Monday, October 1, 2018
I have been so grateful for Ann Lipton's blog posts (see here and here) and tweets about Elon Musk's going-private-funding-is-secure tweet affair. Her post on materiality on Saturday--just before the SEC settlement was announced--was especially interesting (but, of course, that's one of my favorite areas to work in . . .). She tweeted about the settlement here:
[Note: this is a screenshot.] Ann may have more to say about that in another post; she did add a postscript to her Saturday post reporting the settlement . . . .
But I also find myself wondering about another of the contentious issues in Section 10(b)/Rule 10b-5 litigation: scienter. This New York Times article made me think a bit on the point. It tells a tale--apparently relayed to the U.S. Securities and Exchange Commission (SEC) in connection with its inquiry into the tweet incident--of fairly typical back-room discussions between/among business principals. This part of the article especially stuck with me in that regard:
On an evening in March 2017, . . . Mr. Musk and Tesla’s chief financial officer dined at the Tesla factory in Fremont, Calif., with Larry Ellison, the chairman of Oracle, and Yasir Al Rumayyan, the managing director of the Saudi Public Investment Fund. During the meal, . . . Mr. Rumayyan raised the idea of taking Tesla private and increasing the Saudi fund’s stake in it.
More than a year later, . . . Mr. Musk and Mr. Rumayyan met at the Tesla factory on July 31. When Mr. Rumayyan spoke again of taking the company private, Mr. Musk asked him whether anyone else at the fund needed to approve of such a significant deal. Mr. Rumayyan said no . . . .
Could Musk have actually believed that a handshake was all that was needed here? We all know a handshake can be significant. (See here and here for the key facts relating to the now infamous Texaco/Getty/Pennzoil case.) But should Musk have taken (or at least should he have known that he should take) more care to verify before tweeting? In other words, can Musk and his legal counsel actually believe they can prove that Musk (1) had no knowledge that his tweet was false and (2) was merely negligent--not reckless--in relying on the oral assurance of a business principal to commit to a $70+ billion transaction?
Don Langevoort has written cogently and passionately about the law governing scienter. One of my favorite articles he has written on scienter is republished in my Martha Stewart book. What he urges in that piece is that the motive and purpose of a potentially fraudulent disclosure are not the relevant considerations in determining the existence of scienter. Rather, the key question is whether the disclosing party (here, Musk) knew or recklessly disregarded the fact that what he was saying was false. Join this, Don notes, with the securities fraud requirement that manipulation or deception be in connection with the purchase or sale of a security, and the test becomes not merely whether Musk misrepresented material fact or misleadingly omitted to state material fact, but also whether he could reasonably foresee the likely impact of his misrepresentation on the market for Tesla's securities.
On the one hand, as Ann points out in her post on Saturday, a number of investors in the market thought the tweet was a joke. Given that, might we assume that Musk--a person perhaps similarly experienced in finance--knew or should have known that his tweet was false? On the other hand, as Ann notes in her post, the SEC's complaint states that "market analysts - sophisticated people - privately contacted Tesla’s head of investor relations for more information and were assured that the tweet was legit. So that’s evidence the market took it seriously." Yet, Musk might just be presumptuous enough to believe he could reasonably rely on an oral promise by a person who is in control of executing on that promise--thinking it represented a deal (although, of course, not one that experienced legal counsel would understand to be legally, or even morally, binding or enforceable). Too wealthy men jawing about a deal . . . .Puffery, or the way business actually is done in this crowd?
Based on what I know today (which is not terribly much), my sense is that a court should find that Musk acted in reckless disregard of the falsity of his words and understood the likely impact those words would have on the trading of his firm's stock. To find otherwise based on the specific facts alleged to have occurred here would inject too much subjectivity into the (admittedly subjective) determination of scienter. But we shall see. As Ann noted in Saturday's post, a private class action also has been brought against Musk and Tesla based on the tweet affair. So, we may yet see the materiality and scienter issues play themselves out in court (although I somehow doubt it).