Can an acquired SPAC avoid conflict with the doctrine of “business continuity”?


Otonomo Technologies Ltd. (Otonomo) is an Israeli company. Its business includes collecting billions of real-time data elements daily from car and truck fleets and then providing safety and location reports derived from that data to fleet owners and their service providers. .

Otonomo is not listed on the stock exchange. Otonomo’s investors include Dell Capital and Hearst Ventures.

Software Acquisition Group Inc. II (S-SPAC) is a Delaware special purpose acquisition company. In 2020, S-SPAC raised $172.5 million in an IPO on NASDAQ. In a press release issued at the time, S-SPAC said, “While the Company may pursue an initial business combination objective in any business or industry, it intends to focus its research on software companies, especially those targeting privately owned enterprise verticals, venture capital and venture capital firms as well as corporate carve-outs.

Proposed business combination

In accordance with the cited 2020 press release, in February 2021, S-SPAC and Otonomo issued a press release regarding a proposed cross-border share exchange acquisition. Otonomo will acquire all of the shares of S-SPAC from S-SPAC shareholders, who will receive in exchange for the originally issued Otonomo shares. Given that Otonomo’s valuation immediately after the exchange is expected to exceed $1 billion and that S-SPAC holds $172.5 million in cash, exchanging S-SPAC shareholders will only receive a modest minority of Otonomo shares post-issue.

Incident to the exchange, Otonomo will then become listed on the NASDAQ stock exchange, and S-SPAC will be delisted from the NASDAQ. This negotiated SPAC transaction will thus provide Otonomo with the two main commercial advantages that the more uncertain alternative of an initial public offering could have obtained, namely a liquidity injection and a listing on NASDAQ.

The S-SPAC-Otonomo press release announcing the stock exchange notes that after the exchange, Otonomo and its subsidiaries will have S-SPAC’s $172.5 million in cash, which, according to the press release , “will be used to fund the growth of the combined company, accelerating our go-to-market strategy, strengthening our leadership position and unlocking new use cases and end markets.

Tax aspects of share exchange

The acquisition of S-SPAC by Otonomo will be accomplished through a Delaware law merger of a newly formed transitional Delaware subsidiary of Otonomo with and into S-SPAC, with S-SPAC surviving. The acquisition agreement provides that the transaction is intended to be a tax-deferred reorganization for exchanging S-SPAC shareholders. The reorganization provision referred to is presumably a reverse triangular subsidiary merger described in Sections 368(a)(1)(A) and 368(a)(2)(E), and possibly a stock exchange described in section 368(a)(1). )(B) also.

The non-recognition of Section 351(a) appears unavailable to S-SPAC shareholders who trade. The press release announcing the combination indicates that in connection with the acquisition of S-SPAC by Otonomo, there will be a private equity investment transaction (PIPE), involving a sale at the initial issue by Otonomo of $172.5 million in shares to private investors. Some of the investors mentioned as backing the PIPE transaction, such as Dell Technology Investors and Hearst Capital, are pre-existing shareholders of Otonomo. However, there is no indication that the group transferring to Otonomo, including S-SPAC shareholders and PIPE investors, will obtain 80% or more control of Otonomo, as required by the non-recognition of the Section 351(a). If non-recognition under Section 351(a) is not available, exchanging S-SPAC shareholders must rely solely on the reorganization provisions for non-recognition upon receipt of shares Otonomo.

The fact that Otonomo is not a US company will not prevent the outgoing cross-border stock exchange from qualifying as a reorganization. Section 1.367(a)-3(c) of Treasury regulations generally permits an exchange of U.S. corporate stock, such as S-SPAC stock, for a minority block of foreign company stock, such as Otonomo stock. , by means of a reverse triangular merger of a transitional U.S. subsidiary of the acquiring foreign corporation with and into the U.S. target corporation, which is otherwise considered a reorganization described in sections 368(a)(1)(a) and 368 (a)(2)(E), or Section 368(a)(1)(B), to qualify as a reorganization, provided certain conditions are met. These requirements involve issues such as: prohibited post-exchange control of the acquiring foreign company by US target shareholders of 5% or more and US officers and US directors of the US target company; executing gains recognition agreements by exchanging unrecognized US shareholders who, after the acquisition, own 5% or more of the voting power or value of the foreign acquirer; a requirement that the market capitalization of the acquiring foreign company be at least that of the US target company; the active and continuing nature of the foreign business of the foreign acquirer; and reporting requirements. The S-SPAC can be expected to meet these requirements. While there are other tax issues involved in the S-SPAC-Otonomo transaction, an important question in qualifying as a reorganization is whether the “continuity of business enterprise” or COBE rules will be met.

The IRS would consider how the COBE rules will be applied to acquired SPACs. Section 6.03(2)(a) of IRS Tax Procedure 2021-1 provides that although the IRS will not rule that a transaction qualifies as a reorganization, it will rule on material matters under of Treas. Reg. COBE Section 1.368-1(d) testing may be available. Officials in the IRS rulings branch said they were open to Treas. Reg. Section 1.368-1(d) Requests for a COBE decision regarding acquired SPACs, although they caution that there is no assurance of a favorable outcome or how long such a decision would take.

However, Otonomo’s March 2021 preliminary proxy statement filed with the SEC notes: “The closing of the business combination is not conditional upon receipt of an attorney’s opinion that the business combination companies will be considered a reorganization, and neither [S-SPAC] neither Otonomo intends to seek a ruling from the IRS regarding the US federal tax treatment of the business combination. Accordingly, no assurance can be given that the IRS will not challenge the characterization of the business combination as a reorganization or that a court will not support such challenge by the IRS.

COBE regulations

Treasures. Reg. Section 1.368-1(d) requires that the group controlled by the issuing company either continue the target’s historical business or use a significant portion of the target’s historical business assets in a business. In the case of a reverse triangular merger described in Section 368(a)(2)(E), or in a Section 368(a)(1)(B) reorganization, such as the S-SPAC- Otonomo, it appears that the post-acquisition parent company of the target, here Otonomo, will be considered the issuing company.

Thus, the question in the S-SPAC transaction will likely be whether the taking of funds from S-SPAC after the acquisition by Otonomo and Otomono’s operating subsidiaries can be characterized as either a continuation of S-SPAC’s historic business. SPAC, or commercial use of assets of S-SPAC historical heritage of the company. Unfortunately, the regulations do not provide much guidance on this point.

Instead, the regulations and related rulings focus on a transaction perceived as abusive by the IRS, where the acquired company operates a business, sells that business for cash, and then, as a cash company, is acquired by a company in another line of business. (See, for example, Tax Ruling 81-92.) By contrast, in S-SPAC’s situation, there was no pre-existing business that S-SPAC sold for cash.


S-SPAC’s business was focused on combining with a software company, which software company could profitably use S-SPAC’s cash to grow the combined group’s post-acquisition software business. The acquisition of S-SPAC by Otonomo will be consistent with this business objective of S-SPAC. The S-SPAC-Otonomo transaction therefore presents a favorable case for a favorable IRS finding on the COBE.

This column does not necessarily reflect the opinion of the Bureau of National Affairs Inc. or its owners.

Author Information

Alan S. Lederman is a shareholder of Gunster, Yoakley & Stewart, PA in Fort Lauderdale, FL.

Bloomberg Tax Insights articles are written by experienced practitioners, academics, and policy experts who discuss current tax developments and issues. To contribute, contact us at [email protected].


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