Since July 2023, the Commission has brought three cases against special purpose acquisition companies (SPACs) and/or SPAC sponsors, charging them with fraud because they made false and misleading statements regarding the details of their communications with potential target companies. I have declined to support these cases because the alleged misstatements and omissions are not material, and I do not view the facts in the Order as demonstrating investor harm.

The SPAC Cases

On July 20, 2023, the Commission charged Digital World Acquisition Corp. (“DWAC”) with violating Section 17(a)(2) of the Securities Act of 1933 (“Securities Act”) and Section 10(b) of the Securities Exchange Act of 1934 (“Exchange Act”) and Rule 10b-5(b) thereunder for making false and misleading statements and omissions in its registration statement on Form S-1, which was filed for the IPO, and Form S-4, which was filed for the de-SPAC transaction.[1] The Order found that the Form S-1 stated that “neither DWAC nor its officers and directors had had any discussions with any potential target companies prior to the IPO.”[2] It included the following statement: “[w]e have not selected any specific business combination target and we have not, nor has anyone on our behalf, engaged in any substantive discussions, directly or indirectly, with any business combination target with respect to an initial business combination with us.”[3] According to the Order, DWAC had been engaging in discussions with Trump Media and Technology Group Corp. (“TMTG”) prior to the filing of the Form S-1.[4] The Commission imposed civil penalties of $18 million.[5]

On January 25, 2024, the Commission charged Northern Star Investment Corp. II (“Northern Star”) with violating Section 17(a)(2) of the Securities Act for making false and misleading statements in its registration statements on Form S-1 and Form S-4.[6] Northern Star’s Form S-1 contained similar language to DWAC and indicated that it had not selected any potential target or initiated any substantive discussions with a potential target.[7] According to the Order, Northern Star had been engaging in discussions with Apex Clearing Holdings, LLC (“Apex”) prior to the filing of the Form S-1.[8] The Order also indicated that Northern Star omitted communications between the parties in the Form S-4.[9] The Commission imposed civil penalties of $1.5 million.[10]

On December 12, 2024, the Commission charged Cantor Fitzgerald, L.P. (“Cantor”) with causing violations of Sections 17(a)(2) and 17(a)(3) of the Securities Act and Section 14(a) of the Exchange Act and Rule 14a-3 thereunder, again alleging that two SPACs that it sponsored, CF Finance Acquisition Corp. II (“CFAC II”) and CF Acquisition Corp. V (“CFAC V”), made materially false and misleading statements in its registration statements on Forms S-1 and S-4.[11] A team at Cantor, which has sponsored at least nine SPACs, the majority of which were launched between August 2020 and February 2021, identified potential targets for each of the individual business combinations.[12] Sometimes, a potential target company was considered as a possible acquisition by multiple SPACs. In the Forms S-1 filed by both CFAC II and CFAC V, the SPACs each stated, “[w]e have not selected any specific business combination target and we have not, nor has anyone on our behalf, initiated any substantive discussions, directly or indirectly, with any business combination target regarding an initial business combination with our company.”[13] The Order states that “Cantor personnel had already had substantive discussions” and thereby “caused [the SPAC] to make these materially misleading statements.”[14] The Order also finds that the Form S-4 filings, which stated that the SPAC entered into a transaction agreement or exclusive negotiations with another target and ceased discussions with other potential target businesses, were not accurate.[15] The Commission imposed civil penalties of $6.75 million.[16]

Materiality

In bringing these charges, the Orders appear to treat the disclosure of potential merger discussions and history of merger negotiations by the SPAC respondents in the same context as if the disclosure had been made by an operating company. However, SPACs are fundamentally different from operating companies. The purpose and day-to-day operations of a SPAC are reflected in its name – a vehicle formed for the special purpose of acquiring an operating company. In contrast, an operating company’s purpose is to sell a product or service, and any merger activity, especially those requiring shareholder approval, is rare and an extraordinary corporate event.

IPO Disclosure

In each SPAC respondent’s IPO filing, its purpose was disclosed throughout the Form S-1. Given this purpose, the most important information to an investor in deciding whether to purchase securities in the SPAC’s IPO are (1) information about the SPAC’s sponsor, such as its ability to source an acquisition and conflicts of interest and (2) the investor’s rights, including those related to the SPAC’s redemption of the purchased securities. The Orders did not find that these disclosures by any SPAC respondent were materially misleading.

Instead, the Orders focused on boilerplate disclosure by each SPAC respondent that it had not yet selected a specific operating company to acquire and that it had not had “substantive discussions” with any target company.[17] To the extent a SPAC respondent omitted details about its preliminary merger negotiations with a particular target company, the materiality of such omission must be analyzed in the context of a SPAC’s purpose.

The U.S. Supreme Court in Basic v. Levinson adopted the probability/magnitude test for assessing the materiality of preliminary merger negotiations.[18] The Second Circuit case cited by Basic for this test involved a small corporation that would be merged out of existence.[19] For this corporation, the Second Circuit stated, and Basic agreed, that its merger was “the most important event that can occur in [its] life, to-wit, its death” and accordingly, information about the merger “can become material” before there is an agreement on the acquisition price and structure.[20]

Unlike the corporation discussed in Basic, each SPAC respondent’s stated purpose was to acquire a target company. The SPAC’s “death” is planned for and sought after from the time the SPAC is formed. Given this distinction, the probability/magnitude test, as applied to information concerning a SPAC’s preliminary merger negotiations, should result in such information not becoming material until a time much closer to the SPAC and target company reaching a binding agreement on the acquisition price and structure. Any discussions prior to such time, even if they are “substantive,” are part of the day-to-day operations of a SPAC.

de-SPAC Transaction Disclosure

The Orders also found that each SPAC respondent’s Form S-4 filed for its de-SPAC transaction misstated or omitted information regarding merger discussions between the SPAC and the target company.[21]

Similar to its materiality analysis for each SPAC respondent’s IPO disclosure, the Orders do not address the context in which the disclosure was made. Merger negotiations are not part of the day-to-day duties for an operating company’s board of directors and senior management. When an operating company seeks shareholder approval for a merger, information about the history of merger discussions, including how the board reached its decision to merge with a particular company instead of other acquirors or targets, can help shareholders assess whether the board satisfied its fiduciary duties.

In contrast, the sole job of a SPAC’s board and senior management is to identify a target company for acquisition. When deciding whether to approve a SPAC’s combination with a target company, the most important information to investors are the target company’s business, risks, and financial performance. The Orders did not find that the SPAC respondents’ disclosure in these areas were materially misleading.

To make an informed voting decision, a SPAC’s investors do not require a “play-by-play” in how the SPAC’s board arrived at its decision to select a particular target company for acquisition. Such a low bar for materiality may result in investors being inundated with details about specific interactions that obscure more important information about the target’s business prospects. While certain aspects of a SPAC’s merger negotiation history can be material, the allegations against the SPAC respondents do not arise to that level.

Investor Harm

In addition to the alleged misstatements and omission not being material, I also did not support the three proceedings because the Orders do not include facts demonstrating that each SPAC respondent’s investors were financially harmed.

A SPAC, in essence, is merely the holding vessel for a pot of money that sits in an interest-bearing escrow account until an acquisition is made. A common feature among SPACs is the right of investors to redeem their shares in the SPAC upon completion of the de-SPAC transaction. This right protects investors by allowing them to exchange their shares for an amount approximate to the SPAC’s IPO price, plus interest. Each SPAC respondent offered redemption rights to its shareholders.[22]

Conclusion

When charging SPACs with disclosure violations, the Commission should be mindful of the unique nature of SPACs and how they differ from operating companies. The day-to-day operation of a SPAC is to engage in merger discussions. A low threshold for whether a misstatement or omission concerning merger negotiations is material may result in unnecessary proceedings, such as those against these three respondents.

ENDNOTES

[1] In the Matter of Digital World Acquisition Corp., Securities Act Release No. 11213 (July 20, 2023) (“DWAC Order”), available at:  https://www.sec.gov/files/litigation/admin/2023/33-11213.pdf.