Shadow One-boxing

Why Elon Musk should get his $56 billion

Five years ago, Elon Musk made a deal with the board of Tesla that he would serve as CEO for five years with no pay, but that if (and only if) he dectupled the company’s value in that time he would be given 1% of the company in shares. It was a wildly optimistic bet on himself, and the consensus at the time was that it was laughable and couldn’t be done. CNBC reported at the time “If Mr. Musk were somehow to increase the value of Tesla to $650 billion [from about $50 billion] — a figure many experts would contend is laughably impossible and would make Tesla one of the five largest companies in the United States, based on current valuations — his stock award could be worth as much as $55 billion.”

Then he did it.

And some random person who holds a small amount of Tesla stock sued to try to stop him getting the payout, which is now worth about $56 billion due to the aforementioned increase in the value of the company. And the Delaware court ruled in the plaintiff’s favour. (I believe the latest news is that Tesla has reincorporated in Texas rather than Delaware, and is currently voting on whether to ratify the same deal again, or not.)

I believe quite strongly that Musk should get the payout.

They made the deal; they should stick to it. If you formally agree “If you do X, we’ll give you Y”, and the other person does X, you are obligated to give them Y. To renege on that is grossly unfair, as the other person cannot “take back” the work they did. (There are a handful of circumstances where you can sometimes get out of a contract you’ve agreed to after the fact. For example, if you weren’t mentally competent at the time of signing it, or if the counterparty knew something you didn’t and took advantage. These exceptions are usually used to protect individuals against corporations, not the other way around. If a huge corporation with an army of lawyers is not mentally competent to agree to a contract, then nobody is. And if a deal between a corporation and an individual, where the newspapers report that the terms seem laughably biased against the individual, is later ruled to be exploitative against the corporation, then surely any contract, from your employment contract to my mobile phone contract, could be ruled to be no less exploitative against the corporation and thus reneged on?)

The fact that commentators at the time were saying it was absurd and unachievable is evidence that it was in fact a really good deal for Tesla. If, instead, the consensus at the time had been that the board had clearly made a mistake because Musk would easily fulfil his side of the deal and then they would owe him lots of money, then that would be evidence that it was maybe an unfair deal for them (although, even then, they should have sought to end the contract at the time, not backed out after Musk put in five years of good-faith work).

But the judge in the Delaware ruling claimed “neither the compensation committee nor the board acted in the best interests of the company when negotiating Musk’s compensation plan.”

CNBC in 2018 again: “As executive compensation plans go, Tesla’s is about as friendly to shareholders as they come. […] Ira Ehrenpreis, chairman of Tesla’s compensation committee, told me, “It’s heads you win, tails you don’t lose,” meaning if Mr. Musk is gaining billions then shareholders are winning, too. And if Mr. Musk does not perform, shareholders pay nothing.” Clearly it was “in the best interests of the company” (including ordinary factory floor employees who were compensated partly in shares). And, even if it wasn’t, sue the board for not acting in the company’s interest; don’t sue the guy they made the deal with who delivered on his end of it.

Also, scale everything down by a million to test your intuition. If someone were earning $11k per year for five years, and produced $100k in value per year for the company they worked for during that time, you’d probably think they were underpaid and exploited. And that’s if they actually got paid! Now suppose they produced the $500k of value and didn’t even get the $55k of compensation; that would be even more unfair. Even accounting for the utility of money not being linear, I still think that if someone supports this hypothetical employee getting (at least) their $11k/year, but opposes Musk getting his $56 billion, there’s an inconsistency that needs explaining.

And I think the worst thing about this ruling is that it’s a huge restriction of freedom for individuals and corporations in general. If deals like this can be retroactively cancelled, then no one can credibly offer deals like this in future, which, as Schelling explained, limits everyone’s ability to make mutually beneficial deals. No one is going to offer to dectuple your stock price if you’re prevented from credibly promising them a reward for doing so.

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Rachael Churchill

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4 responses to “Why Elon Musk should get his $56 billion”

  1. avatar
    Anonymous

    The award was for options of around 12% of Tesla stock, not 1%. On the larger question, I basically agree with you, but there is a little more nuance to the situation. Matt Levine gives a good overview here: https://www.bloomberg.com/opinion/articles/2024-01-31/elon-musk-is-overpaid

    Briefly, Musk owned  21.9% of Tesla stock at the time the award was made, and board agreements with the controlling shareholder of a company are subject to more oversight as the agreements may be unfair to minority shareholders.

    Further, even though shareholders voted to approve the award, the proxy statement ahead of the vote was misleading as it wrongly described board directors as independent (in reality Musk had a great deal of influence over the board).

    However, it’s undeniable that Musk made Tesla shareholders a massive amount of money.

    Stephen

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    1. Rachael Churchill avatar
      Rachael Churchill

      I got the 1% figure from the CNBC article: “Tesla has set a dozen targets, each $50 billion more than the next, starting at $100 billion, then $150 billion, then $200 billion and so on, all the way to a market value of $650 billion. In addition, the company has set a dozen revenue and adjusted profit goals. Mr. Musk would receive 1.68 million shares, or about 1 percent of the company, only after he reaches milestones for both.” I don’t know if CNBC is wrong, or if Levine is wrong, or if I’ve misunderstood CNBC.

      I’m not sure the “solid gold statue” analogy is a helpful framing.

      Levine, and the judge, say that denying Musk his agreed-on compensation wouldn’t be making him work for free, because he already owns shares in Tesla so he benefits from its success. But many employees own shares in the companies they work for, and it would be wrong to deny them their contracted salaries and justify it by saying they benefit from the share price increasing: in both cases the contract was agreed with the knowledge that the person owns shares and with the understanding that they would earn their agreed compensation on top of that, so saying “ah, but you own shares and you benefit from that” is meaningless.

      I don’t really see how this deal could be unfair to minority shareholders, or even really whether Musk’s influence over the board is relevant. Looking at the deal in isolation, on its own merits, it was a win-win deal and the shareholders captured more of the added value than he did. Saying “this otherwise excellent and beneficial deal is bad because of who had influence over agreeing it” is like saying “this otherwise excellent book is bad because of who wrote it”, a position I strongly disagree with.

      The only way I can hypothetically imagine for them to retroactively back out of the deal in a way that approaches fairness would be to roll back the entire thing, if they think it’s unfair to them: don’t give him his compensation, but also roll back all the increase in value that he’s created. But a) that would be cutting off their nose to spite their face, because they did benefit enormously from the deal, b) it wouldn’t actually undo or restore all the time and effort he’s put in, and c) it’s presumably not possible, outside of a hypothetical, to “roll back all the increase in value” by court decree. (Although, if they succeed in reneging on the deal, that might causally lead to most of the increase being wiped out in the medium term, with the same Pyrrhic end result.)

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      1. Edrith avatar
        Edrith

        I think it must be about 10% (or 12%) just based on the numbers in your post: $56bn is a lot more than 1% of $650bn. Though I don’t think this matters to the argument.

        I also do think it’s right there should be protections for minority shareholders – as otherwise if the CEO was the majority shareholder they could easily gut the company by paying themselves enormous salaries, or purchasing assets from themselves at way overpriced values. It seems Trump did something like this (though staying on the side of legality) with his business (though given he did do this, I’m not sure how robust these protections are). https://www.slowboring.com/p/trump-scams-the-people-who-trust

        However, in this case I do definitely agree with you that Musk deserves his money. For one thing, I think the deal the board agrees seems pretty fair: it’s a gamble for both sides, but one where if Musk wins the other shareholders are much much richer than they would have been if Musk hadn’t been running it. It seems fair enough for companies to make this sort of deal.

        But for me the crucial point is that even if one could challenge it, that challenge surely should have come when the deal was made (or, say, within a year) – when it was still uncertain how the gamble would come off. To wait until after Musk has won, and then challenge it when you know how it has worked out, is grossly unfair and shouldn’t be allowed.

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  2. avatar
    Anonymous

    I think the CBNC article is saying that there were a dozen awards, each consisting of about 1% of Tesla stock. It’s pretty unclear.

    It’s important to remember that stock options have a present market value even if they are currently out of the money. E.g. right now TSLA is trading for approx $181.9. A Jan 16 2026 call option for $200 is currently trading at around $45.75. Giving your executive a bunch of call options is equivalent to giving them a large amount of cash. Stock prices have a lot of natural volatility outside of the control of management and options will sometimes pay off in a big way even if management does nothing special. I think that in principle option grants can indeed be unfair to minority shareholders.

    I do think that in Musk’s specific case he probably deserves his payoff. However, the courts are skeptical of people who do not follow corporate governance rules closely, and there have been plenty of historical examples of minority shareholders being exploited.

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