💵 A Billion-Dollar Tweet by Musk?
An old story. A new twist. Evergreen Elon entertains (and educates) again 😃
One tweet, 240 characters, could possibly cost Elon Musk billions of dollars.
Yes, Tesla shareholders are suing Elon Musk for a tweet he made in 2018.
A tweet that said he was taking Tesla private.
This tweet has invited a $40 million fine from SEC, a $162 million lawsuit from JPMorgan and a possible multi-million dollar lawsuit from shareholders.
Sounds insane? Well, let us break down the sequence of events.
⏰ Year 2014
This story begins in 2014 when Tesla wasn't the uber-successful company that it now is. It needed cash and decided to sell convertible bonds. What are those?
Convertible bonds are like loans. They give you an interest, but with an added benefit. You get the company's shares in the future at a discount!
But to get the discount in the future, you need to pay a higher price now.
Tesla issued such 7-year convertible bonds worth $1.38 billion in 2014 at a 42.5% premium on its stock price. What does this mean?
Share price in 2014 = $252.54
Buying rights in future (2021) = $252.54 + 42.5% = $359.87 (strike price)
So, bond holders would get Tesla's shares at $359.87 after 7 years, irrespective of the going market rate. This ensured that bondholders would get 3.8 million shares on conversion. And if the stock prices go higher than $359.87 they will be able to make good profits out of it.
But Tesla was not satisfied. It wanted a higher premium on its convertible bonds. Why so?
A higher premium would mean that it would have to give lesser shares.
So, the company went to investment banks like Goldman Sachs and JP Morgan Chase to see if it could get a sweeter deal.
On one hand, it sold the right to purchase shares at $359.87 to bond holders.
On the other, it bought the right to purchase shares at $359.87 from the Investment Bankers. Yes, the same price at which it offered shares to the bondholders.
And just like that, Tesla successfully hedged itself.
But what do the bankers get from this deal? Isn’t this a big risk for them?
Tesla had to offer them a right to purchase shares at $560.63. So, Tesla's effective conversion price became $560.63. A 122% premium as against the 42.5% premium that they were getting before.
You see what’s happening? Banks bought the right to purchase at $560.63. But sold the rights at $359.87. Although the loss was now lower than before, a loss is a loss.
So to protect themselves from any future risks, they added a clause. The clause states that if Tesla or its shares don't perform well, then the banks can change the strike price ($560.63 in this case).
This is the clause over which JP Morgan is suing Tesla. But what went wrong?
Fast forward to 2018. Twitter enthusiast (and now owner) Elon Musk, who has a reputation for moving markets with his tweets, decided to crack a joke. He tweeted that he was considering taking Tesla private when share prices hit $420 (Get it?).
If this was true, our banker buddies would be at a loss. The company would go private and its share price would never reach the strike price of $560 which they were anticipating.
Now, most banks understood that this was probably a joke on Musk's part (P.S. it wasn't but we'll come to that later).
But JP Morgan didn't want to take such a risk. So, it took advantage of the clause and reduced the strike price of the stock warrant to $424. The implication of the move?
Whenever the conversion of the share will happen, it will be able to corner an extra profit of $136 ($560-$424) per share.
📅 Back to the Future
And now back to 2021. In 2021, Tesla's convertible bonds and stock warrants matured. Its stock price at the time was around $718.43 (after a stock split of 5:1, so the equivalent price would be ~$3,590).
Bondholders and banks happily cashed in. But when JP Morgan tried to do so in June-July, Tesla did not accept the reduction they had made in the strike price.
In fact, Tesla called this move "opportunistic." It offered the banks shares according to the previously agreed-upon strike price.
Basically:
But JP Morgan is sticking to its guns and is suing Tesla.
And to be fair JP Morgan had no way to know that Musk was actually joking. He was the company's CEO, the chair of its board of directors, and its largest shareholder! It would be crazy not to pay heed to a major public announcement from him.
What about the other shareholders? Why are they suing Musk?
Well, they claim that the tweet caused a lot of volatility in Tesla's stock prices and caused many shareholders to lose money.
Now, last year a judge also ruled that Musk's tweet was false and reckless.
But Musk's tweet apparently wasn't a joke like most people thought.
Allegedly, Musk was in talks with Saudi Arabia's Public Investment Fund to actually take Tesla private. He has now subpoenaed (called to court) the head of the fund to now come to court and testify that the deal was serious and his tweet was not reckless.
However, what's clear is that no matter how serious the deal, it didn't work out. So, some could say that announcing it online prematurely was reckless.
And maybe Musk knows this. So, he is trying to change the location of the court battle and trying to delay the battle.
Win or lose, Musk has given us a good way to explain derivatives and how some of these complex financial deals work.
No complaints from our side :)
But who do you think will win this legal battle?
And do you think this episode will finally make Musk stop tweeting Tesla updates?
P.S. Tesla's stock went for a 5:1 split in 2020. So the current price of $1,000 is actually $5,000 equivalent. Divide all prices we mentioned by 5 to compare with current market prices.
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See you tomorrow, smarty! 🤓
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Musk's quest for Mars colony and the money such adventure would need is making him reckless. So shareholders of his other companies have to bear the brunt. His tweets have always been manipulative and knee jerk