Finance

Musk's takeover of Twitter - Killing two birds with one acquisition?

Musk's acquisition of Twitter posed to create a revolutionary new platform. With Twitter crumbling, and fresh doubts over Tesla, what went so wrong?

Khalil Gilders

03 Feb 2023 — 12 min read

Photo by Brett Jordan / Unsplash

Elon Musk is the self-appointed 'meme-lord' behind some of Silicon Valley's most innovative companies. But now, the CEO of Tesla and SpaceX has his sights on a new frontier: social media. Musk's acquisition – at least ostensibly – was about creating a new, transformative platform which combines social media, payment systems, messaging, and other functions in one place (similar to the 'WeChat' platform in China).

Instead, his acquisition of Twitter has seen advertisers pull out en-masse, a spike in bugs and broken features, and the return of trolls and fake accounts: all of which threaten not only the future of Twitter, but call into question his leadership in his other companies.

What actually happened?

Musk himself has not be averse to attracting controversy in the past. In June 2018, for instance, Musk commented on the rescue of 12 boys trapped in a Thai cave, calling one of the rescuer who accused him of attempting a PR stunt by offering of Telsa submarine a 'pedo guy' (and giving himself his own defamation lawsuit).

But the bid to acquire Twitter – the largest microblogging platform at the time of the deal, with more than 217 million daily users – was a new high (or low?), even for Musk.

To understand what went so wrong, we need to start with Musk's rushed and confused proposed acquisition in mid-March 2022.

It begins on the 14th of March, with Musk's quiet acquisition of 9.2% of Twitter; it is not until April 4th, when Musk is revealed to be Twitter's largest shareholder. The next day, Musk is offered a place on Twitter's board of directors – an offer he refuses.
After making hints about his dissatisfaction with the current state of Twitter, on the 14th of April, Musk files a formal offer to acquire Twitter with the Securities and Exchange Commission (SEC) – under the Securities Exchange Act of 1934. Musk values Twitter at a staggering $44 billion – at $54.20 per share.
Though interpreted as a publicity stunt by some (given the 'meme' reference to '420' in the share price valuation), Musk's hostile acquisition attempt was treated seriously by Twitter. The day after the filing, Twitter employs the 'poison-pill' defense to block Musk's acquisition.
On April 21st, Musk unveils a $46.5 billion financing package to fund his acquisition. In a shock move, four days later Twitter reverses its position, and accepts Musk's acquisition offer.
On April 29th, Musk begins to boost his position by selling off $8.5 billion of Tesla shares. The move sets the tone that Musk is more than willing to blur the separation of his businesses.
On May 5th, Larry Ellison, Binance and Sequoia all chip in with financing for Musk’s bid. Morgan Stanley, Bank of America and Barclays, are soon to follow.
In another shock reversal, on May 13th, Musk indicates he will put the deal on hold, after Musk claims the 'real' number of fake spambots (artificial accounts not linked to a real person, and used to maliciously spread misinformation, or harass individuals) on the platform is closer to 20% of users (much above the <5% estimation from Twitter). On the 8th of July, Musk announces his intention to formally back out of the deal.
On July 12th, Twitter responds by suing Musk. The case is left to the infamously specific-performance-enthusiastic Delaware Court of Chancery. Trial is set for October 17th.
On July 29th, Musk launches a desperate counter-sue attempt – one which is ultimately fruitless.
Despite saying that no further sales were planned, on the 9th of August, Musk sells off another $7.5 billion in Tesla shares – diluting stock value even further.
In one final U-turn, Musk announces on October 4th that the original $44 billion deal is still on, providing financing is found and litigation is halted. The court gives the pair until the end of October to close the deal.
On October 28th, the final acquisition deal is confirmed as closed by Musk.

As is blindingly obvious, neither Twitter nor Musk had a clear plan for the acquisition before the events transpired as they did. The improvised nature of the deal also clearly set the tone for the events that followed.

But first, let's take a closer look at the legal side of the acquisition.

What even is M&A?

M&A (Mergers and Acquisitions) is an area of commercial law which concerns the buying, selling, and merging of two (or more) companies together. An acquisition is when one company purchases most or all of another company's shares to gain control of that company.

Acquisitions are themselves a very common and attractive way for businesses to diversify or consolidate their revenue streams and ensure future profitability. This could be in:

Helping a business enter a new market,
As a growth strategy,
To acquire new technology,
Simply to reduce competition.

Why did Musk want to acquire Twitter?

Though initially appearing as another PR stunt to make a point about free speech on Twitter, it is most likely that Musk – after being pressured to close – intended to use Twitter to enter a new market.

This is seen by his vision of "X", or 'the everything platform', similar to China's WeChat. This would use the existing technological infrastructure of Twitter as a social media and messaging platform, and expand out in areas of digital payments and mini-apps. This potential market diverges significantly from Musk's other ventures in the aeronautical and automobile industries.

In this case, Musk attempted a hostile acquisition/takeover, since his unsolicited offer to take Twitter private implied the purchase of all the company's shares, if the board rejected his offer. In other words, Musk threatened to buy Twitter outright if they didn't accept his offer.

Not including his own 10% stake, Musk secured the financing required for the takeover as $7 billion of senior secured bank loans, $6 billion in subordinated debt, $6.25 billion in bank loans to Musk personally (again, secured Tesla stock, to the tune of $62.5 billion), $20 billion of Musk's own cash equity, and $7.1 billion in equity from 19 independent investors.

How did Twitter try to prevent the takeover?

Luckily for Twitter, there are a few different defences available to target companies, against hostile acquisitions. Twitter chose in this case to employ the 'poison-pill' defense, a type of 'shareholder rights plans'. This defense involves the targeted company diluting its shares to such an extent that the hostile bidder cannot obtain even a controlling share, without enduring massive costs.

The poison-pill defense was used notably by Carl Icahn in 2012, when the would-be corporate raider announced he had purchased nearly 10% of all Netflix shares – in his attempt to take over the company.

Netflix responded by a three-year plan which stated that if anyone bought ≥10% in shares, then pre-existing shareholders would be able to buy newly-issued shares in Netflix at a discount – diluting the shares Icahn, making it impractical for him to acquire a controlling a stake without the board's approval.

Twitter announced on April 15th that the board had unanimously adopted a year-long shareholder rights plan, to "enable all shareholders to realise the full value of their investment in Twitter".

This defense was later reversed, however, when Twitter decided to accept Musk's initial share price offer of $54.20 per share.

What happened when Twitter sued Musk?

Mergers and acquisitions usually follow a long and complicated process before the final share price is agreed and the deal signed. The core steps include a business evaluation and detailed valuation, offers and negotiation, confirmatory due diligence, Purchase and Sales Contracts, financing, and finally, integration of the two business structures.

However, in Elon Musk's case, there was no such extended process.

In fact, not only do many speculate the valuation made by Musk for Twitter to be part of a PR stunt (instead of a complex estimation made by teams of accountants), but it appears that Musk himself made no real due diligence of the target of his acquisition.

Due diligence refers to the personal investigations that the acquiring company conducts to make sure that all the financials of the target are as they appear to be, and highlight any 'red flags' which could potentially affect the transaction. According to the FT, as one person involved in the deal said, the due diligence was 'easy', because 'there was none'.

In a shock reversal of their position, Twitter accepted Musk's original valuation and acquisition offer. When the Tesla CEO refused, Twitter brought the matter to the Delaware Court of Chancery, seeking specific performance. Suing Musk was their legal right under Section 9.9 of the merger agreement.

Specific performance is a tool courts can use to force companies to fulfil their legal obligations under certain contracts. This would mean forcing Musk to buy Twitter, if the court ruled against him. Whilst specific performance is generally rare, it is more common in cases of M&A, and even more common when such cases are brought before the Delaware Court of Chancery.

Whilst Musk wanted an detailed discovery process - extra time to collect evidence for trial - the courts decided instead that the trial would take place on October 17th, giving him a little over three months to prepare.

Musk's case rested on the argument that the number of spam bots that existed on Twitter was far higher in reality, than that estimated by Twitter at the time of the deal.

As Elon himself explains, if you sell me your house and 'you say the house has 5% termites but it turns out it is 90% termites. It's not the same house'.

Additionally, Musk claimed that Twitter violated their contractual obligation to provide reasonable access to the internal data and information of the company, making it impossible for him to understand the true extent of spam bots on the platform until much later.

Despite this, Musk - on October 4th - decided to go ahead with the purchase agreement, at his original offer of $44 billion.

Why? In short, due diligence.

Before the final share price is agreed and offer is made, both companies are expected to have conducted their own confirmatory due diligence - such that they know exactly what they are buying. In this case, the courts ruled that Musk's own failure to conduct proper legal and financial investigation into Twitter was not sufficient grounds to release him of his obligations under his formal offer made via the SEC.

In simpler terms, if Musk bought candy expecting it to be vegetarian - and only read the ingredients after he bought the pack that it contains gelatin - then he can't just return the candy and get a refund. Even if this was materially different to what he thought he was buying, it was his responsibility to know exactly he was buying before he went to the checkout. If he was unable to check what the ingredients were, then he shouldn't have gone ahead and bought them.

It should be noted that in some cases, courts can find that changes to a business (either actual changes, or based on misrepresentation) may lead to a material adverse affect on the target company. If this can be proved, then Musk's gelatin candy may indeed be eligible for a refund.

However, the burden of proof here is high - the adverse effect on the profitability of the business needs to be measured in years. Not only did the courts not find compelling evidence that the proportion of spambots on Twitter created an adverse effect on Twitter's profitability over a number of years, but it also doesn't allow Musk to override his failure to conduct his own due diligence and discover this change himself, before the purchase.

So what does this mean for Twitter?

As one can imagine, given the history of such a transaction, it need be no surprise that the debacle was far from over.

Whilst the fate of Twitter still hangs in the balance, we can categorise the current challenges facing the platform into four areas:

Leadership decisions,
Potential FTC intervention,
Potential Cfius investigation,
Heavy loan repayments to lenders.

Leadership decisions:

First, from issues of content moderation (despite earlier claiming that Twitter would not become 'a free-for-all hellscape'), to user verification causing havoc with parody tweets - it has been no secret that Musk has had a difficult time since becoming CEO of Twitter.

*One of the many parody tweets made after the blue-check verification system was changed.*

In particular, the mass pull-out of advertisers from the platform seriously questions the future income-streams (and so profitability) of the company. This is worsened by the likewise mass lay-offs (half of Twitter's total workforce) made by Musk; this included 80% of its contractors from around the world, leading to a slew of slowdowns and bugs on the platform.

All this has the effect of not only worsening the consumer experience on the platform - and reducing the revenue streams of Twitter - but also importantly lowers the confidence of investors of Musk's overall ability to effectively manage the platform. This culminated in Musk formally stepping down from the managerial position, just as long as a replacement can be found (which it has not).

Potential FTC intervention:

The Federal Trade Commission (FTC) is one of the main regulatory agencies in the US, dealing primarily with issues of antitrust law and consumer protection. Here, Musk has invited controversy over his decision to roll out new product features, without first conducting the security reviews that the FTC require.

This originates to a consent decree (a court-enforceable settlement without admitting guilt or liability) made before Musk's takeover. After a controversy in 2009, in which the lack of security safeguards on the platform allowed hackers to access non-public account information from a range of users (including former president, Barack Obama), Twitter entered into a consent decree with the FTC - barring Twitter from making misrepresentations about the security and privacy to consumers.

In this case, there is a violation of the consent decree since Twitter has maintained its previous security and privacy representations, despite Musk introducing new features which haven't been made sure to maintain this degree of security.

The outcome of this is that the FTC - who is investigating the ongoings of Twitter 'with deep concern' - will likely decide to intervene in the matter, and fine Musk billions of dollars. Once again, both immediate-term profitability, and general consumer and investor confidence are at risk.

Similarly, European regulators and Ireland's Data Protection Commission have raised concerns regarding Musk's handling of security and privacy.

Possible investigations from Cfius:

After President Biden was questioned about the potential of foreign investment in securing funding to close his acquisition of Twitter, US Treasury Secretary Janet Yellen has also indicated that the US government may review Musk's finances.

In particular, this would involve Cfius (Committee on Foreign Investment in the United States) - an agency within the US Treasury.

Securities filings reported by the FT have revealed that Prince Alwaleed bin Talal bin Abdulaziz of Saudi Arabia carried forward his 3.5% of Twitter shares after the company was made private. Many argue that this poses national security concerns for the deal, worthy of a US government probe.

Yet more controversy and investigation into Twitter and Musk's finances would - even if fruitless - damage investor confidence into Musk, which may have spillover effects to his other business ventures.

Loan Repayments to Lenders:

Finally, remember the generous loans from lenders (summing $13 billion) including Barclays, BoA, Morgan Stanley, and others? Well, seeing the decline of Twitter has led these lenders to attempt to limit their losses - starting with the loan repayments.

Musk has himself described this debt as tightening a noose around the platform, as Twitter must somehow finance $1.5 billion in interest payments annually. This, on top of everything else, constrains Twitter's potential for profit.

What lies ahead?

Whilst it is impossible to know what will result from the takeover, it is clear to see that Twitter - under current management - is in severe decline. The structure and execution of the deal was undeniably ill-conceived and rushed, made worse by a CEO who prides himself in his unabashed impulsivity and vision for radical change.

However, in the immediate aftermath of such a deal, what is needed is stability, not fragility. Unless Twitter can find a new CEO soon, it is likely that the controversy and poorly-developed changes to Twitter will prove too much for consumers and investors, crashing stock price and user base to the ground.

And what about Musk's other businesses?

Given Musk's popularity (among his followers) as a maverick and individual innovator, his debacle of a takeover seemingly lies at his feet alone. Shouldering the blame here for the rapid decline of one of the largest social media platforms has been a wake-up call for many investors who previously touted him as a entrepreneurial genius.

Such doubts over his competency in managing his businesses effectively (for which, with hindsight, the decisions of The Boring Company and Cybertruck should have been obvious) have started to spread like wildfire.

This is particularly the case for Tesla, Musk's public automotive company. Serious concerns have been raised given his inability to separate each of his companies; for example, his selling off of Tesla shares to fund his ill-conceived acquisition of Twitter, and claims by many that most of his time now is engaged with Twitter affairs, whilst Tesla and SpaceX remain neglected.

It is perhaps no surprise then, that Musk now faces a class-action lawsuit, regarding misleading tweets about taking Tesla private (in which he also aimed to finance with his shareholder stake in SpaceX) - resulting in an artificially-boosted stock price. Though the securities fraud suit is likely to settle in Musk's favour, it is emblematic of wider cracks beginning to show in Musk's ability to maintain his burgeoning business empire.

Overall, whilst Musk may be able to cling on to Twitter a little while longer, the saga of his debacle of an acquisition has possibly killed two of his biggest ventures: Twitter and Tesla.