There was an explosion of SPAC and deSPAC transaction activity between 2019 and 2021. Deal sponsors raised capital through SPAC entities, used that capital to acquire attractive target companies and then took those companies public in a deSPAC transaction. This is not the disclosure-intensive initial public offerings (IPOs) process by which companies are traditionally formed.

Far from avoiding the litigation risk that has become synonymous with IPOs, however, the deSPAC space has been rife with D&O litigation. The frequency and severity of deSPAC claims are reminiscent of the class action strike suits that were brought almost reflexively to disrupt public M&A transactions up until about a decade ago. Moreover, the deSPAC claims are often more complex, brought against a broader cast of defendants, and trigger a wider array of D&O insurance programs.

Frequency

SPAC and deSPAC transaction participants have been a frequent target of the securities class action (SCA) plaintiffs’ bar. The statistics are jarring – approximately 20% of announced deSPAC mergers that closed between 2019 and late 2022 have resulted in SCAs filed against the deal participants. That is nearly double the rate at which traditional IPOs have resulted in SCAs and more than triple the rate at which public companies at large are sued in SCAs.

Moreover, the deSPAC SCAs are complex and more than half assert claims against both pre-merger SPAC defendants (for pre-merger misconduct) and post-merger directors and officers of the surviving company (for post-merger misconduct). Many of the SCAs assert claims against not only SPAC and surviving company defendants, but also against SPACs’ sponsors, affiliates, IPO underwriters, auditors, and advisors, thereby triggering the D&O insurance towers of the various deal participants.¹

Perhaps the most notable aspect of these SCAs is the success that the plaintiffs’ bar has had in these cases. Even though a majority of the cases involve SEC Rule 10b-5 fraud claims, rather than the “easier-to-plead” Section 11 claims (which can only be brought in connection with an offering – deSPAC transactions do not involve traditional public offerings), the plaintiffs nonetheless have survived motions to dismiss in more than 90% of the cases in which pleading challenges have been fully resolved – a far greater success rate than the approximately 45% success rate that plaintiffs generally have in SCAs.²

Severity

Beside SCAs, SPAC and deSPAC deal participants have been prominent targets of the plaintiffs’ bar in direct and shareholder derivative lawsuits for alleged breaches of fiduciary duties, conflicts of interest, and related misconduct. Notably, the government – specifically, the U.S. Securities and Exchange Commission (SEC) and Department of Justice (DOJ) – have been active in cracking down on alleged deSPAC-related misconduct, with the SEC having secured several substantial settlements to date:

• $125 million in connection with claims tied to the Nikola-related deSPAC transaction (alongside other SEC civil and DOJ criminal claims)
• $38.8 million tied to the Akazoo-related deSPAC transaction
• $8 million tied to the Stable Road/Momentus deSPAC transaction

The government intends to continue tightening its grip on the SPAC ecosystem with the SEC’s proposed disclosure rules for SPACs.

The frequency and severity of D&O litigation brought against SPAC and deSPAC transaction participants are substantial. They underscore the need for deal participants to ensure adequate liability insurance to help protect themselves.

Potential Developments in 2023

2022 had the second most de-SPAC transactions with 102.³ However, the momentum has slowed. Headwinds include SEC oversight and the possibility of a recession. With the SPAC slowdown, existing SPACs must grapple with contingency plans, potential redemption and liquidation-related risks should a business combination not materialize within the deal timeline.

As SPAC’s contemplate liquidation in 2023, the associated risks and the necessity for insurance coverage should be carefully considered. While liquidating SPACs may not have the assets to fund a runoff premium, it is important for the SPAC directors and officers to nevertheless evaluate their risk position.

For example, regulators and certain other stakeholders could make claims about the conduct of the liquidation. Questions may be raised about the diligence of the SPAC officers in seeking merger targets and the circumstances of any merger deals that were abandoned. Further, claims have been asserted by shareholders of SPACs for failing to distribute previously acquired termination fees to public shareholders.⁴

It also appears that, in the face of shrinking timelines for completing deals and less attractive targets being available, the re-SPAC or “SPAC squared” trend may gain traction in 2023.⁵ We will also watch for direct breach of fiduciary duty actions similar to Multiplan and GigCapital3 – both of which challenged the purported independence of allegedly conflicted deal participants and survived motions to dismiss.

Despite the challenges, we expect participants will continue to explore innovative strategies to pursue transactions. Participants should ensure that their D&O program covers the many associated risks.

1: spacinsider.com
2: Stanford Law School Securities Class Action Clearinghouse Database
3: 2022 De-SPAC Debrief: A comprehensive review of all 102 de-SPAC transactions that closed in 2022
4: Special Oppor. Fund, Inc. v. FAST Acquisition Corp., et al., No. 2022-0702 (Del. Ch. August 9, 2022); Funicular Funds, LP v. Pioneer Merger Corp et al., No. 22-10986 (USDC SDNY December 30, 2022)
5: Wejo Group Ltd., a British connected-vehicle data company, became a public company in November 2021 after combining with Virtuoso Acquisition Corp., a SPAC. In January 2023, Wejo announced plans to merge with another blank-check firm, TKB Critical Technologies I, to secure up to $100 million in cash.

Contact

If you have questions about your coverage or are interested in obtaining coverage, please contact your Aon broker. Discuss this article with Financial Services Group professionals Nicholas Reider and Adam Furmansky.



Nicholas Reider
Senior Vice President, Deputy D&O Product Leader – West
Denver







Adam Furmansky
Senior Vice President, Deputy D&O Product Leader - East
New York