September 1, 2021

Lawsuits Targeting SPACs as Unregistered Investment Companies

Within the last two weeks, a group of plaintiffs’ attorneys have filed derivative lawsuits in U.S. federal court in New York against three separate special purpose acquisition companies (“SPACs”) — Pershing Square Tontine Holdings (“PSTH”),[1] GO Acquisition Corp. (“GO”),[2] and E.Merge Technology Acquisition Corp. (“E.Merge”)[3] —and certain directors and sponsors affiliated with the SPACs, on behalf of serial plaintiff George Assad. Plaintiff’s counsel notably includes former SEC commissioner and current NYU law professor Robert Jackson as well as Yale University law professor John Morley. The lawsuits allege, among other things, that the SPACs are unregistered investment companies as defined in the Investment Company Act of 1940 (the “ICA”). While the size and prominence of PSTH, and the novel complexities of the now-abandoned business combination between PSTH and Universal Music Group B.V., made PSTH a tempting target for the plaintiffs’ bar, the similar lawsuits against GO and E.Merge suggest a broader challenge to certain structural components of SPACs.

The lawsuits allege that PSTH, GO and E.Merge (and by implication the other 400+ SPACs presently seeking a business combination as well as any other company that raises a significant amount of capital relative to its other assets) are investment companies under Section 3(a)(1)(A) of the ICA because, since their IPOs, “investing in securities is basically the only thing” that the companies have “ever done” with their assets.”[4] The PSTH and E.Merge complaints also allege that certain personnel of the SPAC sponsors are acting as unregistered investment advisers under the Investment Advisers Act of 1940 (the “IAA”) by advising on potential business combinations. The lawsuits challenge the structure of SPACs, including the arrangement by which SPAC sponsors generally obtain Class B shares equal to approximately 20% of a SPAC’s post-IPO outstanding equity, which convert into Class A shares upon completion of a business combination. The lawsuits contend that the Class B structure, which was disclosed in the charters and prospectuses for each of the SPACs, is unreasonable and less than transparent. On the basis of these allegations, the complaints seek a declaratory judgment that the SPACs are investment companies under the ICA, a declaratory judgment that the sponsor personnel are investment advisors in the case of PSTH and E.Merge, an order that certain elements of such sponsors and certain of their directors’ equity in the SPACs be rescinded as violations of the ICA, and disgorgement of allegedly excessive fees paid by the SPACs.

Although these lawsuits are receiving significant attention (aided by the prominence of Bill Ackman and PSTH and the fact that plaintiffs’ counsel includes a former SEC commissioner), they rest on a misguided premise: that conventional SPACs are investment companies under the ICA. To be deemed an investment company under Section 3(a)(1)(A) of the ICA, a company must do more than merely invest in securities — investing in securities must be the company’s primary business. The primary business of SPACs, however, is to identify and consummate a business combination with one or more operating companies within a specified period of time. This purpose is prominently disclosed on the cover page of every SPAC’s IPO prospectus. For example, GO’s prospectus states that it “is a blank check company newly incorporated for the purpose of effecting a merger, capital stock exchange, asset acquisition, stock purchase, reorganization or similar business combination with one or more businesses or entities.” GO further clarifies that it does not “plan to buy businesses or assets with a view to resale or profit from their resale” or “plan to buy unrelated businesses or assets or to be a passive investor.” Rather, its “business will be to identify and complete a business combination and thereafter to operate the post-transaction business or assets for the long term.”[5] Although SPACs “park” the proceeds from their IPOs into trust accounts to be invested in short-term treasuries and qualifying money market funds, each SPAC’s IPO prospectus states (i) that the trust account is intended as a holding place for the funds pending either the completion of an initial business combination or the failure to complete a business combination within a limited period of time (typically 18-24 months), (ii) that public investors may elect not to remain invested with the combined company and redeem their shares in exchange for the return of their initial $10.00 investment plus interest, and (iii) that the offering is not intended for investors seeking a return on investments in government securities or investment securities.

The premise of the lawsuits is also contrary to the SEC’s long-time interpretation of the ICA’s definition of investment company. Of the more than 1,000 SPAC IPOs that have been reviewed by the SEC over the past two decades, none has been deemed to be subject to the ICA. Although the SEC’s interpretations do not bind the courts, absent a dramatic break with this regulatory precedent, and a rejection of the plain reading of the ICA, it is unlikely that courts will find that a SPAC seeking to consummate a traditional business combination with an operating company will be subject to the ICA.

A number of leading law firms have also publicly announced their disagreement with the lawsuits targeting SPACs as unregistered investment companies. On August 30th, a group of over 55 law firms (including Goodwin) issued a joint statement in response to these lawsuits asserting that typical SPACs are not investment companies under the ICA.[6] While these lawsuits seek to challenge certain SPAC structural underpinnings, the joint statement highlights both the complaints’ flaws and the defenses that are likely available.

[1] Assad v. Pershing Square Tontine Holdings, Ltd. et. al, Docket No. 1:21-cv-06907 (S.D.N.Y. Aug 17, 2021). The PSTH Complaint is available here.
[2] Assad v. GO Acquisition Corp., et. al, Docket No. 1:21-cv-07076 (S.D.N.Y. Aug 20, 2021). The GO Complaint is available here.
[3] Assad v. E.Merge Tech. Acquisition Corp., et. al, Docket No. 1:21-cv-07072 (S.D.N.Y. Aug 20, 2021). The E.Merge Complaint is available here.
[4] GO Complaint 3, 70-75; see also E.Merge Complaint 9, 68-73; see also PSTH Complaint 3, 100-108.
[5] GO Acquisition Corp. Form S-1 (filed June 30, 2020) at 1 and 41.
[6] Over 55 of the Nation’s Leading Law Firms Respond to Investment Company Act Lawsuits Targeting the SPAC Industry (Aug 30, 2021), please see Goodwin's press release.