The Elephant in Tesla’s Boardroom

Next week, Tesla investors will cast an unprecedented vote on what a court called the “largest chief-executive pay package in the history of public markets.” While the vote has been closely watched, little attention has been paid to the elephant in the (board)room: Musk’s threat not to develop Tesla into an artificial-intelligence leader if he doesn’t get a larger voting stake. Stockholders cannot cast meaningful votes on Musk’s pay while his threat hangs, like the sword of Damocles, over Tesla. This week’s news that Musk asked a key supplier to redirect scarce artificial-intelligence chips reserved for Tesla to his other companies highlights the importance of this issue.

In 2018, Tesla’s board granted Musk an option package allowing him to acquire as much as 10 percent of the company’s voting stock. But a Delaware judge found, after a trial, that the grant and the process that produced it were skewed by Musk’s influence and that Tesla disclosures to investors voting to approve the grant were woefully incomplete.

Rather than respond to the court’s judgment by bargaining at arms’ length over a new package for its CEO, Tesla’s board chose to ask investors to vote to approve the package. The board’s belief that such a vote could operate to undo the court’s decision is questionable. Regardless of this problem, however, the vote cannot be expected to meaningfully reflect stockholder preferences with respect to Musk’s grant.

In January, Musk said that he was “uncomfortable growing Tesla to be a leader in AI” “without having ~25% voting control.” “Unless that is the case,” he “would prefer to build products outside of Tesla.” That “threat” made stock analysts worried.

One analyst report indicated that Tesla might have to “[d]evise a new comp package that would get Musk directly to [his] 25% voting share bogey.” Because Musk “has hinted at the possibility of moving the AI piece outside of TSLA,” another analyst opined, “[b]oth strategies” now available to Tesla’s board “come with drawbacks:” “outsourcing the AI virtually zaps the tech premium reflected in the share price,” while “increasing Musk’s ownership brings on share dilution risk.”

What could Tesla’s board do about Musk’s threat? To begin, stockholders should know whether the board’s request for a vote is motivated by the threat — and what, if anything, the board plans to do about Musk’s threat if he attempts to carry it out. Instead, all investors know is that the board is bringing to a vote a proposal to give Musk a sizeable voting stake — without conditioning this vote, or Musk’s package, on Musk withdrawing his threat or committing not to carry it out if stockholders vote to approve.

Strikingly, the proxy statement Tesla sent to investors in advance of the coming vote is completely silent about the threat. The proxy does not try to allay investor concerns about Musk’s threat by, say, telling stockholders how the board would address it if necessary. Indeed, the proxy offers no assessment of the threat — and no guidance as to how it should affect the the choices stockholders will have to make when casting votes.

In such circumstances, investors’ cast votes should not be expected to provide an accurate barometer of their true preferences. Consider, for example, an investor who, if Musk’s AI threat were not present, would prefer not to see Musk’s large grant reinstated. Such a stockholder could nevertheless rationally choose to vote in favor of Tesla’s proposal next week to reduce the risk that Musk will carry out his AI threat.

Tesla’s board should take the threat — and its effects on its investors’ votes — seriously. Preferably, the board should work to convince Musk to remove the threat – or, alternatively, tell stockholders the board’s plans for effectively addressing it. Until then, the board should recognize the risk of currently holding a stockholder vote: that the outcome of such a vote could well be seriously distorted by Musk’s looming threat.

This post comes to us from Lucian Bebchuk, a professor of law, economics, and finance, and director of the corporate governance program, at Harvard Law School; and Robert J. Jackson, Jr., a professor of law at NYU School of Law who served as a commissioner of the U.S. Securities and Exchange Commission from 2018 to 2020. They have served as independent experts on behalf of the plaintiff in the Delaware litigation regarding Musk’s pay package. This post draws on a short academic essay on Tesla’s governance on which they are at work.

1 Comment

  1. James McRitchie

    “Musk’s threat not to develop Tesla into an artificial-intelligence leader if he doesn’t get a larger voting stake. Stockholders cannot cast meaningful votes on Musk’s pay while his threat hangs, like the sword of Damocles, over Tesla.” The distinguished professors call on the Board to “tell stockholders the board’s plans for effectively addressing it.” (Musk’s threat) Who would believe it even if the Board issued such a plan or statement? The majority of the Board consists of Musk, his family, friends, and business partners.

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