Tesla Inc. (TSLA, Financial) has been at the center of media and regulatory attention for the past couple months thanks, in large part, to the bizarre behavior of its mercurial CEO Elon Musk. Musk started off the drama with his now-infamous “funding secured” tweet concerning his desire to take the electric vehicle maker private. The issue was only compounded as his efforts to do so proved abortive, and perhaps motivated simply by a desire to damage his critics.
While many talking heads and analysts claimed the whole affair would prove to be a non-issue, the Securities and Exchange Commission proved otherwise when it sued Musk for fraud on Sept. 27.
The SEC comes calling
The announcement of the SEC suit sent Tesla shares tumbling, as it appeared the commission was going to take a strong stand against behavior it indicated was outright fraudulent and aimed at harming short sellers.
But the losses were largely reversed just two days later, when the SEC announced it had reached a settlement with Musk and Tesla in which each would pay a $20 million fine, while Musk would resign as chairman and two independent directors would be appointed. The SEC also required that Musk's future public communications regarding Tesla be vetted in advance.
While far from nothing, the settlement appeared quite lenient given the scope of the accusations. Tesla’s investors no doubt shared a collective sigh of relief that at least one crisis had been concluded.
Alas for Tesla shareholders, the respite was not to last.
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Settlement thrown into doubt
On Oct. 4, less than a week after the settlement was reached, doubts sprang up about whether the deal would stick. The first jitters came in the morning, when the federal judge presiding over the settlement case ordered Tesla and the SEC to submit a joint document explaining why the terms were “fair and reasonable.” While federal judges tend to rubberstamp such settlements, it is not unheard of for them to require justifications. But the uncertainty unnerved the market sufficiently to send shares down.
Unfortunately for shareholders, that was just the beginning of the fun. The real drama came later when Musk himself jumped into the fray. Despite promising to rein in his Twitter activity, he let loose on the SEC, accusing them in a series of tweets of being in league with short sellers. Musk trolled the agency, calling them the “Short Seller Enrichment Commission” and effectively accusing them of being in the pocket of the short interest that has occupied so much of his public attacks in recent months. He repeatedly doubled down on the comments, making it clear it was no joke.
Now what?
The SEC has so far declined to comment on the affair, but it is clear that Musk has seriously imperiled the chances of the settlement happening as written. Not only will the judge likely be looking askance at the rogue CEO’s latest antics, but the SEC may not be inclined to follow through at all.
The SEC clearly did not want to be the cause, or at least be seen as the cause, of Tesla’s demise. It could have pursued its case, which would have made raising capital extremely difficult for the company. It was also acutely aware of Musk’s personal ties to the company and its identity. Removing him as CEO, which was one of the remedies sought in its fraud suit, would likely have been a devastating blow to the company in terms of market confidence.
But Musk has now chosen to make a public show of defiance. The regulator may have little choice but to fight it out in court, or force a more punitive settlement. To do otherwise would be to condone his behavior and open the floodgates to further bad actors in capital markets.
We see strong probability that the SEC will not be sitting down with Musk and Tesla to write out an explanation of the current settlement terms. If there is a settlement, it will likely be harsher. Musk’s actions are now materially harming the company in a very public way. His position, which we have seen as tenuous for some time, now looks wholly untenable.
Disclosure: Short Tesla via long-dated put options.
