SPACs Revisited

In my May 5 post, I predicted that the SEC’s animosity to SPACs would not fade away.  It was easy prophesy and of course it has come to pass.

In an announcement issued yesterday, the SEC’s Office of Investor Education and Advocacy surely set out to warn investors of the risks of investing in SPACs– four single-spaced pages of cautionary text.  While the explanation of SPAC transactions was both clear and helpful, it is a little hard to understand all the criticism when SPACs are valuable market entities; and, they are already so closely regulated by the Commission in terms of detailed disclosure requirements.  Surely there is no evidence proving pervasive fraud experiences justifying an intense campaign of warnings.

You might conclude that the SPAC process, whereby a funded holding company acquires a private operating company and thus makes it public, annoys the staff as it interferes with the historical IPO process which has been part of the SEC’s fundamental regulatory system for almost a hundred years.

Among the warnings: read the deal carefully;  you are relying on the judgment of the management of the SPAC as to what entity is acquired; if you paid more for your SPAC shares on the open market, they may deteriorate in value below the share value held in cash for purposes of buying a target; there may be shrinking targets to acquire as SPACs proliferate; often SPACs also issue warrants and their terms vary among deals; shareholder approval of an acquisition may be voted upon by the sponsors of the SPAC if they and their cohorts have controlling shares; original investors in SPACs likely will have paid less per share than the public investor; future funding may come from sponsors of the SPAC and the terms of such financing may create sponsor business interests not congruent with public investor interests.

No doubt the above all are risks, but are they not covered by disclosure?  Are many not common in nature and impact with issues faced by companies offering shares by a traditional IPO?  Is there a market study showing in fact that SPACs create greater risk of fraud or deception of investors?  I am a believer in strong regulation of the markets, having seen so much illegality and deception over my years of practice, but free markets are important also. So far, this pronouncement comes as “education.”  Not sure where this is all heading….

Insider Trading Revisited

Everyone knows that insider trading is illegal and can create liability for the person who gives the “tip” and the person who trades based on the “tip.”  So why did the US House of Representatives enact the Insider Trading Prohibition Act a week or so ago? And, wonder of wonders, with strong bipartisan support?

As of this moment, there actually is no law prohibiting insider trading per se.  Rather, the illegality arises from the Securities Exchange Act prohibition against fraud.  Without here tracing the complex case law that has arisen in trying to define the “fraud” involved in the myriad fact patterns we call insider trading, suffice it to say that the elements of proof have wavered over time, most recently focusing on whether the tipper received any benefit from the “tip.”  (A curious side-trip, as the harm to free trading markets does not turn on that fact.)

The new bill abandons the idea of fraud and focuses on “wrongful use” of insider information. It also bans wrongful gathering, which would cover theft and hacking.

As the bill moves to the Senate, note a last-minute amendment to the House bill which re-inserted the requirement that there be personal benefit provided by the tippee to the tipper.  Per the bill’s draftsperson, Columbia Law professor John Coffee, Jr., this “major concession to the Republicans” ignores that in tipping cases the parties are “like members in an old boys club” and the reciprocity of access to information is normative and ingrained.   Let’s see what happens in the Senate.


Life Science Update

A week ago, panelists at an ambitious program mounted by the Boston Bar Association took a broad look at major trends in life science deals and risks.  Some interesting highlights follow.

Did COVID hurt or help life science dealmaking?  Both; people became more accessible via Zoom, but the lack of personal contact impeded ability to benefit from establishing personal rapport and trust.  Bottom line, deal flow did not slow down though deals were harder to make.

Lack of scientific conferences hurt.  Ability to discuss presentations with companies impeded recognition of deal synergy.

Obvious intense interest in bio-tech drew capital, but also fear of regulation of drug profits and of FDA regulation and of heightened anti-trust focus dampened interest in the eyes of some.  So did “frothy” price premiums being sought during a “hot” market.  Some of the froth came from VCs raising larger funds, as well as SPAC interest (see immediately prior post).

Near the end of program, a deeper visit to SPAC-land.  Life science SPACs were said to be a small percentage of SPAC activity.  75% of all life science SPACs are today trading within 5% up or down from issuance price.  It was suggested that the best SPAC promoters are serial sponsors because they have a list of reliable investors.

Interesting technical discussion of how to frame patent claims, particularly with the tension between maximizing patent protection today with specific claims vs. seeking protection over time in face of rapid innovation.  Patents are written today, examined in three years, litigated in ten years.  Do you articulate your claims narrowly or reach for protection by making functional claims?


We all recall the game Whack-a-Mole.  That is what is happening to the SPAC marketplace.  Aside from questions in the marketplace as to the advisability of using this model as an investment vehicle or a method of going public, seems the SEC is focusing on significant disclosure issues.

In December, the SEC noted the possible conflicts of interest between public investors and those persons active in the formation or management of a SPAC; the SEC cannot bar the typical model of SPAC formation, but it sure can make SPACs provide sharp focus on what the SEC sees as excessive promoter profit and thus investor risk.

SPACs sometimes are promoted by celebrity endorsements or clients.  In March the SEC warned investors (in a formal “Alert”)  that a famous name does not a good investment make.

Last month the Acting Director of SEC Corp Fin took a swipe at the common perception that “going public” through a SPAC was easier than a regular IPO, by announcing that the Commission would treat SPAC acquisitions the same way as IPOs, subject to the “full panoply” of applicable law.

It is unclear if the current SPAC fever will abate; much can be said in favor of the model, affording curated investment opportunities to the retail investor and liquidity in the marketplace, as well as enforced guidance to emerging entities in complying with the world of Regulation that comes with a public market security.  But however intense the SPAC market becomes, it is not going away; and, apparently, neither is the SEC.

Securities Law Developments– ESG and Climate

The Congress, the SEC and NASAA have joined the chorus of investors and ESG-focused funds in seeking much greater disclosure of the entire suite of ESG concerns.  A renewed pressure from government is not surprising given the politics of the current Administration.

The SEC has had guidance since 2010 relative to climate change, aimed at causing reporting companies to share risk and response perceptions.  Trump chair Clayton, at the very end of his tenure last December, questioned the sufficiency of current regulation, and this February the Acting SEC Chair stated that it was the SEC’s duty to provide disclosure.  Of course, the general overlay of the disclosure regime is that disclose must be made of any material risk, even if it is neither topical nor specifically addressed in SEC Rules or guidance.  Company failures became more focused based on litigation against Exxon finding material misstatements in connection with the impact of climate on expected corporate action.

Reportedly (Jim Hamilton’s World of Securities Regulation),  ESG Funds took in over $51B last year, so this is not a trivial segment of the marketplace, and the SEC does not even have guidance on what “ESG” encompasses.  An SEC task force has been established to determine ESG policy, and it seems inevitable that proposed guidance, or specific Rule-making, will follow.

The House of Representatives, echoing NASAA proposals to the SEC, has  pending a bill (H.R. 1277) which would compel registered issuers to disclose gender, racial, ethnic and veteran status of  senior management and boards.  Claims abound that diversity at the top results in better economic performance.  While I have not seen what I consider to be clear statistical support for this proposition (it is possible for example that the company with better general management also has a propensity for diversity, which may be admirable but not causal of better economic performance), it is quite possible we will see SEC action in this arena also.

The SEC these days seems willing to set policy through disclosure regulation. I note that the SEC has an Office of Minority and Women Inclusion, and the Bill would encourage this Office to propose “best practices.”  (I do not suggest that these developments are not positive, only that they reflect an activism that has been absent historically.)

Securities Law Developments– Easier Private Offering Rules

On March 15, rules adopted by the SEC during the Trump administration became effective, loosening access to crowd-funding, expanding access to public offerings under less rigorous standards pursuant to SEC’s Regulation A, permitting companies to shift quickly from one financing to the next to accelerate receipt of investment funds, and permitting companies to hold pre-offering discussions with investors in order to “test the waters” for their financing plans.

Crowdfunding: Since 2012, small companies could offer shares to small investors, in small individual amounts, without registering with the SEC, if they did so utilizing an organized service platform that screened investors and required the generation of relatively modest disclosures to investors.  This March, the total possible to raise under this process increased approximately five-fold to $5M, and the amount that sophisticated (“accredited”) investors could provide individually was increased.

Regulation A: This process of obtaining SEC approval for the issuance of immediately tradeable shares, with fewer disclosure requirements and a faster process than filing a full registration with the SEC, started out covering only small offerings of $5M; in 2015 the cap was increased to $50M and in March to $75M.  Crowd-funding offerings also were included in liberalized rules permitting discussions with investors prior to actually filing papers with the SEC.

Testing the Waters: Companies choosing between whether to raise capital through Regulation A or through crowdfunding are now both permitted to speak with investors prior to starting an offering, including through use of social media.

Integration: Historically, the SEC has restricted companies from making in effect continuous offerings of securities under different exemptions from registration, in the belief that a company continuously using exemptions and collecting in the aggregate substantial sums was simply skirting the registration requirements for public offerings. This resulted in a series of difficult regulations not understood by most companies.  While companies even today are advised to consult with counsel in this area, as of March it became possible to effect different offerings with a separation of as few and 30 days.

These changes reflect a couple of realities: the high expense and delay of a full public registration creating practical problems for smaller enterprises; and, the continuing recognition that innovation is a driver of progress and employment.  These realities need to be parsed against the prevalence of fraud in securities offerings, which remains a huge problem (and which can be measured by following the SEC website which documents daily the numerous outrageous frauds being committed in the marketplace).

Securities Law Developments– an Introduction

The political currents that have roiled US society often are echoed in the policy choices made by the Securities and Exchange Commission.  I do not recall a time when partisanship was not part of the SEC culture, and the combination of sharpening political dialog and the SEC structure of affording two of the five directorship seats to the party not holding the Oval Office has led to some interesting and contentious rule-making.

Followers of the SEC have the ability to observe these contrary currents by examining the “legal press” over the last couple of month.  Loosening of the restrictions on raising private capital, adopted by a 3-2 Republican majority during the Trump administration, became effective last month.  At the same time, the current SEC is embracing, and being asked further to embrace, a heightened disclosure agenda which has run, historically, contrary to Republican efforts to encourage capital formation in support of American free enterprise.

It may be that this yin-yang is a beneficial dynamic.  Each “camp” advances its “agenda” but must keep a weather eye fixed on the opposing viewpoint, thereby rubbing the most controversial edges off their respective proposals.  It is hard to make an argument against reasoned rules preventing misinformation and other rules promoting full disclosure of risk, and the last few months show promise of a happy, if controversial, medium in each arena.

The next two blog posts will explore:

first, the expansion of capital formation tools that became effective March 15 by reason of actions taken by the Clayton Commission prior to the change in Federal Administration; and

second, the movement towards broader embracing of robust “ESG” disclosure.

Expensing R&D

The significant 2017 Tax Act benefit allowing R&D expenses to be deducted in the year incurred, rather than amortized over many years, terminates for years starting January 1, 2022, unless Congress amends that sunset provision.

And for companies which have farmed out R&D offshore, the write-off period in extended from 5 to 15 years.

The supposition behind the original legislation, aside from keeping jobs inside the US, was that future economic power would come through R&D and that the economy and US would better off if that R&D was plugged into US-based enterprises for commercialization.

What can business do in the circumstances?  Political activity of course could solve the problem.  For a temporary hedge, or indeed if there is no relief then a permanent hedge, comes from the obvious: speed up 2021 R&D, carefully account so that something that can be classified as a business expense does not leak into the R&D column, and concentrate as much as possible on US-based research.

Only changing the current law to extend the credit addresses the root issue: long-term best cash management through immediate write-offs of research costs.  And notwithstanding speed of write-off, it is of course possible that the better mouse-trap is being designed off-shore, and that the best net economic decision is to ignore geography in R&D; a significant invention is going to be more cash-positive than an R&D write-off time-line.  Thus the best solution addresses both preserving the one-year write-off and eliminating any distinction between  US tax treatment of R&D based on geography.

It is one thing to keep physical production on-shore, one can make an economic analysis about the cost-benefit ratio in that case.  Innovation is not the same as rolling steel.

Personal Note: New Poetry Book

Today please forgive a personal note; I try to keep my posts on a wholly professional level, which means mostly law, sometimes government, and (in years, unlike this, when the Red Sox field a professional baseball club) baseball.

Your friendly neighborhood electronic bookstore (Amazon, Barnes and Noble)n ow carries my third book of poetry, entitled OBLIGATORY COVID CHAPBOOK.  A chapbook is a trade term for a short book of poetry written around a theme; and, you can of course guess the theme of this one.  Just log on and enter my name or the name of the book,  and this book should pop up.  (If you have a problem just email me and I can get a copy to you.)

Although the theme of this book is no doubt deeply depressing, I hope that it helps put into perspective our commonly shared experience, and permits better processing of what is likely (hopefully) the most trying period of our respective lives. I would appreciate your ordering a copy of this volume and, if you find it favorable, a complimentary post on the vendor’s site is always greatly appreciated.

And to all of you, survivors: this one’s for you.

Best, Steve

Federal Ban on Non-Comps?

President Biden has announced that he will work with Congress to “eliminate all noncompete agreements, except the very few that are absolutely necessary to protect a narrowly defined category of trade secrets.”  In late February, Senators and Representatives introduced a bill to ban all non-comps except in acquisitions and partnership dissolutions.

Business people are well aware of the historical debate over non-comps, which have slowly fallen out of favor in some jurisdictions (including a near-ban in California and a sharp retrenchment in Massachusetts).  Without repeating all the arguments, what can we expect to see in the future?  Below, some speculations:

Big tech often has spoken about its need to protect the technology that made it big, a large employer and the bringer of modern science to the economy and to the entire population.  Big tech is under attack today from many quarters in many countries, not only in the US.  Will this mind-set also weaken the appeal of the big tech argument about needing non-comps?

If the American economy continues to move away from manufacture, would this trend place pressure on fostering start-ups which will replace other lost opportunities?  Will this broad societal trend lend support to a general perception that non-comps stifle start-ups which are the wave of the US’s future?

To the extent that non-comps become legally disfavored, enforcement of perceived rights of former employers will move to efforts to protect competitive advantage through enforcement of trade secret rights; we see this trend already under the Federal Defend Trade Secrets Act, which is premised on the almost unassailable legitimacy of claims of ownership rights by the businesses that invent a technology or process.  These are sometimes difficult cases, however; high requirements of proof, often involving technical matters of some subtlety.  Full-time employment for litigation attorneys?

Finally, there is substantive debate as to whether non-comps, on a net economic basis, actually do harm workers who sign them, rather than help them.  There are current claims, for example, that research shows that eliminating non-comps causes reduced employee compensation and satisfaction (putting aside impact on companies and innovation).

We put aside the logic of having the Federal Government act on this range of issues.  That is a wholly different debate.