When Elon Musk, founder of Tesla and SpaceX, expressed interest in buying Twitter in April, the response — among the company’s employees and users — was mixed. While some cheered the billionaire’s acquisition of the platform, others worried about the changes that Musk would bring to the 16-year-old social media company. However, in the last few weeks, Musk appeared to sour on the $44 billion deal, finally announcing that he was backing out of the contract, blaming an excessive number of fake accounts, or “bots.”
In response, Twitter slapped Musk with a lawsuit, asking a Delaware court to enforce the agreement to buy the company — a likely result, says Guhan Subramanian ’98, the Joseph H. Flom Professor of Law and Business at Harvard Law School and chair of its Program on Negotiation. Subramanian, who is also the H. Douglas Weaver Professor of Business Law at Harvard Business School, is currently serving as an expert witness for Tesla shareholder plaintiffs in the litigation against Elon Musk for his 2018 “funding secured” tweet about taking the company private.
On Tuesday, a Delaware judge dealt a minor blow to Musk when it denied his request to delay a trial, which is set for October. Harvard Law Today spoke with Subramanian about Musk’s claims, how Twitter will fight back — and what a court may decide about the company’s fate.
Harvard Law Today: Twitter has sued Elon Musk to try to enforce their merger agreement. For his part, Musk says that Twitter violated the agreement by not turning over information he requested on how many of the social media platform’s accounts were bots. What are Musk’s claims for breaking the contract, and how will a court evaluate them?
Guhan Subramanian: There are a few distinct claims that Elon Musk is giving for his reasons to back out. One is that he has a general right to information that he reasonably needs in order to be able to close the deal. So, he has asked for lots of information about all kinds of aspects of the Twitter business, claiming, among other things, that his financing sources wouldn’t agree to finance the deal unless they had this information.
The second reason is somewhat distinct, regarding the platform’s bots and spam accounts. Twitter has said that its platform contains five percent bots, but that it may be higher. Musk thinks it is a lot higher. In June, Twitter gave Musk the “firehose” — every tweet from every single day, or about 500 million tweets a day. They essentially said, ‘you try to figure out how many are bots.’ In Musk’s letter to terminate the deal, he says he thinks that the number is significantly higher than five percent, but he does not give any specifics. It suggests to me that he does not know; that the people on his side can’t figure out how many bots there are. From what I can tell, that is a complicated question — it is even difficult for Twitter to figure out who is a bot and who is not.
To me, these are both tough claims for Elon Musk to win, because Twitter does seem to have been providing information, and they do seem to have made efforts to give Musk information about the bots. Unless there is a smoking gun somewhere — for example, evidence that Twitter knew 40 percent of its accounts were bots instead of the five percent it claimed — Elon Musk likely loses on both those claims.
Twitter gave Musk the ‘firehose’ — every tweet from every single day, or about 500 million tweets a day. They essentially said, ‘you try to figure out how many are bots.’
Elon Musk’s third claim is that Twitter violated the agreement’s “ordinary course” covenant, which says that Twitter will operate in the ordinary course of business between signing and closing. Musk is claiming that Twitter instead laid off a few senior people, as well as a third of its recruiting staff, and that that is outside the ordinary course of business, and he therefore has the right to back out of the deal. In my view, that is probably the best claim that Musk has, but even that claim is not very strong. Because according to Twitter, at least, he approved a lot of these terminations of employment, and even if he didn’t, it seems hard to believe that relatively routine terminations like these would be sufficient to violate the ordinary course covenant. I have a database of 1,300 merger and acquisition deals, and the “ordinary course covenant” here is more seller friendly than 93 percent of those deals. So, I think all around he has fairly weak arguments to back out of the deal.
HLT: Is it unusual that Musk signed a merger agreement if he had such reservations in the first place?
Subramanian: It is incredibly rare to sign a merger agreement without having done full due diligence in advance. What makes the problem even worse here is that one of the reasons that Elon Musk originally said he was buying Twitter was to clean up the bots — to eliminate them from the platform. Therefore, he seems to have known going into this that there were a lot of bots. So, if his purpose for buying Twitter, in part, was to get rid of the bots, to turn around and say that there are too many bots as a way to get out of the deal seems disingenuous.
HLT: If a judge agrees that Musk violated the purchase agreement, what types of remedies are available? Could he be obliged to buy the company, or could he instead be forced to pay damages?
Subramanian: It’s a complicated question. Twitter is suing for specific performance, which is specified in the merger agreement as being a remedy that they are entitled to pursue. Specific performance means that Elon Musk must close the deal — he cannot just pay damages. That is one likely outcome — that the court would enforce the specific performance remedy.
Specific performance means that Elon Musk must close the deal — he cannot just pay damages. That is one likely outcome.
There is some speculation about damages in lieu of specific performance, so the court could say it does not like the idea of forcing Musk to close a deal he does not want to close and instead make him pay damages in the amount that Twitter was damaged by his breach of contract. I think there are a couple of problems with that. One is that the merger agreement specifically says that damages are not a remedy that would make the parties whole, and so the parties have explicitly disavowed damages and specified specific performance. Also, the damages are capped at $1 billion in the agreement itself, but that is only for certain kinds of terminations.
There is a further question about how, if Musk is forced to close, it would be enforced. Here, the court may have an ability to attach his Tesla shares or other assets. That does get complicated, because entities affiliated with Musk, not Musk himself, are parties to the merger agreement. But it seems possible that a court of equity, like the Delaware Court of Chancery, could attach his Tesla shares as a means of forcing him to close the deal. Another possibility — though a remote one — is that they could put him in jail for contempt of court.
HLT: Is it unusual that Twitter is trying to force Musk to go through with this purchase?
Subramanian: This whole thing is very odd, because obviously Elon Musk was sufficiently interested in buying Twitter at one point. He made an offer, and the offer was accepted by Twitter, so at least as of three months ago, he was interested in acquiring Twitter.
That said, you do see buyers trying to walk away from a deal they have already signed. In March of 2020, at the beginning of the COVID pandemic, you saw some companies try to back out of deals. For example, LVMH was trying to buy Tiffany & Co., and LVMH argued that there was a material adverse effect at Tiffany, and so they could walk away from that deal. But most of those deals simply led to a renegotiated price. In that case, the deal closed for about four percent less than the original price. That is the typical dynamic — just renegotiate a deal with a slightly lower price.
HLT: What is the SEC’s interest in this transaction, and what legal obligations does Musk have there?
Subramanian: Musk has already violated SEC rules in at least one way. When he first bought his stake in Twitter back in March of this year, he failed to disclose in a timely way that he owned more than five percent of Twitter. The SEC has asked him to explain why he violated its rule. I’m sure he will pay penalties for violating that rule, but that would be relatively small compared to his potential liability under the purchase agreement. Musk’s current contractual commitment is to buy Twitter for $44 billion — and the company is probably worth two thirds of that, maybe even less. The SEC fine will be small compared to exposure under the contract, and that contract will be enforced by the Delaware Court of Chancery.
HLT: Can you think of any historical analogies to this situation, where a very high profile purchase of a company went south, impacting the company’s stock and business prospects?
Subramanian: In a recent Columbia Law Review article that I wrote with Caley Petrucci ’20, we examine some of the broken deals that resulted from the COVID-19 pandemic. These are loosely analogous, because a lot of those buyers wanted to walk away, like LVMH wanted to walk away from Tiffany, due to global events. But in Musk’s case, there is no such global cataclysm — it’s just Elon Musk saying, “there are too many bots.” Certainly, the stock market is down, and the value of Tesla is down, but it is not some cataclysmic event that is causing Musk to want to walk away.