Unnatural Immunity
“The police are not here to create disorder, they're here to preserve disorder.” – Richard J. Daley
In 1981, Carl De Martino, then group vice president at DuPont and head of the business unit that produced Teflon, received a most unfortunate letter from a doctor employed by the Minnesota Mining and Manufacturing Company (known today as 3M). The note relayed the disturbing results of an internally funded toxicity study of perfluorooctanoic acid (PFOA, or simply C8 as it was known within DuPont). C8 was integral to the production of Teflon – a synthetic polymer known for enabling the blockbuster invention of non-stick cookware – and 3M was the world’s dominant supplier of the chemical. The lab study, performed on rats, indicated that exposure to C8 readily passed from pregnant mothers to their babies, resulting in eye defects. After quickly confirming the experiments internally, DuPont discovered that two of the seven babies born by mothers employed at the facility handling C8 had defects in the eyes and nose. All female employees were then quietly pulled from the factory until DuPont could learn more.
These and other explosive findings were highlighted in an incredible working paper published by the National Bureau of Economic Research (NBER) in 2017 called Is Pollution Value-Maximizing? The DuPont Case. (A summary of the report and link to the original document can be found here.) The dilemma for DuPont was obvious: Teflon was an enviable commercial success and there were no apparent substitutes for C8 in its production. According to files cited in the NBER paper, things came to a head a few years later (emphasis added throughout):
“The key decision point for DuPont came in 1984, when alarming information about the potential consequences of C8 emissions caused the company to call a top-executives meeting. By 1984 DuPont was aware that C8 is toxic, associated with birth defects, does not break down in the environment, and accumulates in human blood over time. Essentially, by 1984 C8 could already be considered a perennial red flag. DuPont’s executives acknowledged that the legal and medical departments would recommend stopping the usage of C8 altogether in light of the new alarming information. Yet, the business side overruled these recommendations and opted to continue C8 emissions (in fact they doubled them). Importantly, DuPont’s decision-makers also opted against investing in abatement options that were on the table, such as building an incineration device that would greatly reduce C8 emissions.”
After a thorough review of the historical record, the authors of the NBER paper concluded that this fateful decision was not the result of ignorance or bad governance, but instead was guided by a coldly rational net present value (NPV) calculation. When the value of covering up what they knew about C8 was weighed against the probability of getting caught and DuPont’s ability to deploy its significant legal, public relations, and political resources to delay and minimize any fines, even the relatively small investment in the abatement project could not be justified on a discounted cash flow basis. Instead of pulling back, they doubled down! What resulted remains one of the greatest environmental scandals of the century. You can watch an excellent documentary on the entire sordid affair here.
In perusing the evidence unearthed in various C8 lawsuits, one thing becomes clear: at no time did the DuPont executives even consider the possibility that they could personally be held liable for the crimes they secretly authorized. And make no mistake about it, what DuPont did in the subsequent decades was downright criminal. As major corporations became more powerful and government regulators more lax, penalties for executive behavior that would land normal people in prison were replaced with fines and civil judgments in court, almost always paid for by shareholders. The only thing more rare than an executive perp walk is an executive compensation clawback, leading to a seriously perverse “Heads-I-Win-Tails-You-Lose” incentive structure.
Things may finally be changing. In a move that went largely unreported last September, the US Department of Justice (DOJ) published a memo titled “Further Revisions to Corporate Criminal Enforcement Policies Following Discussions with Corporate Crime Advisory Group.” Here’s how law firm White & Case (W&C) described it:
“The DOJ Memo stressed that the DOJ's ‘first priority’ in dealing with corporate crime is to ‘hold accountable the individuals who commit and profit from corporate crime.’ This is not a new approach – the DOJ has always emphasized the importance of holding individuals accountable for corporate wrongdoing: see for example a previous memorandum from then Deputy Attorney General Sally Yates in 2015. The present policies serve as an affirmation of the DOJ's longstanding approach, and provides greater incentives for corporations to disclose and report misbehavior by individuals in a timely manner.”
Enforcement of the law in the US depends heavily on which laws prosecutors decide to enforce, and the 15-page memo is a warning shot to executives that corporate crimes will be personally assigned at an accelerating pace, outlining a plethora of new policies designed to do just that. Reading between the political lines in the W&C analysis, the Biden administration is reinstituting the Yates standard after the Trump administration largely deemphasized it (Trump famously fired Yates shortly after taking office). With the current golden age of fraud poised to expire, there will be no shortage of opportunities for the DOJ to walk its new talk. What does this renewed emphasis on individual accountability mean for executives and investors alike? Let’s dig in.