06 December 2021

Still in the Crosshairs: Plaintiffs Continue to Take Aim at Post-Merger SPACs

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We previously wrote about the trend of SPAC (special purpose acquisition company) lawsuits filed in the Delaware Court of Chancery, with some combination of the post-merger entity, its board of directors, or the SPAC sponsor named as defendants.  Over the course of this year, we have seen this trend continue, with a number of new SPAC lawsuits filed in the Court of Chancery since we last wrote on this topic.  Several recent complaints filed in the Court of Chancery exemplify that the same recurring issues discussed in this space previously (e.g., alleged sponsor conflicts of interest, a hasty process to speedily complete a de-SPAC deal, lack of pre-merger diligence) likely will continue to feature prominently in SPAC litigations.

In Janmohamed v. Ledecky, filed in the Court of Chancery on October 19, 2021, the putative class action complaint named the directors and officers of the SPAC sponsor (Pivotal Investment Holdings II LLC or “Pivotal”), many of whom became directors of the combined company, XL Fleet, as well as Pivotal itself.  Interestingly, the plaintiff did not name the post-merger entity as a defendant in the lawsuit, but instead identified it as a “relevant non-party.”  The complaint alleges that the founders of Pivotal appointed themselves and “trusted associates” to key roles at Pivotal, with complete control over the process of identifying a merger opportunity and securing shareholder approval.  The complaint further alleges that Pivotal’s CEO, with the SPAC merger deadline quickly approaching, struck a deal with the CEO of XL, who was a decades-long business acquaintance and family friend, to merge the two entities.  Pivotal did not include any independent directors in the decision-making process, nor did it obtain a fairness opinion.  The plaintiff claims that pre-merger disclosures significantly overvalued the post-merger company, and alleges that in response to a books and records request to XL Fleet seeking due diligence materials in connection with the merger, XL Fleet was unable to identify and produce even one document, despite Pivotal’s claim that it conducted “significant due diligence” prior to the merger.  The complaint also claims that Pivotal’s Board duped investors into approving the merger transaction by suggesting that stockholders would lose value on their investments if the SPAC liquidated rather than going through with the merger.

In Yu v. RMG Sponsor, LLC, filed in the Court of Chancery on October 28, 2021, the plaintiff brought a class action complaint against a SPAC sponsor and certain of its officers and directors (but not the post-de-SPAC combined company, Romeo Power, Inc.).  The complaint alleges that the board of directors of the SPAC, RMG Acquisition Corp. (“RMG”), breached fiduciary duties to its stockholders by “knowingly and consciously failing to perform due diligence about Legacy Romeo’s business prospects or disloyally ignor[ing] such facts to benefit themselves to the detriment of RMG’s minority stockholders.”  Particularly, Romeo was experiencing a shortage of high-quality battery cells, which was a core material for its main products.  While the pre-merger disclosures stated that Romeo had a relationship with four power-cell providers, the plaintiff alleges that in reality it only had a relationship with two.  Three months after the merger, Romeo issued a press release revealing serious supply chain issues and estimating the company’s revenue projections at $18–$40 million for 2021, a notable departure from the $140 million that RMG had projected in various pre-merger disclosures filed with the SEC.  The complaint also alleges that pre-merger disclosures contained misleading statements and material omissions which impacted RMG’s stockholders’ decision whether to redeem their shares prior to the merger.  In addition to claims for breach of fiduciary duty, the plaintiff also asserts an unjust enrichment claim against the sponsor and certain individual defendants.  The unjust enrichment claim underscores SPAC plaintiffs’ oft-repeated concerns regarding the possible conflict of interest that exists between the SPAC founders’ significant financial gain in the event of a successful transaction and the best interest of the stockholders.

These recent examples should serve as reminders to SPAC sponsors to conduct extensive due diligence in connection with a proposed de-SPAC transaction, include independent directors in the approval process to mitigate conflicts where possible, and of the critical importance of issuing accurate and clear disclosures to stockholders prior to any vote on the transaction.  The addition of an unjust enrichment cause of action to the Yu complaint also indicates that, while plaintiffs will likely continue to focus on the theme of a hasty, conflicts-laden process pushed by sponsors, they are also considering new theories of liability against SPAC sponsors and their directors and officers.