October 13, 2021
The SEC is doubling down on potential fraud involving special purpose acquisition company (SPAC) transactions. Cohen Milstein attorneys look at the role inside knowledge of potential fraud can play in protecting investors and say the time is ripe for whistleblowers to come forward.
By Gary L. Azorsky and Raymond M. Sarola
Market enthusiasm for special purpose acquisition company (SPAC) investments has reached unprecedented heights during the last two years, stoking the concern of the Securities and Exchange Commission as it seeks to protect investors in these transactions.
With stepped up SEC enforcement, the timing is ripe for whistleblowers with knowledge of securities law violations to consider providing the SEC with information about potential SPAC securities law violations. Whistleblower’s can be eligible to receive substantial financial awards for providing useful information to the SEC, but would be well-advised to speak in advance with experienced whistleblower counsel.
The Structure, Purpose of SPAC Transactions
SPACs are publicly-traded shell companies that raise money from investors through an initial public offering with the goal of using that capital to merge with or acquire a private operating company, in a transaction known as a “de-SPAC,” that will result in that target company becoming publicly-traded.
SPACs have bfeen around for years but have only recently come into vogue with retail investors. In 2020, SPACs raised over $80 billion, exceeding the total amount they raised in the prior decade, and raised nearly $100 billion more in just the first three months of 2021.
Whistleblowers Can Profit From Protecting SPAC Investors
Since the creation of its whistleblower program in the wake of the financial crisis of 2007-2008, the SEC has consistently extolled the critical role whistleblowers play in alerting the SEC to fraud that might otherwise go undetected. To provide incentives for individuals to come forward with evidence of securities fraud, the SEC will make financial awards to eligible whistleblowers.
By any measure, the SEC’s whistleblower program has been a success. In the last 10 years, it has awarded a total of more than $1 billion dollars to over 200 individual whistleblowers, with half of that total issued in its last fiscal year.
The agency issued payouts to the highest number of tipsters in fiscal year 2021, and the number of whistleblower tips it receives continues to grow, a strong signal that its pace of issuing whistleblower awards will only increase. In October 2020, the SEC distributed its biggest payout to date, which totaled over $114 million.
Who Are Likely SPAC Whistleblowers?
Likely successful whistleblowers on this issue include individuals with critical information regarding violations of the securities laws such as SPAC or target company insiders, consultants or bankers to SPAC transactions, SPAC investors, and even market observers who use their expertise to identify fraudulent conduct.
The SEC’s investigation and enforcement activity can often take a number of years, and the commission will take all reasonable steps to protect the identity of whistleblowers. Even after an award is issued, and for an added layer of confidentiality, whistleblowers who are represented by counsel can submit their information to the SEC anonymously.
Whistleblowers whose information leads to a monetary recovery of over $1 million and who comply with all eligibility and procedural rules of the SEC’s Whistleblower Program will be eligible for a financial award in the range of 10% to 30% of the SEC’s recovery, depending on factors that include the amount and nature of assistance provided by the whistleblower and her or his counsel.
The Time Is Right
The timing is perfect for whistleblowers with knowledge of securities law violations because the SEC has closely monitored the recent explosion of interest in SPACs, has issued guidance for investors, and brought enforcement actions where appropriate.
Its primary concern, highlighted in investor bulletins and other public statements, is that SPAC investors may not be given full and accurate disclosure of SPAC transactions, particularly as to the terms of those transactions and the financial or operational details of target companies.
Animating the SEC’s concern is the divergence of interests between SPAC investors, who profit only when a deal goes well, and SPAC sponsors, who can profit from fees and other incentives even when a deal doesn’t.
The SEC’s public comments this spring were merely a preview of enforcement activity to come. In July, the SEC brought an action against a SPAC called Stable Road Acquisition Corp., its sponsor, its CEO, the target company Momentus Inc., and the target company’s former CEO. The SEC alleged violations of the securities laws from false or misleading statements about the state of the target company’s outer space propulsion technology.
Only a few weeks later, the SEC brought an action alleging that the former CEO of an automobile company that went public in a de-SPAC transaction, Nikola Corp., made false and misleading statements about his company’s technology on social media. Nikola stands out as a cautionary tale for SPAC investors, as the former CEO has since been indicted for fraud and the company’s share price has fallen from $65 to under $10.
Market trends suggest that the SEC’s enforcement activity regarding SPAC transactions will grow, particularly as the enormous sums raised by SPACs will soon result in a race among sponsors to find target companies or risk losing all opportunity for profit.
Gary L. Azorsky is a partner at Cohen Milstein Sellers & Toll PLLC in Philadelphia, and co-chair of the firm’s Whistleblower/False Claims Act practice.
Raymond M. Sarola is of counsel with Cohen Milstein in the Whistleblower/False Claims Act practice.
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