DOWNLOAD A PDF OF THIS REPORT pdf(0.1MB)
Contact
Margaret EngelFounding Partner [email protected] 212-921-9353 Grace Tan
Analyst [email protected] 646-568-1162 Christopher McMains
[email protected] 212-921-9350
On January 30th, 2024, the Delaware Court of Chancery determined that the compensation package awarded in 2018 to the CEO of Tesla, Elon Musk, was not “fair” to shareholders and that Tesla’s compensation committee had breached its fiduciary duties in granting it. This article will discuss the main aspects of the award that were factors in the Court’s verdict, which includes the grant size, the compensation-setting process, and the disclosure of the grant.
The Grant
On March 21, 2018, Tesla published an 8-K announcing the approval of a CEO Performance Award that would compose the entirety of Musk’s compensation. The performance-based award was record-breaking in its size, granting roughly 20.3 million stock options with a grant date value of $2.3 billion. It would vest in twelve tranches as financial milestones were met – the first milestone required reaching $100 billion in market capitalization, and each milestone thereafter required an additional $50 billion increase in market cap for the options to vest. In addition, there were operational milestones related to total revenue and adjusted EBITDA. Each tranche would effectively award 1% of total outstanding shares as of January 21st, 2018, to Musk, on top of his existing ownership stake of 21.9% of Tesla.
The Board and CEO presented the award’s milestones as extremely challenging, as full vesting of the grant would require Tesla to increase its market cap by $600 billion from its current market cap of $56 billion. However, the potential payout was similarly unprecedented, with a grant date fair value of $2.3 billion and a potential value of $55.8 billion. Although other companies have also awarded large, high-profile equity awards to their executives since Tesla’s 2018 award, the value of those awards are still eclipsed by Musk’s 2018 grant date fair value, as illustrated by the chart shown below.
Ultimately, primary aspects of the award that were scrutinized in the Court’s verdict of the grant were the grant size, the compensation-setting process, and the disclosure of the award.
1. Grant Size
The Court questioned whether the size of the grant was reasonably necessary for Tesla to achieve its goals of retaining and growing under Musk.
- In its opinion, the Court points to Musk’s ownership of 21.9% of Tesla at grant as evidence that Musk was already significantly incentivized to drive Tesla’s performance. Testimonials also suggested that Musk had no immediate plans for leaving the Company, further putting the rationale for the grant in question.
- Additionally, the Court highlighted the grant’s more lenient leadership requirement as potentially problematic practice, especially given that the grant was intended to induce retention: the grant conditioned vesting on Musk remaining either CEO or Executive Chairman and Chief Product Officer, a more relaxed requirement compared to Musk’s prior equity grant which required him to remain CEO.
- The Court also flagged the meeting notes of the Compensation Committee, noting that the lack of discussion on whether the proposed grant was necessary and appropriate was indicative of a flawed compensation-setting process.
- Finally, the large discrepancy between Tesla’s award and pay levels among peer companies was scrutinized, and the Court criticized the lack of a benchmarking study.
2. Process
The process undertaken by the Compensation Committee while formulating the grant was another significant point of scrutiny. First, many of the “independent” directors were revealed to have either a longstanding personal relationship with Elon Musk or an outsized financial stake in their role as a director at Tesla.
- Two directors out of the four Compensation Committee members had close personal and professional relationships with the Musk family, including the Chair of the Compensation Committee.
- The other two directors were found to have a significant portion of their wealth tied to their compensation as a Tesla director, which would sum to several million dollars. Such outsized director compensation was judged as atypical by the Court, and added to the question of whether the Committee members could truly be considered independent decision-makers.
The Court also found Musk’s involvement in the compensation-setting process to be inappropriate, as he was given latitude to suggest his own compensation package and made requests to accelerate or pause the work at several points during the 9 months when the grant was under discussion.
- For instance, when the initial schedule planned for the grant to be approved within two months, the Compensation Committee’s independent advisors asked for an extension but were denied. However, when Musk asked to pause the process from July to November 2017, the compensation process stopped entirely.
- The Board also found that Musk proposed new terms prior to six out of the ten Board or Compensation Committee meetings when the grant was discussed.
The Court criticized the disjointed and abbreviated nature of the Committee’s work, as most of the work occurred during only a few weeks within the 9-month span and with little time to research and evaluate new changes proposed by Musk.
In addition, the Court judged that the process was cooperative rather than adversarial, as Musk could set the timeline and only his proposals were considered and researched by the Board, with few challenges or alternatives presented. The Court noted that besides their personal relationships to Musk, another factor impeding the Board’s ability to conduct arm’s-length negotiation was Musk’s halo as a “superstar CEO”, which resulted in the Board rarely restraining Musk’s discretionary actions, including his demands to adjust the compensation terms.
3. Disclosure
Finally, the disclosure in Tesla’s February 2018 proxy statement was judged to be inadequate or misleading in affirming that the grant was reasonable and justified. The February proxy presented the terms of the 2018 grant and notified stockholders of a vote to approve the award in March. However:
- The proxy described all members of the Compensation Committee as “independent”, omitting the financial or personal relationships that multiple board members had with Musk. Furthermore, the definitive proxy removed a section in earlier drafts that mentioned how Musk established the key terms of the grant during conversations with the Chair of the Compensation Committee. The omission creates the misleading impression that the grant was developed independently by the Board when it was mainly designed by Musk.
- Although Tesla framed the milestones as aggressive, Tesla had internal data at the time of grant that showed that the first few milestones would vest given the Company’s trajectory: three-year projections in December 2017 showed that Tesla would achieve seven operational milestones by 2019, and eleven by 2020. The proxy did not disclose this context when explaining the grant, although it cited “internal growth plans” as one of the factors the Board considered when setting milestones.
Where Things Stand Today
After the trial, Tesla included a shareholder proposal to re-ratify the 2018 grant in its 2024 proxy statement. 73% of Tesla’s shareholders approved the proposal, similar to the level of voting support achieved in 2018. The disclosure provided in 2024 was extensive, including full details of the grant and the Delaware Court’s opinion. Meanwhile, Tesla also intends to exit Delaware and reincorporate in Texas, in search of a friendlier business climate.
Other Examples of “Moonshot” Awards
To provide context on the size of Tesla’s CEO grant, here is an exhibit that details other mega grants that have received scrutiny and increased public attention.
Comparable Examples to TSLA Mega Grant Award
Company (n=22) |
Executive |
Position at Time of Grant |
Grant Date |
Grant Date Fair Value ($M) |
Grant as % of CSO |
Palantir Technologies Inc. |
Alexander Karp |
CEO & Co-Founder |
8/20/2020 |
$1,094.0 |
6.4% |
The Trade Desk, Inc. |
Jeff Green |
CEO, Co-Founder & Chairman |
10/6/2021 |
$819.0 |
3.6% |
DoorDash, Inc. |
Tony Xu |
CEO & Co-Founder |
11/1/2020 |
$303.5 |
3.3% |
Axon Enterprise, Inc. |
Patrick Smith |
CEO & Co-Founder |
5/24/2018 |
$246.0 |
10.6% |
DraftKings Inc. |
Jason Robins |
CEO, Co-Founder & Chairman |
2/13/2020 |
$219.3 |
1.0% |
Paycom Software, Inc. |
Chad Richison |
CEO, Founder & Chairman |
11/23/2020 |
$176.4 |
2.7% |
Airbnb, Inc. |
Brian Chesky |
CEO & Co-Founder |
11/20/2020 |
$120.0 |
1.5% |
Dropbox, Inc. |
Drew Houston |
CEO & Co-Founder |
12/12/2017 |
$110.0 |
1.9% |
Oracle Corporation (1) |
Safra Catz |
Co-CEO |
7/20/2017 |
$103.7 |
0.5% |
GoPro, Inc. |
Nicholas Woodman |
CEO, Founder & Chairman |
6/3/2014 |
$74.7 |
3.5% |
FLEETCOR Technologies, Inc. |
Ronald Clarke |
CEO & Chairman |
12/20/2010 |
$62.1 |
1.5% |
FIGS, Inc. (2) |
Heather Hasson |
Co-CEO & Co-Founder |
6/26/2020 |
$60.3 |
8.5% |
Pinterest, Inc. |
Ben Silbermann |
CEO & Co-Founder |
3/21/2019 |
$45.7 |
0.3% |
CrowdStrike Holdings, Inc. |
George Kurtz |
CEO & Co-Founder |
10/23/2018 |
$43.9 |
2.1% |
Lyft, Inc. |
Logan Green |
CEO & Co-Founder |
9/28/2017 |
$41.7 |
8.9% |
Slack Technologies Inc. (3) |
Stewart Butterfield |
CEO, Co-Founder & Chairman |
6/8/2016 |
$38.9 |
0.6% |
Hims & Hers Health, Inc. |
Andrew Dudum |
CEO & Co-Founder |
6/17/2020 |
$23.1 |
8.1% |
Peloton Interactive, Inc. |
John Foley |
CEO, Co-Founder & Chairman |
1/17/2019 |
$20.1 |
0.8% |
Freshpet, Inc. |
William Cyr |
CEO |
12/24/2020 |
$20.0 |
0.6% |
Datadog, Inc. |
Olivier Pomel |
CEO & Co-Founder |
7/19/2019 |
$18.1 |
0.5% |
ThredUp Inc. |
James Reinhart |
CEO, Co-Founder & Chairman |
3/21/2021 |
– |
2.6% |
Tesla, Inc. |
Elon Musk |
CEO & Founder |
3/21/2018 |
$2,284.0 |
11.7% |
Summary Statistics |
||
75th Percentile |
$187.1 |
3.6% |
Median |
$68.4 |
2.1% |
25th Percentile |
$41.0 |
0.8% |
Notes
- Identical grants were made to Lawrence Ellison, Chairman and CTO, and Thomas Kurian, co-CEO.
- Identical grant was made to Catherine Spear, Co-CEO.
- Slack became a private company upon its acquistion in July 2021.
Conclusion
Mega-grant awards are infrequent but not entirely uncommon among publicly traded companies, and several more have been granted over the last few years. However, the rescission of Tesla’s 2018 mega-grant to their CEO illustrates a few considerations for boards considering similar grants, as well as some best practices for the compensation-setting process in general:
- Consider the goal that the compensation package is intended to achieve, such as retention, and whether the compensation size, vehicle, and structure is necessary and appropriate for driving the goal.
- Support the compensation size with benchmarking of compensation provided by reasonable peer companies.
- Ensure an accurate assessment of independence among the Board of Directors. Besides preexisting interpersonal relationships, the nature of negotiations during the compensation planning process also impacts director independence.
- Ensure accurate disclosure of the compensation-setting process and of the nature of grant vesting requirements.
- The more atypical or outsized an award, the more critical that benchmarking and adequate justification become.