Delaware Supreme Court Upholds Tesla’s 2016 Acquisition of SolarCity Under Entire Fairness Test

July 3, 2023

On June 6, 2023, in a unanimous decision written by Justice Karen L. Valihura, the Delaware Supreme Court affirmed the Court of Chancery’s April 27, 2022, opinion in In re Tesla Motors, Inc. Stockholder Litigation.

In the Court of Chancery, Vice Chancellor Joseph R. Slights had denied stockholder claims seeking $13 billion in damages from Elon Musk, in his capacity as CEO of Tesla Inc., in connection with Tesla’s $2.6 billion acquisition of SolarCity Corporation in 2016. At the time of the acquisition, Musk held approximately 22% equity stakes in both Tesla and SolarCity and served on the boards of both companies.

Appellants brought a singular challenge to the Delaware Supreme Court, “focused solely on the application of the entire fairness test,” as applied to Tesla stockholders. The entire fairness test is applied in transactions in which a majority of the board or a controlling stockholder has a potentially conflicting interest. To pass muster, the directors or a controlling stockholder must demonstrate that the subject transaction was entirely fair to the corporation. The entire fairness analysis stands in contrast to Delaware’s Business Judgment Rule, which insulates directors who act in good faith and with reasonable care from liability, even if their decisions later prove suboptimal. Here, because of Musk’s controlling equity stakes and positions on the boards of both Tesla and SolarCity, the acquisition was subject to the entire fairness test. Thus, Tesla’s board had to demonstrate whether the acquisition of SolarCity was inherently fair to Tesla stockholders by demonstrating both fair dealing in the transaction process and a fair price per share.

On appeal, the appellant stockholders argued that the Court of Chancery’s ruling regarding the entire fairness of the transaction was flawed because it relied “exclusively on the unaffected June 21, 2016, stock price of SolarCity.” Appellant stockholders principally argued that the price paid for the shares was unwarranted, given the alleged insolvency of SolarCity. They further argued that this price was unreliable due to, among other things, material, nonpublic information that was not factored into the price at the time. Additionally, the appellants alleged that the Court of Chancery committed reversible error in failing to adequately consider their expert’s testimony that the acquisition share price did not pass the entire fairness test. Appellants further argued that the analysis of SolarCity’s acquisition share price was flawed because its discounted cash-flow model failed to account for the phasing out of a significant investment tax credit. 

The Delaware Supreme Court first held that the Court of Chancery did not err in its fair dealing analysis. It noted that the appellants did not challenge any of the factual findings of the vice chancellor, but nevertheless effectively demanded a re-examination of the evidence. The Delaware Supreme Court analyzed the appellants’ challenges to the Court of Chancery’s reasoning in the context of its 1983 opinion, Weinberger v. UOP, Inc., in which it established a two-prong analysis of fair price and fair dealing to determine whether the factual findings support a determination of entire fairness.

The Delaware Supreme Court agreed with the Court of Chancery’s conclusion that the appellee carried his burden of establishing fair dealing under the first prong of the Weinberg analysis. In doing so, the court evaluated “how the deal was initiated and timed, how it was structured and negotiated, and how it was approved.” The Delaware Supreme Court then turned to its analysis of the Court of Chancery’s finding of fair price and concluded that it did not commit reversible error. The Delaware Supreme Court granted that the appellants were correct as to the “large role” fair price played in the Court of Chancery’s analysis. However, the court rejected the assertion that reversible error was present, given that the appellee presented persuasive evidence of SolarCity’s solvency at the time of the acquisition. This evidence, offered through financial advisers and other documents, played a significant role in the court’s analysis because the appellants’ principal argument at trial, and on appeal, was that SolarCity was insolvent at the time of the acquisition, which rendered the share price unfair.

Also particularly noteworthy was the Delaware Supreme Court’s discussion of procedural cleansing mechanisms to address the interest of directors, specifically, the establishment of a “special, independent committee, in conflicted transactions.” While this acquisition transaction presented conflicts as noted above, the court rejected the appellants’ suggestion that Tesla’s failure to utilize an independent committee evidenced unfair dealing. The court remarked that utilization of such committees is often a best practice, but not a requirement.

While not upending precedent or establishing new metrics for imposing liability, the Delaware Supreme Court’s opinion should nevertheless serve as a reminder of the risks inherent in transactions in which interested parties appear on both sides. Please reach out to the authors if you have any questions on how our team of professionals can best assist with your company’s merger or acquisition needs.

The authors thank McGuireWoods summer associate Matthew M. Trevisani for assistance preparing this legal alert. He is not licensed to practice law.