What Board Deference? Court Cancels Elon Musk’s LTI Award – For Now

In a highly unusual if not unprecedented move, a Delaware judge struck down Elon Musk’s $55.8 billion pay package this week, claiming the approval process was “deeply flawed.” 

What happened: The decision was in response to a 2018 shareholder lawsuit that alleged Musk exercised undue influence over the board, which in turn misled investors regarding the necessity of his pay package. Shareholders approved the plan, which consisted of 12 tranches of stock options with vesting based on a variety of financial targets. The board had characterized the goals as “difficult,” but the plaintiff showed that the company already knew it would hit three of the targets. 

Why it matters: The decision seems to imply that even if a majority of shareholders approve, there is a level of executive compensation that may be simply “too high” to be legally allowable, which could have major repercussions for companies. Tesla’s board may appeal the decision to the Delaware Supreme Court which may overturn it; if upheld, the board will need to negotiate a new pay package with Musk.

Bottom line: As Bloomberg’s Peter Levine notes, CEO pay has historically been “almost completely unreviewable in court” since it is a business decision subject to strong deference. In this case, the Delaware judge decided that Musk was a “controlling shareholder,” which meant the board’s decisions were in fact subject to second-guessing by the court – which in this case led to the entire package being voided.

The question now is: should it be possible that a lawsuit by one shareholder among many results in a judge overturning a pay package that was approved by both the board and the majority of shareholders? Does it matter how high the pay is, or how domineering the executive? It will be very interesting to see how the case turns out.