The Advisors' Blog

The stories keep coming from the Delaware Court of Chancery’s decision to invalidate the 2018 “moonshot” award to Elon Musk. The WSJ reported late last week that the plaintiff’s lawyers have asked the court to approve a fee payment in Tesla stock with a value of $5.6 billion!! The directors’ defense costs also need to get paid.

The D&O insurance arrangements will dictate whether the company can pass that bill along to the insurance carrier. At least at one point, Tesla had a custom insurance policy, so it’s hard to know what the mechanics will be here. This blog from Woodruff Sawyer’s Priya Huskins explains how the coverage typically works – which is good to think through if you’re looking at your own policy:

The Tesla case was a derivative suit against the board of directors, so the proceeds of the shareholder’s win technically go back to the company. This is also what happens anyway when an equity grant is rescinded.

Legal defense costs of directors subject to a derivative claim are indemnifiable by a company, assuming the company is not bankrupt. Thus, if a company is buying classic D&O insurance, one would expect the directors’ defense costs to be paid by the D&O insurance policy, subject to the self-insured retention (similar to a deductible).

These costs will not be paid by D&O insurance if a solvent company is only buying a Side A policy, a policy that only responds to non-indemnifiable claims.

Companies of Tesla’s size will often choose to self-insure indemnifiable claims, and some might go so far as to set up a captive to handle non-indemnifiable claims.

In any case, don’t expect insurance carriers to “pay” anyone the value of an executive’s voided compensation agreement given the standard exclusions in D&O insurance policies for that sort of thing. Even worse, to the extent a board is found to have engaged in wrongdoing, you might see insurance carriers attempt to claw back defense costs from the company.

– Liz Dunshee