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As usual, we were inundated with announcements about SEC enforcement activity during the final days of September. I can’t wait to see the full stats. One settlement in particular stood out amidst the FYE crunch – and it’ll probably get your directors’ attention too. The SEC announced charges against a former director who allegedly failed to inform the rest of the board about a “close personal friendship” with a company executive.

In the SEC’s view, that caused the company’s proxy statements to contain materially misleading statements that inaccurately identified the director as “independent” under listing standards and its own governance guidelines. When the company learned of the relationship (which came to light during a CEO succession planning process), it determined that the director was not actually independent under these standards.

The complaint elaborates on the relationship and how it was concealed. Here’s an excerpt:

Around 2017, Craigie began to mentor Executive consistent with his practice of mentoring employees with growth potential. Shortly thereafter, Craigie formed a personal friendship with Executive, who, at this time, was head of a Church & Dwight division. Over the next few years, Craigie and his spouse vacationed internationally with Executive and his spouse six times, traveling to eight countries on five continents. Craigie invited several other couples on these trips and generally paid for all guests’ business class airfare and luxury lodging. Craigie paid over $100,000 for Executive and his spouse to attend these vacations.

Craigie and Executive, along with their spouses, also vacationed together domestically over long weekends, and Executive occasionally stayed at Craigie’s apartment in Miami. Craigie took Executive and his family on boat trips in New York, Connecticut, and Miami.

This blog from Cooley’s Cydney Posner points out that this isn’t the first time Enforcement has brought charges relating to director independence disclosures (here’s my blog about the earlier case). But this current action was more surprising because rather than tripping over one of the line-item independence (or interlock) rules, it turned on the “catch-all” aspect of director independence – i.e., the affirmative determination that there is no material relationship with the company, with broad consideration of all relevant facts and circumstances. Gunster’s Bob Lamm elaborates on the “slippery slope” concern:

There have been many cases over the years in which directors were alleged – often by investors and/or the media – to have lacked independence because they belonged to the same country club, served on the same boards (including boards of charitable organizations), or generally hung out in the same social circles. Some of these cases generated calls for SEC rulemaking that would require disclosure of these informal relationships and thereby disqualify directors in such cases from being described as independent. However, for whatever reason (and I can think of a few), the SEC never took such action.

So, what does “close personal friendship” mean? The SEC appears to have chosen that language carefully – so it’s clearly more than a casual friendship. Although it’s difficult to say where exactly to draw the line, if you encounter a situation in which a director and executive regularly vacation together on a yacht and around the world, you should think hard about whether they’ve crossed it.

Without admitting or denying the SEC’s allegations, the former director agreed to a 5-year D&O bar and a $175k civil penalty. It’s worth sharing this cautionary tale when you circulate your questionnaires next year.

– Liz Dunshee