In In re MultiPlan Corp. Stockholders Litigation, the Delaware Court of Chancery denied defendants’ motions to dismiss and ruled that the plaintiffs’ may proceed with their claims that the insiders of a special purpose acquisition company (SPAC) breached their fiduciary duties by failing to disclose information material to the stockholder vote that was held prior to the consummation of the de-SPAC transaction. The Court’s decision is one that SPAC sponsors, directors and officers should pay close attention to because the Court is not permitting the defendants to rely on the protections of the deferential business judgment rule as part of their defense. Instead, the Court is requiring that the defendants bear the burden of proving that the transaction was entirely fair to the stockholders and the company.
The Court notably also found that the plaintiffs were asserting direct claims on their own behalf rather than derivative claims which belong to the company or contract claims which would not allow claims based on breach of fiduciary duties by the board. As a result, if the plaintiffs are successful on the merits, the putative class would be able to directly receive damages. If the Court had found that the claims were derivative, then the company, rather than the plaintiffs, would have received the benefit of that recovery.
Background on the SPAC’s IPO
Churchill Capital Corp. III (the Company) went public in a $1.1 billion IPO on February 19, 2020. The founding sponsor of the Company, Churchill Sponsor III, LLC ( the Sponsor), held all Class B shares which were acquired pre-IPO for $25,000 and which post-IPO represented 20% of the outstanding equity of the Company. This 20% is considered the promote, or compensation, to the Sponsor. The Sponsor also had the power to appoint the Company’s board of directors (the Board) and provided the Board members with membership interests in the Sponsor and therefore indirect ownership in Class B shares of the Company.
The Class B shares would convert into Class A shares on a one-to-one ratio (subject to adjustments) if the Company successfully consummated an initial business combination, also known as a de-SPAC transaction, prior to the end of the 24 month period after the IPO. If no de-SPAC transaction occurred during that time window, then the IPO proceeds plus interest would be returned to the Company’s stockholders and the Class B shares would be worthless.
The De-SPAC Transaction
The proxy statement (Proxy) for the special meeting of the stockholders to vote on whether to approve the de-SPAC transaction, which was a merger of the Company and MultiPlan, stated that the Board recommended the merger. It also described the extensive diligence conducted by the Board and Churchill, including communications with “senior leaders of several large customers of Multiplan.” It did not disclose that MultiPlan was dependent upon one customer, UnitedHealth Group Inc. (UHC) for 35% of its revenues. It did not disclose that UHC intended to create an in-house data analytics platform to compete with MultiPlan or that this platform would compete with MultiPlan and cause UHC to move all of its key accounts from MultiPlan to UHC’s platform by the end of 2022.
The Proxy was not accompanied to an independent third-party valuation or a fairness opinion.
Each Class A stockholder had the right to elect to have its Class A stock redeemed for the purchase price plus accumulated interest. This right was exercisable at least two days prior the special meeting. Fewer than 10% of the Company’s public stockholders opted to exercise this redemption right.
When the de-SPAC transaction closed, the Company’s stock closed at $11.09 per share. The implied value of the Sponsor’s Class B shares on that date (meaning its value once converted into Class A shares) was $305 million. The board members’ interests in founder shares were worth roughly $230 million for one board member and at least $3 million for each other board member.
On November 11, 2020 a report was published by a research firm discussing UHC’s formation of its platform, and MultiPlan’s stock fell to $6.27 the following day and was at $6.27 on April 8, 2021, the day prior to plaintiffs’ filing the Complaint. The root of the Complaint is that the Company, certain directors, officers and the controlling stockholder issued a Proxy with material misstatements and omissions which impaired the Class A stockholders’ right to exercise their redemption and voting rights in an informed manner. Specifically, the complaint alleges that the defendants for personal financial gain induced the Class A stockholders to forego the opportunity to convert their Class A shares into a guaranteed $10.04 per share in favor of investing in MultiPlan.
Breach of Fiduciary Duty Claim
The default standard of review of breach of fiduciary duty claims in Delaware is the business judgment rule, which provides a rebuttable presumption that in making a business decision, the board acted on an informed basis, in good faith and in the honest belief that the action taken was in the best interest of the company. Here, the Court found that this presumption had been rebutted and Delaware’s most onerous standard of review – that of entire fairness – applied. As a result, the defendants will have the burden of proving that the de-SPAC transaction was entirely fair to the Class A stockholders and the Company.
Plaintiffs’ alleged that the de-SPAC transaction and the opportunity for the Class A stockholders to redeem their shares was a conflicted stockholder transaction and that a majority of the Company’s board was conflicted due to being self-interested or due to lack of independence from the Sponsor. The Court found both of these arguments supported the application of entire fairness.
The Court did not rule on the underlying claims in the complaint, but its rulings have significant implications for SPAC sponsors, directors and officers because the Court has shown its willingness to impose the burden of the entire fairness standard of review on SPAC insiders and allow stockholder litigation surrounding a de-SPAC transaction to move beyond the pleading stage. Since the Court also is permitting the claims to proceed as direct rather than derivative claims, if the plaintiffs are successful on the merits, the putative class members would be able to directly receive damages. The facts of this case are a reminder that the adequacy of stockholder disclosures, independent board members and the use of independent third-party financial advisors can be critically important in in connection with a de-SPAC transaction. The Court’s opinion is available here.