Twitter has sued Elon Musk to force him to buy the company for $54.20 a share. Many observers believe the company will prevail, or that Mr. Musk will likely at least pay the $1 billion breakup fee. You are wrong. He’ll likely get away with it largely unscathed, a belief reflected in Twitter’s stock price. This case will be a good lesson on the limitations of model merger agreements and the difference between a company and its shareholders.
The merger agreement, in this case, could be construed to allow a court to order Mr Musk to buy Twitter — he and two companies he controls agreed they would “not object” to such an order — through an appeal to be described as “specific performance.” While litigation is always uncertain, it’s hard to imagine a court would compel the purchase of a $44 billion company.
Specific power is used fleetingly, and with good reason. It’s the ultimate act of coercion, and it only makes sense when there’s no alternative. If one agrees to the sale of Hearst Castle but tries to withdraw when a higher bid comes up, a court can expressly enforce the contract. There is only one Hearst Castle, and no other remedy can cure the failed buyer.
But where there are alternatives, other means usually make more sense. Imagine the job was to paint Hearst Castle and the painter left. A court would be reluctant to force the painter to do so. Nobody wants to have their house painted by a court order. A forced painter could save on quality, which could require a new court intervention.
For this reason, Delaware courts have rarely ordered specific performance in merger agreements. If Mr. Musk doesn’t want to buy Twitter, there’s little point in forcing him to do so. Twitter could be worse off under his ownership at this point, a fate Twitter’s board of directors has a legal duty to avoid. There are other potential buyers for Twitter as well.
What happens if the court orders a specific performance and Mr. Musk refuses? The only way the court has to force him to provide funding and sign a deal is to despise him if he refuses. But it’s not Mr. Musk who has promised to buy Twitter, but rather two companies under his control. The court might recognize them with criminal contempt, but as Lord Thurlow observed, “corporations have neither bodies to punish nor souls to condemn”. Mr Musk vowed to “cause” those companies to close the deal, but a court is unlikely to jail him if he ducks or refuses. Mr. Musk could be playing a high-stakes chicken game that ultimately shows the courts are extremely limited in such cases when the parties don’t want to play along.
Compensation is easier to enforce. The court could order the painter who left to pay the difference between the agreed price and the price of the substitute rent. In the case of Twitter, however, this remedy seems to have been in vain. It’s not clear how Twitter will be worse off with Mr Musk’s departure. Twitter shareholders are certainly worse off because the merger agreement would have paid them out at $54.20 per share. But the shareholders are not party to the agreement. Only Twitter Inc. is a party and is a separate and distinct legal entity. Twitter would have to prove damage, such as lost profits, and that’s an uphill battle.
Twitter could have upped the ante for Mr. Musk by including a demand that he pay his shareholders damages if he walks away. In that case, shareholders could have sued for the difference between what Mr. Musk was willing to pay and what any other suitor would pay — like the homeowner finding another painter. But the merger agreement doesn’t give shareholders that means.
The $1 billion breakup fee issue remains. Courts are far more likely to make Musk pay to walk away than force him to walk down the aisle. But it is not clear that he has to pay that much. Breakup fees are intended to reflect damage caused by a breach of contract. They are not meant to serve as punishment. Given that Twitter isn’t obviously a billion dollars worse off – if at all – a court might be reluctant to impose such a hefty fee.
This case highlights an important risk for shareholders in mergers and acquisitions: the company negotiating the transaction may not have major claims against a counterparty because, unlike its shareholders, the company is not typically harmed if the counterparty leaves. The simple solution is to give shareholders the right to sue for their losses. But either Mr. Musk’s lawyers were too smart for it, or Twitter’s weren’t smart enough.
Mr. Heaton is a managing director of an investment research firm. Mr. Henderson is a law professor at the University of Chicago. They are co-founders of Heaton Henderson LLC, a corporate governance consulting firm.
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https://www.wsj.com/articles/twitters-lawsuit-against-elon-musk-looks-like-a-loser-11657716142 Twitter’s Lawsuit Against Elon Musk Looks Like a Loser