Fierce Opinions Surface Over Proxy Access

Pressure is on the Securities and Exchange Commission to craft a final rule governing the contentious issue of shareholder access to the proxy. Based on early reactions to the contradictory proposals floated last month, the SEC staff has its work cut out for it.

With the ink barely dry on the proposing releases—one allowing certain shareholders to include their nominations for corporate directors in the proxy statement, the other prohibiting it—the ideas are drawing visceral reactions from many, including institutional investors, investors groups, and even the commissioners themselves.

The proposals unveiled July 25 are the SEC’s response to a September 2006 court ruling that re-opened the question of shareholder access to the proxy. The issue has dogged the SEC for four years and has no consensus among the five commissioners, but the SEC has pledged to approve a final rule in time for the next proxy season.

Casey

One proposal, supported by Republican commissioners Paul Atkins and Kathleen Casey, would confirm the SEC’s long-standing position under Rule 14a-8 that a shareholder proposal may be excluded from the proxy if it relates to a director election. That interpretation was invalidated last September by the 2nd Circuit Court of Appeals, which put proxy access back in the spotlight.

The SEC has proposed clarifying the exclusion by adding the words “nomination” and “procedure,” so it would read: “If the proposal relates to a nomination or an election for membership on the company’s board of directors or analogous governing body or a procedure for such nomination or election,” it could be barred from the proxy.

That plan is drawing opposition from some Democrats, as well as institutional investors and consumer groups. The SEC’s two Democratic commissioners, Annette Nazareth and Roel Campos, also oppose it.

McGurn

Institutional Investors Services’ special counsel Patrick McGurn says, “To go back to the SEC’s 1990 interpretation would be a real step in the wrong direction.”

Likewise, Dan Pedrotty, director of the AFL-CIO Office of Investment, says the proposal “would roll back a right investors already have.” If the SEC takes away the right to bring such proposals, he says, “It would be unprecedented and akin to declaring war on the right of investors to hold boards accountable.”

Campos

Meanwhile, the proposal to permit the inclusion of shareholder nomination bylaw proposals in the proxy—which is favored by Nazareth, Campos, and Republican chairman Christopher Cox—is also drawing criticism, even from those who support shareholder access to the proxy.

As proposed, it would require a shareholder (or group of shareholders) to hold more than 5 percent of the company’s securities for at least one year and would impose much stricter disclosure requirements than the current rules.

Even the largest institutional investors say that ownership threshold is too high to allow the rule to be useful. The existing standard under Rule 14a-8 for shareholder proposals is $2,000 or 1 percent of outstanding shares.

Patricia Macht, spokeswoman for the California Public Employees’ Retirement System, told Compliance Week via e-mail that the 5 percent mark “is too high a threshold to achieve and constricts shareowners’ voice.”

Amy Borrus, deputy director of the Council of Institutional Investors, calls both proposals “unpalatable.” While she says the Republican proposal to block proxy access is “a nonstarter,” she agrees that the 5 percent threshold is “too high to be workable.” The CII is not calling for a specific number, but Borrus says some of its members believe 1 percent “is more realistic.”

“We’re certainly encouraging the SEC, if it goes that route, to think about a lower threshold,” Borrus says. “We’re open to discussion about what might be reasonable.”

McGurn also says the “status quo is preferable” to either proposal. “Both would diminish shareholder rights to seek access to a greater degree than was available during the 2007 proxy season,” he says. “But if we have to choose between the two, some access is better than no access at all.”

While 5 percent “might be doable” at a micro-capitalization company, McGurn says, “At a large market-cap Fortune 100 company, you’re talking about billions of dollars of stock just to bring a proposal to open the door to access and potentially create future right.”

Brown

Indeed, Jay Brown, a law professor at the University of Denver, notes that under the draft rule, shareholders would have to own more than 280 million shares of Exxon-Mobil to make a proposal that shareholder nominations can go in the proxy—a staggering $23.7 billion stake in the company, for a proposal that might well fail.

Schacht

Kurt Schacht, managing director of the CFA Centre for Financial Market Integrity, said that with proxy access facing such a watered-down end, his group is considering whether majority voting is “a better, less disruptive approach to all of this discussion.”

Those who support shareholder access hope the SEC will adjust the proposal to make it more useful. Pedrotty says cutting the threshold to 1 percent “would be a huge step in the right direction.” In addition, he says the SEC ought to reconsider the one-year holding period “so we’re not putting a tool in the hands of ‘short-termers.’”

Precatory and Other Problems

Many observers are also troubled by language in the access proposal that McGurn describes as “potentially eliminating or curtailing use of precatory proposals.” Precatory proposals—that is, non-binding or advisory proposals—are a popular tool among shareholder activists. Critics say too many are filed and create a hassle for companies, but supporters say they can open a valuable dialogue with companies.

Macht at CalPERS said the group opposes “any rule that reduces shareowner rights to file nonbinding shareowner proposals.” McGurn calls limits to precatory proposals “a very problematic step.”

Noting that 2007 marked the fifth straight proxy season where more than 1,000 shareholder proposals were filed, McGurn says a ban on precatory proposals would have cut that number to less than 100.

Indeed, the SEC’s proposing release notes that of the 1,250 shareholder proposals companies received during this proxy season, only 100 were binding proposals, and only three of those 100 were related to bylaw amendments providing for shareholder nominees to appear in the company’s proxy.

McGurn says that if shareholders are limited to binding proposals structured under state law, “There’s the potential for companies to manipulate the process to ensure virtually no shareholder resolutions could appear on their ballots.”

Meanwhile, Brown notes that under the proposal, only shareholders eligible to file Schedule 13G can put forth nomination bylaw proposals. A requirement of 13G is that the shareholder states he is not trying to exert control over the company and will remain a passive investor. “The SEC is effectively saying that motive matters for submitting proposals,” Brown says.

“I suspect if the SEC doesn’t adopt a rule that would allow access relatively easily, they’ll find themselves confronting other ways for shareholders to achieve the same result,” he continues.

Others, including the U.S. Chamber of Commerce, vehemently oppose greater proxy access, which it says “would allow labor unions and other special interest groups to advance their agendas” at the expense of investors.

The Chamber will “vigorously oppose any plan that allows groups to use the proxy process to promote narrow interests that do not serve the long-term goals of a company or investors,” it said in a statement.

By publishing the two releases for comment simultaneously, the SEC hopes to get a full range of public comment and quickly adopt a final rule. The consequences of not putting a final rule in place before the next proxy season could be dire; not only could it result in more litigation and greater uncertainty, it could also spur intervention by Congress—a step that the SEC, as divided as it may be, almost certainly wants to avoid.

Dodd

Senate Banking Committee Chairman Chris Dodd, D-Conn., warned Cox during a July 31 committee hearing that he might “take an interest legislatively” in the issue if the Commission doesn’t reach a conclusion.

Comments on both proposals are due Oct. 2.