When Elon Musk, the Chairman and Chief Executive Officer of Tesla, Inc. (“Tesla”), posted to social media on August 7, 2018, that he was considering taking Tesla private at $420 per share and had secured funding, he caused a ripple in the markets and gained the attention of the United States Securities and Exchange Commission (“SEC”). As a result of the statement, the SEC filed a lawsuit against Musk in the United States District Court for the Southern District of New York for allegedly violating Section 10(b) of the federal Securities Exchange Act of 1934 (the “Exchange Act”) and SEC Rule 10b-5 due to the allegedly false and misleading nature of Musk’s statements.
Section 10(b) of the Exchange Act states that it is “unlawful for any person . . . to use or employ, in connection with the purchase or sale of any security registered on a national securities exchange . . . any manipulative or deceptive device or contrivance in contravention of such rules and regulations as the Commission may prescribe as necessary or appropriate in the public interest or for the protection of investors.” Rule 10b-5 states that it is unlawful “for any person . . . (a) to employ any device, scheme, or artifice to defraud, (b) to make any untrue statement of a material fact or to omit to state a material fact necessary in order to make the statements made, in the light of the circumstances under which they were made, not misleading, or (c) to engage in any act, practice, or course of business which operates or would operate as a fraud or deceit upon any person.”
The SEC’s complaint alleged that Musk knew or was reckless in not knowing that his statement on August 7, 2018, and certain other statements that followed, were materially false and misleading. The claim was based on various factual allegations, including that Musk had not agreed upon any terms with any investors to finance a going-private transaction for Tesla, had not communicated with any investors about such financing beyond a 30-45 minute meeting, had not discussed a share price of $420 with any potential funding source, had not formally retained any legal or financial advisors to assist with the transaction, had not determined what regulatory approvals would be required or whether they could be satisfied, and had not determined whether there were restrictions on illiquid holdings by Tesla’s institutional investors. The complaint also alleged that Musk failed to satisfy the Nasdaq rule requiring companies to notify Nasdaq at least 10 minutes prior to releasing material information about material corporate events, such as a proposed going-private transaction.
As part of its requested relief, the SEC asked the court to remove Musk as an officer or director of Tesla and to bar him from serving in a similar capacity at any other public companies. The complaint also sought civil penalties, disgorgement of any ill-gotten gains, and an injunction prohibiting Musk from engaging in future securities violations.
On August 9, 2018, two days after the SEC’s complaint against Musk was filed, the SEC announced that Musk agreed to a settlement that would require him to step down as Tesla’s chairman and to pay a $20 million penalty. Tesla also agreed to pay a separate $20 million penalty and to undertake corporate governance reforms, including the appointment of new directors. The settlement terms do not require that Musk admit any wrongdoing. Although Musk and the SEC have agreed upon settlement terms, the proposed settlement must still be approved by the court, which approval is currently pending at the time of the writing of this post. In addition to the SEC action, numerous private shareholder lawsuits have also been filed against Tesla and Musk in recent weeks, and the Justice Department reportedly still has an open criminal investigation as of October 9, 2018.
The recent developments between Musk and the SEC are a valuable reminder that companies and their executives should use caution when posting information to social media. While the complaint against Musk focused primarily on the anti-fraud provisions of Rule 10b-5, releasing material corporate information on social media could also potentially violate Regulation FD, which prohibits the selective disclosure of information by publicly traded companies and other securities issuers. Regulation FD generally provides that when an issuer decides to disclose material nonpublic information to certain individuals or entities, the issuer must make public disclosure of that information in an effort to promote full and fair disclosure and equal access to information among both institutional investors and individual investors.
Companies should have controls in place to vet social media disclosures about corporate events, especially in an age when information is increasingly spread through social media channels. As evident from the legal actions against Musk, a simple nine-word tweet from an executive’s cell phone could have significant legal ramifications.