New breed of SPAC-related litigation? Breach of fiduciary duty lawsuits following de-SPAC transactions
SPACs are “blank check” companies that use money raised in an initial public offering to buy a company that won’t have to go through the IPO process itself. SPACs have exploded in popularity: there have been over 300 SPAC IPOs so far this year, with proceeds totaling over $99 billion.
And the lawsuits have followed.
The “traditional” SPAC-related lawsuit has typically flowed from a stock drop of the going-forward merged public company, including: (1) claims under Section 11 of the Securities Act of 1933 against the SPAC directors and officers; and (2) claims under Section 10(b) of the Securities Exchange Act of 1934 against the directors and officers of the SPAC, the target company, or the going-forward merged public company.
However, there may be a new breed of SPAC-related litigation on the horizon: conflict of interest-based breach of fiduciary duty lawsuits. See e.g., In re MultiPlan Corp. Stockholders Litigation, C.A. No. 2021-0300 (Del. Chanc. Ct.). These lawsuits do not rely on stock drops. Instead, the plaintiffs proceed on a traditional breach of fiduciary duty theory tied to alleged conflicts of interest.
SPACs and the Lifecycle of SPAC Business Combinations
A SPAC (“special purpose acquisition company” or “blank check company”) is a shell company formed for the limited purpose of raising capital to take an existing private company public. A SPAC is formed by “sponsors.” Sponsors can range from a team of institutional investors with expertise in a specific industry or sector, to celebrities with mainstream name recognition. The SPAC raises capital through a traditional IPO process that involves the filing of a registration statement and prospectus with the U.S. Securities and Exchange Commission. The SPAC offering documents filed with the SEC introduce the sponsor management team and describe the type of company that the SPAC hopes to acquire. At the time of the IPO, usually priced at $10 per share, neither the sponsors nor the investors buying into the IPO know what the eventual acquisition target will be.
The proceeds raised in the SPAC IPO go into a trust account until the sponsors find a suitable acquisition target, often a start-up looking to go public through an acquisition. Pursuant to the offering documents, the sponsors have a deadline by which they have to find a suitable deal, often within two years of the IPO. Once an acquisition is completed (called a “de-SPAC transaction”), the investors can swap their shares of the SPAC for shares of the going-forward merged public company, or redeem their SPAC shares to recoup their original investment plus interest. The sponsors typically get a 20% stake in the going-forward merged public company. If the sponsors fail to finalize the acquisition within the deadline set forth in the offering documents, the SPAC is liquidated and investors get their money back.
The MultiPlan Lawsuit
On March 25, 2021, a SPAC investor filed a class action complaint against the SPAC (Churchill Capital Corp. III), the SPAC’s directors and officers, and the SPAC’s controlling shareholders. The SPAC’s controlling shareholders included a global strategic advisory firm and the entity that served as the SPAC’s sponsor, both of which were founded and controlled by the SPAC’s CEO, Michael Klein. Klein created Churchill in October 2019. The SPAC closed its $1.1 billion IPO on February 2020, with 80% of the SPAC’s value tied to Class A shares sold to the public at $10 per unit, and 20% reserved for the sponsor in the form of Class B founder shares for a nominal payment of $25,000. In October 2020, Churchill merged with target MultiPlan Corp., and the post-merger company’s shares traded on the New York Stock Exchange under the ticker “MPLN.”
The plaintiff’s breach of fiduciary duty claims do not rely on a stock price drop of the going-forward merged public company, MultiPlan. Instead, the plaintiff is alleging that the defendants breached their fiduciary duties to the SPAC’s Class A shareholders by engaging in a conflicted and unfair merger process that favored the holders of the Class B founder shares. The complaint is critical of the SPAC model generally, referring to the SPAC business combination process as “conflict laden,” with “inherent conflicts abound” and “practically invit[ing] fiduciary misconduct.” The plaintiff alleges that Churchill’s fiduciaries were “hopelessly conflicted” due to: (1) their economic interests in the Class B founder shares; (2) their relationship to Klein; and (3) the fact that Klein had the opportunity to skim side payments and multi-million dollar advisory fees to his affiliated advisory firm, which the director defendants had approved.
The complaint contains causes of action for breaches of fiduciary duty and aiding and abetting breaches of fiduciary duties. The plaintiff is seeking class damages, equitable re-opening of the redemption window, rescissory damages, pre-judgment and post-judgment interest, and attorney’s fees.
Even More SPAC Lawsuits?
MultiPlan may represent a new breed of SPAC-related litigation that relies on conflicts of interest, rather than stock drops. After the MultiPlan lawsuit was filed, on April 8, 2021, the SEC issued new guidance on SPAC-related liability, with a focus on conflicts of interest. In the April 8, 2021 public statement, the SEC warned that “[a]ny simple claim about reduced liability exposure for SPAC participants is overstated at best,” and that “in some ways, liability risks for those involved are higher, not lower, than in conventional IPOs, due in particular to the potential conflicts of interest in the SPAC structure.” The SEC further noted that de-SPAC transactions “may give rise to liability under state law,” and that some states, including Delaware, apply both a duty of candor and fiduciary duties “more strictly in conflict of interest settings.”
Therefore, if MultiPlan survives a motion to dismiss, we could see more of these breach of fiduciary duty/conflict of interest complaints. Anyone with SPAC-related exposure, including D&O insurers, should be watching closely.