Wharton's John Paul MacDuffie and David Zaring discuss Elon Musk's SEC settlement.

A tumultuous eight weeks following an ill-advised tweet by Tesla CEO Elon Musk culminated on September 29 in a settlement with the Securities and Exchange Commission. The settlement allows Musk to remain Tesla’s CEO, which is significant not only for the company’s future, but also for the electric vehicle (EV) industry and Silicon Valley innovation, according to Wharton experts.

In an apparent attempt to get back at investors for short-selling Tesla’s stock, Musk on August 7 had tweeted that he had “funding secured” to take the company private. The SEC charged him with securities fraud, and after two days of dithering last week, Musk and Tesla agreed to pay $20 million each in penalties. Musk was stripped of his chairmanship but can stay on as CEO, and must have his communications reviewed before being aired. The SEC also asked Tesla to appoint two new independent directors. “The resolution is intended to prevent further market disruption and harm to Tesla’s shareholders,” said Steven Peikin, co-director of the SEC’s enforcement division, in a press release.

Settling with the SEC was the best option that Musk could take, said John Paul MacDuffie, Wharton management professor and director of the Program on Vehicle and Mobility Innovation at the Mack Institute for Innovation Management. Media reports have speculated that the regulator was angry when Musk initially refused to settle, and had considered a stiffer set of penalties that included stripping him of the CEO role as well. Investors responded favorably to the settlement: Tesla’s stock price has jumped from $265 on September 28 to $310 on October 1. That price, however, is still lower than the intra-day all-time high of $389.61 it reached on August 7 after Musk tweeted his plan to take Tesla private.

Musk initially did not agree to settle because it would deny him the opportunity to say that he and Tesla were innocent of the charges, according to David Zaring, Wharton professor of legal studies and business ethics. In a settlement, “Musk and Tesla wouldn’t have to say [they] were culpable, but couldn’t say [they] weren’t culpable [either],” he explained. “That really seemed to bother [Musk]. That struck securities industry professionals as a weird hill to die on.” MacDuffie added that investors big and small were dismayed by earlier reports that Musk was unwilling to settle with the SEC. “How could you be so stupid as to turn down a pretty decent settlement with the SEC on the grounds of integrity was the sense you got [from investors],” he said.

MacDuffie noted that Musk “has his own narrative” about the Saudi Arabian sovereign fund being willing to take Tesla private and verbal agreements over those promises. “[Musk] says that’s how the Saudis do business. But when you’re the CEO of a massive public company with valuations higher than any other automaker, you can’t be casual about [such] things. Maybe he feels like he doesn’t need to play by the rules. He got caught. He’s had his hand slapped to the tune of all these penalties, and maybe it will be [for the] good.”

“The excitement, the momentum and the sense of possibility [for electric vehicles] have come entirely from Musk and Tesla.” –John Paul MacDuffie

MacDuffie and Zaring discussed the implications of Musk’s settlement on the Knowledge at Wharton radio show on SiriusXM. (Listen to the podcast at the top of this page.)

The regulator’s call for a separation of the roles of chairman and CEO is part of good governance initiatives, Zaring said. “It means that the board should be somewhat more independent and more accountable, which means that they’re more likely to hold Musk accountable going forward because not only do they have these new independent directors, but they also have a chairman who’s directing and setting the agenda for the board. Presumably that means more oversight over Elon Musk rather than the amount of oversight he was getting when he could control the board’s agenda.”

Why Musk Matters

“Musk wants Tesla to succeed, but he mostly wants to change the conversation and make people think differently about electric vehicles replacing internal combustion vehicles,” said MacDuffie. “He has succeeded in that with Tesla.”

MacDuffie pointed to the numerous other electric vehicle initiatives from other automakers, be they American or Japanese or European. “There are a lot of new German luxury EVs coming out every other day. A Chinese billionaire announced an intention to [produce] a new luxury EV. I don’t know how much any of that would have happened without Musk, because the consumer demand had not been there [earlier].”

Musk has brought hope to the EV industry when others have been faltering, said MacDuffie. “Some of the other models are so bad that companies have had lackluster sales. The excitement, the momentum and the sense of possibility have come entirely from Musk and Tesla. And he’s won believers among investors, among customers, among employees. If he were to disappear somehow from the scene at this stage, so much of that would be lost to the detriment not just of Tesla and its stakeholders, but to all of us.”

In an opinion piece in The New York Times, MacDuffie wrote of Musk: “His leadership matters well beyond Silicon Valley. Tesla, under Mr. Musk, has been the single most significant force driving the global automotive industry — and the consumers who purchase cars — to take the prospect of a fully electric vehicle future seriously.”

Zaring agreed that retaining Musk was in everybody’s best interests. “Elon Musk has done this fantastic job of creating this business out of nothing,” he said. “This is something that the SEC has to think about when they’re [considering action against] visionary people like this. The agency’s job is investor protection, and you know when they sue, investors lose a lot of money. I’m glad that the agency in the end decided not to pursue every last avenue of relief that they could have against [Musk], because he’s a critical part of the company and the company’s abilities going forward. The people who have invested in Tesla expect him to be there, and if the SEC had tried to take him away, investors would have paid a serious price for that.”

“It was a really expensive tweet…. I have heard some wags on Twitter say it cost him seven hundred fifty thousand dollars per letter.” –David Zaring

MacDuffie said other prominent figures that have faced similar charges from regulators include Jeffrey Skilling of Enron, Martha Stewart (for alleged insider trading), and Elizabeth Holmes of Theranos. “All these people did really terrible, fraudulent things,” he said. “Then there is Elon Musk, who tweeted carelessly and was worried about his integrity. I don’t want to underplay [what he did], but I very much agree with David [Zaring] that if the SEC had seemed to go after him hard and aggressively … overall that [would be] negative for investors.”

Financially, Musk is worse off after his tweet in more ways than one. “It was a really expensive tweet,” said Zaring. “I have heard some wags on Twitter say it cost him $750,000 per letter.” Between his August 7 tweet and yesterday, the swings in Tesla’s share price left him poorer by $1.2 billion, according to a Bloomberg report.

Profits Around the Corner?

Soon after the settlement, Musk told employees that Tesla would be profitable soon. “We are very close to achieving profitability and proving the naysayers wrong, but, to be certain, we must execute really well” by the end of the third quarter, Musk told his staff in an email, according to Bloomberg. Bloomberg’s Telsa Model 3 Tracker estimates that Tesla will report 53,457 Model 3s produced in the just-ended third quarter, up nearly three times from the 18,449 Model 3s delivered in the second quarter.

“[There] are some very skeptical readings of the financial picture for Tesla,” MacDuffie noted during the show. “An awful lot of profitability estimates depend both on how much Model 3 production they can get, and whether the Model 3 demand continues to be high. Neither of those do we know for sure.” It would certainly help if Tesla is able to sell its cars for higher prices, he added. Before this year’s third quarter, Tesla sold Model 3 cars starting at $49,000 each, but in the latest quarter, its souped-up versions fetched as much as $81,000 apiece, a Bloomberg report said.

Tesla’s Value Creation

Even as Musk retains his seat as Tesla’s CEO, he may opt to move on at some point, according to MacDuffie. “Elon Musk is a restless guy with a lot of big ideas, and I wouldn’t be surprised if at some point in the future he would like to transition out of so much involvement with Tesla.”

“Big investors think that $130 of the Tesla stock price is an Elon Musk premium.” –John Paul MacDuffie

Would that happen with Tesla being acquired? “Right now, Tesla is too expensive for it to be an acquisition target,” said MacDuffie. “But I’ve wondered — what if a car company or a tech company wanted to buy Tesla, and Elon Musk was willing [to sell it]?”

MacDuffie listed Tesla’s achievements, noting that Musk “has created a new automaker, which is actually really hard to do,” he said. The only new car companies in the latter half of the 20th century have been those entering the low end of the market, from Japan, Korea and China, he added. He also commended Tesla’s strategy of vertical integration. “Those capabilities won’t disappear. The strong products won’t disappear. The brand won’t disappear. Maybe there is a stage at which there’s a sort of normalization of Tesla, and it either ends up as a sort of a luxury niche or it succeeds in being mass market.” That said, Tesla faces “a tightrope to survive the next few years,” especially with debt repayments coming up and making the Model 3 car a viable business.

While Tesla and Musk “have built something that will last,” MacDuffie is not so sure investors could rest assured that some of the other pieces of Tesla’s strategy will stay rock solid if Musk ever leaves. “I worry that the excitement [would go] out of the market, the ability to get people to pre-commit to buy, the [ability] to do zero marketing — all the things that the excitement of Musk brings would be gone,” he said. “Big investors think that $130 of the Tesla stock price is an Elon Musk premium. That is a way to quantify the idea of what happens if we take him out — there goes the premium.”