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I will admit — based on the various headlines and articles I read about Elon Musk’s canceled compensation packet, I thought it was a pretty simple case: Elon Musk received, by far, the biggest CEO comp package in history, some people and a judge thought that it was far too big and the Tesla board was too close to Elon for the package to be legit, it got canceled by said judge, and Musk and company decided they would move the corporate headquarters to Texas and re-approve essentially the same package (with the vote finalizing in days).
But then, reading the comments under one of our articles about it, a couple of readers started indicating that there was more to it than that. Always open minded, or trying to be open minded, I realized that the case was more complicated than I typically saw it summarized. There are a handful of interesting points that jumped out as news to me, even though I was following along closely years ago when the pay package was initially proposed and approved. And that’s actually the point, that shareholder never had enough information or fair representation in negotiations. I’m going to highlight several interesting notes from the Delaware court decision letter in a bullet-point list below. Also, in between, I’m going to highlight a few points from Musk and the board’s side that I think many who are against the pay package still tend to ignore or overlook. That includes one of their core arguments — the problem is the Delaware court has a retort. But first …
Thanks to Jonny_K for sharing the actual findings and explanation of the court, and thanks to Karen for summarizing some of the key under-discussed points in a useful way that broadened my perspective and piqued my interest. Here’s a useful comment from Jonny_K: “I posted this elsewhere but dang, folks, read the decision or at least the first few pages. Musk and the board were to say the least fast and loose with that pay package and less than truthful with the shareholders. The board represents the shareholders. They didn’t even try. There is way this things are supposed to be done. They didn’t do it.” And here’s one from Karen: “You don’t have to read the whole thing — just at least read the first couple pages. TL/DR: if Tesla had just followed the rules, they could have used the vote to [shift] the burden, making the plaintiffs have to prove that it was unfair. Except Musk instead willingly chose to repeatedly lie his arse off in order to get the pay deal through. This rendered the vote ineligible for shifting the burden, leaving Tesla with having to prove that it was fair. Which simply didn’t fly, for a wide range of reasons (not just how outsized it was, and the fact that Elon was already heavily incentivized due to his wealth being tied up in Tesla, but also Tesla’s internal metrics showing that they would achieve the stock conditions regardless).”
Okay, now some straight bullet points from the Delaware decision.
Why Elon Musk’s Record Tesla Compensation Package Was Voided By Delaware Court
“With a $55.8 billion maximum value and $2.6 billion grant date fair value, the plan is the largest potential compensation opportunity ever observed in public markets by multiple orders of magnitude—250 times larger than the contemporaneous median peer compensation plan and over 33 times larger than the plan’s closest comparison, which was Musk’s prior compensation plan.” (emphasis added) That’s pretty wild how much larger it is than the median — 25 times larger would be wild, but 250 times larger? And the fact that Musk’s previous package was the largest and this was 33 times larger is crazy in its own right.
“Delaware law allows defendants to shift the burden of proof under the entire fairness standard where the transaction was approved by a fully informed vote of the majority of the minority stockholders. And here, Tesla conditioned the compensation plan on a majority-of-the-minority vote. But the defendants were unable to prove that the stockholder vote was fully informed because the proxy statement inaccurately described key directors as independent and misleadingly omitted details about the process.” (emphasis added) The general argument — and one I’ve used and considered most important — is that Tesla shareholders already voted on the compensation package, so it’s a done deal and Elon Musk should get his winnings. However, the points here are that the process was never conducted appropriately, shareholders didn’t have all the details, and some claims were actually untrue.
“The concept of fairness calls for a holistic analysis that takes into consideration two basic issues: process and price. The process leading to the approval of Musk’s compensation plan was deeply flawed. Musk had extensive ties with the personstasked with negotiating on Tesla’s behalf. He had a 15-year relationship with the compensation committee chair, Ira Ehrenpreis. The other compensation committee member placed on the working group, Antonio Gracias, had business relationships with Musk dating back over 20 years, as well as the sort of personal relationship that had him vacationing with Musk’s family on a regular basis. The working group included management members who were beholden to Musk, such as General Counsel Todd Maron who was Musk’s former divorce attorney and whose admiration for Musk moved him to tears during his deposition. In fact, Maron was a primary gobetween Musk and the committee, and it is unclear on whose side Maron viewed himself. Yet many of the documents cited by the defendants as proof of a fair process were drafted by Maron.” In other words, the board members were supposed to be independent from Musk and representing shareholders, but they were not. In fact, this is a key matter at Tesla that the decision letter stated earlier had been a difficult matter for the courts for years. “The plaintiff thus forces the question: Does Musk control Tesla? Delaware courts have been presented with this question thrice before, when more adroit judges found ways to avoid definitively resolving it.” (emphasis added)
“Given the collection of people tasked with negotiating on Tesla’s behalf, it is unsurprising that there was no meaningful negotiation over any of the terms of the plan. Ehrenpreis testified that he did not view the negotiation as an adversarial process. He said: ‘We were not on different sides of things.’ Maron explained that he viewed the process as ‘cooperative’ with Musk. Gracias admitted that there was no ‘positional negotiation.’ This testimony came as close to admitting a controlled mindset as it gets. And consistent with this specific-to-Musk approach, the committee avoided using objective benchmarking data that would have revealed the unprecedented nature of the compensation plan.” In other words, the Tesla board was not negotiating on the behalf of shareholders for the benefit of shareholders. They were just rubber-stamping whatever Elon brought to them.
“In credit to these witnesses, their testimony was truthful. They did not take a position ‘on the other side’ of Musk. It was a cooperative venture. There were no positional negotiations. Musk proposed a grant size and structure, and that proposal supplied the terms considered by the compensation committee and the board until Musk unilaterally lowered his ask six months later. Musk did not seem to care much about the other details. They got ironed out.” Essentially the same point as above: The board was just rubber-stamping whatever Elon brought to them. In other words, Musk controls Tesla — an independent board of directors does not.
The Retort … Retorted
On the flip side, the argument from Tesla shareholders who support the previous package and giving Elon Musk billions of dollars worth of shares again is pretty simple: but look how much Tesla stock grew, so we all won! The court summarizes it like this: “The defendants offered Musk an opportunity to increase his Tesla ownership by about 6% (from about 21.9% to at most 28.3%) if, and only if, he increased Tesla’s market capitalization from approximately $50 billion to $650 billion, while also hitting the operational milestones tied to Tesla’s top-line (revenue) or bottom-line (adjusted EBITDA) 6 growth. According to the defendants, the deal was ‘6% for $600 billion of growth in stockholder value.’” Indeed — that’s the big argument in defense of the package, and it’s a convincing argument on the surface. But … there’s a flaw in the argument. “Swept up by the rhetoric of ‘all upside,’ or perhaps starry eyed by Musk’s superstar appeal, the board never asked the $55.8 billion question: Was the plan even necessary for Tesla to retain Musk and achieve its goals?” (emphasis added) Indeed — did Elon Musk need to be given almost $56 billion in order to do his job as CEO of Tesla? Would Musk not have done the same job at Tesla with a more reasonable pay package? For that matter, something the court doesn’t even ask, could someone else — like JB Straubel — have achieved the same targets if they were CEO instead?
“The defendants insisted that the plan worked in that it delivered to stockholders all that was promised, but they made no effort to prove causation. They also made no effort to explain the rationale behind giving Musk 1% per tranche, as opposed to some lesser portion of the increased value. None of these arguments add up to a fair price.”
And I’ll add a bit more here. What did Elon Musk do with his winnings? As we know, he used billions of dollars to buy Twitter. He sold a lot of Tesla stock suddenly in order to do that, which tanked the stock, and it has not recovered. He got focused on a lot of other matters at Twitter (now “X”) from that, with many related public statements and decisions massively hurting the Tesla brand. In other words, one could argue that the unprecedented (by 33×, or 250× the median) compensation package led Musk to distraction, hubris, and activities counterproductive to his role as the CEO of Tesla. One could argue that the compensation package has ended up deeply hurting Tesla, beyond diluting Tesla shares.
More Reading, and Ramifications of This Week’s Vote
The quotes above are from the first 8 pages of the post-trial opinion. It’s a 201-page document. If you think the judge did not give a thorough explanation for the decision and back it up meticulously in one of the biggest cases the court has ever seen, I encourage you to read the whole letter.
Will the new Texas-based compensation package be approved by shareholders? I don’t know. If it is, though, my understanding is that will mean great dilution of Tesla shares for shareholders (compared to not approving it). And it will implicitly provide approval of Elon Musk’s actions the past several years as they relate to Tesla and what Musk has done with Tesla stock he was granted and then sold. One has to wonder where all of that will lead next….
If it is not approved, I don’t think Tesla shareholders would sell their stock. Some might buy in, or buy in again. However, could it lead to Elon Musk leaving Tesla? Who knows, but it’s a definite possibility. If that did happen, many think it would be good for the future of Tesla. However, I think a much larger percentage of Tesla shareholders would be very unhappy with that and there’s a good chance a sizable portion of them would sell their stock. I don’t know. Much is on the line this week. And I don’t have any clear recommendation for anyone on what they should do or prefer regarding this topic.
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