June 2024 shareholder vote doesn’t fix problems in 2018 stock award, judge says.
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A Delaware judge today rejected Elon Musk’s bid to reinstate a Tesla pay package that was worth over $50 billion at the beginning of 2024 and has now crossed $100 billion based on Tesla’s latest share price. The judge also ordered Tesla to pay $345 million in attorneys’ fees to the plaintiff’s counsel, who had sought $5.6 billion in fees.
Delaware Court of Chancery Judge Kathaleen McCormick, who voided the pay plan in January, said today that a June 2024 shareholder vote re-approving the 2018 pay plan is not a compelling reason to reverse the original ruling. Her ruling said that a “large and talented group of defense firms got creative with the ratification argument, but their unprecedented theories go against multiple strains of settled law.”
Musk is thus prevented from accessing a pay package whose potential value has soared along with Tesla’s stock price. “As of Monday, the pay package was worth $101.4 billion, according to Equilar, a compensation consulting firm,” Reuters wrote.
By holding another shareholder vote, Musk and Tesla board members essentially created new evidence after the trial, McCormick wrote:
There are at least four fatal flaws. First, the defendants have no procedural ground for flipping the outcome of an adverse post-trial decision based on evidence they created after trial. Second, common-law ratification is an affirmative defense that must be timely raised, which means that, at a minimum, it cannot be raised for the first time after the post-trial opinion. Third, what the defendants call “common law ratification” has no basis in the common law—a stockholder vote standing alone cannot ratify a conflicted-controller transaction. Fourth, even if a stockholder vote could have a ratifying effect, it could not do so here due to multiple, material misstatements in the proxy statement. Each of these defects standing alone defeats the motion to revise.
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Vote not “fully informed and uncoerced”
The proxy statement provided to shareholders before the June 2024 vote “recommend[ed] that stockholders ‘ratify’ the exact same Grant rescinded by the Post-Trial Opinion,” McCormick wrote.
The new stockholder vote could shift the burden of proof, but only if the vote is “fully informed and uncoerced,” McCormick wrote. Shareholder Richard Tornetta, the plaintiff who launched the lawsuit that got Musk’s pay rescinded, “has demonstrated that the vote was not fully informed,” today’s ruling said.
The January ruling in which McCormick voided the pay package said the deal was unfair to shareholders and that most of the board members were beholden to Musk or had compromising conflicts. In Tesla’s subsequent request asking shareholders to re-approve the pay plan, the company said that a yes vote could “extinguish claims for breach of fiduciary duty by authorizing an act that otherwise would constitute a breach” and correct “disclosure deficiencies” and other problems identified in the 2018 stock award.
“Tesla debuted the argument in the Proxy Statement, which described stockholder ratification as a powerful elixir that could cure fiduciary wrongdoing—not for those harmed by the wrongdoing, but for the wrongdoers. Tesla told stockholders that the Post-Trial Opinion got Delaware law wrong and that their vote would ‘fix’ it,” McCormick wrote.
But the claims in Tesla’s proxy statement are “materially false or misleading,” McCormick wrote today. “As discussed above, under Delaware law, ratification cannot be deployed post-trial to extinguish an adjudicated breach of the duty of loyalty,” and it “cannot cleanse a conflicted-controller transaction” without a full suite of required legal protections.
304 million Tesla shares
Musk’s pay plan would provide options to purchase nearly 303.96 million Tesla shares for $23.33 each, McCormick wrote. Tesla’s stock price soared in recent months and was at $357.09 today.
The plaintiff argued that the value gained by shareholders when the pay package was rescinded “equals the intrinsic value of the freed-up shares, which is the trading price, minus the exercise price, multiplied by the number of options,” McCormick wrote. The plaintiff came up with a value of $51 billion based on the $191.59 per-share closing price on the date of the January 2024 ruling. As previously noted, the latest Tesla price suggests the pay package could have been worth $101 billion to Musk.
McCormick had to estimate how much value shareholders gained from the voiding of the pay package in order to determine how much to award in attorneys’ fees. The sides disagreed on how to value this, with one sticking point being how to account for the impact of dilution if Musk were to exercise his options.
“The plaintiff’s attorneys asked for $5.6 billion in freely tradeable Tesla shares. In a case about excessive compensation, that was a bold ask,” she wrote.
McCormick said the plaintiff offered “a theoretically sound approach to valuing rescission, but it generates an insurmountable windfall problem.” She decided to adopt a different approach, “conservatively valuing the benefit of rescission at $2.3 billion.”
“There is justification for awarding Plaintiff’s counsel 33 percent of the $2.3 billion, which would result in a fee award of $759 million,” McCormick wrote. “But that would be the highest award in the history of Delaware litigation by a wide margin. And so yet a further adjustment is required to avoid the windfall issue.”
After applying those adjustments, McCormick decided on attorneys’ fees of 15 percent, amounting to $345 million. “Plaintiff’s counsel is awarded fees in the amount of $345,000,000, which Tesla may elect to pay in freely tradeable Tesla common stock,” the ruling said.
The Delaware court has jurisdiction because that’s where Tesla was incorporated when the suit was filed. Tesla has since moved its corporate headquarters to Texas.
