A shell of a time

There is a universal tried and tested way to make money from setting up a company. Build it up, make revenues and profits, and then possibly sell it, or part of it, to other investors. It might take a while to get going, but it works. Just ask the thousands of family businesses that FO’s sister publication Campden FB writes about every year.

But for those looking for a faster, finance-fuelled, way to make money there are shell companies. Sounding like something that would have raised an eye or two from the public and regulators at the height of the financial crisis two years ago, shell companies are back in fashion and they are making some investors a lot of money.

Not only that, they are attracting a host of investors often linked to famous family business dynasties. Indeed, they may be even creating a new breed of corporate raiders willing to take big risks on acquisitions and listings.

Take for example Vallar – a shell company set up by Nathaniel Rothschild – that listed on the London Stock Exchange last July and raised more than £700 million ($1.13 billion) in the process. That’s more than a useful amount of money to realise Rothschild’s and fellow founder James Campbell’s ambitions to turn Vallar into a mid-sized mining firm.

Rothschild said at the time: “These challenged markets present us with attractive acquisition opportunities and we are confident that we can acquire a major mining business at a valuation that will generate significant shareholder value and provide a platform for the future growth of Vallar.”

The 39 year-old member of the famous banking family and in line to be the fifth Baron Rothschild’s confidence didn’t prove unfounded. Four months after the listing of the shell company, Vallar made two acquisitions of Indonesian coal companies and shares in the new company zoomed up more than 25% in little over a month.

Before Vallar listed, Hugh Osmond, a high profile investor who founded Punch Taverns, one of the UK’s biggest public house groups, set up Horizon Acquisition and listed back in early 2010, raking in more than £400 million to make acquisitions.

Other big name investors were also getting into the act. Nicolas Berggruen, the German-American serial investor, nicknamed the homeless billionaire because he sold all his homes and lives in hotels, set up a cash shell Justice late last year. Berggruen hopes to list on the London Stock Exchange and is seeking an acquisition worth between £1 billion to £5 billion.

Facundo Bacardi, the great-great grandson of the founder of the eponymous drinks company, along with other investors, set up shell company Cazador Acquisition Company last year and listed on the NASDAQ Stock Exchange last October. It plans to use its $40 million listing windfall to make acquisitions.

And on the Continent, prominent Italian investment specialist Vito Gamberale and German entrepreneur Roland Berger launched Italy 1 Investment and listed on the Milan Stock Exchange earlier this year. It’s targeting businesses valued at between
€300 million and €1 billion.

Indeed, shell companies – or as they are sometimes called special purpose acquisition companies (SPACs) and also “black cheque” companies, because they don’t disclose targets – are making a big comeback.

Last year, shell companies raised a total of $1.2 billion globally, a massive rise on the 2009 total of just $196 million, according to a group that monitors them called SPAC Analytics. Already this year there are at least another seven shell company listings planned, hoping to raise a combined $532 million, according to Corporate Financing Analysis.

“The return of deal-making, mergers and acquisitions and the pent up demand for private companies looking to access public markets is fuelling demand for such structures,” says Scott Beattie, a partner at the London investment bank City Capital. Beattie adds that strong demand for such structures in the US last year is now coming over to Europe.

“Shell companies see opportunities to buy potentially undervalued companies in the aftermath of the financial crisis,” he says. A case in point is Osmond’s Horizon, which is targeting companies linked to private-equity-backed deals that have turned sour.

The advantages of shell companies are that they can do deals quickly and without shareholder approval. This in turn makes them popular with companies looking for a quick and potentially cheaper way to list. As in the case of the two Indonesian companies bought by Vallar they can also access international capital markets rapidly and with minimal regulatory difficulties. And they can also raise capital at a time when bank funds are scarce.

For investors the appeal of shell companies is potentially spectacular returns like Vallar. Typically, investors are buying into dealmakers with a track record, like Berggruen, Osmond and Rothschild.

Berggruen has already made some investors very rich with other shell structures, including Freedom Acquisitions, which invested $1 billion in hedge fund GLG Partners, and through Liberty Acquisitions purchase of a half billion sterling stake in Pearl Insurance in 2009.

Investors are charged a fee – most take at least an annual management fee of 0.5% and typically levy an additional 15% share in any upside once investors have seen a return of 25% over four years. Still, fee are much cheaper than those traditionally charged by private equity groups that normally take a fee of around 2% and an additional 20% (“carried interest”) on profits made on the fund. And some shell companies like Justice are apparently dropping the management fee to attract investors.

Shell companies typically appoint a management team and a board of directors with business pedigree – experts in aspects of corporate finance like reverse takeovers, and/or strong fund management experience. According to reports, fund manager and ex-City minister Lord Myners has been approached to chair Justice. Mike Fairey, the former deputy chief executive of Lloyds TSB, has been hired to chair Horizon. And Vallar’s chairman is Indra Bakrie, a member of one of Indonesia’s most powerful business dynasties.

“Investors are buying into the investment and business pedigree of those launching and managing the shell companies,” says Ben Simpson, a partner in the corporate department of lawyers Withers. “It’s like betting on a top jockey.”

But just as top jockeys can often finish out of the top three, come last or even fall from their mount, shell companies don’t come without their risks. One such spectacular fall was White Nile, a shell company set up by the former English cricket player Phil Edmonds to invest in oil companies in southern Sudan. Shortly after its listing on the Alternative Investment Market in London, White Nile had a market capitalisation of more than a half of billion dollars, but it suffered a massive blow when the Sudanese government kicked the company out of the country.

Consequently, White Nile’s capitalisation plummeted to just $15 million and the company changed its business model completely as well as its name. White Nile’s difficulties aren’t the only ones in the sector. Indeed, according to SPAC Analytics, out of the 169 SPAC formed globally since the start of 2003, as many as 65 have liquidated without completing an acquisition.

Of the $22.46 billion raised for such ventures, as much as $9.22 billion went unspent. Some corporate financiers are also sceptical of the usefulness of shell companies. Russell Cook, director of corporate finance at Charles Stanley Securities, says companies looking at listings through shell companies should be wary.

“Although we have acted for a few shells in the past I would say that, as a rule, I am not generally in favour of bringing a company to market through the shell route,” he says. “In my opinion the costs usually outweigh the benefits.”