Billionaire SPAC Kings Dragged to Court After Boom Goes Bust

June 2, 2023 by

The unwinding of the blank-check stock frenzy, one of the hottest pandemic-era trends on Wall Street, is playing out its last act on a different stage: the courtroom.

The raucous boom in special-purpose acquisition companies — which bankrolled takeovers that resulted in back-door public offerings for businesses seeking to sell everything from flying motorcycles to infrastructure in space — has spawned a wave of litigation, with dozens of cases filed by burned investors working their way through court.

In the last few months alone, they’ve taken aim at some of the most well-known operators: Chamath Palihapitiya, the former Facebook executive who became the public face of the SPAC mania; billionaire Alec Gores; Bill Foley, owner of the NHL’s Las Vegas Golden Knights hockey team; and British entrepreneur Richard Branson.

The lawsuits claim SPAC executives made millions by pushing through deals that allowed them to cash in their founder shares, the deeply discounted equity stakes that promised windfalls as long as they could find a company to buy. The arrangement provided a strong incentive to complete acquisitions even if lofty valuations and overly optimistic business plans posed long-term risks to other shareholders.

“The incentives were to close a deal, any deal,” said Usha Rodrigues, a professor of corporate law at the University of Georgia School of Law. “There were too many SPACs chasing too few targets and inevitably companies went public that weren’t good candidates for the public market.”

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Representatives for Palihapitiya, his company Social Capital, Branson and Gores Group declined to comment. A spokesperson for Foley didn’t return requests for comment. In a court filing, lawyers representing Foley and others involved in his case have pushed to have it dismissed, saying the allegations are “simply off-base.”

Losses Over 90%

More than 100 companies that merged with a SPAC, or about a quarter of those to complete deals since late 2018, have seen their shares tumble more than 90% since their debuts.

Momentus Inc. is one of them. The company, which went public through a deal with a SPAC called Stable Road Acquisition Corp., in 2020 laid out a plan for “revolutionizing space infrastructure and the broader space economy” through transportation and satellite services, with long-term plans for ventures like moon and asteroid mining.

It once projected revenue would surge to $4 billion by 2027 but took in just $300,000 last year. Its shares, which traded for more than $29 in early 2021 ahead of the merger, have tumbled to around 34 cents. Stable Road and Momentus in July 2021 — before their merger — settled Securities and Exchange Commission allegations of misleading investors about the company’s technology. In February, Momentus agreed to pay $8.5 million to end a lawsuit from investors.

Dozens of similar suits striking out at SPAC mergers have been lodged in the Delaware Chancery Court, the US’s premier venue to resolve merger disputes, data compiled by Bloomberg show. Since June 2022 alone, at least 21 SPAC-related suits have been filed in the state.

Yelena Dunaevsky, a consultant who specializes in SPACs at insurance firm Woodruff Sawyer, said more than 60 SPAC-related class-action lawsuits have been filed nationwide since the beginning of 2020. She expects more to come as acquired companies struggle.

“We’re likely to see more actions and settlements on the heels of the recent merger activity,” she said.

SPACs raise money through public offerings with plans to bring a private business public. The deals need to be approved by shareholders. But if they don’t like the eventual target, investors can redeem their shares for cash at the IPO price, plus any additional incentives and interest earned. At the peak of the industry’s mania, many SPACs traded above their redemption values, which gave investors another potential way to exit with a profit before a deal closed.

With the stocks now down, some have targeted high-profile blank-check dealmakers like Gores. His company took United Wholesale Mortgage public in January 2021 at a valuation close to $16 billion in what was at the time the biggest SPAC merger. After the stock tumbled, investors sued, alleging the backers “hastily negotiated the merger through a flawed and unfair process.”

In a court filing, lawyers representing Foley, the hockey team owner who is facing a lawsuit over his SPAC’s merger with the digital-payments platform Paysafe Ltd., denied any wrongdoing, saying the investor is following a “one-size fits all” approach echoing similar cases.

The SPAC boom was fueled by two forces unleashed by the pandemic: near zero interest rates and the surge in day trading as a lockdown pastime.

The vehicles raised $245 billion in 2020 and 2021, drawing in even outsiders to Wall Street’s buyout business like former New York Yankees infielder Alex Rodriguez and NFL quarterback-turned-activist Colin Kaepernick, both of whom started SPACs.

Palihapitiya alone launched nine in less than 15 months. Two of them were unwound when he couldn’t find suitable acquisition targets, returning cash to investors, and his final two that are still trading are set to be shuttered as well.

But Palihapitiya’s others went through with deals, such as the merger with Virgin Galactic Holdings Inc., the space-tourism venture. With the shares now hovering near record lows, he and Branson — the British entrepreneur — have been sued by investors alleging spaceship problems were concealed to bring the venture public.

Those who have followed the industry’s rise and fall say they expect the litigation to continue as more companies that went public through SPACs struggle to stay afloat. Several have filed for bankruptcy and some 130 are likely to need more financing in the next year to keep operating, according to data compiled by Bloomberg.

“There’s going to be continued activity in litigation for some time as we work through the value destruction from many of these deals,” said Taylor Sherman, a director at CohnReznick Advisory. He said many SPACs relied on “aggressive valuation metrics that on their face should have given people pause.”

“But naturally, in any asset class bubble, investors can get caught up in the excitement.”

–With assistance from Jef Feeley and Michael Leonard.