Television commercials tout its namesake cola’s ability to spread happiness, but Coca-Cola Co. takes this further than simply quenching one’s thirst.
It supplies lucrative contracts to outside companies connected to some of its top leaders, utilizing a business practice at triple the rate of most peers. Financial relationships stretch back years and involve tens of millions of dollars.
Among the 100 largest public companies in the U.S., 69 disclosed related party transactions in 2010, according to a survey conducted last year by Shearman & Sterling LLP, a major New York law firm. Collectively, these companies identified more than 275 related person transactions, averaging four each. Coca-Cola disclosed 14 transactions that occurred in 2010, with more than $40 million moving from the company to other organizations.
Coca-Cola’s deals with related parties ranged from leasing trailers to paying technology startups to purchasing training for aircraft crews. The company shelled out more than $11 million in connection to a successful acquisition of North American bottling plants.
For decades, big companies have grappled with the best way to deal with these “related person” or “related party” transactions. Generally, these are defined as arrangements in which a company’s top leaders or shareholders — or their immediate family members — have a direct or indirect “material” interest involving more than $120,000.
The deals raise questions about chumminess among top leaders and whether shareholder money is spent appropriately. Could the job be done by other companies without any chance of a conflict of interest? Are vendors chosen through competitive processes?
Related party transactions can raise suspicions of nepotism, that certain individuals or companies get deals because they are connected, not because of expertise. The overall trend in corporate America is to reduce the number of related party deals, but they remain fairly common.
Coca-Cola disclosed its arrangements in a 125-page annual proxy filed this month with the U.S. Securities and Exchange Commission, which included:
● Coca-Cola is connected to a start-up company for which the son of Coca-Cola director Don Keough is an executive officer and significant investor. In 2009, Coke struck a five-year agreement with Marsys Digital LLC that requires Coke to pay $2.9 million annually over five years for various technology services. In 2009, Coke paid Marsys $5 million for infrastructure design and $507,000 for additional services and hardware. Then last year, Coca-Cola paid Marsys Digital $3.8 million for technology support and hardware.
● Coca-Cola paid privately held investment firm Allen & Company Inc. $1 million for investment banking services last year, in addition to a $11.5 million “success fee” connected to Coke’s takeover of large bottling operations in North America. Coca-Cola director Herbert A. Allen is president and chief executive of Allen & Company, which has received more than $17 million from Coca-Cola for investment banking and advisory services since 2003. Keough, a longtime Coca-Cola director, joined Allen & Company as chairman in 1993 and still holds the post of non-executive chairman.
In a response to questions from The Atlanta Journal-Constitution, Coca-Cola said it has adequate policies in place to track related party transactions, and is satisfied with its level of disclosure.
Related party transactions generally don’t receive as much attention as executive pay or perks such as golden parachutes. America’s biggest companies have shown little inclination to ban them outright.
McDonald’s Corp., for example, bought $716,000 worth of paper and other printed products in 2009 from a company headed by one of its directors. It paid a security company led by another director to watch its headquarters.
Some experts say it wouldn’t be prudent for big companies to avoid related party transactions altogether. One asked why should Coke avoid doing business with NetJets, a top provider of fractional aircraft ownership, just because it is owned by Coke shareholder Berkshire Hathaway? Similarly, it is difficult to avoid doing business with Moody’s Corp., a credit-rating agency partly owned by Berkshire Hathaway, or the NBA, which employs a daughter of Coca-Cola director Peter Ueberroth.
Several of Coca-Cola’s peers, such as Johnson & Johnson, Kellogg Co. and Sara Lee Corp., generally avoid related party transactions. Those companies had no such transactions to report in their most recent proxy statements.
“Some companies have said, ‘Let’s just wipe all these things away, because we want to look lily white,’” said Stephen T. Giove, co-chair of the governance committee at Shearman & Sterling.
Corporate governance experts say related party transactions can be legitimate if relevant information is disclosed to shareholders and the deals are as favorable as the company could get elsewhere.
“It’s really a matter of transparency,” said Brian Ballou, co-director of the Center for Business Excellence at Miami University in Oxford, Ohio. “You put it in the hands of the user, and they can decide if it’s appropriate or not. If the transparency is there, the users and the regulators can make that decision.”
Many of Coca-Cola’s transactions revolved around Berkshire Hathaway, the Omaha-based investment company headed by Warren E. Buffett. Berkshire Hathaway owns about 8.7 percent of Coca-Cola, making it Coke’s biggest shareholder. Howard G. Buffett, Warren’s son, is a Coca-Cola director.
Coca-Cola’s payments to Berkshire Hathaway subsidiaries last year included $337,000 to Business Wire to disseminate news releases, $668,000 to XTRA Lease to rent trailers to haul beverages and $658,000 to FlightSafety International Inc. to train pilots, flight attendants and mechanics.
Coca-Cola said the relationships with those companies were in place for years before Berkshire bought them.
“There’s nothing wrong with having a related party transaction,” said Dan Smith, senior associate at ISS, a division of an indexing and risk management company called MSCI. But they carry the potential for abuse, he said. “Transactions should pass the smell test.”
Coca-Cola paid an insurance company led by one of its directors $3 million for insurance premiums and $937,000 in other fees. ACE Limited, managed by Evan G. Greenberg, has provided insurance products and services to Coca-Cola since 1986.
The company buys online advertisement from IAC/InterActiveCorp, where Coca-Cola director Barry Diller is chairman and senior executive. Coca-Cola determined that the payments were small enough to be immaterial. Likewise for the company’s charitable donations to Points of Light Institute, where a daughter of Coca-Cola director Sam Nunn works as chief executive.
Coca-Cola said the agreements were fair and reasonable since goods and services were purchased in the ordinary course of business and the sums involved were less than 1 percent of the revenue of Coca-Cola and the other party. In Coca-Cola’s case, 1 percent of revenue would be more than $350 million.
In most recent cases for Coca-Cola, a committee of the board approves the deals before they are finalized. For at least the past two years, the company has provided more details about Coca-Cola Enterprises — which was partially owned by Coca-Cola until late last year — than were required.
Still, it is better to keep related party deals to a minimum, Giove said.
“If you’re doing great by the shareholders, people overlook it,” he said. “If you hit a bump, these little factors can become ammunition used against the company. All things being equal, it would be good not to have related-party transactions.”
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