Musk ducks out

In retrospect, it was inevitable. Elon Musk has withdrawn his bid to buy Twitter. See you in court, the board shot back. It is not a surprise that Musk backed out – buyer’s remorse was evident fairly early on: in mid-May he said the transaction was on hold… But that he was “Still committed to acquisition.” A month ago he filed a complaint at the SEC saying Twitter had materially breached its obligations to furnish him with information relating to the transaction.

The Twitter Board is committed to closing the transaction on the price and terms agreed upon with Mr. Musk and plans to pursue legal action to enforce the merger agreement. We are confident we will prevail in the Delaware Court of Chancery.

— Bret Taylor (@btaylor) July 8, 2022

It could be the bots, but probably not. It’s most likely the valuation – the Nasdaq has plunged since the deal was inked, so Twitter is by any normal model worth a lot less than $44bn today. Also, Tesla’s stock, upon which Musk’s wealth rests, is down more than a quarter since the deal was signed. And that debt/equity raising proved harder than expected. It could be that he wants to renegotiate Twitter down to a lower price…he didn’t exactly do much modelling before, and the market has soured since. That would make sense if this were not Musk. Some prefer the idea that it was always a joke, that he just got bored with the idea and decided to walk away. I prefer the idea that it always a trick to sell some more Tesla stock. In April I said the Twitter deal could be “a smokescreen to offload a tonne of Tesla stock without a backlash, finding some other reason down the line to walk away … Last year he faked a Twitter poll to offload lots … fits the pattern of behaviour.”

Does Musk have a point?

It is a legally binding transaction, so he will need to find some way to prove Twitter breached covenants. Bots…well that seems to be the nub of it. Musk says Twitter has been misleading advertisers and investors for years by misrepresenting the number of spam or fake accounts. He seems to have no evidence to back this up. Musk has been publicly goading Twitter about this for weeks. He’s also made it pretty clear for some time that he was finding any pretext to get out of the deal. The complaint itself is not really about the bots per se – it rests on Twitter complying with any reasonable requests for data from Musk, who says the company failed to meet his demands for certain information. This looks incredibly flimsy but it’s not meant to be true, just a pretext to get into court where Musk will hope he can get off, perhaps by paying no more than the $1bn break fee.

A month ago I noted that court proceedings were inevitable after Musk produced an updated SEC filing saying that Twitter’s refusal to provide more information on spam accounts and how these are measured amounted to a ‘material breach’ of Twitter’s obligations in the sale process.

I also noted that “the only way Musk can get out would be to ask enough questions that Twitter won’t answer so he can argue they breached covenants by not furnishing him with information that he could reasonably request. It’s not clear what this info might be…but it is a plausible avenue if you were finding a way to wiggle free from a deal. It’s just all rather obvious.” It is all just far too obvious…and this will be important when it comes to the court and matters of ‘good faith’. Musk seems to be attempting to trap Twitter into what he thinks is a clever trap. His position is that ‘the bots numbers must be wrong and until you furnish me with information supporting this assertion, you must be hiding important information from me’. I don’t see how this stands up in court, but I am not a lawyer.

There are some weird bits to the complaint. Obviously, it hinges on the perceived number of fake accounts versus the reality, and Musk’s request for various tranches of data relating to this. But there are some unusual concerns. Among the complaints, Musk cited receiving a PDF version of Goldman Sachs’ valuation model rather than the Excel…And he’s complaining about some executives quitting as part of the ‘ordinary course’ covenant…not sure how you stop someone quitting, especially since they probably left because of Musk. On the last point, he also complained that Twitter fired two employees and cut hiring…hardly things you would be materially worried about and hardly something that breaches the ‘ordinary course’ covenant.

Couple of outcomes: If it goes all the way to the Delaware Court of Chancery, the court can make Musk pay the $1bn break clause (he would do this today if he could). Then he either walks away or he has the board over a barrel and renegotiates the deal. Or they could force him to fund the $33.5bn he’s on the hook for and complete the deal. Twitter thinks it can make this happen. This would be a pretty serious move – what if Musk just says ‘no’? What is the recourse? He’s hardly been one to comply with the SEC or anyone else for that matter. The complaints seem flimsy so I would think any court would find against Musk…but it depends on exactly how they find against him. Musk seems to believe that Twitter will need to reveal information about fake accounts that he claims they have been holding back. I don’t see why they would need to do that…lawyers win. As I said a month ago: “I am not an M&A lawyer…but I cannot see how Musk would win in court when his motives are so transparent.”

Twitter shares fell 8% in the pre-market to about $34. Clearly the arb on this was always to short the deal. But Twitter may well succeed in forcing Musk to swallow this deal whole. Tesla stock would prefer no deal. And a word on those who say that Musk has the lawyers to bury the deal in Delaware – Twitter hired the fearsome Wachtell, Lipton, Rosen & Katz, the guys who invented the poison pill defence against hostile takeovers…

Seems fair to go to Trump for a view.

Elsewhere…

Stocks in Europe have opened lower in early trade on Monday. The major bourses all opened around 1% lower or more. US futures were lower after a mixed end to the week on Friday saw the Nasdaq rise a tough and the Dow and S&P 500 slip a touch. US 10yr Treasury yield a tad higher above 3%. Oil moved lower, front month WTI down to $102.50 from above $105 on Friday. Gold lingers under $1,740 and Bitcoin is skulking around the $20k level. USD is on the front foot again after pulling back a touch towards the end of last week.

Week ahead bits

Earnings season: After declining 20% in the first half of the year, the second quarter earnings season comes at a vital moment for the S&P 500. Analysts still see 10% earnings growth this year and it seems likely that these estimates will need to be revised lower, potentially leading to further declines for the broader market. JPMorgan gets the US Q2 earnings season underway July 14th before the market opens.

US consumer inflation is the focus on Wednesday as markets search for direction from central banks and the path of bond yields. CPI rose 1% in May, up from +0.3% in April, leaving the annual increase at +8.6%, the highest since 1981. Core inflation, which strips out food and energy, rose 0.6% in May, the same rate as in April. Markets have been pushed from pillar to post on a mix of rising inflation and growing concerns about a recession, so this release will be closely watched for signals about the likely path of monetary policy. Produce price inflation data is released the day after.