Musk pushes for Tesla to reincorporate in Texas, challenging Delaware's dominance

A Delaware judge ruled Tuesday that — contrary to the will of the supermajority of shareholders and the company's board — Tesla CEO Elon Musk was undeserving of the multibillion-dollar compensation package directors awarded him in 2018.

Chancellor Kathaleen McCormick may have unwittingly set the stage for an accelerated erosion of Delaware's dominance and the rise of a competitive business court network in Texas. After all, Musk appears unwilling to continue taking abuse in the Diamond State.

A judge's decision

A shareholder lawsuit was filed against Musk and Tesla directors several years ago.

McCormick characterized the complaint thusly in her Tuesday opinion: "Was the richest person in the world overpaid? The stockholder plaintiff in this derivative lawsuit says so. [Richard Tornetta] claims that that Tesla, Inc.'s directors breached their fiduciary duties by awarding Elon Musk a performance-based equity-compensation plan."

The 2018 compensation agreement was structured around 12 tranches of stock options, whereby Musk would unlock additional options upon the satisfaction of various operation milestones and stock market capitalization goals. The pay plan was valued at up to $55.8 billion.

The New York Times suggested at the time it was the "boldest pay plan in corporate history," noting that "Musk will be paid only if he reaches a series of jaw-dropping milestones."

For Musk to fill his pockets, he would first have to see to the enrichment of shareholders, raising the market value of Tesla from $50 billion to $650 billion. In theory and in practice, everybody wins.

Defense attorneys told the Delaware Chancery Court that the pay plan was fairly negotiated by a compensation committee comprising independent members, set incredibly ambitious milestones, and was even approved by a legally unnecessary shareholder vote, reported the Associated Press.

The judge, nominated by Biden ally and Delaware Gov. John Carney (D), suggested that the task of "proving the fairness of the largest potential compensation plan in the history of public markets" was "too tall an order."

McCormick, the same judge who fatefully prevented Musk from backing out of the Twitter acquisition deal, claimed in her ruling that the South African billionaire "enjoyed thick ties with the directors tasked with negotiating on behalf of Tesla, and dominated the process that led to board approval of his compensation plan."

"The Compensation Committee and Musk were not on different sides," continued the judge. "They did not acknowledge the existence of a conflict. It was a cooperative and collaborative process."

McCormick ultimately voided the pay deal.

The people's decision

Musk did not take the news well, posting on X, "Never incorporate your company in the state of Delaware."

Evidently keen not to give McCormick the last word, Musk polled his over 170 million followers on X, asking: "Should Tesla change its state of incorporation to Texas, home of its physical headquarters?"

Axios noted that Texas Gov. Greg Abbott (R) ratified HB 19 in June 2023, establishing business courts in the state to deal with complicated commercial disputes. The courts will open on Sept. 1, 2024, according to the law firm Sidley Austin LLP.

"The creation of these new courts may eventually make Texas an even more attractive location for resolving business disputes," said the law firm.

Over 1.1 million X users participated in Musk's poll, voting overwhelmingly in favor of Tesla changing its state of incorporation to Texas. The final result was 87.1% in favor, 12.9% opposed.

Following the landslide vote, Texas Gov. Greg Abbott (R) wrote, "Elon, it's over. The election desk is declaring a landslide victory for Texas."

Texas Sen. Ted Cruz tweeted, "Hell yes."

After various groups and users piled in to celebrate, including the Texas Association of Business, Elon Musk declared, "The public vote is unequivocally in favor of Texas! Tesla will move immediately to hold a shareholder vote to transfer state of incorporation to Texas."

Significance

Garland Kelley, a Texas-based partner at Looper Goodwine PC, told Axios that Tesla's reincorporation in the Lone Star State could signal the beginning of "a bit of legal competition" between Democrat-controlled Delaware and Texas.

Over 65% of Fortune 500 companies are presently incorporated in Delware.

"If you are a new company or an existing company like Tesla and you're unhappy with the legal product that the court in Delaware is producing, do you have an alternative?" said Kelley.

Kelley suggested further that "the Texas Business Court represents that alternative."

Brian Cheffins, a professor of corporate law at Cambridge University, told Reuters there is no guarantee Musk will not similarly experience hostility in the Lone Star State.

"Musk must believe that Texas judges are more 'business friendly' than their Delaware counterparts. ... Musk must be assuming that Texas judges will, with the discretion they have to assess executive pay, take a more relaxed approach to the issue than Delaware judges," said Cheffins. "It is far from clear Texas will do so."

The Texas business court will comprise seven judges appointed by Abbott with the advice and consent of the Senate. Judges on the bench must have at least a decade of relevant experience.

Reincorporation may also expose Musk to additional lawsuits. Tripadvisor, for instance, has been sued over its plans to ditch Delaware and reincorporate in Nevada.

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