After accumulating 9.1% of Twitter stock, on April 14, 2022, Elon Musk made an offer to Twitter to buy all outstanding Twitter stock at a price of $54.20 per share. The board of directors implemented a shareholder rights plan (“poison pill”). Musk firmed up his offer and on April 25, Twitter executed a merger agreement with Musk providing for $44 billion purchase price.[1]
On June 6, Musk’s attorney wrote to Twitter claiming a material breach of Twitter’s information sharing obligations under the agreement because Twitter failed to inform Musk that fake Twitter accounts were more than the allegedly represented 5%; on July 8, Musk’s attorney wrote again to terminate the agreement for breach.
On July 14, 2022, Twitter sued Musk (and certain entity affiliates of his) in the Delaware Court of Chancery, seeking specific performance to force him to close on his agreement to purchase Twitter. Twitter, Inc. v. Musk, C.A. No. 2022-0613 (Del. Ch.).
The defense of Musk is substantially materially adverse condition (“MAE”).
A materially adverse condition (MAC) clause (also called a material adverse event/effect or MAE clause) is a way for parties to allocate risk presented by adverse business or economic developments. MAC clauses are commonly used in the context of mergers and acquisitions to allocate risk between buyers and sellers in case an adverse business or economic development occurs between signing and closing. …Normally, only where the affected party has failed to provide adequate performance assurance after receiving a written notice and sufficient opportunity to preserve the integrity of a transaction does a MAC clause entitle the other party to terminate the contract … Moreover, courts tend to narrowly construe MAC clauses.[2]
In fact, the Twitter agreement contains a “Company Material Adverse Effect” (“CMAE”) clause; the agreement defines as CMAE “any change, event, effect or circumstance which, individually or in the aggregate, has resulted in or would reasonably be expected to result in a material adverse effect on the business, financial condition or results of operations of the Company and its Subsidiaries, taken as a whole.” The CMAE clause in the Twitter agreement is quite narrow because it contains many exclusions.[3]
Musk alleges in the lawsuit that the circumstance that Twitter falsely represented that less than 5% of the accounts were fake “may have also caused, or is reasonably likely to result in, a Company Material Adverse Effect.” Twitter, however, denies that it represented that less than 5% of its accounts were false; Twitter contends this percentage was only an estimate. Musk also alleges that he “is considering whether the company’s declining business prospects and financial outlook constitute” a CMAE. Considering the general decline in the tech companies during this first half of 2022 and a looming economic crisis, it is difficult to say that the decline would be specific to Twitter and not a more general decline in the industry, which would be specifically excluded from the CMAE. Also, considering the attitude of courts (especially Delaware courts) towards MAE clauses, it will not be easy for Musk to prove the existence of a MAE.
On the other hand, as for the specific performance that Twitter is seeking, it will be an uphill route too. The Merger Agreement provides for specific performance but with limitations:
Twitter, on one hand, or Parent and Acquisition Sub, on the other hand, may specifically enforce the obligations under the Merger Agreement, except that Twitter may only cause Mr. Musk’s equity financing commitment to be funded in circumstances where the conditions to Parent’s and Acquisition Sub’s obligations to consummate the Merger are satisfied and the debt and margin loan financing is funded or available. SEC FORM 8-K
Also equitable considerations may make it difficult for the court to grant specific performance. In the recent decision of Abbvie Endocrine, Inc. v. Takeda Pharm. Co., 2021 Del. Ch. LEXIS 198 (2021), the Delaware court dealt with a requirements contract to supply the drug Lupron; the court held that requirements contracts where the buyer has no alternative source of supply are the “quintessential business contract subject to specific performance.” Nonetheless, the court denied equitable relief of an expedited injunction because of the extreme difficulty of supervision of a drug production contract subject to numerous technical requirements. This of course would not be a case of difficult supervision. But also in M&A deals, for a court to grant the remedy, several hurdles need to be overcome. Among other factors, there is the problem of financing, which is not in Musk’s control. Even if Musk fails on the CMAE’s defense, if the financing falls apart, specific performance is no longer an option for Twitter.
As a side note, the provision that have been widely spoken about (the 1-billion dollar termination provision) would not be applicable to the present case because it would apply only when the termination is caused by Twitter or chosen by Twitter in certain circumstances.[4]
For more information, Francesca Giannoni-Crystal
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[1] From SEC FORM 8-K:
On April 25, 2022, Twitter, Inc. (“Twitter”) entered into an Agreement and Plan of Merger (the “Merger Agreement”) with X Holdings I, Inc. (“Parent”), X Holdings II, Inc., a wholly owned subsidiary of Parent (“Acquisition Sub”), and, solely for the purpose of certain provisions of the Merger Agreement, Elon R. Musk. The Merger Agreement provides that, subject to the terms and conditions set forth in the Merger Agreement, Acquisition Sub will merge with and into Twitter (the “Merger”), with Twitter surviving the Merger and becoming a wholly owned subsidiary of Parent (the “Surviving Corporation”). Parent is wholly owned by Mr. Musk.
SEC FORM 8-K I available at https://www.sec.gov/Archives/edgar/data/1418091/000119312522120474/d310843ddefa14a.htm
[2] Nathan M. Crystal and Francesca Giannoni-Crystal (2010) “Contract Enforceability During Economic Crisis: Legal Principles and Drafting Solutions,” Global Jurist: Vol. 10: Iss. 3 (Advances), Article 3.
“Company Material Adverse Effect” means any change, event, effect or circumstance which, individually or in the aggregate, has resulted in or would reasonably be expected to result in a material adverse effect on the business, financial condition or results of operations of the Company and its Subsidiaries, taken as a whole; provided, however, that changes, events, effects or circumstances which, directly or indirectly, to the extent they relate toor result from the following shall be excluded from, and not taken into account in, the determination of Company Material Adverse Effect:(i) any condition, change, effect or circumstance generally affecting any of the industries or markets in which the Company or its Subsidiaries operate; (ii) any change in any Law or GAAP (or changes in interpretations of any Law or GAAP); (ili) general economic, regulatory or political conditions (or changes therein) or conditions (or changes therein) in the financial, credit or securities markets (including changes in interest or currency exchange rates) in the United States or any other country or region in the world; (iv) any acts of God, force majeure events, natural disasters, terrorism, cyberattack, data breach, armed hostilities, sabotage, war or any escalation or worsening of any of the foregoing; (v) any epidemics, pandemics or contagious disease outbreaks (including COVID-19) and any political or social conditions, including civil unrest, protests and public demonstrations or any other COVID-19 Measures that relate to, or arise out of, an epidemic, pandemic or disease outbreak (including COVID-19) or any change in such COVID-19Measures, directive, pronouncement or guideline . or interpretation thereof, or any continuation or of any of the foregoing, in the United States or any other country or region in the world; (vi) the negotiation, execution, announcement, performance, consummation or existence of this Agreement or the transactions contemplated by this Agreement, including (A) by reason of the identity of Elon Musk, Parent or any of their Affiliates or their respective financing sources, or any communication by Parent or any of its Affiliates or their respective financing sources, including regarding their plans or intentions with respect to the conduct of the business of the Company or any of its Subsidiaries and (B) any litigation, claim or legal proceeding threatened or initiated against Parent, Acquisition Sub, the Company or any of their respective Affiliates, officers or directors, in each case, arising out of or relating to the this Agreement or the transactions contemplated by this Agreement, and including the impact of any of the foregoing on any relationships with customers, suppliers, vendors, collaboration partners, employees, unions or regulators; (vii) any action taken pursuant to the terms of this Agreement or with the consent or at the direction of Parent or Acquisition Sub (or any action not taken as a result of the failure of Parent to consent to any action requiring Parent’s consent pursuant to Section 6.1); (viii) any changes in the market price or trading volume of the Company Common Stock, any failure by the Company or its Subsidiaries to meet internal, analysts’ or other earnings estimates or financial projections or forecasts for any period, any changes in credit ratings and any changes in any analysts’ recommendations or ratings with respect to the Company or any of its Subsidiaries (provided that the facts or occurrences giving rise to or contributing to such changes or failure that are not otherwise excluded from the definition of “Company Material Adverse Effect” may be taken into account in determining whether there has been a Company Material Adverse Effect); and (ix) any matter disclosed in the Company SEC Documents filed by the Company prior to the date of this Agreement (other than any disclosures set forth under the headings “Risk Factors” or “Forward-Looking Statements”).
Upon termination of the Merger Agreement under specified limited circumstances, Twitter will be required to pay Parent a termination fee of $1.0 billion. Specifically, this termination fee is payable by Twitter to Parent because (1) Twitter terminates the Merger Agreement to allow Twitter to enter into a definitive agreement for a competing acquisition proposal that constitutes a Superior Proposal; or (2) Parent terminates the Merger Agreement because the Board recommends that Twitter’s stockholders vote against the adoption of the Merger Agreement or in favor of any competing acquisition proposal. This termination fee will also be payable by Twitter to Parent in the event that, generally, (1) a competing acquisition proposal for 50% or more of the stock or consolidated assets of Twitter has been publicly announced and not withdrawn, (2) the Merger Agreement is terminated because Twitter’s stockholders fail to adopt the Merger Agreement or because Twitter materially breaches the Merger Agreement, and (3) within twelve months of such termination of the Merger Agreement, Twitter enters into a definitive agreement providing for a competing acquisition proposal for 50% or more of the stock or consolidated assets of Twitter and such acquisition is subsequently consummated.
Upon termination of the Merger Agreement under other specified limited circumstances, Parent will be required to pay Twitter a termination fee of $1.0 billion. Specifically, this termination fee is payable by Parent to Twitter if the Merger Agreement is terminated by Twitter because (1) the conditions to Parent’s and Acquisition Sub’s obligations to consummate the Merger are satisfied and the Parent fails to consummate the Merger as required pursuant to, and in the circumstances specified in, the Merger Agreement; or (2) Parent or Acquisition Sub’s breaches of its representations, warranties or covenants in a manner that would cause the related closing conditions to not be satisfied. Mr. Musk has provided Twitter with a limited guarantee in favor of Twitter (the “Limited Guarantee”). The Limited Guarantee guarantees, among other things, the payment of the termination fee payable by Parent to Twitter, subject to the conditions set forth in the Limited Guarantee. SEC FORM 8-K.