CEO Gaffe of the Week: Diamond Foods

Last month, I introduced a new weekly series, the "CEO Gaffe of the Week." Having come across more than a handful of questionable executive decisions last year when compiling my list of the Worst CEOs of 2011, I thought it could be a learning experience for all of us if I pointed out apparent gaffes as they occur. Trusting your investments begins with trusting the leadership at the top -- and with leaders like these on your side, sometimes you don't need enemies!

This week I want to highlight the now former CEO of Diamond Foods (Nasdaq: DMND  ) : Michael Mendes.

The dunce cap
Seriously, where to begin?

Diamond Foods, one of the largest manufacturers of snack foods and the name behind Emerald Nuts and Pop Secret, announced yesterday that it was placing CEO Michael Mendes and CFO Steven Neil on administrative leave. The reason for their departure was an internal accounting probe which discovered that Diamond had made improper payments to walnut growers over the past few quarters, and that these payments would necessitate a restatement of its 2010 and 2011 results. In short, Diamond was knowingly making late payments to its walnut growers to artificially inflate its profits.

Those three sentences more or less sum up the chaos at the top of Diamond -- but there's more to this story than meets the eye.

Diamond Foods also agreed last April to purchase the Pringles brand from Procter & Gamble (NYSE: PG  ) for $1.5 billion in an all-stock deal. If successful, this deal would make Diamond the No. 2 snack food company in the United States, behind only Frito-Lay, the snack food division of PepsiCo (NYSE: PEP  ) that owns the Fritos, Cheetos, Doritos, and Ruffles brands, to name a few.

That deal is looking significantly less likely as of now because of the "material adverse change" clause that's built into its buyout agreement. Procter can choose to walk because the earnings restatements may result in up to a 50% reduction in Diamond's 2010 and 2011 total EPS -- a fact that I feel would entice any court to side with P&G.

In addition, P&G isn't likely to accept the deal on the grounds that Diamond is backing the purchase with its stock, and the last time I checked, its share price was approaching losses of more than 75% since September.

To the corner, Mr. Mendes
But wait -- there's more!

The Justice Department in January launched a criminal probe into alleged impropriety related to those payments made to walnut growers. Although the Securities and Exchange Commission hasn't launched a formal investigation into Diamond's practices, I'd consider it just a matter of time before that happens. Let's not forget that you can almost assuredly expect a littering of shareholder lawsuits to hit over the next few weeks following the admission that a restatement of earnings is needed by the company.

Right now, Diamond looks like a shell of its former self (oh, I made a funny), but its near-term outlook is no laughing matter for shareholders. P&G will more than likely look elsewhere for a buyer of its Pringles brand, and I happen to think (on a purely speculative basis, mind you) that Kraft (NYSE: KFT  ) would make a perfect pairing with its Ritz and Oreo brand names.

If we were in a nine-inning baseball game, this debacle hasn't even hit the halfway point yet. Mendes has assaulted Diamond Foods shareholders' wallets and completely destroyed his company's image -- all in a years' work.

Do you have a CEO you'd like to nominate for this dubious weekly gaffe honor? Shoot me an email and a one- or two-sentence description of why your choice deserves next week's nomination, and you just may wind up seeing your nominee in the spotlight.

And if you'd like a surefire way to avoid investing in companies with questionable leadership practices, I invite you to download a copy of our latest special report, "11 Rock-Solid Dividend Stocks." This report contains a wide-array of companies and sectors that are likely to keep your best interests in mind regardless of whether the market is up or down. Best of all, it's completely free for a limited time, so don't miss out!

Fool contributor Sean Williams has no material interest in any companies mentioned in this article. He is merciless when it comes to poking fun at dubious CEO antics. You can follow him on CAPS under the screen name TMFUltraLong, track every pick he makes under the screen name TrackUltraLong, and check him out on Twitter, where he goes by the handle @TMFUltraLong. The Motley Fool owns shares of PepsiCo. Motley Fool newsletter services have recommended buying shares of PepsiCo and Procter & Gamble, as well as creating a diagonal call position in PepsiCo. 

Try any of our Foolish newsletter services free for 30 days. We Fools don't 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 that never wears a dunce cap.


Read/Post Comments (6) | Recommend This Article (12)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On February 10, 2012, at 1:16 PM, ldgpangeo wrote:

    So, how many millions was he compensated to run the company into the ground?

    Is the board trying to claw back any of it?

  • Report this Comment On February 10, 2012, at 3:23 PM, PSU69 wrote:

    Thanks for this article. Great to see writing about executive Tom Foolery! Your humor added to the piece too. Pity the greedy for they are so seldom caught and exposed to good writing like this. Well done. As a past president of a business, I remain shocked at the games some people try to play to unjustly enrich themselves while placing their future and their business in jeopardy. Kudos.

  • Report this Comment On February 10, 2012, at 4:41 PM, TMFUltraLong wrote:

    ldgpangeo,

    According to Forbes, Mr. Mendes took in $4.34 million in compensation for 2010 - not completely out of line with his peers, but an absurd waste of money consider all that's happened.

    TMFUltraLong

  • Report this Comment On February 11, 2012, at 9:05 PM, JacksonInVA wrote:

    Please do the right thing by telling us the great and wonderful things that CEOs do. Enough negatvity. Stop, please.

  • Report this Comment On February 12, 2012, at 11:50 AM, usc1801 wrote:

    How is this any different than investment firms buying a company, slash spending to the bone, fire thousands of workers, and sell off parts of the company just to make the company appear more profitable? Then the share price rises, these investors dump their stock and sell the company, make a fortune, and leave that company in a pile of ashes.

  • Report this Comment On February 14, 2012, at 1:17 PM, Andoring wrote:

    I guess the big question is "how off are the earnings?" Is this an Enron scenario or something where they can rebound from? I'm not willing to make the gamble now, but I can't help but think that Diamond is in packaged foods with some well established brands.

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