Since the beginning of this month (July 2018), the SEC has brought two enforcement cases involving perquisites disclosure – one involving Dow Chemical, and one involving Energy XXI. As my estimable friend Broc Romanek noted in a recent posting, over the past dozen years, the SEC has brought an average of one such case per year. It’s not clear why the SEC is doubling down on these actions, but regardless of the reasons, it makes sense to pay attention.
The SEC’s complaint in the Dow Chemical case is an important read, as it summarizes the requirements for perquisites disclosure. Among other things, it’s worth noting the following:
- While SEC rules require disclosure of “perquisites and other personal benefits”, they do not define or provide any clarification as to what constitutes a “perquisite or other personal benefit.” Instead, the SEC addressed the subject in the adopting release for the current executive compensation disclosure rules, and it has also been covered in numerous speeches and other statements over the years by members of the SEC staff.
- For those of you who prefer a principles-based approach to rulemaking, you win. Specifically, the adopting release stated as follows:
“Among the factors to be considered in determining whether an item is a perquisite or other personal benefit are the following:
- An item is not a perquisite or personal benefit if it is integrally and directly related to the performance of the executive’s duties.
- Otherwise, an item is a perquisite or personal benefit if it 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 non-discriminatory basis to all employees.”
The SEC has also noted on several occasions that if an item is not integrally and directly related to the performance of the executive’s duties, it’s still a “perk”, even if it may be provided for some business reason or for the convenience of the company.
The SEC found that Dow Chemical did not observe these requirements – particularly the one cited in the preceding paragraph – resulting in an understatement of the CEO’s compensation by $3 million over a four-year period. One interesting aspect of the enforcement action is the SEC’s focus on the failure to disclose the perks in the CD&A. As someone who’s disclosed lots of perks in my time, it seems to me that if they’re disclosed in the Summary Compensation Table and its footnotes, the job is done, and CD&A disclosure ordinarily wouldn’t be called for.
The other case seems a bit more straightforward, at least for the most part. The complaint says that the CEO pledged his company stock to support “an extravagant lifestyle”. When the margin calls started to come in, he “received undisclosed compensation and perks in the form of lavish social events, first-class travel, a shopping spree, donations to…charities, [and] legal expenses for personal matters…”.
One less straightforward aspect of the case is the SEC’s focus on “an office bar stocked with high-end liquors and cigars”. Broc properly asks whether a bar stocked with these items for use in entertaining customers is a perk. Presumably, the SEC focused on the italicized paragraph above – i.e., the business justification for the bar doesn’t mean it’s not a perk (or perhaps the justification was unwarranted in this case) – but we may never know.
In any case, these two shots across the bow suggest that practitioners pay close attention to perks. Some suggestions in this regard:
- Engage in communications to make it clear that the definition of perquisites is fuzzy – including the caveat noted in the italicized paragraph above. Those communications should go to all interested parties, including your executives and the people responsible for recording compensation and benefits for inclusion in the proxy statement.
- Include the definition in your annual D&O questionnaires and ask pointed questions on the topic – possibly including examples – that your executives will have to consider. In that regard, tell your executives that they (rather than their assistants) must fill out their questionnaires and that an answer like “everything’s the same as last year” won’t fly. (Note – this is far easier said than done. Had I invented a system to force people to pay attention to these questionnaires, I could have retired years ago.)
- Check with all of your company’s internal recordkeeping departments – comp and benefits, payables, etc. – and be prepared to ask questions about payees or payments that don’t sound right. Enlist your internal audit team, and possibly your independent auditors, to check expense accounts and other records that could yield information about perks.
- If you learn about a perk that triggers a reporting requirement, disclose it or have the executive reimburse the company for it (though that may not work in all cases). Hiding it could lead to more serious problems for the executive…and for you.