The Deal Room: Return Of The SPACs & A Quantum Computing IPO

Welcome back to The Deal Room and welcome back Stephen Barnett. How are you, Stephen? How was New York?

Yeah, thank you, Adam. New York was good. It was hot. New York in the summer is ridiculous. If you get stuck on the subway system, not in a subway because thankfully they're air conditioned, it is quite brutal. I think it was only in the low 80s as they call it over there, but That was enough for me. But we had an absolutely brilliant few days. So we were there ostensibly to do a really, really good session at Evercore. So shout out to the Evercore team. Shout out to the person that prodded me on the back and said, I listen to your podcast. Transatlantic multinational audience that we've got. And so again, he was asking where you were, but I didn't take that too personally. And yeah, we were also at Citadel and we had a few really good meetings with other banks. It was a great few days and obviously New York is flying from a growth perspective and obviously all things finance. And I have to say, best snacks out of all of the different financial institutions that I met, it's got to be Evercore.

Come on, you can't just say that without giving us details of What sort of snacks are we talking?

We're talking really nice little finger cake things, high-quality coffee, some good fruit selections. It was all on point. I thought it was a really nice spread, and I had to really find a couple of spare minutes when students weren't speaking to me to kind of feast. I should have taken a doggy bag home.

Well, maybe in a future episode then, because I know for a lot of students Evercore is a key target. We could do an Evercore special and talk about the business. Strategically, they're storming up the charts, obviously, with all the pickup in activity. So yeah, we'll definitely do that. But, um, cool. Well, let me just quickly give a skinny of what we're going to cover in the next 20 minutes. Going to talk about SPACs. So probably worth re-explaining a little bit when we get to it of what that is and then why are they making a bit of a comeback in the current context. Then quantum computing. It's that kind of the buzzword. I am going to ask you, Stephen, when we get to it, to explain to me in simple terms, what is quantum computing? But we're going to talk about it in the context of the IPO market and a particular deal, and then how the revival in dealmaking overall globally is handing some bumper profits to Magic Circle Law Firm. The lawyers again, we do talk about them a little bit from time to time, but we feel like we always have to. So yeah, that's what's on the agenda. But perhaps we can start with why are we talking about SPACs again? I thought, I thought that ship had sailed.

Yeah, I thought that ship had sailed too. I think about 6 months ago we did cover new regulations with regards to SPACs on the podcast. We gave a bit of an overview of special purpose acquisition companies back then, but let's just take a very brief refresher. So special purpose acquisition company, it's also known as a blank check company or indeed an IPO through the back door. So it is an acquisition vehicle, or essentially a cash shell which lists on a stock market. Much easier to list when you don't have any operations because there's less due diligence that needs to be done. The costs are lower. You raise a bunch of money at a nominal share price. So all of the SPACs that have not, that have listed but have not yet found a particular target to merge with or to effectively, or effectively to acquire, they trade at $10 a share. Because that's what you get in at. So it's a really weird thing. You have all of these kind of dormant shell companies, special purpose acquisition companies that have a period of time, often 2 years with which to go out and use that cash to find a target and basically buy that target, taking the target through to being a public company through the back door. So let's say you and I were to launch a SPAC because we know our investor base trusts us and thinks that we are really, really good at finding potential acquisition opportunities. We'll go out with our prospectus and say, we are going to do an initial public offering and we are going to raise a billion dollars at $10 a share, and we are going to call it Anton Stevens Acquisition Vehicle Number 1. Now, lots of investors get excited because they think, They back us, so they commit to the IPO. The IPO launches, and obviously it's not traded because there's nothing going on. There's no signals to suggest that we should be trading at a premium or a discount to our IPO, $10 a share valuation. However, when we announce that we have got a target, let's say we want to buy an exciting frontier quantum computing company, which we'll talk about later, that starts to trigger the share price movement because people are like, all right, investors are like, is this a good or a bad idea? As soon as the acquisition is commensurate, is completed, that company name changes from the Anton Stephen acquisition vehicle to the name of the company that's being acquired. So that is a SPAC, right? And As you absolutely rightly mentioned, 2020, 2021, those were the boom years of special purpose acquisition companies. Capital was cheap. There was loads of money everywhere. People were trying to figure out where to put the money. Yes.

Can I just ask then, it sounds like what you've described is like venture capital. Naively, when I listen to that, it's like getting money off investors, they back us, to go out and find a company that basically we are going to acquire. Is there parallels with that?

Yeah, there's definitely parallels with venture capital and there's definitely parallels actually with search funds and actually more kind of traditional asset managers where we are managing that person's money in order to put it into something that we think is quite exciting. So yeah, I think the venture capital analogy is very accurate. But just to kind of bring this to a head, we thought we would never see SPACs again in any material form, certainly not one of the front pages of the FT because they performed so dreadfully since 2020 and 2021. There's a SPAC index which we track, and the SPAC index suggests that of all the SPAC mergers, i.e., special purpose acquisition companies that have consummated a merger, and therefore act like a real company. That's, that index is down over 70% since 2021. There's some horrible statistics. The median loss from the 2020 cohort of SPACs is 80%. So, and kind of standout SPACs like Virgin Galactic, which was a very famous special purpose acquisition company merger. That's down 97% since its SPAC merger. And UpHealth, which again was another very exciting one, was down 99.6%. And I put a couple of charts in the notes that I sent to you, and the one that just has all the negative numbers, medium SPAC share percentage return by industry, the best performing is real estate at about minus 50%. So why is this an asset class or why is this a, yeah, an investment class that is starting to return? Well, let's take a look at the headline. So SPACs have grown. SPAC listings have grown 20% relative to last year. $3.1 billion of funding to date. 20 SPAC prospectuses. So initial IPO prospectuses have been filed since June. In the last month and a half targeting $4.3 billion of fundraising. So it's starting to ramp up, bearing in mind there was only $1.8 billion of SPAC fundraising in the second half of last year. Why is this happening? Bearing in mind, we know that this is such a historically terrible asset class. Well, there's a few reasons. The first, and you're never going to be wrong if you answer any question with interest rates. So we've got, you know, interest rates have flattened off. We might see a couple of cuts over the next few months. The cheaper the cost of capital, the more attractive these slightly more speculative asset classes become. Secondly, and this is a comment from Jimmy Fang. The COO at SPAC sponsor Explorer Acquisitions, talking his own book. There are over 300, uh, 1,300 unicorns out there. They can't all IPO in a more traditional manner. So all of these private startups that are worth over a billion dollars, where are they going to get their liquidity events? Not all 1,300 can do a traditional IPO. Not all 1,300 could get sold to trade buyers. So this is just another avenue that are going to juice the supply side pipeline of these different SPACs. And then finally, Tina Papas at Jefferies, again, talking her own book. Yeah, because she's a— because Jefferies are on quite a lot of these IPO tickets, basically saying, look, in 2020, '21, we had all of these Wild West companies that were being brought into stock exchanges through these SPAC mergers. Everything from speculative technology and speculative things like Virgin Galactic all the way through. I think Jay-Z had a SPAC. Michael Jordan might have had a SPAC merger. There was all sorts of weird—

Don't talk smack about MJ on the SPACs.

We have to get basketball into every episode somehow. So it was really frothy. And Tina Papas is basically saying, look, the people that are coming back to the market trying to raise money through this IPO, through the back door, trying to raise money on this, they're actually the legitimate players, right? They're the ones that maybe have had more success and therefore this asset class is starting to look and feel a little bit more mature. Jury's still out from my perspective.

Quick question. What would be the difference of someone like Jefferies being involved in SPACs as compared to someone like Chamath and Social Capital? Who's, how do they differ and why would one go with one or the other?

So Chamath is a very famous and bombastic West Coast investor that is known for creating special purpose acquisition companies. And was it Chamath that did Virgin Galactic? I think it probably was. And made a lot of money out of it. And a lot of investors lost a lot of money out of it. And that is the economics of SPAC deals, which we spoke about a few months ago. Chamath would engage Jefferies to IPO the shell company, right? So it would engage Jefferies who would charge a lower fee than they would charge for a full normal IPO because you don't have to draw a 400-page prospectus. You're not trying to make a company-specific investment case. You'd still have to do book building. You'd still have to go on a roadshow, but you're effectively doing book building and going on a roadshow for that shell company or for the ability of that investor to go and find an amazing company. So it's still, you still need your book runners, when you're going through that IPO process, it's just a little bit more light touch. Okay.

Should we move on? Should we talk about quantum computing? I'm quite keen, first of all, before we get into the story, for you to explain to me, because no one has articulated that particularly well to me ever. So I'm going to set you a challenge here. So what is quantum computing?

Okay. There's a lot, there's lots of different ways to approach this. I think the, The headline is that quantum computers are extraordinarily fast supercomputers that can do computations faster and more of them than normal computers, even the most powerful processing unit that we have today. So that's the lure of quantum computers. They work. I'll give you an overview. So a normal computer, They are run by bits, right? So they use tiny little switches and the switch can either be a 0 or a 1, and you can add billions of those switches together to create computational power. But because they are always in a static state, there is a limit to the amount of computational power they can output and therefore a limit to the stuff that they can do, the data that they can crunch. Or whatever it might be. Whereas quantum computing deal with a thing called qubits. And qubits, Q-U-B-I-T-S, can be both a zero and a one at the same time. They exist in a quantum state, which effectively exponentially multiplies the amount of connections that can be made between these different bits. This has the potential to 100x to 1,000x the processing power of computers and quantum computing. My gosh, I followed quantum computers for 15 years and they've always been the technology that's just around the corner. And I wanted to bring this up today, A, because there's a story, but B, because we've spoken so much about AGI and large language models and machine learning and things like that. And that is a technology is broken through, has found its use case, and has achieved the kind of cost, uh, the unit economics for it to make sense in mass production and in mass uptake. AGI and quantum computing were kind of going along the same road. AGI's made it. Quantum computing at this very moment in time has not. And we'll go and talk about that in a second, but this is why I wanted to bring this story to the podcast. And the story is that Honeywell, which is a big industrial goods and machinery company, $130 billion market cap, is planning on IPOing its joint venture Quantinium or Quantum at a $10 billion valuation. This is a joint venture between Honeywell and Cambridge Quantum computers. And $10 billion is a lot of money for an IPO, for any IPO, especially an IPO with a technology that is still yet to find its quote unquote mass market adoption. So I think it's a really interesting, is this going to get away at a $10 billion valuation? Are the markets excited about quantum computing or have they had their fill of technology through the boom in AGI, or is this actually now the right time because quantum computing has made enough advances such that people can now see the use cases and they're like, look, well, look, $10 billion doesn't seem like a big valuation if this is going to be the future. And you see AGI working hand in hand with quantum computing and you see the next range of trillion-dollar companies coming from these types of technologies. So it's super interesting.

Yeah. I mean, I don't know enough about this space to follow the pulse of the quantum market in terms of market appetite for it. But yeah, it does seem very much in the shadow compared to everyone talking about it pre the AI boom, probably 2 years ago would've been much more of a talking piece. What could you do then strategically if you had this company and you wanted to buy your time to maximize the perception of value. I mean, how do you, how do you play that game of, okay, when is the perfect time? And if you wanted to delay, then how would you do that but satisfy external, internal stakeholders that that's the viable thing to do and the right thing to do?

Yeah, there's a, there's a, there's a traditional finance strategy, which is you IPO when the market's open. And we've spoken plenty of times that the IPO market is in the process of reopening, and there's been some very successful tech IPOs that have got off over the last 6 months. So the window is open to do something like this. And then when it comes to telling the story, that's where it gets a little bit more challenging. And I think that Quantum has always suffered from Technology is super exciting because of Moore's Law, which is you should become 10 times more powerful and half as expensive every 10 years or something like that. Right? I, the unit costs are going to go down so significantly that your gross margins and your operating profit margins are just going to go through the roof, even if they're not there yet. Quantum computing hasn't had its Moore's Law day. It's still so expensive to produce an additional unit. So I would be— the hype is going to start again when people can start seeing that cost of production going down and down and down with the output going up and up and up. If that happens, then we're going to have a field day. If it doesn't, then it's always going to be the technology that's just waiting on the side.

Well, if you have that quantum supply chain graphic, I know you've got tucked away on one of those bookshelves behind you, just let me know who I need to like drop some little investments in, just to lay the foundations for that future narrative you described.

Yeah, I haven't followed the industry enough to know whether we're near that inflection point. I think it's a really tough product to crack because not only does it cost a lot of money to build a supercomputer, but unlike a normal computer, which is static, it exists, you have zeros and you have ones, a quantum computer needs like constant looking after. In my mind, it's like a nursery school. You need to basically look after and keep these, keep these qubits in a certain state because otherwise they lose their quantum properties.

Oh, I've seen what happens when a child of that age loses their, loses their head.

Absolute meltdown. So yeah, it's a, it's a really interesting one. Definitely want to follow. And I'm not, I'm not saying it's going to be the next big thing, but interesting that this IPO is coming out and interesting that it's coming out at a $10 billion valuation, which is not insignificant.

Okay, so let's talk and finish with talking of Magic Circle law firms. And perhaps, you know, we deal with finance people, there's a little bit of career exploration that might lead people to look at law and finance and technology for these future roles. But I'm kind of conscious of probably not everyone's heard of the Magic Circle. So who are the Magic Circle first, and then why are we talking about them?

Yeah, absolutely. So the Magic Circle are the 5 biggest UK law firms, the most prestigious UK law firms. They are Allen Overy, Freshfields Brockhouse Deringer, Clifford Chance, Linklaters, and Slaughter and May. These are the top dogs. These are the JPMorgans, the Goldman Sachs of the legal world. And the headline goes, well, I made my own headline. Let's not feel sorry for the lawyers. Deal-making revival hands bumper profits to Magic Circle law firms. Yes. Now the way that law firms work is they are partnerships. They tend to be partnerships, unlike a bank, which is just a normal company, or a normal company that is limited by shares. A partnership, when you become an equity partner, you effectively own a slice of the company and the partners own the company. So decisions get made at a partner level, profits get distributed at a partner level, and The headline that we took a look at today was that the average equity partner in one of these magic circle law firms is taking home just over 2 million quid a year on average. Now this is, that's not bad, is it? This is part of the revival in dealmaking that we've seen. The knock-on effects of more M&A happening is that lawyers are a lot busier than they were and therefore getting paid a lot more for what they do. And some of the numbers are quite staggering. And from a career perspective, you're actually, if you're a corporate lawyer, you are actually working really, really closely with your equivalent in a bank. So if you look at an M&A transaction and you think, oh my gosh, the M&A team, the analysts and the associates are getting absolutely beasted. Well, they get beasted on an execution. They get beasted in the first stage when they're trying to figure out valuation parameters. They're trying to put together the confidential information memorandum, investment memorandum. They're kind of working all day and all night to get to the point that the lawyers effectively take over and then work all day and all night doing the legal execution. So the sale and purchase agreements, all of the legal documentation. So it's a relatively similar job profile. I would say the biggest difference is just from a career perspective, pro for banking and M&A is you get much closer to the transaction and you get much closer to the strategy. A pro for, and whereas lawyers tend to be a little bit more reactive and execution focused. Pro for lawyers is that when they're not booking deals and when they're not booking billable hours, they're not having to go out and do 100 pitch decks. And you know, the worst thing about M&A is you're working really hard whether you're on a deal or not. So there's a slight— if you average out the amount of hours that lawyers work relative to M&A bankers, M&A bankers will work more, because they're more consistent across the whole year. But it's definitely worth, yeah, it's worth knowing a little bit about the work that lawyers do in these transactions and the size of the industry and the power of the UK corporate legal industry and also the power of the US corporate legal industry as well.

Just given the cost consciousness of a publicly listed company like a bank, a big investment bank, why would they not build out their own corporate lawyer team given the frequency of the demand for that service?

Yeah, it's a good question. I think there's— it's, it's in part a function of, of expertise. And, and you do not get fired if you go to a Magic Circle law firm. You do not get fired if you go to a top 4 auditor. You do not get fired if you go to a top 5 bank, right? So you want to stick to your lanes and be the absolute best. I wonder whether there's also a degree of conflict of interest, or at least a little bit of double dipping. I mean, when I was at HSBC, we had lawyers in our team, but they were working on the bank side. They were working from a strategic perspective more than a, I'm an independent party and I'm just going to get the legals done. So it's an interesting challenge, but I don't think that, I don't think that this is going to change the way they're set up at the moment.

Okay, so look, any future or current lawyers that are listening, we'd love to hear from you. What do you think of Stephen's assessment? Is that, is that on the, on the money, or do you think slightly experienced something different? We'd love to know. So drop us a comment on the podcast on Spotify. I know you can, but if we share this anywhere like LinkedIn, put a comment. I'd be interested to know. But look, that wraps up the show for this week. So as ever, thanks for listening, and thank you, Stephen, for your insights.

Thank you, Ant.