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A company about nothing: SPACs and fraud

Posted  October 27, 2020

The hot retro design trend these days is not only slip dresses and tie-dye, but an once-obscure investment vehicle called a Special Purpose Acquisition Company or SPAC.  SPACs (aka “blank check” companies) are sweeping the nation as the darling of investors who wish to take a company public without the scrutiny of an IPO.

So what is a SPAC?

With due apologies to Seinfield, SPACs are companies about nothing.  At their formation, they raise money in an IPO with only the mandate to buy another as-yet-undefined company.  They are fundamentally investment vehicles, although they are structured like corporations.

The object of their fancy, once purchased, gets merged with the SPAC (sometimes called a “reverse merger”) and is thus “taken public” without ever going through the rigorous vetting associated with an IPO.  In theory, the investors in the SPAC reap the benefits from the purchased company’s goods or services, and everyone’s off to the races.  Tech companies in particular have embraced this new way to take themselves public.

The growth of this investment vehicle is astonishing.  In 2020 so far, 161 SPACs have gone public.  In 2019, the number was 59.  In 2009, 1.

Why is this trend concerning?

To ask this question a different way, why would anyone prefer a SPAC to a traditional IPO process?  Its main advantage is avoiding regulatory scrutiny—which should make anyone concerned with investment fraud nervous.  Companies that lack proper accounting controls or compliance processes could theoretically become public companies after only having to convince a small number of private investors that they are worthwhile investment risks.  The general investing public, who lack insight into the behind-the-scenes process, could then invest in the not thoroughly vetted company via the SPAC’s public offering.

The most visible symbol of these risks is Nikola—the electric car company that quickly became an investor darling, merged with a SPAC, and then promptly collapsed amid allegations that it faked evidence of its product working.

What is the SEC doing about it?

The SEC has taken notice of this trend.  Jay Clayton, the SEC’s Chief Commissioner, recently commented that while SPACs could in theory be reasonable IPO alternatives, “It comes down to a question about disclosure and transparency and whether investors are getting all the information they need.”

It is not clear that investors are getting the information they need, as the Nikola collapse illustrated.  With the ever-increasing number of SPACs out there, it is sadly very likely we’re going to see another Nikola, and probably soon.

Anyone with information about investor fraud in a SPAC may be eligible to file an SEC whistleblower submission, and receive a portion of any fine imposed by the SEC.  If you have information about fraud in SPACs, please contact us.

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Tagged in: Financial and Investment Fraud, Insider Trading, Securities Fraud,