On Disclosure Controls and Rogue CEOs

Nikola Corp., a supposed maker of hydrogen-powered trucks and other vehicles, will pay $125 million to settle charges with the Securities and Exchange Commission that the company failed to prevent its now-indicted former CEO from making all sorts of baloney statements about the company’s prospects on social media.

The SEC announced the settlement on Tuesday, and it’s a nifty example of the disclosure control processes a company should have in place to assure that its CEO doesn’t say something inopportune on Twitter, television, Instagram, or whatever else comes along. The case is also interesting because Nikola Corp. was taken public in 2020 via a SPAC deal, and we all know what SEC chairman Gary Gensler thinks of those capital markets contraptions.

Anyway, back to Nikola. The person at the heart of this mess is Trevor Milton, who founded the company in 2015 and raised more than $500 million in private funding over the next few years. Milton then took the company public in 2020 with the help of SPAC firm VectoIQ Acquisition Corp., raising another $595 million. He was CEO of the business from its inception until it began trading under the ticker $NKLA in June 2020, at which point he became executive chairman.

As alleged in the SEC’s settlement order, Milton spent much of his time in the corner office promoting the promise of Nikola to any investor who would listen. The problem was that almost every statement Milton made about Nikola’s hydrogen vehicles was, well, hot air. 

For example, in 2018 Milton (or someone acting under his direction) posted a video clip to Nikola’s corporate Twitter account, showing its prototype Nikola One truck zipping down the road at a high rate of speed. The clip had no audio or subtitles, although the tweet itself said, “Behold, the Nikola One in motion.” 

Except, the truck in the video clip failed to mention that the truck was “in motion” because it was rolling downhill under nothing more than the power of gravity. That video remained available on Nikola’s Twitter feed from early 2018 until September 2020. 

You get the idea. According to the SEC, Milton lied about Nikola’s technology, production capacity, operating costs, and lots more. He was ousted from the company in September 2020, and the feds indicted him earlier this summer on three counts of criminal fraud. 

Nikola itself neither admits nor denies the allegations in the SEC settlement order. The company, which posted a $382 million loss last year, says it will begin delivering trucks to customers sometime in 2022.

Points About Disclosure Controls

The big failure here was Nikola’s inability to control what its CEO was saying. Now, it’s true that if your chief executive is as much of a fraudster as Milton looks to be, imposing control on such a person is pretty much impossible. He or she is an existential threat to the business, and the proper solution is to have a functional, sober-minded board that would never hire a whacko like that in the first place. 

Let’s put such extreme cases aside. For the rest of us, whose CEOs aren’t total cuckoos but do use social media to communicate to the public, what lessons does this SEC enforcement offer? What does the case say about effective disclosure controls and procedures? 

That discussion comes in paragraphs 18 and 19 of the settlement:

From the above description of what Nikola didn’t do, we can reverse-engineer several disclosure practices that a company should do:

• First, take a team approach to reviewing and publishing information about the company, so someone else can check what the CEO says before he or she blurts it out.
• Second, that team approach should be a formal process, put in writing; and based on a keen understanding of what statements about the company qualify as material information that should be disclosed in filings to the SEC. 
• Or, to put it another way, the review process should not be some ad hoc thing based on the judgment of whatever senior executives happen to be around when the CEO asks, “How about I tweet this out?” A formal process is based on standards, and that lessens the risk that you rely on personal judgments that turn out to be flawed.
• Third, also have a process to correct any misleading or erroneous statements that slip through the above process anyway. (I suspect this process would probably be quite similar to how a company issues statements within 24 hours to correct Regulation Fair Disclosure violations. Chat with your investor relations team.) 

Of course, the obvious company that needs to take these lessons to heart is Tesla, and CEO turned demigod Elon Musk. In 2018 the SEC fined Tesla and Musk $20 million each for his off-the-wall tweets about taking Tesla private, which never came to pass; and the company had to hire a lawyer specifically to review Musk’s tweets before they went out. Considering some of Musk’s subsequent statements on Twitter (Forbes even ranks his tweets most influential on Tesla’s share price just for 2021), I’d say those disclosure control processes are unimpressive.

A Word About SPACs

We also can’t overlook the role of VectoIQ in this debacle, and the larger question of how SPACs do or don’t serve investors well. 

VectoIQ completed its IPO in May 2018. Since SPACs have no more than 24 months after their IPO to find and acquire a private company target (or else they refund the proceeds to investors), that means VectoIQ had to close a deal by May 2020. The firm announced its merger deal with Nikola in March of that year, with only two months to spare. 

Well, what pressures did VectoIQ feel to close that deal quickly, rather than refund the IPO proceeds? Were corners cut? Did the firm overlook questionable details about Milton’s statements and Nikola’s assets, or the lack thereof? 

Questions like that are why good governance activists don’t like SPACs. Such firms have an inherent conflict of interest with investors, and precious little case law (so far) to guide the courts about what duties SPAC sponsors (that is, the management team) owe to SPAC investors.

The SEC already intercepted one shady SPAC merger earlier this year, when a space technology company neglected to mention that its proposed satellite propulsion system hadn’t actually been tested, and that its CEO had to step down because he was deemed a national security concern by U.S. regulators. 

This new nonsense with Milton and Nikola doesn’t help SPACs’ reputation. Something tells me it’s not the last time we’ll hear about SPACs and fraud, either.