Serious Business Expenses Versus Executive Perks: a Cautionary Tale

From time to time the Securities and Exchange Commission decides to remind issuers of their obligation to the investing public to disclose executive perquisites. The latest cautionary tale? The Dow Chemical Company.

The SEC fined Dow Chemical $1.75 million and used its cease-and-desist order to detail the issues regarding $3 million worth of undisclosed perks to its former CEO, Andrew Liveris. In doing so, the SEC cited a laundry list of rules Dow violated by not making the proper disclosures.

According to Reuters, Dow had understated by 59% perks the CEO received between 2011 and 2015. The perks in question including things like:

Personal vacations Liveris took with family using Dow aircraft, parties Liveris threw at sporting events including the Super Bowl, allegedly with few Dow customers in attendance, and Dow's financial support for the Hellenic Initiative, a Greek charity Liveris had co-founded.

The SEC defines a perk as an item that "confers a direct or indirect benefit that has a personal aspect without regard to whether it may be provided for some business reason or for the convenience of the company, unless it is generally available on a nondiscriminatory basis to all employees."

On the other hand, something isn't a perk if it is "integrally and directly related to the performance of the executive's duties."

But what if the something is both? As clarification, the SEC stated in its order that legitimate business expenses can still also be perks:

… even where the company "has determined that an expense is an 'ordinary' or 'necessary' business expense for tax or other purposes or that an expense is for the benefit or convenience of the company," that determination "is not responsive to the inquiry as to whether the expense provides a perquisite or other personal benefit for disclosure purposes." Indeed, "business purpose or convenience does not affect the characterization of an item as a perquisite or personal benefit where it is not integrally and directly related to the performance by the executive of his or her job."

To be sure, the SEC's test is a tricky one, especially because it is easily confused with—but is different from—the test used to determine if a business expense is deductible.

In addition to the $1.75 million in fines, and the humiliation of a cease-and-desist order, Dow was required to hire an independent consultant who will review the company "policies, procedures, controls, and training relating to the evaluation of whether payments and other expense reimbursements should be disclosed as perquisites under the securities laws, including the Commission's rules and standards."

This sort of monitor seems odd given the context; it's a more typical remedy in cases involving serious FCPA violations. In other words, the SEC is signaling that it is very serious about perk disclosures.

For the record, a Dow spokesperson defended the company's prior practices and argued that the expenses were legitimate in a comment to Reuters in July:

"The expenses at issue were legitimate business expenses authorized by Dow and within the scope of executive job duties," said Dow spokeswoman Rebecca Bentley in an email to Reuters on Tuesday. Dow decided to settle the SEC case "to achieve finality and bring clarity to future disclosure decisions," Bentley added.

The SEC seems to have a handful of these types of cases from time to time. (You may remember some of the more famous cases, like General Electric and its extraordinary perks for former CEO Jack Welch).

Indeed, a mere few weeks after the Dow settlement, the SEC was back with another perks case, this time against Energy XXI, Ltd. Once more the issue was a combination of personal expenses and some expenses that seem more mixed in nature. Notable was the office bar, accessible only by a limited number of executives via key card, stocked with high-end liquors.

Clearly the SEC wants to make non-compliance expensive for companies. Moreover, these investigations can also be time consuming; the Dow investigation reportedly took three years.

In light of this, boards of public companies will want to review both their business expense policies and executive compensation disclosures to ensure that perks aren't being overlooked or mischaracterized as normal business expenses.

The fact that the SEC made an example of Dow, and required that Dow hire someone as a compliance monitor as the company revises its policies, could signal that the SEC regards the issue of improper perk disclosure as a type of corporate corruption worth pursuing.

Having said that, some commentators have noted that the Dow case also involved a whistleblower complaint, something that may have caused the SEC to have an especially strong reaction. Regardless, the SEC is clearly signaling its commitment to the enforcement of perk disclosure rules.