Elon Musk’s contentious relationship with the Securities and Exchange Commission is likely to become even more complicated as a result of Mr. Musk’s filings with the Commission to report his recent purchases of shares in Twitter, Inc.
On April 4, 2022, Elon Musk filed a Schedule 13G with the SEC to report his ownership of 73,486,938 shares or 9.2% of Twitter, Inc. Schedule 13G is a short form beneficial ownership filing used by passive investors. The next morning, Twitter filed a Current Report on Form 8-K to announce that it had agreed to appoint Mr. Musk to the board of directors with a term expiring in 2024 and that Musk’s ownership in Twitter may not exceed 14.9% for the duration of his tenure and for 90 days thereafter. Later that day on April 5, Musk filed a long-form Schedule 13D as to the same shares he previously reported on his 13G, along with other detailed information required in a 13D.
What seems crystal clear is that Elon Musk missed the applicable 10-day filing deadline under Sections 13(d) and 13(g) of the Securities Act of 1933 to report 5% ownership in a public company. The chronology of Musk’s Twitter stock purchases as listed on Schedule I of his 13D indicates that by March 14, 2022, his ownership of Twitter stock exceeded 40,032,058 shares, which is 5% of the 800,641,166 shares outstanding as per Twitter’s 10-K. Crossing the 5% threshold on March 14 means that the deadline for filing either a 13G or 13D would have been March 24, yet Mr. Musk didn’t file until April 4. That gave him an extra 10 days in which to buy additional shares (he increased his ownership during that time by an extra 4.1%) before the per share price spike that occurred when he finally announced his holdings on April 4. On the day of Musk’s initial announcement, Twitter closed at $49.97 per share, an increase of 27% over the previous day’s close.
Failing to file on time may not have been the only possible securities law infraction here. The particular form Musk used initially to report his holdings also raises questions. Schedule 13G and Schedule 13D are alternative forms used to disclose ownership of more than 5% of a class of equity security in a company. Passive investors may use the short-form Schedule 13G in lieu of the more onerous Schedule 13D. Among the categories of information required in a Schedule 13D but not in Schedule 13G are a list of the investor’s transactions in the company’s stock during the last 60 days, source and amount of funds used, method of acquisition, purpose of the acquisition, and plans or proposals that would result in a material change in the company, such as corporate transactions, changes in board composition, by-law changes and material changes in the issuer’s business. A Schedule 13D must also include as exhibits copies of all written agreements related to the acquisition and holdings.
The key issue then is: what does it mean to be a passive investor (and thus eligible for the less burdensome 13G), and was Elon Musk a passive investor when he filed his Schedule 13G with respect to his 5% ownership in Twitter? Rule 13d-1(c) provides that a 5% owner could file a short-form 13G instead of the more detailed 13D if the person “has not acquired the securities with any purpose, or with the effect, of changing or influencing the control of the issuer, or in connection with or as a participant in any transaction having that purpose or effect”.
Several commentators have suggested that Elon Musk was not eligible to use Schedule 13G because of numerous tweets calling for changes in business policies at Twitter, such as implementation of an edit feature on its social media platform. These commentators assert that the foregoing tweets and similar advocacy by Mr. Musk for changes in the Twitter platform indicate that he was not passive. I’m not so sure.
The aforementioned Rule 13d-1(c) regarding Schedule 13G eligibility focuses on whether or not the shareholder is seeking to change or influence control of a company. Control is a different concept from business practices. In a Compliance and Disclosure Interpretation (“CDI”) dated July 14, 2016, the SEC offered guidance on this issue, sharply contrasting efforts to influence basic business decisions with seeking changes in control. It stated that merely participating in the “formulation, determination, or direction of the basic business decisions” of a company would not render a shareholder ineligible to use Schedule 13G. Instead, 13G eligibility hinges on whether the shareholder acquired or is holding equity securities “with the purpose or effect of changing or influencing control” of the company, a determination based upon all relevant facts and circumstances. By way of example, the CDI states that engagement on corporate governance topics, such as removal of staggered boards, majority voting standards in director elections and elimination of poison pills, without more, generally would not disqualify an otherwise eligible shareholder from filing on Schedule 13G if the discussion is being undertaken by the shareholder as part of a broad effort to promote the investor’s view of good corporate governance practices for all of its portfolio companies, rather than to facilitate a specific change in control in a particular company. By contrast, Schedule 13G would be unavailable if a shareholder engages with the issuer’s management on matters that specifically call for the sale of the issuer to another company, the sale of a significant amount of the issuer’s assets, the restructuring of the issuer or a contested election of directors.
Here, Elon Musk would argue that in advocating for an edit button and other similar policy changes, he was merely trying to influence basic business decisions of Twitter relating to the functionality of its social media platform, and that such advocacy did not in any way seek to bring about change in the control of the company.
But of course there are other facts and circumstances to consider. Twitter announced the day after Mr. Musk’s 13G filing that the company would appoint Mr. Musk as a director. The SEC has taken the position that a director cannot be deemed a passive investor for the purpose of 13G eligibility. The letter agreement filed by Twitter as an exhibit to its 8-K, in which it agreed to appoint Musk as a director, was dated April 4, the day Musk filed his 13G. Moreover, Twitter’s CEO Parag Agrawal tweeted on April 5 that “through conversations with Elon in recent weeks, it became clear to us that he would bring great value to our Board”, implying the company and Musk had for weeks been engaged in discussions about him joining the board. So given the SEC’s position that a director cannot be a passive investor for 13G/13D purposes, the discussions referred to by Mr. Agrawal, and certainly the agreement to appoint Musk to the board, would seem to have disqualified Musk from using Schedule 13G and required him to report his ownership on the more detailed Schedule 13D.
Another noteworthy aspect to Mr. Musk’s Twitter ownership filings is his failure to provide a required certification in his original 13G. Musk indicated on the facing page of his 13G that he was filing pursuant to Rule 13d-1(c), the rule that allows a passive investor to file the short-form 13G rather than the more detailed 13D. But Item 10 of Schedule 13G requires the filer to include the following certification if the statement is filed pursuant to Rule 13d-1(c):
By signing below I certify that, to the best of my knowledge and belief, the securities referred to above were not acquired and are not held for the purpose of or with the effect of changing or influencing the control of the issuer of the securities and were not acquired and are not held in connection with or as a participant in any transaction having that purpose or effect, other than activities solely in connection with a nomination under § 240.14a-11.
Instead of certifying that his purchase of Twitter shares was not made for the purpose or with the effect of changing or influencing the control of Twitter, Mr. Musk just inserted “Not Applicable”. Could Mr. Musk have been trying to have it both ways, filing the short form 13G while not certifying that his shares in Twitter were not acquired or held for the purpose or with the effect of changing or influencing the control of Twitter, Inc.?
Leaving aside the omission of the “no control” certification, an argument could be made that Mr. Musk should be deemed to have been passive at the time of his 13G filing because he was merely advocating for changes in Twitter’s business practices, and that his status as a passive investor only changed when Twitter announced the agreement to appoint him to the board. Like Twitter, the SEC does not have an edit feature, so when the board appointment was formalized, Musk had no choice but to file a 13D.
Mr. Musk has shown himself to be defiant when it comes to the SEC, at times mocking. After tweeting in 2018 that he had “funding secured” for his proposal to take Tesla private, the SEC alleged that Mr. Musk had never previously discussed such a deal and that his statement, which caused Tesla’s stock to skyrocket, constituted fraud. Musk and the SEC entered into a consent decree which, among other sanctions, required Musk to obtain company pre-approval of any written communications that contain information material to Tesla or its shareholders. After the SEC asked for information on whether Tesla was satisfying its obligation to monitor his public messages, as per the consent decree, Musk tweeted an apparent reference to a sex act: “SEC, three letter acronym, middle word is Elon’s”. Musk recently filed a motion seeking to terminate the consent decree. And earlier this year, it was reported the SEC was investigating whether Mr. Musk and his brother violated insider-trading rules after his brother sold $108 million of Tesla shares one day before Elon Musk polled Twitter users on whether he should sell 10% of his stake in Tesla and pledging to abide by the vote’s results.
It remains to be seen to what extent the apparent issues surrounding Mr. Musk’s beneficial ownership filings regarding his shares in Twitter, Inc. will further complicate his existing battles with the SEC.