New Rules On SPACS, Shell Companies And The Use Of Projections: Disclosures And Liabilities In De-SPAC Transactions

On January 24, 2024, the SEC adopted final rules enhancing disclosure obligations for SPAC IPOs and subsequent de-SPAC business combination transactions. The rules are designed to more closely align the required disclosures and legal liabilities that may be incurred in de-SPAC transactions with those in traditional IPOs. The new rules spread beyond SPACs to shell companies and blank check companies in general.

Our experienced securities attorneys at ANTHONY, LINDER & CACOMANOLIS, PLLC, can provide counsel and assistance with these new rules and how they may affect your business dealings.

Enhanced Disclosure Requirements

The SEC specifically requires enhanced disclosures with respect to compensation paid to sponsors, conflicts of interest, dilution, and the determination, if any, of the board of directors (or similar governing body) of a SPAC regarding whether a de-SPAC transaction is advisable and in the best interests of the SPAC and its shareholders. The SEC has also adopted rules that deem any business combination transaction involving a reporting shell company, including a SPAC, to involve a sale of securities to the reporting shell company’s shareholders and has amended several financial statement requirements applicable to transactions involving shell companies.

Private Operating Companies And Co-Registration

In addition, the new rules require that a private operating company be a co-registrant when an SPAC files an S-4 or F-4 registration statement associated with a business combination; minimum dissemination periods for the distribution of shareholder de-SPAC communications; require a redetermination of smaller reporting company status within four days following the consummation of a de-SPAC transaction; and amend the definition of a “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 other blank check companies.

Although the SEC did not adopt a proposed rule that would deem underwriters in a SPAC IPO to be underwriters in a de-SPAC transaction, they have provided guidance under the current rules, which could result in the same conclusion. Moreover, the rules provide guidance on investment company determinations, which impact all public companies.

Disclosures And Liability In De-SPAC Transactions  — Nonfinancial Disclosures In De-SPAC Disclosure Documents

The new rules will require the following disclosures in any registration statement or schedule (14C, 14A or TO) filed in connection with a de-SPAC transaction: (i) Item 101 (description of business) (see https://securities-law-blog.com/2020/11/03/sec-adopts-amendments-to-business-descriptions-risk-factors-and-legal-proceedings/); (ii) Item 102 (description of property); (iii) Item 103 (legal proceedings)(see https://securities-law-blog.com/2020/11/03/sec-adopts-amendments-to-business-descriptions-risk-factors-and-legal-proceedings/); (iv) Item 304 (changes in and disagreements with accountants on accounting and financial disclosure); (v) Item 403 (security ownership of certain beneficial owners and management, assuming the completion of the de-SPAC transaction and any related financing transaction); and (6) Item 701 (recent sales of unregistered securities). Where the target company is an FPI, analogous disclosures from Form 20-F are required.

Although this information has generally always been included in de-SPAC registration statements and schedules, the new rules codify the requirements. Moreover, if this disclosure is included in Form S-4 or Form F-4, any material misstatements or omissions contained therein would subject the issuers and other parties to liability under Sections 11 and 12 of the Securities Act. Further, where an S-1 or F-1 is used (as opposed to an S-4 or F-4), Form S-4/F-4 disclosures must be included.

The Minimum Dissemination Period

Historically, in business combination transactions, there has been no requirement under SEC rules to provide security holders with a minimum amount of time to consider proxy statements or other disclosures. The new rules amend Exchange Act Rules 14a-6 and 14c-2 and add instructions to Forms S-4 and F-4 to require that prospectuses and proxy and information statements filed in connection with de-SPAC transactions be distributed to security holders at least 20 calendar days in advance of a security holder meeting is to be held or action to be taken, or the maximum period for disseminating such disclosure documents permitted under the applicable laws of the SPAC’s jurisdiction if such period is less than 20 days.

Private Operating Company As A Co-Registrant

The new rules have amended Forms S-4/F-4 and S-1/F-1 to require that the SPAC and the target company be treated as co-registrants when these registration statements are filed in connection with a de-SPAC transaction (including a de-SPAC transaction involving a holding company restructure).

Under the new rules, the target company must appear as a co-registrant on the cover page of the registration statement. Where the target company involves a distinct business or assets as opposed to an entire operating entity, the co-registrant is the seller of that business or assets. Moreover, the additional signatories to the form, including the principal executive officer, principal financial officer, controller/principal accounting officer, and a majority of the board of directors or persons performing similar functions of the target company, are liable for any material misstatements or omissions in the registration statement.

Under the new rules, the target company would become subject to the Exchange Act reporting requirements upon the effectiveness of a registration statement pending consummation of the de-SPAC transaction. However, the rule release points out that in the event the de-SPAC transaction does not close, the target company could seek to terminate its reporting obligations under Exchange Act Rule 12h-3 and Staff Legal Bulletin 18 in the same manner in which it would in an abandoned IPO.

What Is A Smaller Reporting Company?

A smaller reporting company is a company that is not an investment company, an asset-backed issuer or a majority-owned subsidiary of a parent that is not a smaller reporting company and had (i) a public float of less than $250 million or (ii) had annual revenues of less than $100 million during the most recently completed fiscal year for which audited financial statements are available and either had no public float or a public float of less than $700 million. Smaller reporting companies are a category of registrants that are eligible for scaled disclosure requirements in Regulation S-K and Regulation S-X and in various forms under the Securities Act and the Exchange Act. For a detailed discussion of smaller reporting companies, see https://securities-law-blog.com/2018/07/17/sec-amends-definition-of-a-smaller-reporting-company/ and https://securities-law-blog.com/2019/01/08/sec-updates-cdi-related-to-smaller-reporting-company-definition/.

The Redetermination Of Smaller Reporting Company Status

Smaller reporting company status is determined at the time of filing an initial registration statement under the Securities Act or Exchange Act for shares of common equity and is redetermined on an annual basis. Currently, most SPACs qualify as smaller reporting companies, and when an SPAC is the legal acquirer of the private operating company in a de-SPAC transaction, a post-business combination company has been permitted to retain this status until the next annual determination date.

Addressing a concern that these companies have been able to avail themselves of scaled disclosures that they would not qualify for in an IPO, under the new rules, the company must redetermine smaller reporting company status following the consummation of a de-SPAC transaction and prior to such companies next Exchange Act periodic report, other than the closing 8-K. For purposes of the redetermination, the public float threshold must be measured as of a date within four business days after the consummation of the de-SPAC transaction, and the revenue threshold must be determined by using the annual revenues of the private operating company as of the most recent completed fiscal year for which audited financial statements are available.

To allow for a period of adjustment in the event that smaller reporting company status is lost, the company will not need to reflect or account for such new status in any filing that is due within 45 days of consummation of the de-SPAC transaction. However, the new status would need to be reflected (and accompanying rules followed) in any filing made after the 45-day period, including amendments to prior filings such as the closing Super 8-K.

Do The New Rules Require The Redetermination Of A Filer’s Status?

The new rules do not require the redetermination of any filer status, such as EGC status or FPI status, however the SEC rule release does provide some guidance on the FPI subject. A new registrant, such as a SPAC in an IPO, makes the determination of its FPI status as of a date within 30 days prior to filing its initial registration statement and redetermines such status once a year on the last business day of its second fiscal quarter (see https://securities-law-blog.com/2017/03/14/the-sec-has-issued-new-guidance-related-to-foreign-private-issuers/?hilite=%22foreign+private+issuer%22). The SEC notes that when a domestic SPAC re-incorporates in a foreign jurisdiction in order to achieve FPI status in a de-SPAC transaction, the Form F-1 or F-4 used in the de-SPAC transaction is the first registration statement filed by this new entity, so the current rules suffice.

Moreover, although not codified in a rule, the rule release indicates that the SEC would not object if a company did not comply with SOX 404(b) in Form 10-K covering the fiscal year in which the de-SPAC transaction was consummated. For more on SOX 404(b), see https://securities-law-blog.com/2020/07/14/sec-adopts-amendments-to-accelerated-and-large-accelerated-filer-definitions/?hilite=404%28b%29.

PSLRA Safe Harbor

Section 27A of the Securities Act and 21E of the Exchange Act, both created by the Private Securities Litigation Reform Act of 1995 (PSLRA), provide certain statutory protections for qualifying companies in qualifying materials for forward-looking statements. The protections afforded by the PSLRA are not available to a company that (i) has been convicted of a felony or misdemeanor related to securities fraud within the last three years; (ii) has been, within the past three years, subject to a judicial or administrative decree or order prohibiting future violations of the antifraud provisions of the securities laws; (iii) has been, within the past three years, subject to a judicial or administrative decree or order requiring the company to cease and desist from violating the antifraud provisions of the securities laws; (iv) has been, within the past three years, subject to a judicial or administrative decree or order determining the company has violated the antifraud provisions of the securities laws; (v) makes the forward-looking statement in connection with an offering of securities of a blank check company; (vi) is a penny stock company; or (vii) is an investment company.

In addition, the forward-looking statements protections of the PSLRA are not available for forward-looking statements that are: (i) included in financial statements that are prepared in accordance with GAAP; (ii) made in connection with a roll-up transaction; (iii) made in connection with a going private transaction; (iv) made in connection with a tender offer; (v) made in connection with an IPO; (vi) made in connection with an offering by, or relating to the operations of a partnership, limited liability company, or a direct participation program; or (vii) made in disclosure of beneficial ownership under Section 13 of the Exchange Act (Schedule 13D and 13G).

New Definitions For A Blank Check Company

For purposes of the PSLRA, the SEC previously defined a “blank check company” as a development stage company that is issuing “penny stock,” as defined in Exchange Act Rule 3a51-1, and that has no specific business plan or purpose, or has indicated that its business plan is to merge with or acquire an unidentified company or companies, or other entity or person and accordingly SPACs were excluded from the definition as a SPAC does not offer penny stocks.

The SEC has amended the definition of “blank check company” for purposes of the PSLRA as “a company that has no specific business plan or purpose or has indicated that its business plan is to engage in a merger or acquisition with an unidentified company or companies, or other entity or person.”  As such, the PSLRA is no longer available for forward-looking statements, such as projections, made in connection with de-SPAC transactions involving an offering of securities by a SPAC (which under the new rules includes all de-SPAC transactions). The final rule makes it clear that the new definition is solely for purposes of the PSLRA and does not impact any other rules defining or using the term “blank check company.”

Underwriter Status And Liability In Securities Transactions

The term “underwriter” is broadly defined in Section 2(a)(11) of the Securities Act to mean “any person who has purchased from an issuer with a view to, or offers or sells for an issuer in connection with, the distribution of any security, or participates or has a direct or indirect participation in any such undertaking, or participates or has a participation in the direct or indirect underwriting of any such undertaking.”  The determination of whether a particular person is an “underwriter” does not depend on the person’s business but rather on that person’s relationship to a particular securities offering. Any person whose activities with respect to any given offering fall within one of the prongs of the Section 2(a)(11) definition is deemed to meet the statutory definition of underwriter—commonly known as a “statutory underwriter.”  The definition of an underwriter is meant to be and has been, interpreted very broadly.

An underwriter’s participation in a company’s offering also exposes the underwriter to potential liability under Sections 11 and 12 of the Securities Act. Section 11 of the Securities Act imposes civil liability for any part of the registration statement, at effectiveness, which contained an untrue statement of a material fact or omitted to state a material fact required to be stated therein or necessary to make the statements therein not misleading, to any person acquiring such security. Similarly, Section 12 imposes liability upon anyone, including underwriters, who offers or sells a security by means of a prospectus or oral communication, which includes an untrue statement of a material fact or omits to state a material fact necessary in order to make the statements, in the light of the circumstances under which they were made, not misleading. Both Sections 11 and 12 have due diligence defenses available to an underwriter.

An Underwriter’s Status In De-SPAC Transactions

The SEC has published guidance on underwriter status in de-SPAC transactions. From a broad perspective, a statutory underwriter encompasses any person who sells for the issuer or participates in a distribution associated with a de-SPAC transaction. Although the word “distribution” has no definition in the Securities Act, the term “distribution” refers to the entire process of a public offering through which a block of securities is dispersed and ultimately comes to rest in the hands of the investing public. In a de-SPAC transaction, the SPAC shareholders become shareholders in the private target company through the business combination. In essence, the “distribution” in a de-SPAC transaction is the process by which the SPAC’s investors, and therefore the public, received interest in the combined operating company.

In a de-SPAC distribution, a statutory underwriter would be someone who 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. Such an underwriter could be any person involved in these functions, regardless of whether they are named as an underwriter in any given offering or engaged in typical capital-raising activities. Section 11 would apply as it would to anyone acting as underwriter with respect to a registered de-SPAC transaction, and such person will have liability for any material misstatement or omission in the registration statement.

At ANTHONY, LINDER & CACOMANOLIS, PLLC, our securities attorneys stay abreast of evolving regulations and laws in the complex landscapes of corporate law and merger and acquisition transactions.

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