New lawsuit questions regulatory status of Bill Ackman’s SPAC

Pershing Square Tontine Holdings—the special purpose acquisition company set up last year by billionaire hedge fund manager Bill Ackman that recently dropped its plan to take a stake in Universal Music Group—has been sued by an investor represented by New York University law professor and former SEC Commissioner Robert Jackson Jr. and Yale law professor John Morley in a case that could ripple throughout the world of blank-check companies in the years to come.

Filed Monday in the Southern District of New York, the lawsuit alleges that Pershing Square Tontine should be regulated as an investment company under federal law, considering investing in securities “is basically the only thing that PSTH has ever done.” And because the SPAC is not one today, the suit claims Pershing Square Tontine has been able to charge public-market investors “what amounts to hundreds of millions of dollars” in illegal compensation under the Investment Company Act of 1940 and the Investment Advisers Act of 1940. “Ackman runs this SPAC the same way he runs every other investment product he’s ever sold, with one important difference: He’s trying to evade the protections of the Investment Company Act,” Jackson told Fortune. “As a result, the governance of the entity allows him to extract millions of dollars in compensation, and that comes right out of the pockets of investors.”

In a statement to Fortune, Pershing Square Tontine called the allegations “totally without merit.” The SPAC “owns or has owned” U.S. Treasuries and related money-market funds, the statement said; however, Pershing Square Tontine said the same is done by “all other SPACs while they are in the process of seeking an initial business combination.” The company said it has “never held investment securities” that would require it to be registered under the Investment Company Act of 1940, nor that it plans to do so in the future.

However, in the lawsuit, Jackson and Morley point to instances from the court system and the Securities and Exchange Commission in which both U.S. government bonds and money-market fund shares have been classified “unambiguously” as securities under the Investment Company Act. (Pershing Square Tontine did not respond to an additional request for comment on this point.)

The case represents yet another potential stumbling block for the SPAC model.

Since the bonanza of activity the market saw in such blank-check companies to start the year, when nearly 300 SPACs listed in the U.S. between January and March, the SPAC market has faced drastically different conditions.

Regulators in Washington, D.C., have ramped up their scrutiny, even recently charging a SPAC, its sponsor, the CEO, and its merger target for misleading claims about the business it was acquiring. Lawmakers in Congress have expressed concerns of their own. And investors, arguably the market’s most important constituency, have had a waning appetite for SPACs for some time now. As of Tuesday, only 114 SPACs have listed in the U.S. since the beginning of April, according to data from SPAC Insider.

Now the lawsuit against Pershing Square Tontine brings another set of questions to the industry that both Jackson and Morley expect many will be asking themselves soon enough.

“There may very well be other SPACs that raise similar issues,” Morley said. “The SPAC marketplace has been a source of concern for regulators and market watchers for several years now, all of them deeply concerned about the level of compensation taken by SPAC sponsors, and it may well be the case that other SPACs raise similar regulatory questions.”

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