The rules, originally proposed in March 2022, realign disclosures, marketing practices and other obligations in de-SPAC transactions more closely with traditional IPOs and add increased risk and uncertainty for market participants.

TAKEAWAYS

• The Final Rules require increased disclosure and include a specific focus on sponsor and sponsor-affiliate conflicts of interest, compensation, dilution and the fairness of the transaction to unaffiliated SPAC stockholders.
• The rules also eliminate the application of a safe harbor for forward-looking statements in de-SPAC transactions, including projections.
• SEC guidance issued along with the Final Rules leaves the door open for additional disclosure obligations for SPACs and enforcement opportunities for the SEC and private plaintiffs.

On January 24, 2024, the Securities and Exchange Commission (SEC) announced the adoption of final rules (the Final Rules) affecting the acquisition of private operating companies by publicly traded special purpose acquisition companies (SPACs) and related financing transactions (individually and collectively, de-SPAC transactions), largely aligning them with requirements of traditional initial public offerings (IPOs). The Final Rules, which go into effect on July 1, 2024, and the adopting release also provided new guidance from the SEC with respect to SPAC and de-SPAC transactions.

The Final Rules will impact de-SPAC transactions in the following key aspects:

• Co-Registrant Liability: Extending liability under Section 11 of the Securities Act to target companies and their directors and officers by obligating such target companies to register as “co-registrants” under Form S-4 and Form F-4 alongside the SPAC;
• Private Securities Litigation Reform Act (PSLRA) and Projections: Increasing risk associated with the use of projections by eliminating the Private Securities Litigation Reform Act (PSLRA) safe harbor with respect to forward-looking statements made by SPACs and the target company and adding additional rules regarding the disclosure of projections included in de-SPAC registration statements and other materials filed with the SEC;
• Underwriter Liability: Increasing risk of underwriter liability for financial and capital markets advisors facilitating de-SPAC transactions;
• Investment Company Act: Increasing need for SPACs to assess whether they may be subject to the Investment Company Act under a facts and circumstances analysis;

• “Fairness” Disclosure: Requiring disclosure of any determination made by a SPAC’s board with respect to the “fairness” of the de-SPAC transaction to the extent that a such a determination is required by the law of the jurisdiction in which the SPAC is incorporated or organized;

• Disclosure Regarding Compensation, Conflicts of Interest and Dilution: Enhancing disclosure obligations surrounding sources of compensation, conflicts of interest, dilution and other matters between the SPAC and its sponsor, on the one hand, and between the SPAC and its other shareholders, on the other hand, with respect to de-SPAC transactions; and
• Smaller Reporting Company (SRC) Determination: Providing a 45-day grace period for the combined entity to utilize scaled disclosure requirements applicable to SRCs if the predecessor entity would have qualified as an SRC.

In light of the increased exposure to potential liability under, among other provisions, Section 11 and Section 12 of the Securities Act, market participants are encouraged to continue to follow customary approaches to appropriately diligence such transactions, including: thorough documentary and other means of standard diligence processes, comprehensive disclosures, effective internal controls and reasonable, defensible forecasts, including analysis and disclosure of underlying assumptions and risks affecting the same. Market participants are also advised to consider additional disclosure that aligns with the Final Rules, as discussed throughout this alert.

The SPAC market, which has slowed significantly over the past couple of years largely due to factors outside of the SEC’s regulatory stance, such as the high volume of SPAC IPOs and negative performance of many surviving de-SPAC target companies in the context of already volatile market conditions. However, the increased potential liability and costs resulting from the Final Rules will likely impact the viability of SPACs as a going-public approach, and the increased risk related to the use of projections will be a key consideration for early-stage companies contemplating a de-SPAC transaction. Also, given the ambiguity under the Final Rules with respect to underwriter liability, it is likely that more financial advisors will withdraw from participation in SPAC IPOs and de-SPAC transactions.

SUMMARY OF SELECTED FINAL RULES

Target Company Deemed a “Co-Registrant”
Under the Final Rules, the target company and the SPAC are deemed “co-registrants” for purposes of the registration statement related to the de-SPAC transaction, and as such, both the directors and officers of the SPAC and the target company will be required to sign the registration statement. Specifically, Final Rule 145a effectively deems any proposed de-SPAC transaction to be an “offering” by the target company to the SPAC’s shareholders. As a result, target company directors and officers (including those who resign from such positions concurrently with closing of the de-SPAC transaction) will be subject to the same liability for misleading statements as SPAC directors and officers. In addition, the Final Rules require that the directors and officers of the seller of assets in a de-SPAC transaction structured as an asset sale would be required to co-sign the registration statement. As a result, directors and officers of the target company (including those who do not continue in such capacity after the de-SPAC transaction) will be subject to liability under Section 11 of the Securities Act, which will potentially result in increased costs of director and officer insurance policies.

While the Final Rules require the target company to file a registration statement for this offering (which would be achieved in most circumstances by co-registration on the SPAC’s registration statement filed in connection with the de-SPAC if the SPAC is the issuer of the securities in the de-SPAC transaction), they do not deem all de-SPAC transactions to be an offering by the SPAC to the target company’s shareholders. For example, certain de-SPAC structures may not constitute offers by the SPAC to the target company’s shareholders. such as, for example, when the combined company seeks foreign private issuer status post-closing or in the case of Up-Cs, a tax-driven structure that is often favorable when the target company is not organized as a corporation. In these cases, the SPAC would not be registrant with respect to the registration statement and thus its directors and officers would not be subject to Section 11 liability with respect to such registration statement, unless they were continuing as directors and officers of the combined entity.

The SEC guidance also clarified that, in the event a de-SPAC transaction does not close or the target company filer is acquired after the transaction and another company has become the reporting company with respect to the combined business reporting, obligations can be suspended via procedures traditionally utilized by issuers who have abandoned an IPO.

Applicability of PSLRA for SPACs
Under the Final Rules, SPACs would not be able to avail themselves of the safe harbor for forward-looking statements, including financial projections, under the PSLRA, as a SPAC will now be deemed a “blank check company” under the Securities Act. The Final Rules clarify that the SPACs will be considered “blank check companies” solely for purposes of the PSLRA, but not for other rules, such as Rule 419 (which applies to issuers of “penny stocks”).

Underwriter Liability
In lieu of deeming underwriters of a SPAC IPO who also facilitate the subsequent de-SPAC transactions as de facto “underwriters” for purposes of Section 2(a)(11) of the Securities Act, the SEC reaffirmed its position that there are circumstances under which an agent participating in a de-SPAC transaction may be deemed a statutory underwriter, and the Final Rules note that the terms “distribution” and “underwriter” “broadly and flexibly” will be applied in light of the facts and circumstances of a particular transaction. Accordingly, the term “underwriter” could theoretically be construed as applying to financial advisors, capital markets advisors and placement agents that facilitate a de-SPAC transaction. It remains to be seen if the SEC would take this position solely in the case where the party was an underwriter in the SPAC’s IPO.

Investment Company Act Status
The SEC guidance provides that a comprehensive “facts and circumstances” approach should be utilized when analyzing whether a SPAC would be viewed as subject to the Investment Company Act, including consideration of traditional factors from the In the Matter of Tonopah Mining Co. release, which considers the company’s historical development, public policy representations, the activities of officers and directors, the nature of present assets and the sources of present income. Factors which may impact such analysis include: the duration of a SPAC’s existence prior to consummating a transaction, the operational focus of the SPAC prior to identifying a target operating company and the composition of the trust assets.

• Duration: SEC guidance published with the Final Rules underscored that the duration of a SPAC is a critical, but not the sole, determinant of its status as an investment company. Specifically, if a SPAC’s existence as a shell company extends beyond certain timelines, such as one year or 18 months, without achieving its business purpose, this would raise concerns that the SPAC is engaged in activities more characteristic of an investment company, particularly if it generates returns from securities it holds.
• Operational Focus: The SEC clarified that the nature of a SPAC’s business—seeking a suitable investment opportunity—does not inherently classify it as an investment company, and that the desired outcome of a de-SPAC transaction, which transforms the entity into an operating company (or one that controls an operating company), is a distinguishing factor. However, if management spends significant amounts of time managing trust account assets and investments as opposed to the stated business purpose of searching for a target company, this could weigh in favor of classifying SPACs as investment companies. This also brings into question the role of SPAC sponsors, suggesting that, depending on the management approach, a sponsor might be classified as an “investment adviser” under the Investment Advisers Act of 1940.
• Composition of Trust Assets: SPACs holding corporate bonds must be cautious about the implications under Section 3(a)(1)(C) of the Investment Company Act. Conversely, those holding treasuries and similar securities, typical of modern SPACs, are primarily scrutinized under Section 3(a)(1)(A), especially if their principal business is generating investment returns on these assets.

This guidance underscores the importance of careful consideration of a SPAC’s strategies and operations to align with the SEC’s nuanced perspective and avoid unintended classifications.

“Substantial Fairness” Requirement
The Final Rule clarified that disclosure of a determination as to fairness must only be made if such a determination is required under the law of the jurisdiction in which the SPAC is organized. While the SEC is not explicitly requiring boards to make a determination as to fairness, SEC guidance suggests Delaware law may require the boards of SPACs incorporated in Delaware to make such a determination. The Final Rules require disclosure of such a determination (if made) and the material factors considered in making the determination. However, the Final Rules will not overtly require, and there is no current statutory requirement under Delaware law^[1] for, a fairness opinion in connection with de-SPAC transactions. The Final Rules also added “any related financing” as one of the factors which should be considered in determining the overall fairness of the de-SPAC transaction.

Sponsor Disclosures Regarding Compensation, Conflicts of Interest, Dilution and Other Matters
The Final Rules require disclosure of the amounts and nature of “compensation” that has or will be awarded to SPAC sponsors and their affiliates and require, among other things, disclosure of securities issued to sponsors and their affiliates and the purchase price paid (or to be paid) for such securities. Additional disclosure is also required relating to potential cancellations or increases in securities issued (or to be issued) to SPAC sponsors.

The Final Rules also require disclosure of “any circumstances or arrangements under which the SPAC sponsor, its affiliates, and promoters, directly or indirectly, have transferred or could transfer ownership of securities of the SPAC, or that have resulted or could result in the surrender or cancellation of such securities.” Further, the Final Rules require disclosure for transfers of ownership interests in the sponsor.

While the Final Rules do not require an organizational chart showing the economic interests of the sponsor in the SPAC, the SEC has issued comments requesting such disclosure since the Final Rules were adopted. The Final Rules also elaborated on the requirements for tabular disclosure in several areas, including certain dilution disclosures, such as known sources of dilution and material potential sources of future dilution, if applicable.

“Smaller Reporting Company” Status
The Final Rules require that SRC status for the surviving entity must be tested as of a date within four business days of closing of the de-SPAC transaction. However, a registrant that does not meet the requirements for an SRC after closing of the de-SPAC transaction will still be able to avail itself of the reduced Exchange Act reporting obligations afforded to SRCs for filings required to be made up to 45 days after closing of the de-SPAC transaction. Accordingly, if the predecessor acquiring company qualified as an SRC, the surviving company may be able to file a resale registration statement (e.g., to register securities such as those issued to private investment in public equity (PIPE) investors and SPAC sponsors and affiliates or to register the resale of securities by affiliates of the issuer) within the 45-day grace period in accordance with the scaled disclosure requirements applicable to SRCs, even if the surviving entity does not qualify as an SRC post-closing.

CONSIDERATIONS FOR SPAC MARKET PARTICIPANTS

Timing
The Final Rules go into effect on July 1, 2024. However, existing rules provide that registration statements must conform to rules pertaining to form that are applicable at the time of the initial filing date of the registration statement (as opposed to the time of effectiveness of such registration statement). Thus, if a filing is amended after the Final Rules go into effect, the issuer would not be required to comply with the Final Rules (as they relate to registration statement form requirements) if the initial filing was made prior to the effectiveness of the Final Rules. This flexibility does not necessarily extend to the PSLRA safe harbor as noted below. Notwithstanding the timing of the effectiveness of the Final Rules, the SEC is already including comments with respect to various disclosure matters consistent with the Final Rules.

As noted above, rules that do not pertain to form requirements—primarily, the elimination of the safe harbor for forward-looking statements under the PSLRA—may apply to any registration statement that is amended or declared effective after the Final Rules go into effect, even if initially filed prior to the effectiveness of the Final Rules. The SEC notes that the unavailability of the PSLRA safe harbor is “not intended to have any retroactive effect related to forward-looking statements made prior to the effective date of the final rules.” Thus, while forward-looking statements made in connection with de-SPAC transactions that have already closed are arguably protected by the safe harbor, this suggests that forward-looking statements made after the effectiveness of the Final Rules, including amendments to registration statements filed after such time, will not be able to rely on the safe harbor afforded under the PSLRA.

The guidance issued by the SEC regarding the Investment Company Act and statutory underwriter status does not have an effective date and the SEC may take positions consistent with the guidance at any time.

SPACs
SPACs should carefully assess their disclosure practices and potentially the structure and management of their business in light of the following:

• “Substantial Fairness” Requirement: The Final Rules clarify that disclosure of a fairness determination is only required if such a determination is required under the law of the jurisdiction where the SPAC is organized. SPACs, in consultation with local counsel, should assess the fairness requirements in their jurisdiction of organization in light of the SEC’s increased emphasis on disclosure of fairness determinations for de-SPAC transactions. Those looking to form a SPAC should also consider these rules when deciding the jurisdiction to incorporate or organize the SPAC.
• Applicability of PSLRA: The Final Rules retain the proposal that SPACs will be considered “blank check companies” for purposes of the PSLRA. While many commenters noted that the common law “bespeaks caution” doctrine affords protection comparable to that of the PSLRA, it is essential for market participants, especially SPACs and private operating companies, to understand the implications of these changes for forward-looking statements and related disclosures and consider conforming their practices to those utilized in traditional IPOs.
• Applicability of the Investment Company Act: The Final Rules include guidance indicating which factors should be considered in determining the applicability of the Investment Company Act to SPACs (in lieu of enumerating specific steps that SPACs could take to avoid being classified as investment companies under the Investment Company Act). We note that SEC comments on SPAC filings over the course of the last year suggest that the staff is increasingly focused analyzing the applicability of the Investment Company Act to SPACs, including after the Final Rules were adopted. SPACs should evaluate whether the SEC is likely to take the position that they are investment companies in light of the factors cited in the SEC guidance, including reassessing their status if they fail to initiate an agreement with a target company within the 12-to-18-month timeframe identified above, and considering depositing trust account assets into demand deposit accounts to demonstrate that they are not primarily in the business of investing in securities (particularly as more time passes since the closing of the SPAC’s IPO).
• Dilution: The Final Rules offer clarity concerning certain dilution disclosures. SPACs should make sure that known sources of dilution are disclosed in tables in accordance with the Final Rules and that material potential sources of future dilution are disclosed outside the tables, if applicable.

Sponsors
While almost all of the new rules applying to de-SPAC transactions will impact sponsors, sponsors should consider in particular the enhanced disclosure obligations that specifically apply to them and consider the following measures:

• Comprehensive Compensation Disclosure: SPAC sponsors and their affiliates should be prepared for comprehensive disclosure of the amounts and nature of “compensation” awarded or to be awarded. This disclosure encompasses not only cash payments but also securities issued to sponsors and their affiliates, including information about the purchase price paid or to be paid for such securities. Sponsors should interpret “compensation” broadly and review and clarify any arrangements that may be considered compensation, including situations where the price appreciation of sponsor “promote” shares relative to their purchase price could be deemed compensation.
• Transparency on Securities Transfers: SPAC sponsors should carefully monitor and disclose any circumstances or arrangements involving the transfer of SPAC securities held by sponsors, affiliates and promoters. This includes transfers that may result in the surrender or cancellation of such securities, as well as transfers of ownership interests in the sponsor.

Target Companies
Target companies should consider whether a de-SPAC transaction remains a sensible alternative to a traditional IPO. If a de-SPAC transaction structure is preferred, given the new requirement for target companies to be deemed co-registrants on the registration statement in a de-SPAC transaction, target companies should consider the following steps as they prepare for a de-SPAC transaction:

• Prepare for Signing Requirements: Ensure that directors and officers are informed and prepared to sign the registration statement, understanding the implications and liabilities involved.
• Review Insurance Policies: Evaluate and, if necessary, upgrade director and officer insurance policies to cover the increased risks associated with the co-registrant status.
• Understand Reporting Obligations: Be aware of the potential Exchange Act reporting obligations post-registration, even if the de-SPAC transaction is not completed. Be familiar with the procedures to suspend reporting obligations if a transaction is abandoned, and understand the costs associated with suspending reporting obligations.
• Smaller Reporting Company Status: Understand that SRC status must be reassessed as of a date within four business of closing of the de-SPAC transaction, which may mean significantly increased costs for Exchange Act reporting obligations. Companies should also consider filing any resale registration statements after closing of the de-SPAC transaction on a more accelerated timeline in order to take advantage of the 45-day grace period afforded under the newly adopted rules (assuming the predecessor entity would have qualified as an SRC).
• Presentation of Projections: Going forward, projections, if included, must be presented in conformity with the Final Rules with regard to content, use, prominence and other considerations. In addition, parties involved in a de-SPAC transaction should consider if the inclusion of projections (including the specific financial measures, level of detail, number of years, underlying assumptions and other information presented) is prudent in light of the inapplicability of the PSLRA safe harbor.

Underwriters, Financial Institutions and Advisors
In light of the Final Rules and recent guidance by the SEC, financial institutions involved in SPAC IPOs and/or de-SPAC transactions should consider the following proactive measures:

• Evaluate Role and Potential Liability Carefully: Underwriters involved in SPAC IPOs that also play a role in de-SPAC transactions should carefully assess their involvement and consider the additional factors provided by the SEC to determine whether they are considered “underwriters” under Section 2(a)(11) of the Securities Act.
• Stay Informed: Stay informed about the factors outlined by the SEC that may influence underwriter status in connection with de-SPAC transactions. This includes understanding how the SEC interprets these factors and applying them to an underwriter’s specific situation.
• Adapt Procedures: Review and adapt internal procedures and documentation to align with the SEC’s guidance and the new approach to determining underwriter status, making any necessary changes to ensure compliance.
• Monitor Developments: Remain vigilant about any further developments or clarifications from the SEC regarding underwriter status in de-SPAC transactions, as regulations in this area may continue to evolve.

^{[1] While there is no statutory requirement for fairness under Delaware law, Delaware case law, beginning with the well-known Smith v. Van Gorkum decision, has led most public company boards to obtain fairness opinions as part of their duty of care (and by extension, to preserve the “business judgment rule” standard of review) in sell-side (and many buyside) transactions.}

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