Tesla's Texas Plan B if Delaware won’t reinstate Elon Musk's pay. It's not about the money, says Elon.
The Delaware court's concern about board independence in Musk's case was elevated because, although Musk wasn't a controlling shareholder of Tesla, his influence over its board was considered substantial. That influence permitted the Delaware court to apply a stricter standard to the pay deal, which it used to rule that the board had breached its fiduciary duty to Tesla's shareholders.
Delaware has since amended its corporate law to specify that shareholders like Musk who control less than one-third of a company's shares are not considered controlling shareholders. However, Gadinis said the law still permits judges to apply a higher standard to transactions when they involve shareholders who dominate the board.
"I think because of Musk's ownership percentage, which is less than one-third, Texas might part ways with Delaware in that regard," he said.
Kelsey Szamet, a partner with the California law firm Kingsley Szamet, agreed that Tesla's conflict raises broader questions about corporate governance and how corporations justify sizable performance-based remuneration.
"Regardless of the outcome," she said, "the case is likely to influence how other boards approach executive compensation."
What's next for Musk's pay?
Executive compensation attorney Dario Mendoza, a partner with Texas-based Vinson & Elkins, said Texas law is “fairly flexible” when it comes to C-suite pay arrangements, but neither state nor federal laws are flexible enough to go back in time and reinstate Musk’s disputed plan.
“As a general matter, you cannot backdate options,” Mendoza said. “So if those options stay rescinded, there's no way to grant a new option that was effective as of 2018.”
Tesla stockholders approved Musk's pay-performance-based package a second time in June. That was after a single-member special committee with independent director Kathleen Wilson-Thompson recommended it to shareholders. The deal entitled Musk to a series of stock option grants that triggered when Tesla’s market cap and operational goals reached escalating benchmarks.
At the time the options were granted, a total of 304 million shares at $23.34 each, the plan was worth roughly $56 billion. Since then, it has ballooned beyond $100 billion due to an increase in Tesla’s stock price. At its peak in 2024, it was worth $146 billion. At Monday's market close, it was worth roughly $104 billion.
Those options that cost Tesla $2.3 billion in 2018, if reissued today, would carry an accounting charge to Tesla of roughly $50 billion.
Gadinis said it's unlikely that a purely performance-based award would get Musk back to the same compensation level because in the next two to five years, Tesla's share price may not see the same level of growth as when Musk was building the company. And given Musk's interests outside of Tesla, he said, a replacement deal could include promises from Tesla to invest in or make loans to outside enterprises.
"Part of it will include an outright payment," Gadinis predicted about a potential new compensation proposal to shareholders. "And then I think it would be a combination of performance, some type of outright bonus or gift, and some sort of loan or co-investment."
Mendoza said Tesla could grant Musk “in-the-money” options with an exercise price lower than its stock’s current fair market value. But to work legally, the options must have dates on which they would automatically vest.
An in-the-money pay plan could grant Musk the right to options at the same price per share awarded in his original deal, instead of at Tesla’s current share price of roughly $342. In that case, he said, Musk would have no say over the vesting date, and any gain he earned at the time of vesting would amount to immediate taxable income.
“Elon would not have the ability to exercise at his discretion whenever he wanted to,” Mendoza said. "Because it's in-the-money, it has to be designed in a way that complies with the Internal Revenue Code, which is really restrictive on when in-the-money options can be exercised."
Otherwise, a 20% excise tax would apply, on top of normal income taxes. In Musk's case, Mendoza said, the tax, on top of his maximum 37% income tax rate, would lead to a potential 57% tax.
Another method would be for the board to grant Musk full value stock, or restricted stock units. Each full value share is worth the current fair market value of Tesla's stock at the time it vests, which can be based on meeting certain conditions, with no purchase or exercise required.
Restricted options are not required to have an exercise price, and simply confer the right to purchase the shares at a set "strike" or "exercise" price after vesting.
"That could get around the issue of having to exercise and comply with the IRS restrictions on in-the-money option grants," Mendoza said. The committee could give Musk a certain number of shares, and the shares could be subject to time-based vesting, or performance-based vesting, he said. "They've got a lot of flexibility in that regard."
Shareholders got 'a lot' out of Musk's pay deal
A single Tesla shareholder undid Musk's pay in a lawsuit that alleged that Tesla's board members breached their fiduciary duties by approving the plan. Delaware Chancellor Kathaleen McCormick agreed, holding that the deal was invalid because Musk as a "controlling shareholder" held too much sway over the board.
Tesla's new compensation committee, according to the financial times, includes Wilson-Thompson and board chair Robyn Denholm, who has made roughly $530 million in Tesla share sale profits since taking her board chair position in 2018.
University of Colorado finance professor Sanjai Bhagat said that any alternate compensation plan Wilson-Thompson and Denholm conjure up should again restrict Musk from immediately selling shares or exercising options. In order to incentivize Tesla's long-term goals, he said, a bulk of CEO pay should be locked up until at least six to 12 months after the last day serving as CEO.
That could overcome concerns that Musk may not dedicate enough time to leading the company. Musk has previously threatened to step down as CEO unless his compensation is renegotiated to award him at least 25% of Tesla's shares.
On the other hand, a replacement deal shouldn't have to happen, Bhagat said. In his view, the Delaware Supreme Court should overturn McCormick's decision because despite its flaws the pay deal fulfilled the point of CEO compensation, which is to serve the purpose of the corporation: maximizing long-term shareholder value.
"The only time in Tesla's compensation plan that [Musk] gets anything out of it is if the shareholders get something out of it. And in fact, the shareholders have gotten a lot out of it," he said, noting that Musk's pay deal offered him no salary and was entirely performance-based. "If the CEO was getting paid a cash amount, unrelated to stock price performance, then I'd be very concerned."
Gadinis said that at the end of the day, the question that courts are supposed to ask is this: Was it fair to shareholders? By the second shareholder vote, he said, the shareholders knew much more about the structure of Musk's deal, and they also knew he had already met its stated targets.
A new pay plan under Texas law would still require that Tesla publicly disclose its pay proposal to shareholders and gain shareholder approval.
Meanwhile, a new Texas law, SB29, went into effect last week, which would make it more difficult for a shareholder dispute like the one against Tesla to go forward in Texas. The law offers personal liability protection to officers and directors who make "good faith" decisions on behalf of the companies they serve, and makes it more difficult for minority shareholders to bring shareholder derivative claims.
Tesla amended its bylaws last week to reflect the change, specifying that shareholders or a group of shareholders must own at least 3% of the company's shares to maintain a derivative suit.
Texas hopes the move helps it attract more businesses.
Before the change, Musk moved the incorporation for his rocket-building company, SpaceX (SPAX.PVT), from Delaware to Texas. Neuralink (NEUR.PVT), Boring, and the social media platform X — three other companies he oversees — have left Delaware for Nevada. Over the past year, Meta (META), Dropbox (DBX), hedge fund Pershing Square Capital Management, Trade Desk (TTD), Fidelity National Financial (FNF), and Sonoma Pharmaceuticals (SNOA) have all floated plans to move their incorporations.
High-profile business departures from Delaware also prompted the state's new governor to amend its corporation laws. Its amended law, signed by the governor in March, extends more leeway to board members in transactions where their interests or relationships raise conflicts of interest.
It also broadens the set of conditions that investors must meet before inspecting company records, making it more difficult for plaintiffs to find evidence supporting a lawsuit.
"I think what [Judge McCormick] has done is a great disservice to the corporate governance structure in the country," Bhagat said. "There's a larger issue at stake. Why do international investors have so much faith in the US, even investors in countries that are hostile to the US? Basically, the answer is that they trust the US system of corporate governance."
The court does not comment on pending cases.
A recent regulatory filing from Tesla said it would delay the filing of its proxy statement, which could give Tesla more time to work out a backup pay plan for Musk. The company's annual shareholder meeting was held last year on June 13.
Asked during Tuesday's interview with Qatar's forum if he will be CEO of Tesla in five years time.
“Yes,” Musk said.
No doubt about that?
“Well, no, I might die,” he laughed.
Alexis Keenan is a legal reporter for Yahoo Finance. Follow Alexis on X @alexiskweed.
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