Archer-Daniels-Midland Company (ADM) intersegment issues - do clawback rules apply?

ADM identified intersegment issues in its Nutrition segment. ADM's equity grants for fiscal 2020 included a performance metric based on the Nutrition segment's operating results.

In December, I wrote about SEC’s rule 10D-1, which requires companies to adopt clawback policies for compensation awarded based on accounting information that was subsequently restated.

The rule also requires companies to check the cover page of any 10-K filing that contains a material (Big R) or immaterial (Little R) restatement. In that piece, I asked a hypothetical question:

“Hypothetically, if a compensation policy included an accounting-based metric calculated using incorrect segment information, would excess compensation based on the original metric be considered erroneously awarded?”

For Archer-Daniels-Midland Company (ADM) the answer to this question may have practical implications. In its January 22, 2024, earnings release, the Company disclosed that it is putting its CFO on administrative leave because of the intersegment issues in the Nutrition segment identified during an internal investigation. The investigation was initiated following an SEC inquiry:

“Mr. Luthar’s leave is pending an ongoing investigation being conducted by outside counsel for ADM and the Board’s Audit Committee regarding certain accounting practices and procedures with respect to ADM’s Nutrition reporting segment, including as related to certain intersegment transactions. ADM’s investigation was initiated in response to its receipt of a voluntary document request by the U.S. Securities and Exchange Commission (SEC). ADM is cooperating with the SEC.”

The company also postponed the release of the annual results and withdrew the outlook for its Nutrition segment. A 24% drop in the stock price followed the announcement.

In accounting, “intersegment transactions” could mean anything from intercompany transactions not eliminated in consolidation to incorrect allocation of revenue and/or expenses between two or more segments. The former implies that consolidated results might be affected, while the latter suggests that inflated results of one segment are offset by underreported results of another segment – with no impact on the consolidated balances.  

Even if consolidated results are unaffected, shifting revenue from one segment to another may impact trends and mislead investors. As Amanda Iacone reported for Bloomberg:

“Corporate managers have wide latitude under US accounting rules on how to divvy up their results and set what business units charge each other for services or supplies. But shifting revenues from one operating segment to another could mislead investors, and any intentional mingling could cast doubt on the reliability of the company’s other financial reporting.”

Internal investigations and SEC inquiries are always bad news. Disclosure Insight, a research firm that specializes in analyzing SEC investigations  - noted:

“Big companies typically don’t move that fast. When they do, it’s usually because of some kind of crisis. This implies ADM found something big – and they found it fast.”

But bad news alone are insufficient to invoke a clawback. ADM adopted a clawback policy that allows to recover compensation after an accounting restatement or misconduct:

“CLAWBACK PROVISIONS

We include clawback provisions in the Company’s long-term incentive award agreements that provide us with the ability to recover this compensation for a broad range of reasons. Specifically, this policy provides for the recoupment of any cash or equity incentive awards made to NEOs and certain other members of senior management for a period of three years from the vesting date in the event of a financial restatement or ethical misconduct. “

Invoking a restatement-related clawback requires several conditions:

• Financial statements were restated.

• Compensation was awarded based on the accounting metrics that were subsequently restated.

• Compensation awarded based on incorrect original metrics was higher than the compensation calculated using accurate information.

ADM appeared to consider the results of the Nutrition segment in awarding 2020 equity grants with a performance period that ended in 2022. From the proxy statements filed on March 14, 2023, page 53 (emphasis added):

“In 2020, ADM granted PSUs to our then-NEOs with a three-year performance period (2020-2022). The performance metrics for the 2020 PSU awards were:        

• Average adjusted ROIC over the three-year performance period,

• Average Nutrition operating profit (“OP”) growth over the three-year performance period, and

• Relative TSR as compared to a defined peer group over the three-year performance period.”

The Average Nutrition operating profit (“OP”) had a 50% weight in the mix of the performance metrics used to grant the PSUs. ADM’s Compensation and Succession Committee determined that for the performance period of 2020-2022:

“Average Nutrition OP growth was 21.4%, and therefore, the resulting payout factor was 200%...”

While an internal investigation, an SEC inquiry, and an administrative leave of the CFO will likely be disruptive for the company, not all investigations lead to accounting restatements. For instance, even if ADM identifies accounting issues, the issues affect compensation paid and clawback provisions under Rule 10D-1 apply to footnote-only errors, the impact of the errors on past results might be immaterial and recorded in aggregate in the current period without affecting past results. We need more details to determine whether the intersegment issue identified by ADM is material enough to warrant a restatement.

Still, ADM would be an interesting case to follow.