Fallout of Musk’s Tesla pay defeat: Investors gain tools, CEO pay benchmark nullified –  Jeroen van Kwawegen

In a landmark ruling, a Delaware court cancelled Elon Musk’s $56 billion Tesla compensation package from Tesla following a lawsuit by a shareholder who argued that Musk’s pay package was excessive – an argument that found favour with the judge. The implications of the court case are far-reaching for companies with outside compensation packages and corporate boards accused of lax oversight. In an interview with BizNews, Jeroen van Kwawegen, the co-lead of the New York law firm Bernstein, Litowitz, Berger and Grossman who was responsible for the exceptional result said that the court case proved that the richest person on earth is not above the law, especially in the United States. Van Kwawegen said it also showed that investors have multiple tools in their toolbox to make sure that executives and the directors of their portfolio companies comply with their fiduciary duties. On the impact that the court case against Musk’s Tesla compensation would have on the pay packages of other CEOs, he said the Musk benchmark for chief executives salaries has been nullified and that it will have a direct impact on future compensation packages. He also addressed Musk’s recent poll on X (formerly Twitter) about relocating Tesla from Delaware stating that such a decision lies with the board and shareholder, not Musk alone. Superstar CEOs, the shareholder attorney said, still have fiduciary accountability. Van Kwawegen also set out that the legal options that are open to Musk should he consider appealing the court’s decision to strip him of his Tesla compensation package.

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Relevant timestamps from the interview

  • 00:11 – Landmark ruling cancels Elon Musk’s compensation package
  • 01:05 – Jeroen van Kwawegen on the historic win and it’s implications
  • 02:09 – Implications in the United States
  • 03:26 – Influence of smaller shareholders
  • 04:08 – Impact on future compensation packages
  • 05:55 – Effect on accountability and corporate governance
  • 07:12 – Considerations for investors
  • 08:22 – Importance of independent boards
  • 09:30 – Success of the case and previous experiences
  • 10:24 – Interest in corporate governance
  • 12:18 – Shift in holding tech giants accountable
  • 13:49 – Impact on corporate governance in Europe and South Africa
  • 16:10 – Possibility of appeal and next steps

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Highlights from the interview ___STEADY_PAYWALL___

Court case shows the richest person on earth is not above the law 

I think that there are a number of implications of this ruling and it depends on the audience, but primarily what it means for boards of directors is that they really have to make sure that they’re truly independent from the chief executive officer whose compensation package they are negotiating with. I think from an investor perspective, what it means is that, as the world is moving more and more towards an ESG-focused model for investors,  it shows investors that they have multiple tools in their toolbox to make sure that the executives and the directors of their portfolio companies comply with their fiduciary duties. For the broader public and the broader world, it shows that the richest person on earth with a privately owned communications network is still not above the law, at least not in the United States.

Musk’s threat to move Tesla away from Delaware – “It is not his company”

Well, as you probably know, Mr. Musk on X said that he was going to do that and that’s another interesting point because if you look at the law, the way that works is first, you need to get approval from the board of directors. The second step is to get approval from your shareholders. I believe Mr. Musk held a poll on Twitter, although I’m not entirely sure as I don’t use Twitter or platform X, but it underscores that it’s not his decision to make. 

He acts like he is controlling everything and he didn’t mention the board. One of the central tenants of our case is that the board was not independent from him, or at least the compensation committee was not independent from him. His actions seem to confirm that. He says, ‘I’m just gonna move my company.’ However, it is not his company. It is the board’s decision, and then it is the shareholders’ decision. As far as I know, neither has given approval. 

Could it be moved to Texas or some other state? Sure, but you need to comply with your fiduciary duties in that respect as well.

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Size of the shareholder does not matter 

I think it does prove that in the end Mr. Musk is held accountable before the law no matter what the size of the shareholder is, no matter who is actually bringing that case. Of course it needs to be a meritorious case. The United States courts and this particular court in Delaware are a very serious courts. They’re not going to entertain strike suits (frivolous claims.) So, you have to have a serious claim and you have to show a judge that this is a serious claim. But once you do that, it doesn’t matter what the number of shares is that you hold, you can have an audience before an impartial tribunal. I think that’s what it really shows.

The Musk CEO pay package benchmark has been nullified 

There’s no doubt that it will have an impact on CEOs pay packages and I know that because Mr. Musk’s compensation package influenced many CEO compensation packages after it was initially adopted. If you just take a step back and look at the way compensation packages work for senior executives, typically what happens is you have a compensation committee of the board that reviews compensation packages. They bring in a compensation consultant who normally presents benchmarks to figure out, given the size of this company, given the type of company, what is a reasonable package? Mr. Musk’s compensation package was done without such benchmarks, but it became part of the benchmarks that was used for other companies. There was a pretty influential New York Times article about this talking about all the different CEOs who got a similar package after Mr. Musk. 

The packages were much smaller in size, but still much bigger than anything that happened before. So now, this compensation package will no longer be part of any benchmark. It’s been nullified. That should have an impact on future compensation. I hope what it means is that boards of directors and compensation committees and boards now think long and hard 

about the compensation packages that they approve, because it needs to comply with their fiduciary duties. So yes, I do think that this is going to have a direct impact on future compensation packages.

Lessons learnt: Future superstar CEOs still have fiduciary accountability

Well, initially from a legal perspective, if you look at the judge’s ruling, it’s 200-plus pages of detailed findings. But from a legal perspective, the judge applied very well-known, well-established legal precedents. So, from a legal perspective, I don’t think this moves the needle all that much. Now from a practical perspective, it has an impact because it’s a reminder that no matter how wealthy and how powerful you are, you’re still accountable, and that boards of directors interacting with superstar CEOs still have to look at their fiduciary obligations. So, from that perspective, I do think it has an impact. From a legal perspective, I honestly don’t see a lot of novel legal concepts in this ruling. It’s well-established, and basically what the judge did was, take all the facts that we established at trial, looked at all the facts in their totality, and then applied a well-established legal lens. 

REd flags that investors should consider before investing

Let me start by saying I’m a capitalist.  I think that people who perform well should be rewarded well. So, I’m not sure that the size of the compensation package for CEOs or senior executives itself is something that I would be particularly interested in if I was an investor.  But I’ve been doing this for a very long time and I’m a fiduciary duty lawyer. So, what I would be very interested in is the overall governance of the company and how it is structured. Do you have a truly independent or majority independent board of directors that looks out for the interests of all shareholders? If you don’t, that is a red flag because that will allow the type of self-dealing that we alleged and I think proven at trial here. That is never going to be good for the overall company and the shareholders if you allow self-dealing by a superstar CEO or any other insider. So, I would look at the overall governance when I make my investments.

What about the superstar CEO who might have his brother/s on the board?

I think people are people. Everybody at some level is human and I don’t have a particular problem with having one or two directors on the board that happen to be very close. I have no problem with that. But I do have a problem if a majority of the board is not independent, and if people on particular committees are not independent. Here, we are talking about the committee because it was a compensation package, we could talk about an audit committee or a compliance committee. If you think about those committees, those should be entirely independent when you have potential self-dealing by insiders. Mr Musk’s brother, Kimball, was not a member of the Tesla compensation committee. But, we proved at trial that the other members were not independent either, but I think just having one or two people on the board who are not independent from a superstar CEO by itself is not necessarily a priority.

Would tech giants become more accountable after the judgement? 

I think that’s a fair question. I don’t think it is surprising that there have been a fair number of cases involving technology companies, especially in Silicon Valley. When you think about it, many of them, I don’t think of all of them, but many of them think that they’re above all rules and that everybody should just bow to them. I do think that if you have a corporate culture that allows that, then those types of people are going to act on self-interests and greed and will overreach. So, I do think that at some level, at some point, the people in Silicon Valley specifically will start taking note that your reputation matters as a director and that you will be held accountable if you breach your fiduciary duties. I do think there’s going to be an impact, but in all fairness, reality suggests that that’s gonna take quite some time because there’s this culture of impunity in Silicon Valley where people have a very hard time realising that the law applies to them and  that it is really not bad for my business. I don’t think it’s good for shareholders, but it’s not bad for my business because that just means there will be other cases in the future.

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It is harder to hold directors accountable in many countries in Europe, but reputation matters more 

It goes back to my original answer about the different levels. At the director’s level, I don’t think it’s going to make a big difference because they’re entirely different legal regimes.  When I think about Europe, many countries in Europe have a stakeholder model where directors don’t necessarily have to think about the companies and the shareholders’ interests first. It is much harder to hold directors accountable in many countries in Europe, but the reputation of directors is more important. The enforcement of rules, very often in Europe, and I think in South Africa, would be more through informal, director-to-director kind of discussions, or major shareholders picking up the phone and saying, ‘you know what you did is really not okay.’ So, I think from that perspective, I don’t think the impact is huge for South Africa or people in Europe.

Investors impact significant elsewhere because of global portfolios, ESG-focus 

I believe that, from an investor’s perspective, the impact is highly significant, both in South Africa and in Europe, as investors, pension funds, and asset managers maintain global portfolios. They do not solely invest in their respective countries or regions but have diversified global portfolios. This decision illustrates that they now possess an additional tool, particularly in the United States, when dealing with companies in their portfolio, especially those that happen to be American. If directors are found to be misbehaving, investors can utilise this tool.

Increasingly, investors in Europe (and, I assume, in South Africa—though I cannot confirm) are focusing on ESG (environmental, social, and governance) norms. When approaching this from a governance perspective, as it indeed is, investors will recognize that they have an extra resource in their toolkit. This resource empowers them to hold directors, superstar CEOs, or other CEOs accountable should they act out of greed, lack independence, and enrich themselves at the expense of the company or fellow shareholders.

Elon Musk’s likely next step: Appeal likely, but can’t go to US Supreme Court

This is an outright victory. This is a hundred percent victory for the shareholders and for the company, and it’s an outright defeat for Mr. Musk. So rationally speaking, if you have the right of an appeal, you would appeal. Like, he can just fold his cards and walk away, but I don’t think that would be rational. Given that this case falls within Delaware State Court jurisdiction, the avenue for appeal is directly to the Delaware Supreme Court, with no intermediate level available. It’s an automatic appeal that Mr. Musk and the other defendants can exercise, and I suspect they will do so.

If we then assume for a moment that the Delaware Supreme Court affirms the judgement.

which again I say is very well grounded and well established legal precedents. But let’s say that the Delaware Supreme Court of France is the end of the road. Some people ask me, well, what about the US Supreme Court? Could Mr. Musk petition the US Supreme Court and the answer is anybody can petition the US Supreme Court, but here the chances of the US Supreme Court doing anything are extremely remote, because this is a state law issue where the state courts have supremacy over the federal system. So, under the US federal system, this Delaware trial court has more authority and is more authoritative over Delaware state law issues than the US Supreme Court and there’s absolutely nothing for the US Supreme Court to do. So the chances that the US Supreme Court will even entertain that petition are remote to say the least.

It is likely that the Delaware supreme court will affirm the case

All litigation has risks. Like I said earlier, I’ve won cases, I’ve lost cases. As a lawyer, it’s hard to say, well, I’m 100% certain of anything. But I think it is very likely. It’s a 200-page decision grounded in fact and the Delaware Supreme Court will give deference to the trial court’s findings of fact or or credibility determinations. There’s not going to be new testimony before the Delaware Supreme Court. So I think it’s much more likely than not that the Delaware Supreme Court looks at this well-reasoned, well-established, applying normal precedent decision and says, this is a good decision and I’m going to affirm it. But do we have 100% certainty? No, but I think the overwhelming likelihood is that that’s what’s going to happen.

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