Wal-Mart's Mexican Scandal Should Still Make Investors Squirm


If Wal-Mart's Mexican bribery scandal weren't already damning enough, a recent article in TheNew York Times has provided new details that suggest significant corporate governance problems in addition to possible violations of the Foreign Corrupt Practices Act, or FCPA.

Let's take a closer look at some of the article's allegations, and why they should concern investors.

Allegation No. 1: Bribes to Victor Manuel Frieventh
The Times article suggests that Wal-Mart de Mexico used fixers to pay bribes to Victor Manuel Frieventh, former director of the urban planning office, in exchange for altering a zoning map already approved by the municipal council. These alterations favored Wal-Mart. The Times also alleges that Wal-Mart requested -- and received -- an official letter from Frieventh granting zoning rights for Wal-Mart's Teotihuacan location. This letter contradicted two rulings issued by the Office of Urban Operations that refused to issue the zoning rights.

Frieventh was not authorized to change the zoning map or to grant zoning rights that contradicted the rulings of the Office of Urban Operations. However, according to the Times,Wal-Mart was able to use both of these things to gain permits it needed to start construction.

This added detail is significant to investors because it raises concerns that Wal-Mart's behavior is not only questionable but also illegal.

The Times' April expose focused a great deal on how Wal-Mart's payments were used to help the company gain permits and zoning changes quickly so it could grow "so fast that competitors would not have time to react." While such behavior may be questionable, it's not necessarily forbidden by the FCPA, which does not cover "speed payments." That is, it doesn't cover "any facilitating or expediting payment to a foreign official, political party, or party official the purpose of which is to expedite or to secure the performance of a routine governmental action by a foreign official, political party, or party official."

However, the Frieventh allegations suggest that Wal-Mart didn't merely make speed/expediting payments. Rather, it appears the alleged payments encouraged a government official to violate the law in order to help the company secure its desired location.

Wal-Mart has already faced significant legal and shareholder scrutiny after the Times' initial expose. Now that we have additional detail about the nature of the company's alleged misconduct, these groups have additional ammunition to go after the company. As scrutiny grows, Wal-Mart also faces the risk of additional lawsuits from shareholders and other stakeholders -- the costs of which would be passed onto investors.

Allegation No. 2: Bribes to Guillermo Rodrìguez
The Times story also suggests that Wal-Mart bribed Guillermo Rodriguez, mayor of Teotihuacan, to encourage the municipal council to issue a construction license despite the fact that the company still lacked several of the required permits, including an environmental permit. In addition to helping Wal-Mart officials gain an audience with the council, in which the company requested immediate approval without public hearings, Rodriguez also personally endorsed the company's request to act with speed and flexibility. He pushed the council to take a vote, suggesting that the result would simply indicate the council's support for the license as Wal-Mart gathered the remaining required permits, and failed to indicate that the vote would constitute a final approval.

So how did Wal-Mart manage to gain the endorsement of the council, even under the false pretense that the vote wouldn't constitute a final approval? According to the Times, company officials allegedly dangled the offer of a community donation in order to help persuade the rest of the council to endorse the desired construction.

Investors should note that even if Wal-Mart offered a donation, that doesn't necessarily constitute a violation of the FCPA. Mike Koehler, who runs the FCPA Professor blog, points out that the Department of Justice has issued FCPA Opinion Procedure Releases suggesting that it would not take enforcement action against the particular companies mentioned in those releases for making donations.

In fact, one of the releases suggests that the DOJ would even refrain from taking enforcement action in a case where the organization's proposed donation was contingent on its success in acquiring a plant in the community that would benefit from the donation. While it's worth noting that the release in question is from 1995, and enforcement views can vary over time, the release still offers some useful guidance about what we might expect regarding FCPA enforcement.

Even if we conclude that the donation in question doesn't constitute an FCPA violation, that doesn't mean investors shouldn't be worried. Putting aside the allegations that Wal-Mart paid off Rodriguez personally, the fact that the council's approval bypassed the normal requirement of several prerequisite approvals puts the company in a precarious position.

Failure to gain the necessary approvals created trouble for Wal-Mart even before its alleged misconduct was exposed. After Wal-Mart began construction on its Teotihuacan location, it was discovered that the company was building on ancient ruins, which forced the company to temporarily halt construction while the findings were cataloged and analyzed. And as media attention grew, Mexican authorities began to pressure Wal-Mart to stop construction and change locations.

While Wal-Mart managed to resist political pressure to change the location of its Teotihuacan store by claiming that it fulfilled all legal requirements, the exposure of its failure to obtain key approvals gives dissenters more ammunition in fights to close down store locations or impose legal penalties. Either of these results has the potential to hurt Wal-Mart's bottom line.

Allegation No. 3: Bribes to INAH
In order to proceed with construction, Wal-Mart also had to get past Mexico's National Institute of Anthropology and History, or INAH, whose approval is required before building anything inside the protected archaeological zone in Teotihuacan. Before such approval is granted, a survey must be conducted to verify that no valuable archaeological artifacts will be destroyed during construction. However, Wal-Mart was able to gain approval even though a survey was never conducted.

According to whistleblower Sergio Cicero Zapata, a former Wal-Mart de Mexico lawyer, the company paid off INAH officials with an "official donation" and a "personal gift" in exchange for the approval.

Because the Times article lacks significant information about the nature of the "personal gift," it's impossible to examine that allegation through the lens of the FCPA. And, as noted above, an "official donation" does not necessarily constitute an enforceable violation of the FCPA.

Foolish bottom line
Investors should note that even if the alleged payoffs, through donations or other means, did not violate the FCPA, they could signal trouble ahead because they encouraged government officials to engage in questionable conduct that invites scrutiny from the Mexican and U.S. governments, and from the general public. For example, consumers who disapprove of Wal-Mart's behavior may take their business elsewhere. Investors may worry that this conduct signals deeper problems with the company's underlying culture and its possible willingness to break the law to meet its growth goals.

Finally, the WalMex scandal, and the subsequent critical eye cast on Wal-Mart's behavior in India, China, and Brazil, also indicate the possibility that some of Wal-Mart's international growth up to this point has relied on questionable behavior.

With very slow domestic growth, Wal-Mart appeals to investors largely for its potential international expansion. Any questionable behavior or public scrutiny that slows down international growth could prove harmful for investors.

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The article Wal-Mart's Mexican Scandal Should Still Make Investors Squirm originally appeared on Fool.com.

Motley Fool contributor M. Joy Hayes, Ph.D. is the Principal at ethics consulting firm Courageous Ethics. She has no positions in the stocks mentioned above. Follow @JoyofEthics on Twitter. The Motley Fool has no positions in the stocks mentioned above. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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