Twitter: See you in court, Elon!

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I think it is helpful to start with the big picture. Elon Musk is the richest person in the world, and, like many other rich people, he has some unusual and expensive hobbies. One of his hobbies is that he sometimes likes to pretend that he will acquire public companies. He seems to find this fun, and why not? When he pretends that he’ll buy a public company, it creates a big drama with him at the center of it. He gets to boss people around, mobilize legions of bankers and lawyers and financing sources and random hangers-on hoping to get the deal done, and then when he gets bored he can tell all those people to go home. “Haha got you,” he can say, and they can all have a good laugh, or he can anyway.

This is an expensive hobby! When Musk pretended in 2018 that he was going to take Tesla Inc. private, he had to pay the US Securities and Exchange Commission a $20 million fine and stop being the chairman of Tesla’s board. You’re not really supposed to go around pretending that you will buy a public company; the SEC sometimes considers that securities fraud. But Musk is very rich and he can easily afford to pay $20 million for his little joke. His appetite for pretending to buy public companies was, apparently, undiminished.

So this April, Musk announced that he wanted to buy Twitter Inc. Why not? Musk seems to get a lot of joy out of using Twitter, and pretending to buy Twitter is a good way to create drama on Twitter. At the time, I assumed that, as with Tesla, he was doing a bit. If a billionaire chief executive officer of a public company offers to buy a company, the odds that he is kidding are quite low. But when it’s Elon Musk, the historical odds are, like, 50/50. 

But he surprised me by quickly lining up financing (paying millions of dollars of fees to banks for commitment letters) and signing a merger agreement with Twitter. If he was pretending he was going to buy Twitter, those were pretty elaborate lengths to go to? But he frequently goes to elaborate (and expensive) lengths for a joke — he sold 20,000 branded flamethrowers to make a joke about flamethrowers, and also founded Boring Co. to make a joke about tunnels — so who knows. Would he line up billions of dollars of financing and sign a binding merger agreement with a specific-performance clause and a $1 billion breakup fee as a joke? I mean! Nobody else would! But he might!

In any case, shortly after he signed the deal, the market went down. Twitter’s stock closed at $44.48 on April 12, the day before Musk announced his offer; he agreed to pay $54.20 per share (420 is a weed joke). Since then Twitter has surely lost value: The stock closed at $36.81 on Friday, and other social-media stocks are down significantly since April. (Snap Inc. is down about 57% since April 13; even Meta Platforms Inc. — Facebook — is down more than 20%.) Meanwhile Tesla Inc. stock, the main source of Musk’s wealth, is down almost 27% since he announced his offer for Twitter. Twitter is worth less than Musk agreed to pay for it, and Musk is less rich than he was when he agreed to buy it. These are not valid reasons for Musk to get out of the deal: The legally binding merger agreement that Musk signed with Twitter does not allow him to terminate the deal due to changes in the stock market or his own wealth. But they are reasons that Musk might want to get out of the deal, even if he wasn’t kidding when he first signed it.

Whatever the truth is,

Elon Musk said he’s terminating his $44 billion agreement to acquire Twitter Inc. and take it private, triggering a legal fight with the company.

Twitter has made “misleading representations” over the number of spam bots on the social network, and hasn’t “complied with its contractual obligations” to provide information about how to assess how prevalent the bots are, Musk’s representatives said Friday in a letter to Twitter as part of a regulatory filing.

Twitter said it will fight back in court.

Here is the letter, signed by Mike Ringler of Skadden, Arps, Slate, Meagher & Flom LLP, Musk’s lawyer. Let’s take a closer look at the letter, where Ringler offers three pretexts for why Musk should be allowed out of the deal.

The first pretext is: Twitter has been lying about bots. For at least eight years, Twitter has said in its SEC filings that it estimates that fewer than 5% of its monetizable daily active users are “false or spam accounts,” and in the merger agreement it represents that its SEC filings are accurate. Ringler says that “it appears that Twitter is dramatically understating the proportion of spam and false accounts represented in its mDAU count.” There is not a whisper of evidence for this claim, no hint that there might be evidence, no acknowledgement that a reasonable reader of this letter might want to see evidence. The only basis for the claim is that “preliminary analysis by Mr. Musk’s advisors of the information provided by Twitter to date causes Mr. Musk to strongly believe that the proportion of false and spam accounts included in the reported mDAU count is wildly higher than 5%.” Notice that Ringler does not say that the analysis shows that the bots are “wildly higher than 5%” of mDAUs: That would be a factual claim that, Musk’s advisers know is false. They make only the subjective claim that Musk “strongly believes” it. I don’t even believe that he believes it! But that’s harder to disprove.

The bots thing, man, I don’t know. We have talked about many, many times. Back before the market crashed, back when he was pretending to want to buy Twitter, Musk was pretending that he wanted to buy Twitter in order to clean up the bot problem. Now he is pretending to want to get out of the deal because of the bot problem. It is tiresome to pretend to take this seriously, so let’s not.

Still, as a legal matter — and here I should emphasize that nothing in this post is legal or investing advice; if you are Twitter or Elon Musk you should consult your very expensive lawyers, and if you are reading this column to make bets on Twitter’s stock, cut it out — but as a legal matter: Is this pretext good enough to get him out of the deal? Well, look. If Musk can prove that in fact Twitter has been running a years-long fraud on its shareholders and advertisers — that it has knowingly been massively understating the number of bot accounts in order to trick companies into buying Twitter ads and shareholders into buying Twitter stock — then, sure, maybe that will get him out of the deal. Twitter does represent in the merger agreement that its SEC filings are correct, and the SEC filings do say that Twitter estimates that bots are under 5% of mDAUs, though they caveat that “this estimate is based on an internal review of a sample of accounts and we apply significant judgment in making this determination.” If Twitter were simply lying — if it knew that bots were really 75% of mDAUs — then I suppose the rep would be false. Again there is absolutely no evidence for this, Ringler’s letter makes it fairly clear that Musk is never going to offer evidence for it, Twitter has publicly and persuasively defended its methodology, and third-party analyses that are sympathetic to Musk nonetheless seem to support Twitter’s numbers. But if you just pretend that Musk can somehow prove that Twitter is lying then, sure, fine, the representation would be false.

Even so, though, Musk cannot get out of the deal just because one of Twitter’s representations is false. He still has to close the deal unless the representation is false and it would have a “material adverse effect” on Twitter. This is a famously under-defined term but it generally needs to be a pretty catastrophic effect. If the bots are 6% of mDAUs, whatever. If the bots are 75% of mDAUs and Twitter has been knowingly misleading its advertisers, and Musk can expose that scam and advertisers flee and Twitter faces legal trouble for its fraud, then, sure, material adverse effect. There is no evidence for this at all despite Musk’s months of looking for it. Also it is obviously untrue! Companies advertise on Twitter because it sells products! People use Twitter because other, non-bot people also use Twitter, so it is a useful and enjoyable social network! Elon Musk — who has far more interactions with bots than most Twitter users — is addicted to Twitter because it is full of real people! It’s how he met the mother of some of his children! The pretense that Elon Musk has somehow exposed the secret truth that nobody uses Twitter except himself and some spam bots is just absurd! But we have to keep talking about it! It’s so stupid!

The second pretext is: Twitter is not giving Musk enough information about the bot problem. This is a better pretext, for technical legal reasons. In the closing conditions to the merger, representations are qualified by “material adverse effect”; just finding that a representation is false would not give Musk the right to terminate the deal unless it caused an MAE. But covenants are qualified by “all material respects”: In the merger agreement, Twitter promised to do certain things between signing and closing, and it has to do those things, whether or not there would be a material adverse effect from not doing them. So if Musk can prove that Twitter hasn’t complied with its obligations, he can get out of the deal.

The third pretext is another covenant. Twitter promises to “use its commercially reasonable efforts to conduct the business of the Company and its Subsidiaries in the ordinary course of business” between signing and closing. Ringler’s letter argues that Twitter has not been running its business in the ordinary course:

Twitter’s conduct in firing two key, high-ranking employees, its Revenue Product Lead and the General Manager of Consumer, as well as announcing on July 7 that it was laying off a third of its talent acquisition team, implicates the ordinary course provision. Twitter has also instituted a general hiring freeze which extends even to reconsideration of outstanding job offers. Moreover, three executives have resigned from Twitter since the Merger Agreement was signed: the Head of Data Science, the Vice President of Twitter Service, and a Vice President of Product Management for Health, Conversation, and Growth. The Company has not received Parent’s consent for changes in the conduct of its business, including for the specific changes listed above. 

This is tossed in at the end, and I doubt that a court would really let Musk out of the deal because Twitter fired two employees. (It certainly wouldn’t let him out of the deal because other employees quit, which is not something that Twitter can control; also most of them probably quit because of Musk.) Firing employees and reducing hiring are pretty ordinary-course things to do, especially in response to an economic downturn. (Obviously Tesla has instituted a hiring freeze, because Musk has a “super bad feeling” about the economy.)

Oh, what a mess.

Musk’s goal here is presumably to walk away from Twitter and pay only $1 billion in damages. That would make this whole lark of pretending to buy Twitter an expensive joke, but definitely one he can afford. Paying $33.5 billion and having to own and run Twitter would sort of spoil the fun. 

(To be clear: Musk’s goal here might actually be to renegotiate the deal at a lower price. I actually kind of think it isn’t, and he really wants out of the deal — because he was kidding in the first place, or has gotten bored by now. But the conventional wisdom is that the goal of Musk’s letter is to get a lower price, and that does make sense and would be more typical. His bargaining leverage for that depends on whether a court would likely order only a $1 billion breakup fee — in which case he has a ton of leverage to get a much lower price — or specific performance — in which case he has very little leverage. When we talk, below, about what a court might do, we are also talking about what Musk’s and Twitter’s lawyers will think a court will do, which will inform their negotiating posture.)

But anyway, how this thing will end? My guess is as good as yours. However if we learnt anything from this drama, it is that things are every simple when Elon Musk is involved.