Tag: Capital formation

Acting Director of SEC’s Corp Fin Issues Statement on Disclosure Risks Arising from De-SPAC Transactions

Posted by Adam Brenneman, Jared Gerber, and Rahul Mukhi, Cleary Gottlieb Steen & Hamilton LLP, on
Thursday, April 22, 2021
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Adam Brenneman, Jared Gerber, and Rahul Mukhi are partners at Cleary Gottlieb Steen & Hamilton LLP. This post is based on a Cleary Gottlieb memorandum by Mr. Brenneman, Mr. Gerber, Mr. Mukhi, Nicolas Grabar, Giovanni P. Prezioso, and Leslie N. Silverman.

Last week, John Coates, the Acting Director of the SEC’s Division of Corporation Finance (“Corp Fin”), released a statement discussing liability risks in de-SPAC transactions.

The statement focused in particular on the concern that companies may be providing overly optimistic projections in their de-SPAC disclosures, in part based on the assumption that such disclosures are protected by a statutory safe harbor for forward-looking statements (which is not available for traditional IPOs). Director Coates’s statement questions whether that assumption is correct, arguing that de-SPAC transactions may be considered IPOs for the purposes of the statute (and thus fall outside the protection offered by the statutory safe harbor). He therefore encourages SPACs to exercise caution in disclosing projections, including by not withholding unfavorable projections while disclosing more favorable projections.

The statement has received considerable media attention and is plainly part of a broader effort by the Commission staff to identify potential securities law and policy concerns with the growing SPAC market. In addition to statements by staff in the Division of Corporation Finance, the effort includes:

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Surge in SPACtivity Leads to Litigation and Regulatory Risks

Posted by Caitlyn Campbell, McDermott Will & Emery LLP, on
Monday, April 19, 2021
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Caitlyn Campbell is partner at McDermott Will & Emery LLP. This post is based on her McDermott Will & Emery memorandum.

Introduction

Not far behind the dramatic increase in the use of special purpose acquisition companies (SPACs) is a corresponding increase in the number of shareholder lawsuits and increased activity at the US Securities and Exchange Commission (SEC). In recent days, Reuters reported that the SEC opened an inquiry seeking information on how underwriters are managing the risks involved in SPACs, [1] and the SEC’s Division of Corporation Finance (Corp Fin) and acting chief accountant have issued two separate public statements on certain accounting, financial reporting and governance issues that should be considered in connection with SPAC-related mergers. [2] This increase in activity by SEC staff comes on the heels of nearly two dozen federal securities class action filings, several SEC investor alerts and earlier guidance from Corp Fin. [3] The surge in litigation and regulatory interest is likely to continue and expand throughout 2021 and beyond.

In Depth

A SPAC is a company with no operations that raises funds from public investors through an initial public offering (IPO). The proceeds from the IPO are placed in a trust or escrow account for future use in the acquisition of one or more companies. A SPAC will typically have a two-year period to identify and complete a business transaction. If the SPAC fails to do so during the specified period, then it must return the funds in the account to its public shareholders on a pro rata basis and then dissolve.

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Interest in SPACs is Booming…and So is the Risk of Litigation

Posted by Stephen Fraidin, Gregory P. Patti, Jr. and Jason Halper, Cadwalader, Wickersham & Taft LLP, on
Friday, April 16, 2021
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Stephen Fraidin, Gregory P. Patti, Jr. and Jason Halper are partners at Cadwalader, Wickersham & Taft LLP. This post is based on a Cadwalader memorandum by Mr. Fraidin, Mr. Patti, Mr. Halper, Jared Stanisci, Sara Bussiere and Victor Bieger.

Following these ten steps will prepare SPAC boards, sponsors, and advisors for the likely shareholder suits and potential regulatory investigations that are increasingly becoming part of the SPAC landscape.

If 2020 was the “year of the SPAC,” 2021 may be the year of SPAC litigation. SPACs—Special Purpose Acquisition Companies—are publicly traded companies launched as vehicles to raise capital to acquire a target company. Often called blank-check companies, SPACs are companies in which shareholders buy shares without knowing which company the SPAC will target and acquire. Investors place their faith in the sponsor: the entity or management team that forms the SPAC. The SPAC generally has around twenty-four months to seek out and acquire a target, or else must liquidate and return the capital.

Hundreds of new SPACs were launched in 2020 alone. Booming M&A or other transactional activity in any sector can invite litigation driven by plaintiffs’ attorneys, and SPACs are no exception. In just the first three months of 2021, more than 40 suits targeting SPACs have been filed. The nature of these claims evidence growing sophistication, as lawyers used to challenging traditional M&A transactions begin to tailor their claims to the unique characteristics of the SPAC lifecycle. And with SPACs going mainstream—and attracting attention from outside the usual financial circles—regulators are closely examining transaction disclosures and other aspects of SPAC deals. [1]

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Statement on Accounting and Reporting Considerations for Warrants Issued by SPACs

Posted by John Coates and Paul Munter, U.S. Securities and Exchange Commission, on
Thursday, April 15, 2021
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John Coates is Acting Director of the Division of Corporation Finance, and Paul Munter is Acting Chief Accountant, Office of the Chief Accountant, at the U.S. Securities and Exchange Commission. This post is based on their recent public statement. The views expressed in the post are those of Mr. Coates and Mr. Munter, and do not necessarily reflect those of the Securities and Exchange Commission or the Staff.

Introduction [1]

In a recent statement, Acting Chief Accountant Paul Munter highlighted a number of important financial reporting considerations for SPACs. [2] Among other things, that statement highlighted challenges associated with the accounting for complex financial instruments that may be common in SPACs. Additionally, CF staff also issued a recent statement [3] highlighting key filing considerations for SPACs.

We recently evaluated fact patterns relating to the accounting for warrants issued in connection with a SPAC’s formation and initial registered offering. While the specific terms of such warrants can vary, we understand that certain features of warrants issued in SPAC transactions may be common across many entities. We are issuing this statement to highlight the potential accounting implications of certain terms that may be common in warrants included in SPAC transactions and to discuss the financial reporting considerations that apply if a registrant and its auditors determine there is an error in any previously-filed financial statements.

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Will Loyalty Shares Do Much for Corporate Short-Termism?

Posted by Mark Roe (Harvard Law School) and Federico Cenzi Venezze (Cleary Gottlieb Steen & Hamilton LLP), on
Tuesday, April 13, 2021
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Mark J. Roe is David Berg Professor of Business Law at Harvard Law School, and Federico Cenzi Venezze is an associate at Cleary Gottlieb Steen & Hamilton LLP. This post is based on their recent paper. Related research from the Program on Corporate Governance includes The Myth that Insulating Boards Serves Long-Term Value by Lucian Bebchuk (discussed on the Forum here); Don’t Let the Short-Termism Bogeyman Scare You, by Lucian Bebchuk (discussed on the Forum here); Corporate Short-Termism—In the Boardroom and in the Courtroom by Mark Roe (discussed on the Forum here); and Stock Market Short-Termism’s Impact by Mark Roe, (discussed on the Forum here).

Stock-market short-termism—stemming from rapid trading and activists looking for quick cash—is, a widespread view has it, hurting the American economy. Because stock markets will not support corporate long-term planning, the thinking goes, companies fail to invest enough, do not do enough research and development, and buy back so much of their stock that their coffers are depleted of cash for their future.

This widespread view has induced proposals for remedy. One proposal is for corporate “loyalty shares,” whereby stockholders who own their stock for longer periods would get more voting power than those who trade their stock quickly. In the proponents’ vision, executives would appeal to loyal, longer-term, stockholders for votes against activists and traders and, by investing for the long run, would obtain the loyalty share votes. The longer-run stockholders, with extra votes, would elect like-minded boards and support longer-term corporate business policies. The affected companies would profit more and the American economy would prosper.

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Statement by Acting Director Coates on SPACs, IPOs and Liability Risk under the Securities Laws

Posted by John C. Coates, U.S. Securities & Exchange Commission, on
Friday, April 9, 2021
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John Coates is Acting Director of the Division of Corporation Finance at the U.S. Securities and Exchange Commission. This post is based on his recent public statement. The views expressed in the post are those of Mr. Coates, and do not necessarily reflect those of the Securities and Exchange Commission or the Staff.

Over the past six months, the U.S. securities markets have seen an unprecedented surge in the use and popularity of Special Purpose Acquisition Companies (or SPACs). [1] [2] Shareholder advocates—as well as business journalists and legal and banking practitioners, and even SPAC enthusiasts themselves [3]—are sounding alarms about the surge. Concerns include risks from fees, conflicts, and sponsor compensation, from celebrity sponsorship and the potential for retail participation drawn by baseless hype, and the sheer amount of capital pouring into the SPACs, each of which is designed to hunt for a private target to take public. [4] With the unprecedented surge has come unprecedented scrutiny, and new issues with both standard and innovative SPAC structures keep surfacing.

The staff at the Securities and Exchange Commission are continuing to look carefully at filings and disclosures by SPACs and their private targets. As customary, and in keeping with the Division of Corporation Finance’s ordinary practices, staff are reviewing these filings, seeking clearer disclosure, and providing guidance to registrants and the public. They will continue to be vigilant about SPAC and private target disclosure so that the public can make informed investment and voting decisions about these transactions.

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Greenshoe Options and Underwriter Principal Trading

Posted by Patrick Corrigan (Notre Dame University), on
Sunday, April 4, 2021
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Patrick M. Corrigan is Associate Professor of Law at Notre Dame Law School. This post is a reply to a recent response to his earlier post.

I am very grateful to Mr. Evans for his thoughtful reply to my prior post on the Forum. His reply raises important interpretive issues that I hope that the SEC and FINRA will directly address.

In connection with U.S. initial public offerings (IPOs), underwriters usually trade in the issuer’s stock for their own principal accounts, including by short selling the issuer’s stock and by exercising a green shoe option. I have argued that applicable U.S. law permits underwriters, subject to certain compliance measures, to monetize the value of their principal trading positions.

Mr. Evans’s reply post makes the empirical claim that underwriters do not use the green shoe option to profit from IPO stock pops. Mr. Evans asserts this empirical claim on the basis of deductive logic. According to Mr. Evans, Regulation M permits underwriters to pick one and only one of the following two activities: (1) making a market in an issuer’s stock as soon as exchange trading begins, and (2) profiting from IPO stock pops. Since we observe underwriters making markets once exchange trading begins, Mr. Evans concludes, underwriters do not use green shoe options to profit from IPO stock pops.

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A SPAC-tacular Distraction Compelling Opportunities in “Other” Event-Driven Investments

Posted by Doug Francis and Sam Klar, GMO LLC, on
Wednesday, March 24, 2021
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Doug Francis is Head of Event-Driven Strategies and Sam Klar is Portfolio Manager of Event-Driven Strategies at GMO LLC. This post is based on their GMO memorandum.

The combination of record-level SPAC issuance and a flood of non-SPAC M&A has created a supply-demand imbalance in the event-driven asset class. With SPACs garnering most of the limelight, we believe investors are missing an excellent opportunity to deploy capital into “other” event-driven investments, most prominently merger arbitrage.

A Wild Year

It’s certainly been an interesting 12 months in the event-driven asset class. From soft catalyst event situations upended by the onset of COVID in Q1 2020, to the March 2020 “Arbageddon” widening in merger arbitrage spreads, to countless instances of hedge fund repositioning causing atypical volatility in typically boring share class arbitrage. It’s been a truly wild ride.
The combination of Q1 2020 performance challenges for the asset class and slow-to-recover new merger volume last spring and summer led to the perception that there was “nothing to do” in event-driven. The record issuance of SPACs in 2020 and early 2021, accompanied by some high-profile bouts of outperformance in former SPACs like Nikola, amended that narrative slightly. Recent commentary has been willing to stipulate that there was nothing to do in event-driven, apart from SPACs.

The Current Opportunity

As experienced event-driven investors, we’ve often chafed at the notion that event-driven’s attractiveness waxes and wanes as much as commentators would suggest. Indeed, our team mantra is “there’s almost always something to do,” and our historical results have supported this claim’s veracity.

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Limiting SPAC-Related Litigation Risk: Disclosure and Process Considerations

Posted by Caroline Bullerjahn and Morgan Mordecai, Goodwin Procter LLP, on
Sunday, March 14, 2021
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Caroline Bullerjahn and Morgan Mordecai are partners at Goodwin Procter LLP. This post is based on their Goodwin memorandum.

Introduction

2020 marked an incredible surge in the prevalence of Special Purpose Acquisition Company (“SPAC”) initial public offerings and business combinations (“deSPAC transactions”). In 2020, there were 248 SPAC IPOs (raising total gross proceeds of over $83 billion) and 66 deSPAC transactions, as compared with 2019’s 59 SPAC IPOs (raising approximately $13.6 billion in gross proceeds) and 28 deSPAC transactions. [1] And the pace continues to skyrocket in 2021 with 160 SPAC IPOs in the first two months of the year and 13 completed deSPAC transactions. [2] This spectacular rise, and the related profits, has unsurprisingly garnered attention from both the United States Securities and Exchange Commission (“SEC”) and plaintiffs’ law firms. Most recently, the SEC’s Division of Corporation Finance released guidance [3] (the “SEC’s SPAC Guidance”) concerning disclosure obligations for SPAC IPOs and deSPAC transactions, highlighting many process and disclosure-related issues that plaintiffs’ lawyers typically raise and have focused on in recent SPAC lawsuits. As we anticipate that plaintiffs’ firms will continue to hone in on SPAC-related litigation in 2021 (likely using the SEC’s SPAC Guidance as its new and more tailored playbook), SPAC sponsors, their boards of directors, and the directors and officers of acquisition targets should all be focused on key steps to limit litigation risks and minimize costs associated with these risks.

Disclosure-Based Claims and the SEC’s SPAC Guidance

Given that SPAC transactions have not historically been the subject of significant litigation, particularly as compared to traditional IPOs and public-to-public M&A transactions, plaintiffs’ firms played catch-up in this area during 2020, largely recycling their traditional M&A playbook. Accordingly, following the filing of the initial Form S-4 in connection with the deSPAC transaction, plaintiffs’ firms have alleged disclosure-based claims under Section 14(a) of the Exchange Act, claiming that the proxy statements issued are deficient due to the failure to disclose financial projections for the SPAC entity, immaterial details relating to negotiations or pursuit of other potential acquisition targets, reasoning for not hiring a financial advisor, or financial analyses that the SPAC board considered. See Wheby v. Greenland Acquisition Corp., C.A. No. 1:19-cv-01758 (D. Del. Sept. 19, 2019) (basing Section 14(a) action on alleged failure to make disclosures related to line items and reconciliations underlying financial statements, the target’s financial projections, terms of a non-disclosure agreements and letters of intent with potential targets, the basis for not hiring a financial advisor, and communications regarding future employment of the SPAC sponsors). More recently, however, plaintiffs’ firms are couching such pre-closing disclosure-based claims as breach of fiduciary duty claims, often filing in New York state courts, and are honing in on the unique aspects of SPACs and deSPAC transactions.

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Underwriters Do Not Use Green Shoe Options to Profit from IPO Stock Pops

Posted by Robert Evans, Locke Lord LLP, on
Friday, February 26, 2021
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Robert Evans is a partner at Locke Lord LLP. This post is in response to a post on the Forum by Professor Patrick M. Corrigan of Notre Dame Law School.

Professor Corrigan offers a new theory about why some IPO stocks pop and others suffer steep drops—underwriters are to blame. His “principal trading theory” maintains that, contrary to accepted wisdom, overallotments and green shoe options in IPOs are used to maximize trading payoffs for underwriters. His theory is wrong. Matt Levine, in his Bloomberg column, Money Stuff, agrees.

As a matter of market practices and because of the SEC’s Regulation M, underwriters must complete their sales, including overallotments, before the IPO stock starts trading in the market. They cannot, for these reasons, hold back and sell more shares at higher prices in the aftermarket.

Establishing a new and vibrant trading market where one never existed is a challenging task. The investors that a company doing an IPO and its underwriters seek as shareholders have lots of competing ways to invest their money. Even in the same industry as the IPO company, there are competitors with established trading markets a track record of being a public reporting company.

Transforming a privately-held venture into a NYSE- or Nasdaq-traded company involves considerable art as well as science. Underwriters are asking the investors to take on some of the risk of that launch into the unknown of public trading. The dynamics of supply and demand for the shares can influence the success or failure of the company’s entering into the public markets.

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