CalPERS Explains ‘No’ Vote for Musk’s $1 Trillion Pay Deal

Key Concepts

• Shareholder Interest: The primary concern for shareholders is the outperformance of the stock and whether executive compensation aligns with this goal.
• Alpha vs. Beta: Distinguishing between outperformance due to exceptional skill (alpha) and outperformance driven by general market trends (beta).
• Executive Compensation Benchmarking: Comparing CEO pay packages against those of other high-performing CEOs at comparable companies.
• Concentration of Voting Power: Concerns about excessive voting power accumulating in the hands of a single shareholder.
• Dilution of Shareholder Equity: The impact of issuing new shares on the ownership percentage of existing shareholders.
• Key Person Risk: The risk associated with a company's heavy reliance on a single individual for its success.
• Stewardship: The responsibility of institutional investors to act in the best long-term interests of their beneficiaries.
• Long-Term Investment Horizon: The perspective of investors who plan to hold a company's stock for an extended period.
• Case-by-Case Evaluation: Assessing each executive compensation plan individually based on its specific merits and risks.
• Competitive Landscape: The evolving market dynamics and the emergence of new competitors in key technological areas.

Analysis of Elon Musk's Proposed Compensation Package

This discussion centers on the proposed compensation package for Elon Musk and the arguments for and against its approval, particularly from the perspective of institutional investors like pension funds.

Argument for the Package and Counterarguments

1. Board's Argument for Outperformance:

• Main Topic: The board's assertion that if Musk achieves the set goals, the stock's outperformance will justify the compensation and be in shareholders' best interest.
• Key Point: This argument hinges on the assumption that the proposed package is designed to incentivize and reward exceptional performance.

2. Investor's Disagreement and Rationale:

• Main Topic: The investor's disagreement with the board's premise, focusing on the difficulty of predicting market performance and distinguishing between skill-based outperformance and market-driven gains.
• Key Points:
  • Market Prediction: "We can't predict what the market's going to do."
  • Alpha vs. Beta: The crucial question is whether the company is paying for "alpha" (exceptional skill) or "market beta" (general market performance).
  • Historical Performance: While Tesla has been a strong performer over the last eight years, it was not the absolute best, but within the top ten.
  • Compensation Multiple Gap: The proposed annualized pay of $96 million (restricted stock vesting in two years) is 73 times the median pay of other high-performing CEOs in the investor's portfolio. This significant "multiple gap" is deemed too high.

The "Tesla is Not Comparable" Argument and Voting Power Concerns

1. Board's Claim of Uniqueness:

• Main Topic: The board's argument that Tesla and Elon Musk are not comparable to other companies or individuals.
• Key Point: Robyn Denholm's statement that "Elon Musk is the only person on the planet who has the skill set."

2. Investor's Primary Tension: Concentration of Voting Power:

• Main Topic: The core point of contention is the concentration of voting power in a single shareholder.
• Key Point: The investor's prior vote against a similar proposal was based on the concern that it "put too much concentration of power in a single shareholder."
• Musk's Rationale: Musk's proposal for investors to vote in favor is explicitly linked to him wanting "the voting power in order to achieve the goals that the board have set him."

3. Reconciling Voting Power and Shareholder Dilution:

• Main Topic: The investor's perspective on the necessity of increased voting power and shareholder dilution.
• Key Points:
  • Historical Ownership: Musk previously owned 25% of the company and achieved goals with a 12-13% stake after selling half.
  • Dilution Impact: Diluting shareholders by another 12-13% is not seen as changing the fundamental dynamic, as Musk already has a significant stake and is unlikely to damage the company.
  • Combined Board and Musk Ownership: Musk and the board together own approximately 16% of the company.
  • Financial Impact of Dilution: The potential dilution of "another trillion dollars" is not considered to fundamentally alter the existing ownership dynamic.

Future Vision and Key Person Risk

1. Musk's Vision: AI and Robotics Era:

• Main Topic: Musk's argument that Tesla is at an inflection point, moving beyond car production into AI and humanoid robots.
• Key Point: The ambition to have an "army of robots" being produced.

2. Investor's Concern: Risk Concentration:

• Main Topic: The governance concern about placing excessive risk in one individual.
• Key Points:
  • Existing Influence: Musk already has "tremendous say as the largest shareholder."
  • Uncertainty of Future: "We don't know what could happen to anybody."
  • Reliance on One Person: The risk of relying so heavily on one person, especially when "tens of thousands of people working at Tesla creating value."
  • Key Person Risk: This is a significant worry for the investor.

Stewardship and Long-Term Investment Horizon

1. Role of Stewardship:

• Main Topic: The investor's role as a steward for pension fund holders and balancing risks.
• Key Point: The responsibility to act in the long-term interests of beneficiaries.

2. Managing the Risk of Musk's Departure:

• Main Topic: How the investor views the potential departure of Elon Musk.
• Key Points:
  • Long-Term Shareholders: The investor identifies as a "long term shareholder" with a significant portion of their portfolio indexed, implying a commitment to holding for extended periods.
  • Focus on Long Haul: "We try not to worry too much about if... one person leaves today or tomorrow, we're in it for the long haul."
  • Short-Term vs. Long-Term Impact: A short-term hit to the business if Musk left is possible, but the long-term benefit of holding the stock is prioritized.
  • Board's Role in Succession: The board would need to replace him, and while a replacement might not be as exceptional, the company could still benefit over the long term.

Criteria for Voting and Evaluating Pay Plans

1. Case-by-Case Evaluation:

• Main Topic: The methodology for evaluating executive pay plans.
• Key Point: "We evaluate every pay plan, you know, case by case."

2. Understanding the Company and Goals:

• Main Topic: The investor's process of understanding the company and its mandatory goals.
• Key Point: Assessing whether the goals "could be to the benefit of all of our stakeholders in our pension plan."

3. Distinguishing Paid Return from Skill:

• Main Topic: The challenge of separating CEO compensation from actual skill-based returns.
• Key Points:
  • Predicting Future Performance: It's difficult to predict the market's performance ten years out and how the CEO's contribution will compare to market trends.
  • Risk of Dilution for Unproven Gains: Giving up control and diluting shareholders for potential gains that might mirror market performance is seen as a risk.

4. Risk of Unachieved Goals:

• Main Topic: The possibility that Musk might not achieve the set goals.
• Key Point: This has been observed with other similar pay packages where goals were not met.

Achievability of Goals and Competitive Landscape

1. Specific Goals and Achievability:

• Main Topic: The feasibility of ambitious goals like one million robotaxis and Full Self-Driving (FSD).
• Key Points:
  • Possibility of Achievement: It's acknowledged that these goals are "possible."
  • Increased Competition: The competitive landscape for EVs and robotaxis is significantly greater now than when Tesla first entered the market.
  • Emerging Competitors: Google is working on robotaxis, and Chinese companies are also active in this space.
  • Uncertainty of Future Dominance: While Tesla is positioned to be a key player, it's uncertain if they will dominate robotaxis in ten years, as other companies might emerge.

Synthesis/Conclusion

The core of the discussion revolves around a fundamental disagreement regarding Elon Musk's proposed compensation package. While the board argues that the package is justified by the potential for extraordinary stock performance driven by Musk's unique skills, the investor expresses significant concerns. These concerns are primarily centered on the excessive concentration of voting power, the substantial gap between Musk's proposed pay and that of other high-performing CEOs, and the inherent risk of placing too much reliance on a single individual ("key person risk"). The investor emphasizes a long-term stewardship approach, prioritizing shareholder value and risk management over short-term incentives tied to potentially market-driven outcomes. They advocate for a case-by-case evaluation of compensation plans, carefully distinguishing between performance attributable to exceptional skill and that which is a result of broader market trends. The increasing competition in key technological areas like AI and robotics further complicates the assessment of future success and the justification for such a large, concentrated compensation package.