The past year has been tough on Elon Musk, but we hadn’t known the depths of his peril at Tesla until he opened up to Axios in an interview, telling reporters the electric car maker had been “within single digit weeks" of collapse.
This seems like a big deal—an admission that at some point during the yearlong Model 3 “production hell” Tesla was just weeks away from running out of money. This was new information to shareholders, who might have preferred to know sooner.
Indeed, shouldn’t this kind of substantial doubt as to Tesla’s continuation as a going concern have been disclosed by Musk and Tesla before the moment of crisis, rather than after? Doesn’t Musk have some duty to disclose?
Tesla didn’t respond to a request for comment on Musk’s remarks about the company’s near-bankruptcy. We asked a few experts what they thought.
“You don’t have an obligation to disclose material developments on a day-by-day basis,” says John Coffee, director of the Center on Corporate Governance at Columbia Law School. “Silence is not actionable unless there’s a duty to disclose.”
When does that duty kick in? According to Tom Elder, partner with accounting giant BDO, a company’s auditor and management do have a duty to disclose to shareholders if they have “substantial doubt” that the company could continue for the next 12 months as a “going concern.” But this duty is subject to very particular timing. All that matters is their opinion on the day the financials are published. An existential crisis can arise and be resolved in between reporting periods and stay under wraps. As Elder explains, “If stuff hit the fan in the second month, but then at the end of the quarter you did a deal” that saved the numbers, “then there’s no disclosure required.”
A key question: When exactly was this “single-digit weeks” long period when Musk told Axios that Tesla was near death? Maybe he did solve the problems within those weeks and before their financial reporting date. If, however, those “substantial doubts” overlapped a quarterly reporting date, then, according to Coffee and Elder, Musk would have been required to disclose them in Tesla’s 10-Q. “One may also wonder if there perhaps should have been some disclosure in prior periods leading up to the time when he thought the company may only have weeks of survival,” suggests Elder.
It’s not as if Tesla’s cash crunch came as a surprise. Last October Musk lamented being in “Production hell, ~8th circle.” Back in February analysts thought Tesla’s cash burn rate raised “going concern” fears. Consensus was that Tesla would need to sell something like $5 billion worth of stock by the end of 2019. In March Forbes contributor Jim Collins wrote that Musk needed to sell stock soon as the financial noose tightened. Wall Street was giving Musk plenty of cover. But Musk pushed back; the company wrote in an April filing that “Tesla does not require an equity or debt raise this year, apart from standard credit lines.”
Tesla’s 10-Qs disclosed massive cash burn but didn’t mention any doubt of continuing as a going concern. Musk said he spent days living at the Gigafactory while gearing up Model 3 production to 5,000 per week. “There were times when I was working literally 120 hours.” It appears to have paid off in Tesla’s miraculous third-quarter profits of $300 million.
We’ve grown to expect mendacity out of Elon Musk. The Securities & Exchange Commission says Musk outright lied to shareholders with his infamous string of tweets announcing he had “funding secured” for a private equity buyout of Tesla at “$420” per share. Soon after he appeared on a podcast smoking a giant joint. A suit brought by the SEC said Musk’s tweets were “false and misleading and impacted the price of Tesla stock.” Without admitting or denying the allegations, Tesla has so far paid $25.8 million in fines and legal fees while handing over Musk’s position as chairman of the board to Robyn Denholm, former CFO of Australia’s Telstra Corp.
Tesla’s chief accounting officer Dave Morton quit after just a month on the job. Morton said in an SEC filing that he had “no disagreements with Tesla’s leadership or its financial reporting.” He added that “the level of public attention placed on the company, as well as the pace within the company, have exceeded my expectations. As a result, this caused me to reconsider my future.”
Tesla bondholders are not amused. They’ve bid down Tesla’s 5.3% 2025 bonds to 86 cents on the dollar, from 96 cents last January, for a yield of 8.1%. The lower Tesla bonds go, the higher the company’s implied cost of capital, and the more costly it will be for Tesla (and other high-yield borrowers) to roll over $10 billion in debt. About a billion dollars in bonds are coming due early 2019. That, plus plans to spend $2 billion or more on capital investment, will eat up $3 billion in cash and liquidity. If costs get out of hand or Tesla’s miracle profits fade, Tesla will need fresh capital at a time of rising rates, widening spreads and waning demand for junk bonds.
Shareholder lawsuits are mounting, and Federal investigations are ongoing, with the SEC looking into the adequacy of Tesla’s disclosures around supply chain problems. An SEC spokesman declined comment. The Department of Justice is also getting familar with Tesla’s books, having recently indicted former Tesla employee Salil Parulekar for allegedly embezzling $9.3 million and impersonating a Tesla supplier. The U.S. Air Force denied reports that it was reviewing Musk’s security clearance (via SpaceX) over concern about his drug use, though SpaceX did only manage to raise $250 million out of a hoped for $750 million bond offering last month.
To Musk’s credit, he has created a company that has delivered 83,000 vehicles this year, including more than 56,000 Model 3s, which have become one of America’s hottest-selling midsized luxury cars. Musk took the risks to create the mass market for EVs, but with more than 400,000 Teslas on back order, competitors are stepping up to grab their share. Mercedes, a Tesla partner in the past, has launched its all-electric EQ line. Audi is rolling out its E-tron, and even Jaguar has the I-Pace. Volkswagen plans a massive EV push with a $23,000 entry level model. What happens to EV demand when federal electric vehicle subsidies of $7,500 per car dry up to zero by 2020? General Motors this week announced it would kill off its Volt line rather than try to compete.
Does Musk still have what it takes to keep pushing Tesla’s hypergrowth trajectory into the Model Y, EV semi, Roadster 2.0 and more? Hard to say, as our hero might be distracted. Musk, 47, told Axios that there’s a “70 percent” chance of him going to Mars—permanently. “It’s going to be hard. There’s a good chance of death,” he said. But that's not a reason not to try. “People die on Everest all the time.”
We'll be watching for the 8-k.