- Special purpose acquisition companies (SPACs) face a rising number of lawsuits, with many plaintiffs alleging SPAC directors have disregarded Securities and Exchange Commission (SEC) guidance by failing to provide adequate disclosure, according to attorneys at Mintz, Levin, Cohn, Ferris, Glovsky and Popeo.
From September 2020 until April 2021, plaintiffs filed at least 38 lawsuits in New York State court, with many asserting that SPACs breached their fiduciary duty to shareholders by failing to provide sufficient disclosures about a de-SPAC transaction, Kristen White, a Mintz attorney, said during a June 3 webcast. A SPAC reaches the de-SPAC stage after the target company has been identified and the merger deal negotiated.
“We are seeing those types of suits occur in almost every de-SPAC transaction, certainly this year,” according to John Sylvia, co-chair of the securities litigation practice at Mintz.
SEC chair Gary Gensler last month warned of potential fraud and pledged tough scrutiny of how SPACs raise cash from the public and merge with target companies.
The SEC’s corporate finance, examinations and enforcement divisions will “be closely looking at each stage to ensure that investors are being protected,” Gensler said in testimony to a House subcommittee, adding “each new issuer that enters the public markets presents a potential risk for fraud or other violations.”
Many lawsuits filed in New York followed the release of guidance on SPACs and the de-SPAC process by the SEC’s corporate finance division in December, White said.
“The New York lawsuits appear to be using the SEC’s disclosure guidance as a roadmap for their complaints,” White said.
For example, plaintiffs often allege the SPACs failed to adequately describe the involvement of SPAC directors with the target company after the closing of the transaction, she said.
Many lawsuits do not move beyond the initial claim, White said. The SPACs have likely paid plaintiff attorneys a fee in exchange for the voluntary withdraw of the lawsuits, following a pattern similar to the “deal-tax litigation” that may accompany mergers and acquisitions.
The high rate of litigation tracks an increase in the number and volume of SPACs. SPAC IPOs have surged from just 13 valued at $3.5 billion in 2016 to 330 valued at $104 billion so far in 2020, according to Mintz. From 2019 to 2020, 17% of SPAC deals faced litigation.
Increased litigation has pushed up the cost of directors and officers liability insurance for SPACs, according to Nancy Adams, co-chair of the Mintz insurance practice.
“We’re seeing so much litigation, insurers are very cautious, rightfully so,” Adams said. “You’ve got all these SPACs looking for targets and everybody needs insurance and so what you really have is market saturation at this point.”
SPACs need to be well prepared for tough scrutiny from underwriters, Adams said.
“You’re going to be asked a lot of questions,’” she said. “‘What’s your corporate governance look like? Do you have a management team? What is the board going to look like? What’s the executive comp going to look like? What’s the company about? What are the operations?””
SPACs should also expect to be under the SEC’s magnifying glass for some time, Sylvia said.
Gensler reiterated in an interview yesterday that he has asked SEC staff to recommend additional protections for investors in SPACs, or what he calls “blank-check IPOs.”
“The SEC is not done with this,” Sylvia said. “I mean anything from investigations, to other guidance, to perhaps actually rethinking what the SPAC model should be and how it works.”