Elon Musk’s newly restored Tesla TSLA-Q pay package is off-the-charts big, a crazy number that won’t be replicated at any other company. Nor should it be.
Lost in the hubbub, however, is something you may not realize: There are some good things to say about what Tesla did. Good things which, properly right-sized, a lot of other companies should consider copying.
To review: In 2018, Tesla worked up a pay plan for Mr. Musk, the company’s chief executive officer. Tesla awarded a huge number of stock options – with splits, now equivalent to more than 300 million shares – and laid out a set of targets for the company’s market value and operational performance. Tesla met them all, and Mr. Musk received his stock options. They were worth nearly US$70-billion at the end of 2023. That’s billion with a B.
In January, a Delaware judge struck down the package, ruling Mr. Musk had unfairly controlled the company’s compensation process and Tesla’s disclosure of the pay package was inadequate.
So Tesla went back to its shareholders Thursday with a rare chance to approve a stock-option package retroactively – and they did just that, with a vote of 72 per cent in favour. The company will now use that vote as evidence to get the judge’s decision overturned. (That’s not a great number, by the way, when most pay proposals yield 90 per cent or more of the vote.)
In its totality, the pay package is dumb and gross – Mr. Musk already owned about 20 per cent of Tesla in 2018 when the board decided it needed to “keep Elon focused on Tesla and motivated to achieve the company’s incomparable ambition,” according to a letter to shareholders earlier this month from Tesla’s board chair.
You can argue that Mr. Musk shouldn’t work for free, as many Canadian companies say when they give stock options to their founder/CEOs. I would argue – as many others would – that there’s no need to devise a pay package that gives the CEO with a huge stake another 12 per cent of the company. (Also: Maybe I should do a poll on X, the new name for Musk-purchased Twitter, as to whether Mr. Musk remained focused on Tesla during this time.)
Tesla got away with it because the plan design actually reflected that “incomparable ambition.”
The company essentially divided the option grant into 12 chunks. Tesla, which had a market capitalization of US$59-billion at the time, had to hit US$100-billion for the first tranche and increase its market value by US$50-billion for each subsequent tranche.
It wasn’t solely based on market capitalization: Tesla also had to hit financial milestones for revenue and adjusted EBITDA, or earnings before interest, depreciation and taxes. Mr. Musk got to match up one of 16 goals with any of the 12 market-cap hurdles; the highest represented 17 times the company’s 2017 revenue and 21 times the company’s profits.
And, if Tesla hit the targets and Mr. Musk collected, Tesla required him to hold the shares for five full years after exercising the options.
Well, Tesla hit the numbers, and Mr. Musk collected. This is where the Tesla fanboys say he “earned every penny.” We’ll set that aside, because Tesla shareholders are in a cult, with Mr. Musk their charismatic leader. This company’s stratospheric stock performance is testing the all-time bubble bounds, and Tesla shareholders get what they deserve, both on the way up and on the way down.
Instead, I think the best takeaway here is that nearly all other companies aren’t asking for enough performance in their executives’ performance-based awards.
Examples gleaned from years of reading Canadian compensation disclosure:
- Too many companies pay out 25 per cent or more of “performance shares” when executives miss the targets entirely. The excuse − often offered by Canada’s big banks – is that if the plan had the possibility of a zero payout, the executives would take on too much risk. I’d say there’s zero risk they get what they deserve for badly missing targets.
- Companies that use stock options – and there are plenty of them – rarely attach any performance conditions to them. Relative return, versus absolute return, would stop a rising tide from giving their executives millions in hot markets when they underperform their peers.
- Many companies that make mega-awards of options – such as Nuvei Corp. in 2021 and GFL Environmental Inc. in 2020 and 2021 – set exercise prices or vesting conditions based on the stock increasing in price. They call it a “performance condition” – but they’re typically not based on relative return or tied to any operational metric such as, oh, I don’t know, profitability. These awards have the same rising-tide problem as plain-vanilla stock options.
- In structuring annual bonuses, many companies set financial targets that are barely above the prior year’s actual numbers. Sometimes a gain of 5 per cent or less is required for 100 per cent payout. Sometimes the targets are lower than the prior year’s result. May God – or a board compensation committee – smile upon you if you can do worse than last year and get 100 per cent of your bonus.
- There’s often no requirement that executives keep any shares after using stock options. They exercise and dump, and many never retain any meaningful stake in the company. Options end up working like a cash bonus plan instead of a vehicle to build ownership.
Here’s an idea: How about making CEO pay packages a reasonable size AND make the upper end of the payments truly difficult to achieve? Certainly, most big public companies are past the stage where a 17-fold increase in sales in five years is reasonable, so Tesla’s ambition is indeed “incomparable.” But in Canada, the ambition behind the aspirations in many multimillion-dollar pay packages is undetectable.