Just because you get a shiny new hammer doesn’t mean everything in your house is suddenly a nail.

Yet that is the impression we get from the breathless pronunciations regarding the new proxy access rules, even as the SEC put them on hold while a court considers a legal challenge to the requirement. Seemingly every law firm with a corporate practice—and quite a few without one—has sent out its analysis. Proxy solicitors declare: “the Rubicon has been crossed.” One law professor is so concerned about proxy access that he has circulated a list of counter-productive ways to “defend” against it, including having every other director resign if a single director were to be selected through proxy access, even though he admits that such action would destroy the corporation. Shareholder advocates crow that proxy access is a major step toward accountability, while the Chamber of Commerce calls it “a giant step backwards.” The Chamber teamed up with the Business Roundtable to challenge the legality of the new rules in court.

Will everyone please calm down? The reality is that even if proxy access survives the legal challenge, it doesn’t change the proxy-contest calculus all that much.

What has been missing in the discussion is any context—or facts. So let’s provide some. Along the way we just might discover what questions to ask, and maybe even some answers.

According to an IRRC Institute/Proxy Governance study last year, some 120 proxy contests were threatened between 2005 and 2008, and 89 percent of them originated from hedge funds. But it’s a smaller group than it seems. Remarkably, just 12 hedge funds initiated 46 of the 120 contests, or 38 percent.

So the first question we ask is: Will proxy access be useful to activist hedge funds?

The answer is marginally so, for at least four reasons: First, the proxy access rules require continuous ownership of at least 3 percent of the company’s shares for three years. While the 3 percent limit may not discourage a hedge fund activist, the three-year rule will. Second, the regulation prohibits a nominee from seeking a change in control of a company. Yet that was a reason cited for the proxy contest by 35 percent of all dissidents studied in the report. So those contests are not even eligible for proxy access. Third, the rules effectively limit the number of nominees to one for boards of seven or less and to two for boards of 8 to 11 members. (The average size board in America is nine.) According to the study, however, the average result of a proxy contest was the seating of two new directors. So achieving the same result by using proxy access is impossible for boards of less than eight people, and capped at no better than average for boards of eight to eleven. Finally, hedge funds fully understand that what the Securities and Exchange Commission has allowed is proxy access, not boardroom access.

To understand the difference, consider that innumerable third-party candidates run to be president of the United States. Without spending money, they typically receive less than 1 percent. To win a contested director battle, a dissident will still have to solicit proxies, write fight letters, file materials with the SEC, and take other actions. In other words, the cost savings afforded by proxy access in most cases will be minimal, since an insurgent will still have to pay for many of the same costs that exist under previous short-slate rules, which, of course, is still an option. Given the other restrictions, such as the limit on the number of nominees and the bar on seeking change in control, most hedge funds we have spoken with say they will largely stay with the tried-and-true methods rather than be constrained by the proxy access rules. Activism is core to their investment strategy and philosophy, and they are unlikely to let the relatively minor cost savings sway them from a full campaign if they believe a board needs change.

A Real Change

What about that 11 percent of elections contested by non-hedge funds? The study showed that 9 percent of them were launched by individuals, not institutional investors—and these were often founders or other former executives seeking to return to a company from which they had been pushed out, or current directors or executives seeking to take power. Could proxy access help them?

It is more likely that it could, though the change in control limitation would still affect some. And there may be other limitations as well: Proxy access maintains all the existing objective qualifications a company has for a director. For example, there was a recent unsuccessful but threatened proxy battle at a small insurance company, Presidential Life. The dissident was Herbert Kurz, the former founder, chairman, and CEO, who had exited the company after the New York State Insurance Department said he “may no longer serve as an officer, director, or controlling person.” We suspect that if Kurz were to file under proxy access, the SEC would allow Presidential Life to disqualify him under the qualification rule. That being said, to the extent proxy contests by individuals are driven by personal issues and where that individual may have a large minority of shares, proxy access could be used and might be effective, if there are no change-in-control or qualification issues.

The birth of proxy access won’t change the target list of companies. Nor will it convert dormant institutional investors into barbarians at the gate.

In only 2 percent of the cases was the dissident a non-hedge fund institutional investor. (Ironically, of course, these are the “special interests” that opponents of proxy access most fear.) So we believe the key question is: Will the advent of proxy access encourage more such investors—mutual funds, corporate pension funds, public pension funds, insurance companies, labor union pension funds, and foreign investors—to take activism to a more aggressive dimension or, indeed, to become activist? The answer: possibly.

The IRRC Institute/PGI study only looked at proxy contests, not other expressions of activism, such as shareowner resolutions and just-vote-no contests. By that standard, many institutional investors, such as public pension funds, union pension funds, religious and values-based investors, and others are clearly already activist, filing hundreds of resolutions and supporting a number of just-vote-no campaigns. As a result, this may be the one area where proxy access portends a real change in strategy for large, non-hedge fund institutions: Companies that previously may have been targeted for just-vote-no campaigns may now be targeted for proxy access campaigns.

Consider, for example, the buzz at the September Council of Institutional Investors meeting near San Diego. Ralph Whitworth, the well-known strategic block investor and founder of Relational Investors, said he and the California State Teachers Retirement System were looking at Occidental Petroleum as a proxy access opportunity. Other investors cited Massey Energy as a potential target. Both Occidental and Massey were already on many institutional investors’ radar screens; a just-vote-no campaign at Massey earlier this year just missed gaining a majority withhold vote against three directors.

The birth of proxy access won’t change the target list of companies. Nor will it convert dormant institutional investors into barbarians at the gate. Rather, it will be a tool in the activists’ toolbox to be used in place of, or in conjunction with, a just-vote-no campaign. Consider it a “just-vote-no-and-replace” campaign.

So, despite the breathless pronunciations from advocates (anxious to spur board reform) and opponents (willing to hype the danger so as to justify their fund-raising)—not to mention law firms, solicitors, and other advisers who are trying to convince clients that the world has changed so as to cement their value as trusted guides through the wilderness—proxy access is not a weapon of mass destruction in the relationship between corporations and its owners. We think it’s more evolutionary than revolutionary. It will fit a small number of investors and a small number of situations.

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