A Dynamic Delegated Investment Model of SPACs

44 Pages Posted: 28 Sep 2021

See all articles by Dan Luo

Dan Luo

University of Chicago - Booth School of Business

Jian Sun

Massachusetts Institute of Technology (MIT) - Sloan School of Management

Date Written: September 23, 2021

Abstract

We study SPACs in a continuous-time delegated investment model. Our model is built upon three unique features of SPACs: the sponsor and the investor are only partially aligned, a SPAC has a short time horizon, and the investor has the final control over investment approval. Due to the misalignment in incentives, the sponsor has an increasing incentive to propose unprofitable projects to the investor; in response, the investor exerts more stringent screening based on her information. Although the screening helps curb the sponsor’s moral hazard, it also dampens the disciplining effect of partial alignment in incentives. When the investor’s information is sufficiently noisy, the second effect dominates, so giving the investor the control over investment approval reduces everyone’s welfare. This adverse effect is more pronounced if entrepreneurs’ strategic choices of SPAC or the sponsor’s strategic choice of effort are considered. We find that introducing public assessment and making the investor’s control right contingent on it may benefit both parties. We also explore whether a SPAC should be allowed to continue after the current project is disapproved by the investor.

Keywords: SPAC, delegated investment, dynamic delegation, moral hazard

JEL Classification: D82, D86, G23

Suggested Citation

Luo, Dan and Sun, Jian, A Dynamic Delegated Investment Model of SPACs (September 23, 2021). Available at SSRN: https://ssrn.com/abstract=3929762 or http://dx.doi.org/10.2139/ssrn.3929762

Dan Luo

University of Chicago - Booth School of Business ( email )

5807 S Woodlawn Ave
Chicago, IL 60637
United States

Jian Sun (Contact Author)

Massachusetts Institute of Technology (MIT) - Sloan School of Management ( email )

100 Main Street
Cambridge, MA 02142
United States

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