside events.Some of the most well-known corporate frauds of our history (like the Enron scandal) were borne out of terrible internal control environments.
In a substack post published last month, we highlighted two de-SPACs with major red flags: Procaps Groups SA (PROC), which had disclosed accounting restatements and ineffective internal controls, and Dave Inc (DAVE), which also reported ineffective controls.
We investigated further to see how widespread these internal control issues are among de-SPACs.
After reviewing 2,933 annual and quarterly SEC filings from 314 de-SPACs since January 1, 2020, we see that 49.0% of these reports reported ineffective controls.
Almost half of all de-SPAC filings reported ineffective internal controls!
Some of the largest de-SPACs that disclosed internal control issues since 2020 are in the electric vehicle (EV) space:
Lucid Group (LCID): The company’s management had concluded in its SEC filings that it has ineffective internal controls as recently as Q3 2021. Lucid disclosed that it had insufficient accounting personnel.
Chargepoint Holdings Inc (CHPT): Chargepoint disclosed ineffective controls in its most recent 10-Q. The company disclosed that it did not maintain controls relating to segregation of duties, review of journal entries, and review of assumptions made on the valuation of its assets. These control deficiencies have led to financial restatements for the years ended January 31, 2021, 2020, and 2019.
Nikola Corp (NKLA): It’s no surprise that Nikola had previously disclosed ineffective internal controls since their founder and former CEO is currently on trial for securities fraud for misleading investors on “practically all points of the enterprise.” The company’s ineffective internal controls led to restatements for its 2020 financials.
Other de-SPACs with market caps over $2 billion that have disclosed ineffective controls recently include:
Willscot Mobile Mini (WSC) - Workspace and storage company.
Vertiv Holdings (VRT) - Data center equipment and service provider.
Enovix Corp (ENVX) - Lithium ion battery manufacturer.
Cano Health (CANO) - Healthcare provider.
Adapthealth Corp (AHCO) - Medical supplies company.
EVgo Inc (EVGO) - EV charging station company.
Rocket Lab USA (RKLB) - Aerospace manufacturer.
To better understand how anomalous this is, we performed the same analysis but for the filings of all publicly traded companies.
We analyzed over 69,464 annual and quarterly SEC filings from 8,073 companies since January 1, 2020. Based on our analysis, we see that only 20.1% of these reports reported ineffective controls!
From an internal controls perspective, de-SPACs have a high risk profile when compared to the average publicly traded company.
Going concern issues: de-SPACs vs. the average public company
When a company discloses that it has a substantial doubt about its ability to continue as a going concern, it means that the business won’t survive the next 12 months without additional funding.
How does this happen? Sometimes, a company may need to pay off significant debt, but its business isn’t able generate enough cash to pay off these obligations. The company can try to get more cash through debt refinancing or equity funding. However, if they’re a struggling business, securing more funding is unlikely to happen.
So how often have de-SPACs disclosed going concern issues since 2020? Of the 2,933 annual and quarterly SEC filings from 314 de-SPACs since January 1, 2020, 39.9% of these filings disclosed substantial doubts about continuing as going concerns.
Notable de-SPACs that have disclosed going concern issues since 2020 include:
Electric Last Mile Solutions Inc (ELMS): On June 13, 2022, EV startup Electric Last Mile Solutions, announced that they had commenced bankruptcy proceedings. The company’s CEO and Chairman had unexpectedly stepped down following an internal probe into suspicious share purchases. Because of this, it became extremely difficult to secure funding. ELMS had reported going concern issues in its annual and quarterly filings since March 2021. These disclosures foreshadowed its bankruptcy and demise.
Sorrento Therapeutics Inc (SRNE): As Sorrento is still a clinical stage biopharmaceutical company, it has generated very limited revenues while sustaining significant expenses, particularly research and development costs. SRNE recently reported positive news on its trial results, but will it secure enough funding to continue its clinical research?
Faraday Future Intelligent Electric Inc (Faraday Future has been around since 2014 and became publicly traded via SPAC merger in July 2021. The company has yet to produce and sell single electric vehicle. Instead of generating revenue, the company generated lawsuits and controversy. The company’s 10-K for FY 2021 was filed due to an SEC’s investigation on its allegedly inaccurate statement made to investors. This week, FFIE was sued by one of its shareholders who believes that the board of directors “has driven company into the ground.”
Like ELMS and other EV de-SPACs such as Canoo Inc (GOEV) and Lordstown Motors Corp (RIDE) have also disclosed going concern issues. We’ve already seen Electric Last Mile Solutions go down. We can’t help but wonder how other EV de-SPACs will pan out.
We performed the same going concern analysis but for the filings of all EDGAR issuers with relevant filings.
We analyzed over 69,464 annual and quarterly SEC filings from 8,073 companies since January 1, 2020. Based on our analysis, we see that only 21.9% of these reports disclosed going concern issues.
De-SPACs are almost twice as likely to have substantial doubts on continuing as a going concern than the average publicly traded company.
Long-term investors are interested in companies that can survive and thrive, not companies with going concern issues. But if you’re looking for a public company that has trouble paying its debts and working capital requirements, de-SPACs have you covered!
SPACs, de-SPACs, and Bedrock AI equity research
It isn’t surprising to Hudson Labs that de-SPACs have underperformed and struggled. As our CEO, Kris Bennatti, had pointed out in a Nicola White’s Bloomberg article back in March, SPAC target companies have been “finding themselves in situations where they’re not ready for prime time.”
Becoming publicly traded requires a company to master complex audit and accounting standards as well SEC disclosure rules. Getting fully up to speed on these requirements can take some time, but becoming publicly traded via SPAC merger significantly shortens that time period to prepared.
Furthermore, not only do companies have to comply with numerous burdensome regulations as a publicly traded entity, but also, they have to deal with significant shareholder scrutiny. Management’s actions are now under a microscope when a company is publicly traded. And if their behavior is suspect, just like that of Electric Last Mile Solutions, investors and lenders would be less inclined to provide funding to a company, especially if it is struggling to keep the lights on.
Because of these challenges, we hypothesized that de-SPACs would run into significant growing pains after their SPAC mergers. Based on the analysis above, it is now clear how widespread these problems have been.
SPACs were excluded from our analysis but de-SPACs were included.