On January 24, 2024, the U.S. Securities and Exchange Commission (“SEC”) approved final rules relating to special purpose acquisition companies (“SPACs”). The final rules follow the SEC’s issuance of proposed rules on March 30, 2022, and the receipt of 115 comments on such proposed rules. The SEC release adopting the final rules (the “Final Release”) is available here.
Statements were released by SEC Chair Gensler, and Commissioners Peirce, Crenshaw, Uyeda and Lizárraga. Similar to many recent SEC rule making votes, the SEC approved the final rules by a 3:2 vote on party lines. The only things the Commissioners all agreed on were thanking the SEC staff for their work on the rules and congratulating Craig Olinger on his retirement after 38 years as an accountant in the Division of Corporation Finance. Before we move on, we’d like to congratulate Craig on his retirement, and thank him for his service (sincerely, Craig has been great to work with).
This client alert provides a brief summary of certain key aspects of the final rules, which have been highly anticipated, and highlights certain significant differences from the proposed rules in 2022. The final rules are expansive and include many rules we would describe as technical and conforming, and a comprehensive discussion will follow.
Underwriter Status and Liability in De-SPAC Transactions
In the proposed rules, the SEC proposed the adoption of a new rule (“Proposed Rule 140a” and the proposing release for the proposed rules, the “Proposing Release”) that was designed to “clarify” that underwriters of a SPAC’s initial public offering (“IPO”) who take steps to facilitate the subsequent de-SPAC transaction or any related financing transaction, or otherwise participate (directly or indirectly) in the de-SPAC transaction, would be deemed to be engaged in the distribution of the securities of the combined company resulting from the de-SPAC transaction.1 Such a rule would have significantly expanded the concept of an “underwriter” under the Securities Act of 1933 (the “Securities Act”) and subjected the investment banks participating in the SPAC’s IPO to liability for material misstatements and omissions in de-SPAC registration statements2 subject, in certain instances, to a due diligence defense.3
The SEC received a number of comments on Proposed Rule 140a expressing concerns about the potential impact that adoption of Proposed Rule 140a would have had on transaction participants and the overall market, including with respect to increased liability and/or litigation risk for participants in de-SPAC transactions.4
In the Final Release, the SEC reversed course and determined not to adopt Proposed Rule 140a, instead providing guidance to assist parties in applying the statutory definition of “underwriter” to de-SPAC transactions. However, this was not because the SEC was swayed in any way by concerns raised in public comments on the proposed rules. Rather, the SEC explained in the Final Release that it believes “the statutory definition of underwriter, itself, encompasses any person who sells for the issuer or participates in a distribution associated with a de-SPAC transaction,”5 and seems to have summarily rejected any argument that a de-SPAC transaction might not involve a “distribution” within the meaning of Section 2(a)(11) of the Securities Act.6
In the Final Release, the SEC acknowledged that, in a de-SPAC transaction, there is generally no single party accepting securities from an issuer with a view to reselling those securities to the public in the same manner as a traditional underwriter in a firm commitment IPO. However, the Final Release states that an entity that is selling for the issuer or participating in the distribution of securities in the combined company to the SPAC’s investors and the broader public in a de-SPAC transaction could be deemed to be a “statutory underwriter,” depending on the facts and circumstances. This could be true even if the entity is not named as an underwriter “in any given offering” or if the entity is not engaged in activities typical of a named underwriter in traditional capital raising. Accordingly, anyone acting as an underwriter with respect to a registered de-SPAC transaction would have liability for any material misstatement or omission in the registration statement.7
Unfortunately, the Final Release offers no meaningful guidance on what it means to “participate” in the distribution of securities in the combined company, but at the same time threatens institutions that engage in such “participation” by instructing them “to perform the necessary due diligence of the disclosures made in connection with the registered offering of securities or face full exposure to liability without the benefit of the due diligence defense under the Securities Act.”8
Many institutions involved in SPAC IPOs and de-SPAC transactions have already taken steps to establish due diligence defenses against potential liability in connection with de-SPAC transactions. However, we believe that the SEC missed an opportunity to provide meaningful guidance on what it means for these institutions to “participate” in de-SPAC transactions. Accordingly, the final rules may have a chilling effect on de-SPAC transactions and cause (or continue to cause) some institutions to refrain from involvement with de-SPAC transactions altogether.
Elimination of PSLRA Safe Harbor
With respect to the safe harbor in the Private Securities Litigation Reform Act of 1995 (“PSLRA”), which provides a safe harbor from liability for forward-looking statements, the final rules have the same effect as the proposed rules: the safe harbor in the PSLRA will be unavailable in filings by SPACs.
Under the PSLRA, the safe harbor does not apply to statements made in IPOs, to statements made by certain types of registrants, such as limited partnerships, penny-stock issuers and blank check companies, and to statements made in connection with certain types of transactions, such as tender offers. The final rules amend the definition of “blank check company” for purposes of the PSLRA to exclude SPACs.
We view this change as unlikely alone to impact the decision of whether or not to disclose projections and make other forward-looking statements in connection with de-SPAC transactions. Other safe harbors, including in particular the “bespeaks caution” doctrine — a well-established, judicially created doctrine — may be available for forward-looking statements in the absence of the PSLRA safe harbor. However, when combined with the possibility of underwriter liability under the SEC’s vague guidance (but not rule) discussed above, this will likely have a chilling effect on the use of projections in connection with de-SPAC transactions.
Enhanced Projections Disclosure
The final rules do not materially change the proposed rules aimed at enhanced projections disclosure. The final rules largely require additional disclosures about whether or not projections were based on historical financial results or operational history, presentation of historical results or operational history with greater prominence, and defining and explaining non-GAAP financial measures in projections (but with no requirement for reconciliation, subject to any separate requirement under Regulation G). The changes described above would apply to projections generally, not just projections in connection with de-SPAC transactions.
With respect to de-SPAC transactions specifically, the final rules additionally require, among other things, disclosure of the purpose for which the projections were prepared and the party that prepared the projections, the material bases of and assumptions underlying the projections, and factors that may impact such assumptions, as well as a statement of whether or not the projections reflect the view of the board or management as of the most recent practicable date prior to the date of the disclosure document that includes the projections is required to be disseminated to the security holders.
Much of the required disclosure is already made based on industry practice or in response to SEC comments, such that the final rules should not substantively change the way SPACs use or disclose projections.
Fairness Disclosure
Under the final rules, if the law of the jurisdiction of the SPAC’s organization requires the SPAC’s governing body to determine whether the de-SPAC transaction is advisable and in the best interests of the SPAC and its shareholders, or otherwise make any comparable determination,9 the SPAC will be required to disclose that determination. The changes from the proposed rules, which would have required disclosure as to whether the SPAC reasonably believes that the de-SPAC transaction and any related financing transaction are fair or unfair to unaffiliated security holders of the SPAC, clarify that the de-SPAC transaction is not required to be substantively fair and that the SPAC board is not required to make a fairness determination when it is not otherwise required to do so under applicable law. The SEC also states that the final rules should avoid any misimpression that final Item 1606(a) creates a requirement or expectation that the SPAC obtain a fairness opinion in order to comply with its requirements.
The final rules also require disclosure of the factors considered by the SPAC’s board in making this determination, as well as certain other additional information about the approvals obtained with respect to the de-SPAC transaction and any related financing transaction.
Since many SPACs already provide disclosure in their proxy statements and registration statements regarding the board’s approvals and determinations with respect to the de-SPAC transaction and the reasons for such approvals, the required disclosures in the final rules will be redundant with the standard disclosure of the SPAC board’s approvals of the de-SPAC transaction and reasons for such approvals.
Investment Company Act Status of SPACs
The proposed rules would have added a safe harbor for SPACs, allowing them to be deemed to not be “investment companies” under the Investment Company Act of 1940 (the “ICA”) so long as certain conditions were met. These conditions would have included limited time to sign a business combination agreement and to close a business combination. In an about face, and similar to what the SEC did with respect to underwriter liability, the SEC determined not to adopt a safe harbor, but to provide guidance as to their views on the facts and circumstances relevant to whether a SPAC is an investment company.
The SEC noted that that SPACs “may meet the definition of ‘investment company’” at any time, depending on the facts and circumstances.10 The SEC stated that the activities of a SPAC that would raise concerns about investment company status would include the following SPAC activities (in addition to “Holding Out” and “Merging with an Investment Company,” which we do not address herein):
The Nature of SPAC Assets and Income
The SEC stated that investments in “corporate bonds” or “not engag[ing] in a de-SPAC transaction [by] instead acquir[ing] a minority interest in a company with the intention of being a passive investor”11 would weigh in favor of a SPAC being considered an investment company. However, the SEC stated that a “SPAC that holds only the sort of securities typically held by SPACs today, such as U.S. Government securities, money market funds and cash items prior to the completion of the de-SPAC transaction, and that does not propose to acquire investment securities, would be more likely not to be considered an investment company under Section 3(a)(1)(C).”12 While this did not foreclose the question of whether investing in such securities might raise issues as to whether the SPAC is primarily engaged in the business of investment in securities (which is covered by Section 3(a)(1)(A)), the SEC did note that “asset composition is only one of the factors that should be considered,”13 suggesting that holding such assets is not dispositive provided the other factors do not lean in favor of investment company status.
Management Activities
The SEC stated they would “have serious concerns if a SPAC held its investors’ money in securities, but the SPAC’s officers, directors, and employees did not actively seek a de-SPAC transaction or spent a considerable amount of their time actively managing the SPAC’s portfolio . . . .”14 However, where management is focused on identifying a business combination target and consummating a business combination, this factor would seem to weigh against a SPAC being an investment company.
Duration
The SEC suggested that “a SPAC’s activities may become more difficult to distinguish from those of an investment company the longer the SPAC takes to achieve its stated business purpose,”15 and drew analogies to Rule 419 under the Securities Act (which provides an 18-month period for blank check companies, which SPACs are not (other than with respect to the PSLRA safe harbor), to consummate a business combination) and Rule 3a-2 under the ICA (which provides a 12-month safe harbor for certain “transitory” investment companies). While the SEC seems to suggest that investments in securities beyond such 12- or 18-month period would raise “questions . . . as to whether its officers, directors, and employees are more engaged in achieving investment returns from the securities the SPAC holds,”16 we believe that the fact that the officers, directors and employees have no interest in the investment returns of the SPAC and have strong incentives to complete a business combination suggest that duration should not be a primary consideration. However, as a conservative approach, a SPAC may be well-advised to convert its securities to cash following 12- or 18 months.
Absence of Other Rule Changes
Despite encouraging suggestions for additional changes to the proposed rules, the SEC has refused to pay more than lip service to “treating like things alike.” The final rules do not address longstanding discrepancies in the treatment of companies that go public via de-SPAC transaction and those that go public through the traditional IPO process.
In particular, Rule 144 is not available for the resale of securities of former shell companies to the same extent as securities issued by companies that go public via traditional IPO.17 Rule 144 is not available to former SPACs for a year after the de-SPAC transaction, and certain of the requirements of Rule 144 apply to former SPACs indefinitely, unlike most other companies. These arbitrary restrictions on former SPACs have materially impacted many investors’ ability to sell their securities.
Additionally, there are certain other definitions or statuses — “foreign private issuer” and “emerging growth company” — that do not apply to former SPACs in the same manner as they do to traditional IPO’d companies, rendering such statuses unavailable or forcing SPACs and targets to intentionally structure to achieve such status, sometimes at the cost of other benefits.
Effective Date
The new rules described herein will become effective on the date 125 days from the date the final rules are published in the Federal Register, which should occur promptly.
1 Proposing Release, p. 96.
2 Section 11(a)(5) of the Securities Act.
3 Id.
4 V&E’s Comment Letter on the Proposed Rules, pp. 16–19.
5 Final Release, p. 283.
6 Indeed, on page 284 of the Final Release, the SEC notes in a heading “A De-SPAC Transaction is a Distribution of Securities.” Ironically, this heading comes immediately after a sentence in which the SEC states its intention to follow the SEC’s “longstanding practice of applying the statutory term[] ‘distribution’ . . . broadly and flexibly, as the facts and circumstances of any transaction may warrant.”
7 Id., pp. 287–288.
8 Id., p. 288.
9 For example, under Delaware General Corporations Law § 251(b), the board of directors of a Delaware corporation which desires to merge or consolidate shall adopt a resolution approving the transaction agreement and declaring its advisability.
10 Final Release, p. 364.
11 Id., p. 365.
12 Id., p. 366.
13 Id.
14 Id., p. 367.
15 Id., p. 368.
16 Id.
17 Rule 144 provides a safe harbor from the registration requirements of the Securities Act for the resale of certain securities.
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