This is an audio transcript of the Behind the Money podcast episode: ‘Why Elon Musk is breaking up with Delaware’
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Michela Tindera
If you write down the names of all the publicly traded companies that are part of the Fortune 500, cut them up and threw them into a hat, chances are if you pulled one out, that company would be incorporated in the second smallest state in America. I’m talking about Delaware.
Sujeet Indap
Of the 470 public companies in the Fortune 500, more than 300 of them are incorporated in Delaware, in the likes of Disney or Amazon or Google, Microsoft.
Michela Tindera
That’s the FT’s Wall Street editor, Sujeet Indap.
Sujeet Indap
Big companies’ wide shareholder bases with famous investors. They’re almost always going to Delaware.
Michela Tindera
But a couple of weeks ago, there was one very large shareholder who was not happy with Delaware.
News clip
Now, a judge in the US state of Delaware has annulled a $56bn pay package that was awarded to Elon Musk in 2018 by his electric car company Tesla.
Sujeet Indap
So essentially, $56bn of stock that had been earned by Elon for being CEO of Tesla was wiped out.
Michela Tindera
The reason Delaware was the focus of Musk’s frustration is because that’s where Tesla, like all those other big companies, is incorporated. So any legal troubles involving shareholders end up in its courts. And after that judgment, Musk took to his social media platform X and wrote: Never incorporate your company in the state of Delaware.
Sujeet Indap
So when Elon lost his case, he could have just been sad and say, I disagree with the opinion. In fact, he made a more extreme point, which was that the Delaware court system where he had just lost the decision somehow was illegitimate or not a place where he wanted to do business.
Michela Tindera
Now, the thing is, Delaware is kind of like the McDonald’s of court systems. You just know what you’re gonna get. And big companies and their shareholders like that stability. So how did Delaware become so special in the eyes of corporate America? And why is Elon Musk no longer loving it?
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I’m Michela Tindera from the Financial Times. Today on Behind the Money, we’re looking at how Delaware became the top destination for publicly traded companies to incorporate. And why despite what Elon Musk says, it’s unlikely that’s gonna change anytime soon.
Hey, Sujeet. Welcome to the show.
Sujeet Indap
Great to be here. Thanks for having me.
Michela Tindera
OK, so we’re gonna be talking a lot about the state of Delaware today. And for people who haven’t been, can you just help us picture it or what’s it like? What’s it known for?
Sujeet Indap
Yeah. So Delaware is a relatively small state. It’s one of the 13 original colonies, I believe. The state itself, obviously, Joe Biden, the current president of the United States, is the long time senator from Delaware. The DuPont chemical company is famously from Delaware. But otherwise it’s mostly known for some nice beaches. And then something, I guess, to drive through quickly when you’re going from Pennsylvania and New Jersey towards Maryland and Washington, DC and Virginia. It is small, relative to those neighbours. And so, for that reason, the Delaware courts have kind of an outsized importance to the state itself. It is an important part of the state’s identity and industry.
Michela Tindera
Of course, Delaware, like any other state in the US, has a number of different courts in its system. There’s the state’s Supreme Court, a family court. But the one that we’re gonna zero in on today is called the Court of Chancery. And Sujeet tells me that this one is different.
Sujeet Indap
I guess what is most interesting is that it is a so-called court of equity, which is a contrast with the traditional court of law.
Michela Tindera
And court of equity — what does that mean?
Sujeet Indap
The word equity, the best way to think about it is, it means fairness. So a court of equity essentially just has the discretion to make judgments and, like, change outcomes in order to achieve a result of fairness.
Michela Tindera
This court, the Delaware chancery court, is the one that took on the case that Elon Musk just lost. When, say, shareholders sue over compensation package that they think is too big, this is where it ends up. And it’s up to these judges, also known as chancellors, to rule on cases. The chancery court doesn’t have juries. And these sorts of judges, these chancellors, they tend to have sophisticated backgrounds, not only in law but also in business and finance.
Sujeet Indap
They render decisions relatively quickly, efficiently, and that’s actually important in disputes like M&A fights and proxy fights, where there’s like a live transaction. And oftentimes companies will need to get at least a preliminary decision relatively quickly. And Delaware is a place to do that. They can hear cases quickly. They can make decisions quickly.
Michela Tindera
So Delaware’s court system is fast and effective. But that’s not the only reason corporations love it. It’s also because of how long it’s been in operation. Delaware’s chancery court formed in 1792, and it’s modelled on a court that goes back even further, to the High Court of Chancery of Great Britain.
Sujeet Indap
Over time, Delaware law became relatively advanced and sophisticated. And once you create like case law, which just means precedent decisions, that itself creates prestige. And it kind of builds on itself. It’s self-perpetuating. And that case law has created like, rules of the road for boards on how to structure transactions and how to interact with shareholders. And all this predictability and reliability, that’s really important to companies that are making multimillion- and billion-dollar decisions.
Michela Tindera
So with literal centuries of precedent on the books, what it really comes down to is predictability. Boards, shareholders — they all want to be able to predict how things are gonna shake out before a conflict ever even crops up. And that’s usually what Delaware can offer. This predictability has created a set of expectations when businesses end up in court in Delaware. That includes things like what’s known as the business judgment rule, which is just a very jargon-y way of saying that these courts typically don’t like to get involved in the boardroom.
Sujeet Indap
Delaware generally lets boards of directors and CEOs run companies how they see fit, and they don’t second-guess most decisions.
Michela Tindera
So with Elon Musk’s situation, why did the chancellor disrupt this usual dynamic? Well, it had to do with the facts of the case.
Sujeet Indap
The scrutiny changes if a board of directors is not truly independent and in fact is too closely tied with the CEO. And in that instance, the court is worried about the problem of self-dealing, a CEO trying to benefit himself at the expense of other shareholders. And those scenarios, the standards of review become higher.
Michela Tindera
Sujeet says that’s essentially what happened with Elon Musk. The chancellor in Musk’s case found that the board directors who approved Musk’s $56bn pay package at Tesla were too friendly with him.
Sujeet Indap
So the judge’s decision hinged on, I guess, one key conclusion: the directors themselves negotiated and then agreed to this pay package in 2018. Those directors ultimately were not deemed to be independent enough from Elon Musk. Their ties were too close to him.
Michela Tindera
So that’s where Musk tripped up. The court did something it usually doesn’t. It became a little less predictable. And that’s what inspired his posts on X aimed at Delaware. But Musk didn’t stop there. Later, he also announced that he was planning to hold a shareholder vote to move Tesla’s incorporation out of Delaware and over to the state of Texas. But that begs the question: what’s in Texas? We’ll hear more about that after the break.
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Michela Tindera
So Sujeet, Elon Musk feels burnt by this decision that was made recently in the Delaware chancery court, and he’s now said that he wants to reincorporate Tesla in Texas. Now, I know Tesla has its physical headquarters in the state. But why would he want to potentially move any legal disputes there specifically? I mean, just why Texas?
Sujeet Indap
So this comes at a really interesting, if not ironic, point. Texas itself, by coincidence, has started this campaign to bring more companies to Texas for their incorporation.
Michela Tindera
But why would they want to do that?
Sujeet Indap
Texas is obviously a very large state, and its economy has been booming in recent years, particularly since the pandemic. A lot of companies from the north-east or California have been moving operations to Texas, if not their headquarters. And so the Texas legislature and its legal community have said, why don’t we institute our own corporate law court that looks like the Delaware Court of Chancery? And it will be attractive because there’s so many companies that are already here. We have this reputation for being a haven for business, and there’s all this talent here too. Let’s create a sophisticated corporate court that can be an attractive place to have legal disputes heard.
Greg Abbott voice clip
But as CEO, you’re no longer CEO of that company. When you turn the future of that company over to 12 jurors in a jury box, those jurors are your CEOs.
Michela Tindera
That’s Texas Governor Greg Abbott in a clip from a local news station last year. He’s talking about his state’s need for some sort of business court.
Greg Abbott voice clip
We need to have the intellectual, methodical, judicial approach that is deserving of these types of disputes.
Michela Tindera
So it’s something that Governor Abbott signed on to. But, Sujeet, what’s this court all about? What do you know about it so far?
Sujeet Indap
It is called the Texas Business Court. The governor of Texas is supposed to be appointing judges to this court any day now. It’s new. It’s obviously untested. There’s various kind of details that haven’t been worked out, but there’s a lot of enthusiasm and a lot of excitement. Elon Musk has suddenly given this new Texas court a lot of attention, and they’re definitely trying to capitalise on it.
Michela Tindera
OK, so it’s clearly very new here. But I mean, what should companies be thinking about if they are considering incorporating in Texas? Or perhaps what should Tesla shareholders think about if they do end up voting on whether the company should move to Texas?
Sujeet Indap
I mean, the concerns are the basic ones, that it’s obviously a start-up. And so it has huge barriers to ultimately establishing credibility. Delaware obviously took decades, if not centuries. And so there’s a huge head start that a place like Delaware has. And so, is Texas gonna be able to catch up even with whatever advantages it has, is a question. And then there’s the political question around Texas. For all its reputation as being a business-friendly state, the politicians there, the legislature, the governor, the attorney-general have waded into the so-called culture war, whether it relates to ESG and DEI and BlackRock and various truly hot-button issues. Delaware, the courts are more or less apolitical. It’s a mostly moderate political state, and Delaware knows how important the idea of non-partisanship is in its courts that it has steered clear of making those politicised in a way that Texas is now a wild card.
Michela Tindera
So Sujeet, just as we were hitting the weekend, you reported that Musk moved the incorporation of his company Neuralink. That’s the one working on the brain implants. He moved it out of Delaware and over to the state of Nevada. Now, why did he do that?
Sujeet Indap
Elon’s decision to move Neuralink from Delaware to Nevada may not come as a total surprise. First, it may be, in fact, a response to the compensation decision in Delaware from a few weeks ago. He also has the company X, the former Twitter, in Nevada, which he moved its incorporation from Delaware to Nevada after he closed the $44bn buyout in 2022. Nevada is known for being a state that is very deferential towards controlling shareholders and shareholders with big stakes in companies and letting them make the decisions they want with minimal interference. So this shouldn’t be seen as a shocking move by Elon, who has said he has a fondness for Nevada.
Michela Tindera
And what would you say are the implications for this move?
Sujeet Indap
A lot of other states look to Delaware precedent, when they have some kind of resolved question. So he could very well be facing the exact same or similar standards that he saw in Delaware. So it’s not the cure-all that he thinks it is just yet.
Michela Tindera
Yeah. Well, what does all this mean for Delaware as the dominant state for corporate law? I mean, could what’s happening with Musk here actually have an impact on the number of companies that choose to incorporate in Delaware, do you think?
Sujeet Indap
So I spoke with Stephen Bainbridge who’s a famous law professor at UCLA in the study of Delaware corporate law for decades. And he made the point that by Delaware taking on the richest man in the world and ultimately ruling against him, showed the state’s independence and commitment to its rules. And that alone would keep Delaware dominant, just because companies and shareholders knew that it was a place of principles, and ultimately it would be a place that was predictable and not subject to the whims of a rich man. So, that’s a really interesting way to think about it. And I think in the near term, he’ll probably be right.
Michela Tindera
Well, Sujeet, thanks for being here.
Sujeet Indap
Great to be here. Thanks for having me.
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Michela Tindera
Behind the Money is hosted by me, Michela Tindera. Saffeya Ahmed is our producer. Topher Forhecz is our executive producer. Sound design and mixing by Sam Giovinco. Cheryl Brumley is the global head of audio. Thanks for listening. See you next week.
