Litigation Trends Analysis
A special purpose acquisition company (SPAC) is a publicly traded company created to acquire or merge with an existing company. SPACs are essentially shell companies that raise money and identify business combination opportunities. While SPACs are not new, there has been an increased interest in them in recent years. SPACs have evolved in attractive ways, gaining the attention of private companies wanting to go public.
There is a new wave of litigation involving SPAC-related deals, which we have seen at least six different types of: (1) merger objection lawsuits involve allegations that a deal is unsatisfactory and should not proceed; (2) securities class actions involve allegations center around misstatements or omissions in the disclosure or public statements; (3) breach of fiduciary duty suits involve allegations that there is a conflict of interest between the sponsor, board, and investors; (4) shareholder derivative suits involve allegations of harm to the SPAC based on false statements made by directors and officers; (5) “Thou Art an Investment Company” suits involve allegations that SPACs are investment companies and should be registered under the Investment Company Act of 1940; and (6) shareholder voting suits involve allegations that the voting resulted in a violation of the Delaware General Corporation Law.
As it pertains to the fifth type of lawsuit, the U.S. Securities and Exchange Commission (SEC) has not declared SPACs to be investment companies under federal law. In August 2021, this issue of whether a SPAC is considered an investment company was addressed. A shareholder derivative lawsuit was filed against a SPAC arguing that it was an investment company because investing in securities was all it focused on. Asserting the contrary, the SPAC maintained that holding assets in government securities does not transform it into an investment company. This lawsuit—which is ongoing—has potential implications for the financial industry if a court determines that SPACs should be viewed as investment companies.
SPAC lawsuits are resulting in hefty settlements and regulatory fines. To combat this wave of lawsuits, companies should learn from the cases, course correct any improper deal behavior, and minimize risk. SPACs can avoid litigation in a few ways. First, the SPAC can be diligent in ensuring a complete proxy statement for the business combination. Second, the SPAC should thoughtfully approach its Directors & Officers insurance program to be sure the broker is familiar with the types of claims that can arise from SPAC transactions. And third, the SPAC should be mindful of its expiration timing and not conclude a business combination too close to when the SPAC is to expire. With more litigation and enforcement activity, SPACs should be aware of existing litigation and conscientiously proceed with transactions.
Honigman’s Securities and Corporate Governance Litigation team is equipped to handle a variety of issues, including the types of cases identified here. Please reach out to us if we can be of assistance.