Accounting Cases Involving SPACs


Accounting Cases Involving SPACs The Accounting Class Action Filings and Settlements—2021 Review and Analysis report features a spotlight section on accounting-related SPAC cases. Special purpose acquisition companies (SPACs) have become an increasingly popular way for private companies to become publicly traded. The process typically proceeds through four phases: The SPAC initial public offering (IPO), when the SPAC becomes public as a shell company; the search for a merger target, which typically involves a definitive time period (e.g., two years); the merger closing, during which time the SPAC sponsor and target company announce the merger, file a proxy statement, and solicit shareholder approval; and the period when the equity of the combined company becomes publicly traded, often referred to as the “De-SPAC” period. Commentators have cited various reasons for the popularity of SPACs, including the perception of market participants that a private company may have more certainty as to pricing and control over the deal terms through a SPAC as compared to a traditional IPO.¹ During 2021, there were 613 SPAC IPOs—nearly twice the number of traditional IPOs—and the $144.5 billion of capital raised was record-setting.² SPAC filings that include accounting allegations tripled in 2021 as compared to the prior year. SEC Statements Regarding Financial Accounting and Reporting The increased popularity of SPACs has led to certain concerns from regulators. For example, the U.S. Securities and Exchange Commission (SEC) issued an investor bulletin on SPACs highlighting that the increased number of SPACs seeking to acquire an operating business may result in fewer attractive initial acquisitions.³As of December 31, 2021, 575 SPACs were still searching for a merger target.⁴ The SEC has also highlighted concerns related to financial accounting and reporting issues that SPACs may face. For example, the SEC’s Acting Chief Accountant, Paul Munter, issued a statement on March 31, 2021, that raised questions about whether private company targets have the people and processes in place and the time that is needed to successfully transition to public company reporting requirements. Mr. Munter highlighted examples of complex financial accounting and reporting issues, including accounting for complex financial instruments and the need to comply with public company requirements for reporting on internal controls.⁵ Shortly after his March 31 statement, Mr. Munter and John Coates, the Acting Director of the SEC’s Division of Corporation Finance, issued a statement on April 12, 2021, that addressed accounting and reporting considerations for warrants issued by SPACs.⁶ The statement resulted in almost 500 SPACs restating their accounting for warrants by June 22, nearly all of which identified a material weakness in internal controls.⁷ Recent Trends in SPACs Involving Accounting Issues During 2019 and 2020, only a handful of federal securities class actions involving SPACs were filed, but in 2021, federal filings involving SPACs became the dominant filing trend.⁸ Consistent with that overall trend, SPAC filings that include accounting allegations tripled in 2021 as compared to the prior year. There are several trends in SPAC cases involving accounting issues over the past three years: Approximately one in three initial complaints involving SPACs from 2019 through 2021 included accounting issues. Three law firms—The Rosen Law Firm, Glancy Prongay & Murray LLP, and Pomerantz LLP—were associated with almost 80% of accounting case filings involving SPACs from 2019 through 2021. Short-seller reports were commonly cited in cases involving SPACs. However, those reports were cited over one and a half times more often in accounting cases as compared with non-accounting cases filed during 2019 through 2021. The median filing lag after a De-SPAC transaction was much greater in 2019–2020 (450 days) than it was in 2021 (106 days) for accounting case filings from 2019 through 2021 involving SPACs. Inappropriate revenue recognition and weaknesses in internal controls were the most common allegations in SPAC accounting cases, followed by allegedly omitted disclosures of related-party transactions. Because filings of SPAC cases have largely occurred very recently, based on our research only one of these cases had reached settlement as of the end of 2021, and this case included accounting allegations. As more of these cases progress, SPAC cases may play a role in future accounting case settlement trends. 1 “What You Need to Know About SPACs – Updated Investor Bulletin,” U.S. Securities and Exchange Commission, May 25, 2021, https://www.sec.gov/oiea/investor-alerts-and-bulletins/what-you-need-know-about-spacs-investor-bulletin. 2 Jay R. Ritter, “Initial Public Offerings: Updated Statistics,” Warrington College of Business, University of Florida, p. 48, https://site.warrington.ufl.edu/ritter/files/IPO-Statistics.pdf, accessed April 8, 2022. 3 “What You Need to Know About SPACs – Updated Investor Bulletin,” U.S. Securities and Exchange Commission, May 25, 2021, https://www.sec.gov/oiea/investor-alerts-and-bulletins/what-you-need-know-about-spacs-investor-bulletin. 4 SPACs still searching for a target are those that have completed their IPO but not yet announced a De-SPAC transaction target. See SPAC Insider. 5 Paul Munter, Acting Chief Accountant, “Financial Reporting and Auditing Considerations of Companies Merging with SPACs,” U.S. Securities and Exchange Commission, March 31, 2021, https://www.sec.gov/news/public-statement/munter-spac-20200331. 6 John Coates, Acting Director, Division of Corporation Finance, and Paul Munter, Acting Chief Accountant, “Staff Statement on Accounting and Reporting Considerations for Warrants Issued by Special Purpose Acquisition Companies (‘SPACs’),” U.S. Securities and Exchange Commission, April 12, 2021, https://www.sec.gov/news/public-statement/accounting-reporting-warrants-issued-spacs. 7 See Will SPAC Restatement Wave Trigger Shareholder Litigation?, Cornerstone Research (2021), for further discussion. 8 See Securities Class Action Filings—2021 Year in Review, Cornerstone Research (2022), for further discussion.

The Accounting Class Action Filings and Settlements—2021 Review and Analysis report features a spotlight section on accounting-related SPAC cases.

Special purpose acquisition companies (SPACs) have become an increasingly popular way for private companies to become publicly traded. The process typically proceeds through four phases:

The SPAC initial public offering (IPO), when the SPAC becomes public as a shell company;
the search for a merger target, which typically involves a definitive time period (e.g., two years);
the merger closing, during which time the SPAC sponsor and target company announce the merger, file a proxy statement, and solicit shareholder approval; and
the period when the equity of the combined company becomes publicly traded, often referred to as the “De-SPAC” period.

Commentators have cited various reasons for the popularity of SPACs, including the perception of market participants that a private company may have more certainty as to pricing and control over the deal terms through a SPAC as compared to a traditional IPO.¹ During 2021, there were 613 SPAC IPOs—nearly twice the number of traditional IPOs—and the $144.5 billion of capital raised was record-setting.²

SPAC filings that include accounting allegations tripled in 2021 as compared to the prior year.

SEC Statements Regarding Financial Accounting and Reporting

The increased popularity of SPACs has led to certain concerns from regulators. For example, the U.S. Securities and Exchange Commission (SEC) issued an investor bulletin on SPACs highlighting that the increased number of SPACs seeking to acquire an operating business may result in fewer attractive initial acquisitions.³As of December 31, 2021, 575 SPACs were still searching for a merger target.⁴

The SEC has also highlighted concerns related to financial accounting and reporting issues that SPACs may face. For example, the SEC’s Acting Chief Accountant, Paul Munter, issued a statement on March 31, 2021, that raised questions about whether private company targets have the people and processes in place and the time that is needed to successfully transition to public company reporting requirements. Mr. Munter highlighted examples of complex financial accounting and reporting issues, including accounting for complex financial instruments and the need to comply with public company requirements for reporting on internal controls.⁵

Shortly after his March 31 statement, Mr. Munter and John Coates, the Acting Director of the SEC’s Division of Corporation Finance, issued a statement on April 12, 2021, that addressed accounting and reporting considerations for warrants issued by SPACs.⁶ The statement resulted in almost 500 SPACs restating their accounting for warrants by June 22, nearly all of which identified a material weakness in internal controls.⁷

Recent Trends in SPACs Involving Accounting Issues

During 2019 and 2020, only a handful of federal securities class actions involving SPACs were filed, but in 2021, federal filings involving SPACs became the dominant filing trend.⁸ Consistent with that overall trend, SPAC filings that include accounting allegations tripled in 2021 as compared to the prior year.

There are several trends in SPAC cases involving accounting issues over the past three years:

Approximately one in three initial complaints involving SPACs from 2019 through 2021 included accounting issues.
Three law firms—The Rosen Law Firm, Glancy Prongay & Murray LLP, and Pomerantz LLP—were associated with almost 80% of accounting case filings involving SPACs from 2019 through 2021.
Short-seller reports were commonly cited in cases involving SPACs. However, those reports were cited over one and a half times more often in accounting cases as compared with non-accounting cases filed during 2019 through 2021.
The median filing lag after a De-SPAC transaction was much greater in 2019–2020 (450 days) than it was in 2021 (106 days) for accounting case filings from 2019 through 2021 involving SPACs.
Inappropriate revenue recognition and weaknesses in internal controls were the most common allegations in SPAC accounting cases, followed by allegedly omitted disclosures of related-party transactions.

Because filings of SPAC cases have largely occurred very recently, based on our research only one of these cases had reached settlement as of the end of 2021, and this case included accounting allegations. As more of these cases progress, SPAC cases may play a role in future accounting case settlement trends.

1 “What You Need to Know About SPACs – Updated Investor Bulletin,” U.S. Securities and Exchange Commission, May 25, 2021, https://www.sec.gov/oiea/investor-alerts-and-bulletins/what-you-need-know-about-spacs-investor-bulletin.

2 Jay R. Ritter, “Initial Public Offerings: Updated Statistics,” Warrington College of Business, University of Florida, p. 48, https://site.warrington.ufl.edu/ritter/files/IPO-Statistics.pdf, accessed April 8, 2022.

3 “What You Need to Know About SPACs – Updated Investor Bulletin,” U.S. Securities and Exchange Commission, May 25, 2021, https://www.sec.gov/oiea/investor-alerts-and-bulletins/what-you-need-know-about-spacs-investor-bulletin.

4 SPACs still searching for a target are those that have completed their IPO but not yet announced a De-SPAC transaction target. See SPAC Insider.

5 Paul Munter, Acting Chief Accountant, “Financial Reporting and Auditing Considerations of Companies Merging with SPACs,” U.S. Securities and Exchange Commission, March 31, 2021, https://www.sec.gov/news/public-statement/munter-spac-20200331.

6 John Coates, Acting Director, Division of Corporation Finance, and Paul Munter, Acting Chief Accountant, “Staff Statement on Accounting and Reporting Considerations for Warrants Issued by Special Purpose Acquisition Companies (‘SPACs’),” U.S. Securities and Exchange Commission, April 12, 2021, https://www.sec.gov/news/public-statement/accounting-reporting-warrants-issued-spacs.

7 See Will SPAC Restatement Wave Trigger Shareholder Litigation?, Cornerstone Research (2021), for further discussion.

8 See Securities Class Action Filings—2021 Year in Review, Cornerstone Research (2022), for further discussion.