No Such Thing as an Easy Dollar: The SPAC Class Action Boom

SPAC (pronounced “spack”) is a unique type of company that offers radical, but possibly ill-advised, investment opportunities. (John Hyatt, Nasdaq). The letters in the SPAC acronym stand for “special purpose acquisition company.” (Anna-Louise Jackson and Benjamin Curry, Forbes). Many SPACs are also referred to as “blank check” companies. Id. This secondary name “blank check” is fitting given the purpose of a SPAC, which is to operate as a publicly traded company and to raise money despite providing no product or service. Id. Rather than promote an underlying business concept, the money raised by a SPAC is used to acquire an existing private company. Id. The acquired private company benefits from the ability to go public while circumventing the complicated initial public offering (“IPO”) process. Id. At the time a SPAC goes public, it is referred to as a “shell company” because the SPAC itself does not have any business operations – its goal is always forward looking towards an eventual acquisition. (Anna-Louise Jackson and Benjamin Curry, Forbes). This aura of logistical and bureaucratic ease is enticing to many investors searching for an easy return.

Wise investors, however, should remain cautiously optimistic as recent class action trends reveal increased public skepticism towards SPACs true value. For average investors, meaning those not considered high-net-worth individuals, SPACs provide an attractive opportunity to get involved in an IPO. Id. SPACs offer their shares to the general public before the SPAC acquires a private company, which allows an average investor the unique opportunity to acquire shares that are traditionally only publicly available post-IPO. Id. The downside to a SPAC investment is that investors do not know which private company the SPAC will acquire at the time they make an investment, and thus cannot effectively judge the company’s likely success. Id. Eager investors should also be aware that any IPO is risky. For example, in 2020 only 22 percent of companies were profitable post IPO. (Jennifer Rudden, Statista).

Armed with this basic understanding of how SPACs operate, interested parties can better understand the increased prevalence of SPAC class action lawsuits. This increase should in part come as no surprise, based on the fact that the SPACs have grown enormously in recent years both in number and in prominence. (Alison Frankel, Reuters). The year 2020 saw 248 SPAC IPOs, compared with only 59 in 2019. (Jennifer (Rudden, Statista). Moving in step with this increase is the number of post‑merger SPAC class action lawsuits. (Yun Li, CNBC). With three months remaining in 2021, 15 SPAC class action suits have been filed, whereas only 5 were filed in all of 2020. Id.

One of those 15 lawsuits involves ATI Physical Therapy (“ATI”), a private company acquired by a SPAC named Fortress Value Acquisition Corp II (“Fortress”). (Reuters Staff, Reuters). ATI is an outpatient physical therapy company that operates clinics across the United States, and went public after being acquired by Fortress. (Robins Geller, Businesswire). The class in the lawsuit consists of those investors who acquired publicly traded securities in ATI after its acquisition by Fortress. (Gainey McKenna & Egleston, Yahoo!). The lawsuit alleges that ATI failed to disclose the following: attrition among physical therapists, competition, increased labor costs, and labor shortages. Id. It is alleged that ATI’s positive disclosures about its business operations were misleading and constituted material misrepresentations. Id. After reducing its 2021 fiscal forecast based on the prior mentioned non-disclosures, ATI’s share price fell by 43%. (Robins Geller, Businesswire).

The name of the law firm bringing the class action is Robbins Geller Rudman & Dowd LLP. Id. The firm maintains a dedicated SPAC Task Force, intended to protect SPAC investors. Id. The creation of this task force was largely a response to the increase in private company use of SPACs to go public, and the unique risk factors that the process poses to investors. Id. Class actions against SPACs are often a reaction to this risk. The appeal of an SPAC is that it allows a private company to go public faster and easier than it would with a traditional IPO. (Yun Li, CNBC). However, this speed sacrifices the scrutiny of the Securities and Exchange Commission (“SEC”) and the disclosures required in the IPO process; a sacrifice that may lead many ill-prepared companies to take the IPO plunge. Id. As a result, investors like the ATI shareholders often realize too late that what seemed like an easy investment lacked thorough review. 

Despite the increase in SPAC class action lawsuits nationwide, the total number of all security related class actions has decreased. (Alexander Aganin, The National Law Review). In 2020, for the first time since 2016, plaintiffs filed fewer than 400 complaints. Id. One explanation for this trend is the recent Delaware Supreme Court decision Salzberg v. Sciabacucchi. Id. In its majority opinion, the Delaware court upheld the validity of federal forum-selection provisions in corporate charters. Id. This means that a Delaware certificate of incorporation can require shareholders to sue in federal court, rather than state court. (Michael Bongiorno Timothy Perla, Meagn Barriger, and Jessica Lewis, WilmerHale). The significance of this ruling is that it provides grounds for the dismissal of state court actions. Id. In federal court, there is a higher pleading standard for securities fraud complaints, and shareholders are not entitled to discovery until after the defendant’s dismissal motions have played out. (Alison Frankel, Reuters). As a result, it was often seen as the better option to bring a securities action related to an IPO in state court. Id. Now that this option is limited, it can be expected that fewer suits will be filed. Time will reveal the full impact of Salzburg.  

Proverbs tells us that “one eager to get rich will not go unpunished.” (Proverbs 28:20). Investors should heed this wisdom (and the reality that SPAC class action lawsuits are on the rise) when considering where to invest. Avoiding the hoops of SEC regulation may sound appealing until the smoke clears and like ATI, it becomes apparent that the shell company that once seemed so promising has remained just that, a shell.