On March 30, 2022, the U.S. Securities and Exchange Commission (SEC or Commission) held an open meeting to consider proposed rules and amendments regarding special purpose acquisition companies (SPACs), shell companies, and projections disclosure. The proposed new rules and amendments would, among other things:
- Require additional disclosures and provide additional investor protections in SPAC initial public offerings and in business combination transactions between SPACs and private operating companies (deSPAC transactions);
- Address the treatment under the Securities Act of 1933 of business combination transactions involving a reporting shell company and amend the financial statement requirements applicable to transactions involving shell companies;
- Provide additional guidance on the use of projections in SEC filings; and
- Provide a safe harbor from the definition of investment company under the Investment Company Act of 1940 for SPACs satisfying certain conditions, including deadlines for entering into an agreement for, and completing, a deSPAC transaction.
A SPAC is a “blank check” company formed for the purpose of engaging in a merger or other business combination with one or more operating businesses. SPAC sponsors typically have significant investing, financial and/or operating experience, often with deep knowledge and contacts in a target industry. SPACs raise capital in an initial public offering (IPO), typically by selling units composed of shares and warrants. The proceeds raised in the IPO are held in trust for the benefit of the IPO investors and are released to the combined company upon the consummation of a business combination or to the IPO investors in the event the SPAC is liquidated without consummating a business combination. SPACs typically have 24 months to complete their initial business combination.
From the perspective of a private company, a SPAC business combination represents an alternative way to go public. By engaging in a business combination with a SPAC, many private companies have been able to raise substantial amounts of capital beyond what could be raised in a traditional IPO and become public companies on their own schedule. From a transaction execution standpoint, a SPAC business combination combines elements of a public company M&A transaction and a traditional IPO. A private company combines with the SPAC in a merger or other business combination transaction. In most cases, the former private company stockholders own a majority of the combined company’s shares following completion of the business combination.
Over the past two years, the U.S. public securities markets have experienced an unprecedented surge in the number of IPOs by SPACs. This rapid increase has raised investor protection concerns with regard to various aspects of the SPAC structure and the increasing use of shell companies as mechanisms for private operating companies to become public companies more generally. The surge in deSPAC transaction also has raised concerns about the use of projections, particularly with respect to pre-revenue private operating companies. As the SPAC market has grown, some commentators have also questioned whether some SPACs may be investment companies and therefore should be subject to the requirements of the Investment Company Act.
Proposed SEC Rules
Following the open meeting, in a 3-1 vote, the Commission proposed a number of rule amendments related to SPACs, which are summarized in the SEC Fact Sheet and discussed below.
A. Enhancing Disclosure and Investor Protection
The proposed rules would require enhanced disclosure in initial IPOs by SPACs and in deSPAC transactions, including:
- Enhanced disclosures regarding SPAC sponsors, conflicts of interest, and dilution;
- Additional disclosures in deSPAC transactions, including (1) whether it reasonably believes that the deSPAC transaction and any related financing transaction are fair or unfair to investors, and (2) whether it has received any outside report, opinion, or appraisal relating to the fairness of the transaction;
- A requirement that disclosure documents in deSPAC transactions be disseminated to investors at least 20 calendar days in advance of a shareholder meeting or the earliest date of action by consent, or the maximum period for disseminating such disclosure documents permitted under the laws of the jurisdiction of incorporation or organization if such period is less than 20 calendar days;
- A requirement for the private operating company in a deSPAC to be a co-registrant when a SPAC files a registration statement on Form S-4 or Form F-4;
- A re-determination of smaller reporting company status within four days following the consummation of a deSPAC transaction;
- An amended definition of “blank check company” to make the liability safe harbor in the Private Securities Litigation Reform Act of 1995 for forward-looking statements, such as projections, unavailable in filings by SPACs and certain other blank check companies; and
- A rule that deems underwriters in a SPAC IPO to be underwriters in a subsequent deSPAC transaction when certain conditions are met.
B. Projections Disclosure
C. Business Combinations Involving Shell Companies
- Deem by rule that a business combination transaction involving a reporting shell company and another entity that is not a shell company constitutes a sale of securities to the reporting shell company’s shareholders for purposes of the Securities Act; and
- Further align the required financial statements of private operating companies in transactions involving shell companies with those required in registration statements for IPO.
D. Status of SPACs under the Investment Company Act of 1940
The proposed rule would create a safe harbor for SPACs from the definition of “investment company” under the Investment Company Act. If the proposal is adopted, a SPAC that fully complies with the safe harbor’s conditions would not need to register as an investment company under the Investment Company Act.
The proposed conditions include, among other things, that a SPAC must:
- Maintain assets comprised only of cash items, government securities, and money market funds that invest in U.S. government securities;
- Seek to complete a deSPAC transaction after which the surviving entity will (i) be, either directly or through a primarily controlled company, primarily engaged in the business of the target company or companies (which is not the business of an investment company) and (ii) have at least one class of securities listed for trading on a national securities exchange;
- Enter into an agreement with at least one target company to engage in a deSPAC transaction (and file a Form 8-K disclosing such agreement) within 18 months after its initial public offering and complete its deSPAC transaction within 24 months of such offering; and
- Distribute in cash to investors as soon as reasonably practicable any assets of the SPAC (i) that are not used in connection with the deSPAC transaction or (ii) in the event of a failure of the SPAC to satisfy either the 18 month Form 8-K filing deadline or the 24 month deSPAC deadline discussed above.
A SPAC that does not satisfy the proposed conditions in the safe harbor would not necessarily fall within the definition of “investment company” under the Investment Company Act. However, SPACs that do fit within the proposed safe harbor would have greater certainty as to their status under the Investment Company Act.
The public comment period will remain open for 60 days following publication of the proposing release on the SEC’s website or 30 days following publication of the proposing release in the Federal Register, whichever period is longer.
It remains to be seen whether any final rules will include all of the provisions that are in the proposed rules.
See Commission Hester M. Peirce’s dissent at SEC.gov | Damning and Deeming: Dissenting Statement on Shell Companies, Projections, and SPACs Proposal. In her dissent, Commissioner Pierce stated that “[t]he proposal—rather than simply mandating sensible disclosures around SPACs and de-SPACs, something I would have supported—seems designed to stop SPACs in their tracks. The proposal does not stop there; it also makes a lot of sweeping interpretations of the law that are not limited in effect to the SPAC context”. She also stated that “[i]t is not [the Commission’s] place to decide that SPACs are good or bad. By arming investors with enhanced disclosure, we empower them to decide whether a particular SPAC is a good investment.”
Jocelyn M. ArelPartner
Daniel J. EspinozaPartner
Sean M. DonahuePartnerChair, Public Company Advisory Practice
James H. Hammons Jr.Knowledge Management Lawyer