SEC Proposes New Rules related to SPAC and De-SPAC Transactions
SPACs are companies with no commercial operations that are formed to raise capital through an initial public offering for the sole purpose of acquiring one or more target businesses (when completed, referred to as the “de-SPAC transaction”). Although SPACs first emerged in the 1990s, their popularity has increased substantially in the past few years, particularly as a mechanism for private companies to go public. This recent surge has led to increased regulatory scrutiny and concerns about various aspects of the SPAC structure and investor protection matters. The proposal follows multiple public statements and staff guidance to alert investors and other stakeholders about the financial reporting, auditing, and liability considerations specific to SPAC and de-SPAC transactions. While some of the amendments would codify aspects of this guidance that are already applied in practice, other amendments would significantly enhance disclosure and liability of the parties involved and will likely result in substantially fewer SPAC-related transactions in the future.
Enhanced Disclosure Requirements
The amendments would add a new Subpart 1600 of Regulation S-K that would require specialized disclosures in connection with initial public offerings by SPAC and de-SPAC transactions. These disclosure requirements include:
- Disclosure of the sponsor of the SPAC, potential conflicts of interest, and dilution;
- A statement on whether the SPAC reasonably believes that the de-SPAC transaction is fair or unfair to investors and whether it has received any outside report, opinion, or appraisal relating to the fairness of the transaction; and
- Certain disclosures regarding the unique nature and risks of the offering (among others) on the prospectus cover page and in the prospectus summary of registration statements filed in connection with SPAC IPOs and de-SPAC transactions.
Other requirements of the proposal intended to align the disclosure requirements for de-SPAC transactions more closely with traditional IPOs would:
- Add Article 15 of Regulation S-X to largely codify existing staff views and guidance about the financial statement requirements (including the required periods, age of financial statements, and applicable audit standards) for private operating companies that merge with shell companies, like SPACs. However, some amendments would expand the circumstances in which two years of financial statements would be permissible for the target company and address when SPAC financial statements are required in filings following the de-SPAC transaction.
- Require additional disclosures about the private operating company in the registration statement related to a de-SPAC transaction (e.g., the description of the business and property, legal proceedings, and changes in and disagreements with accountants, among others). Currently, this information is not required until the Form 8-K that is due within four business days of the completion of the de-SPAC is filed.
- Amend the definition of a smaller reporting company (SRC) to require re-determination of SRC status following the completion of a de-SPAC transaction. Currently, the combined company retains the SRC status of the SPAC until the next required determination date. If adopted, this may impact the ability of the combined company to file a new or amended registration statement for a period of time after the merger if the loss of SRC status results in the need to provide another year of audited annual financial statements.
- Require that disclosures related to de-SPACs be distributed to investors at least 20 days in advance of a shareholder meeting.
The proposal includes incremental disclosure requirements related to projections of future performance by:
- Adding new Item 1609 of Regulation S-K that would require disclosure of:
- The purpose of any projections disclosed by the registrant and the party that prepared the projections;
- All material assumptions underlying the projections and any factors that may materially impact the assumptions; and
- Whether the projections still reflect the view of the board or management of the SPAC or target company as of the filing date. If not, discuss the purpose of disclosing the projections.
- Amending Item 10(b) of Regulation S-K to state that:
- Any projections that are not based on historical financial results or operational history should be clearly distinguished from those that are based on historical financial results or operational history;
- In general, if projections that are based on historical financial results or operational history are presented, the underlying historical measure or operational history should be presented with equal or greater prominence; and
- If non-GAAP projections are presented, the company should also include a definition of the non-GAAP measure, a description of the most closely related GAAP financial measure, and an explanation as to why the non-GAAP financial measure was used instead of the GAAP measure.
Enhanced Liability Provisions
The proposal includes several amendments that would significantly expand the liability of certain parties associated with SPAC and de-SPAC transactions by:
- Adding new Rule 145a that would deem a business combination transaction involving a shell company (including a de-SPAC transaction) to involve a sale of securities to a reporting shell company’s shareholders such that Securities Act disclosure and liability provisions would apply to de-SPAC transactions.
- Deeming the private operating company in a de-SPAC transaction to be a co-registrant in a registration statement on Form S-4 or Form F-4.
- Amending the definition of a “blank check company” to encompass SPACs so that SPACs will no longer be covered by the Private Securities Litigation Reform Act of 1995 (PSLRA) safe harbor for forward looking statements.
- Adding new Rule 140a that would deem anyone who has acted as an underwriter of the securities for a SPAC’s IPO and participates directly or indirectly in the de-SPAC transaction (via any related financing transaction or otherwise) to be an underwriter in the de-SPAC transaction, subjecting them to Section 11 liability.
Status of SPACs under the Investment Company Act of 1940
To assist SPACs in understanding when their activities may be subject to investment company regulations, the proposal would provide a safe harbor from the definition of an “investment company” for SPACs that satisfy certain conditions that limit a SPAC’s duration, asset composition, business purpose, and activities, as follows:
- Duration: the SPAC must file a Form 8-K to announce it has entered into an agreement to engage in a de-SPAC transaction no more than 18 months after the effective date of the SPAC’s IPO registration statement and complete the de-SPAC transaction within 24 months of the same effective date;
- Asset composition: SPAC assets must consist solely of government securities, government money market funds, and cash items prior to the completion of the de-SPAC transaction; and
- Business purpose and activities: the SPAC must seek to complete a single de-SPAC transaction as a result of which the surviving public entity will be primarily engaged in the business of the target company (or companies).