Twitter v. Musk: Justice Berger's Comments Undermine the DE Chancery

Wednesday's TV Appearance Invites the Fox into the Hen House

On Wednesday, former justice of the Delaware Supreme Court and Vice Chancellor of the Delaware Chancery Court Carolyn Berger joined CNBC’s “Squawk on the Street” program to discuss the Twitter v. Musk saga.  Right off the bat, Berger noted Twitter’s strong legal posture. According to Berger’s reading of the Twitter complaint, Twitter has a “very strong position to be on the winning side.”  

It’s true.  While Musk has been tweeting about bot numbers, Twitter has amassed an artillery of evidence and an army of elites.  The Twitter team is comprised of former Supreme Court law clerks and a former Chancellor of the Delaware Chancery Court.  And though Musk’s team is no joke either, one can’t help but wonder what the war room looks like at camp Musk tonight, staring down the barrel of a seemingly ironclad merger agreement and complaint.  It’s also worth noting that, no matter how much Musk tweets about it, the case is not about how many bots are on the Twitter platform.  The case is about enforcing a contract.  More specifically, it is about enforcing a contract to buy an asset, at a set price, negotiated by two of the most sophisticated groups of people in the world.  It is really not nearly as complex or unique as some may wish to think.  Breaking off a merger agreement in an attempt to get a better price is actually quite common.  

In fairness to Musk, he doesn’t just say the case is about bots.  Musk’s defiance of the merger agreement centers around three alleged Twitter “breaches”:

1. Twitter made false and misleading statements about how many bots are on the platform,

2. Twitter has not complied with information requests so that Musk can validate Twitter’s bot calculations, and

3. Twitter did not operate the company in the ordinary course of business after signing the merger agreement because a couple of senior employees got fired

Musk’s justifications have been analyzed every which way, including very incorrect ways.  Musk cannot simply walk away from the deal, even for $1 billion, as some have reported.  In order to get out for this sum, there has to be a “valid termination of the merger agreement under certain specified circumstances.”  Unfortunately for Musk, too many bots is not such a circumstance.  Twitter has known about the bot problem (and disclosed it with disclaimers you could drive a bus through) for a very long time.  Musk has known, too. Indeed, an entire industry of advertising and marketing companies has been built around the subject, claiming to give companies a better ROI on their ad spend by reducing bot engagement and increasing engagement with real people.  

Musk’s other arguments are similarly weak.  Twitter has given Musk a “fire hose” of data since signing the merger agreement; far more than what he is owed.  And even if Twitter uses rudimentary techniques to determine how many mDAUs are bots compared to “Technoking” standards, (Musk was flabbergasted!) it really doesn’t matter.  Musk loses unless he can prove fraud—a word conspicuously absent from his initial reply.  This is probably because Musk and Jack Dorsey are good friends, and friends typically don’t publicly accuse friends of fraud.   

It is also routine for employees to leave after a merger is announced.  It’s still routine (see “ordinary course of business”) even if those employees are high profile ones.  If Musk had wanted some say in this attrition, he surely did not communicate that when it mattered (say, asking for approval rights for key terminations in the merger agreement).  Sure, it would have looked a little better if those senior employees quit as opposed to getting fired, but it’s a little hard for Musk to say the terminations warrant blowing up the entire deal after he pretty clearly communicated he couldn’t wait to axe a few employees himself. 

Of course, just entertaining the above arguments completely ignores both the part of the merger agreement where he isn’t allowed to terminate if he has already breached, and the many arguments Twitter has for Musk’s bad faith (word to the wise: if you’re trying to show you’re serious about closing a deal, perhaps don’t cc your litigation counsel right away).  

These details all seem pretty damning, but it would be great to know what the Court thinks, especially if you wanted to take advantage of the very wide arbitrage opportunity here.  Unfortunately for my portfolio, we can’t ask the Court; but it would be helpful to know if there was a particular case adjudicated by the Delaware Chancery which looked a lot like this one.  It would be helpful to know how that case turned out.  It may come as no surprise that there is such a case.  

I won’t duplicate more analysis, but the DecoPac case is excruciatingly relevant, not just because of the decision, but because of who decided the case.  Chancellor Kathaleen McCormick (aka the Chancery head honcho) decided DecoPac, and she’ll decide Musk's fate here.  This is probably not good news for Musk.  To put it lightly, Chancellor McCormick was not amused by Kohlberg’s arguments in the DecoPac case.  And if we had a Venn diagram of the key DecoPac facts and the key facts here, it would probably just be a circle, right down to Musk’s pre-termination behavior (remember how Musk cc’d his litigation counsel when asking for Twitter data?  Chancellor McCormick all but chastised Kohlberg for making “multiple calls to litigation counsel” rather than to DecoPac management when coming up with modified financial models for its Covid-impacted debt financing in order to get out of the financing condition precedent). 

Musk may think he has an edge hiring in the attorney from Quinn Emanuel, Andrew Rossman, who argued the other side of the law in the DecoPac case, but I don’t envy the position Rossman is in.  Rossman may want to start doing some stretching, because the legal gymnastics he’s going to have to pull off to differentiate this case from DecoPac will be worthy of an olympic medal.  It’s not that taking inconsistent positions in separate cases is not allowed, rather that one can only imagine how his opening statement might go:

“Chancellor McCormick my client’s case is nothing like the DecoPac case.  It is worse.” 

A question at this stage might be: If Twitter is going to win, isn’t Musk paying damages to Twitter an equally reasonable, perhaps even preferred solution? 

In theory, yes.  In practice, this is tough.  Any contracts professor will tell you that contract law is not about punishing a breaching party.  Rather, contracts law is about making the non-breaching party whole.  The reasonable follow up question here would be: what is Twitter worth if this deal falls through?  The difference between that number and $44 billion should be the amount Musk would need to pay to make Twitter whole.  

So how much is Twitter worth if this deal doesn’t go through?  Almost certainly less than its current price of about $37/share.  Probably a lot less.  2022 has been, by some measures, the worst year in modern equities history, and tech stocks have suffered most.  Covid darling Cathie Wood’s flagship ARKK fund is down over 70% from its highs.  Individual names, including Twitter comps, have fallen 80% or more.  Twitter, by comparison, is only down about 50% from ATH.  If not for Musk’s offer, it is reasonable to assume Twitter could be 30-40% lower than its current price. Even at a downward-adjusted $23/share, Twitter’s P/E ratio would be about 80.  That is hardly cheap.  For a fast-paced company growing revenues at 40% YoY in the middle of an “everything bubble,” those multiples might sound palatable.  For a company hovering at 15% revenue growth in today’s interest rate environment, it’s harder to digest. 

So let’s assume the Musk agreement magically disappears without a trace tomorrow, and when the markets open on Monday, Twitter plummets to a now multiple-compressed $23/share.  Twitter has lost about $25 billion in value by way of the vanished deal.  If Musk wants out, that should, in theory, be the cost. 

It’s hard to imagine Musk coughing up $25 billion to simply walk away.  The outcome in the above scenario is that Twitter received $25 billion of Musk’s cash and Musk gets nothing.  Much business acumen!  “Not bad for the world’s smartest man,” you might say!  But if Musk has to shell out $25 billion just to walk, he might as well shell out $19 billion more to get that thing that he actually wanted in the first place.  After all, if this deal doesn’t work out he could try to launch his own social media platform, but that is hard, and Musk is very busy.  There is a scenario where Twitter might accept a lower sum (say $8 billion or $10 billion) to let Musk walk away.  This would give Twitter a “headline win,” and the Court would be happy because courts like settlements.  But Twitter would not be whole—at least not under current market conditions—and therefore Twitter would lose.  

And so the Court may be presented with two options if it finds Musk has improperly terminated: 

Option 1: have Musk pay some hypothetical amount of loss Twitter will suffer if the deal fails, or 

Option 2: make Musk pay for the thing that he said he wanted at the price he agreed. 

This is where it’s important to remember that the Delaware Chancery Court, unlike most courts in this country, is a court of equity.  There is no jury.  Monetary damages are not really their game, so to speak.  If Elon were a painter of houses and not a tech billionaire, and if painter Elon agreed to paint my house for $10,000 and then didn’t show up for work, the Court might prefer damages.  In this scenario, if Elon’s breach caused me to have to go find the next best housepainter in town, and that housepainter charged me $12,000, the Court might tell Elon the painter to pay me the $2,000 because I didn’t expect to pay that $2,000 difference.  The Court could tell Elon, “tough luck, go paint the house,” but courts don’t typically like to force people to work.  It is now important to remember that Elon is not a painter of houses.  Elon is a tech billionaire.  A damn-well-resourced tech billionaire, at that (if that clarification was necessary).  His wealth is very liquid.  And he has used that liquidity to buy his army.  That army was then pitted against Twitter’s army, and a very lengthy, very thorough agreement was reached.  This agreement even contemplated a remedy to fix exactly what might happen if Musk predictably acted in his typical unpredictable manner—you know, the way in which he is now acting unpredictably.  The remedy the parties agreed upon was specific performance (see Section 9.9).  

But the real story, at least for the moment, is not about Musk, or his arguments, or what Twitter may or may not be worth when the markets open on Monday.  It’s about what Justice Berger said on Squawk on the Street immediately after giving credit to Twitter’s legal position.  Justice Berger qualified her evaluation of Twitter’s position of strength, “that’s not to say that [Twitter] will necessarily get specific performance. 

“The problem with specific performance, especially with Elon Musk, is that it’s unclear whether the order of the Court would be obeyed” (emphasis added).

The suggestion that Musk simply won’t obey the Delaware Chancery Court because he is Elon Musk, and that the Court would find this to be an acceptable outcome, is frivolous at best, and destabilizing at worst.  There are many significant reasons why Musk would not simply reject a Chancery opinion on a whim.  But for a man like Musk, who has openly called members of the SEC “bastards,” and whose tweets include recurring jabs at the same, this is just the invitation he needs to continue on a path of petulance in the face of authority. 

As for why Musk wouldn’t (or shouldn’t) give the Chancery the bird, let’s start with Musk’s assets—or rather, Musk’s lack of assets.  Musk received considerable attention recently after asserting that he does not own a home.  As ridiculous as that may sound for a tech billionaire, Musk seems to take quite a lot of joy in being a ridiculous person.  So where does that leave Musk’s assets?  Well, we know he has a mountain of cash.  But Musk’s net worth, for the most part, is not simply sitting in some Scrooge McDuck style pool in… well it would have to be in a friend’s house, I guess.  Musk’s net worth is predominantly tied up in equity.  Despite his recent stock sales, Musk has a hefty amount of equity in TSLA (he still owns about 17%), along with equity in Neuralink and equity in SpaceX (Musk is reported to own about 40-50%).  

If I gave you three guesses as to where each of those three companies is incorporated, you had better guess Delaware three times.  So what does Musk actually own?  

He owns exposure to the Delaware Chancery Court.  A lot of it. 

Regardless of whether Musk jettisons off to Mars, he is almost certain to find himself back at the Chancery—physically, or connected by a very powerful satellite video feed—for one reason or another.  His empire is built on the back of the Chancery Court.  By way of his immense equity assets, he is arguably the biggest beneficiary of Delaware corporate law in the world.  It would be fairly short sighted to dismiss the Chancery’s legitimacy to simply get a better deal on that thing that he already wanted to buy.  Any supplier, any investor, any director who has ever considered working with Musk would be wise to not engage with him if he could get away with that sort of thing.  It’s generally not ideal to be negotiating opposite a god. 

Next, it’s important to note that, despite all of his chest-thumping, Musk actually has complied with legal authorities before.  Sure, $20 million is a drop in the bucket compared to the sums he may now face, but it is, at the very least, some evidence that Musk will only take his protests so far.  And it’s not just about the money.  As part of the same settlement, Musk stepped down as chairman of the board from Tesla.  People will point out that he still kept his CEO title, but again, it’s something.  

The final reason Musk wouldn’t (read: shouldn’t) ignore a Chancery Court order is that the Chancery Court is not nearly as powerless as Musk might hope.  The potential repercussions for Musk range from fines to seizure of his assets.  More immediate than his potential exposure to Delaware courts, discussed above, is the ability for the Court to simply take his equity away.  If Musk wants to continue to run and own Delaware companies, it would be wise to play ball.  

The saga is exhausting.  Mercifully, if we reach September without settlement, the trial will only last 4 days.  Regardless of who wins, Bloomberg has already called the lawsuit a loss for employees and investors.  It almost certainly is.  Justice Berger’s comments extend the loss to the Court as a whole, and to all those who take refuge in its shade.  With more than 1,000,000 registered entities, including more than 2/3 of Fortune 500 companies, calling Delaware home, there are quite a few people impacted by the decisions of the Chancery Court.  Casting doubt on the Court’s ability to enforce a judgment against one very wealthy person creates a scenario where the biggest losers are the ones not represented in court.  

It’s hard not to sound hyperbolic when contemplating potential effects of this decision, but Musk is is no stranger to hyperbole.  The reality is, this case is not about bots, nor is it about life or death.  But if Twitter is victorious on the merits, and if the Chancery Court doesn’t hold Musk to specific performance because they think he might not comply, it will be hard to feel as though Musk has done anything less than get away with murder.