Proxy Access Moves Forward at Two Companies

While many companies applauded the Securities and Exchange Commission's decision not to pursue mandatory proxy access after losing a bitter court battle last summer, some companies are actually putting forth their own proposals to allow shareholders the right to nominate directors directly on the proxy.

Western Union and KSW Inc. advanced management-backed proposals to allow investor groups to nominate their own slate of candidates for the board. Neither company, however, is looking to break new ground on the shareholder rights frontier. In both instances the moves are defensive measures intended to block what the companies view as more onerous proposals from investment groups that would make many more shareholders eligible to directly nominate candidates for board seats.

Western Union's proposal, which will go to a vote at its next annual meeting this spring, would allow investor groups that hold at least a 5 percent stake for a period of no less than three years to nominate one candidate to the board. The company has also asked the SEC for permission to exclude a binding resolution proposed by Norges Bank Investment Management that if approved would make the nomination threshold just one percent. At press time, the SEC had yet to rule on the no-action letter request.

On Jan. 5, KSW became the first company in the United States to actually adopt a by-law amendment that allows shareholders with a five percent stake or more for at least one year to nominate a director. The move is an attempt to head off a proposal from Furlong Fund that would give proxy access to investors with a two percent stake.

The moves could be considered early victories for shareholders after a provision of the Dodd-Frank Act that would have given shareholders mandatory proxy access for all public companies was struck down last summer by a panel from the U.S. Court of Appeals for the District of Columbia. At the time, the decision to vacate the SEC's Rule 14a-11 may have appeared to signal an end to proxy access proposals. “It was a huge setback to have the rule vacated,” says David Lynn, co-chair of the public companies and securities practice with the law firm of Morrison Foerster. Indeed, the SEC had worked on the issue for decades, Lynn says.

“The SEC did all it could to come up with a rule that would pass judicial scrutiny, but it wasn't successful,” adds Ted Allen, head of publications and governance counsel with ISS Governance.

More Than Expected

Absent this rule, shareholders need to individually convince companies to change their charter and by-laws, or adopt procedures allowing shareholders to nominate directors. Rule 14a-8 permits what's known as “private ordering” for proxy access, enabling shareholders that meet certain requirements to have their proposals to modify a company's governing documents to establish proxy access included within a company's proxy materials.

Despite the extra effort required, as of early February, 18 proposals for proxy access had been filed in time for the spring 2012 proxy season, according to information from ISS Governance. “We're in private ordering land now. I think we'll be there for the extended future,” says Patrick McGurn, executive director at Institutional Shareholder Services. The proposals' success, or lack thereof, may indicate the extent to which future proposals are brought forward.   

While the process of gaining proxy access through Rule 14a-8 may be more time consuming than that enabled through 14a-11, shareholders have begun using it. “Quite a bit of momentum developed,” says Robert Wild, a partner with Katten Muchin Rosenman. “I think it's the beginning of a trend.” In fact, most governance experts had predicted about a half-dozen proposals, Allen says. The total so far is triple that.

Most proposals fall roughly into three categories, McGurn says. One consists of those filed by the public pension and labor funds. These tend to be patterned after the vacated Rule 14a-11, and call for proxy access for shareholders owning at least three percent of a company's shares for at least three years; they also set a 25 percent cap on the number of board nominees the shareholders can propose. “They're trying to build the case that this was a reasonable rule.”

“If institutional investors feel that there are problems with companies and that they're not being heard, they may try to pursue this approach going forward.”

—David Lynn,

Co-Chair of Public Companies and Securities Practice,

Morrison Foerster

These shareholders also targeted companies with lingering problems, McGurn points out. Among them is Hewlett Packard, which is on its fourth CEO in six years. Another is Nabors Industries, as 57 percent of shareholders voted not to approve the compensation of senior executives during a 2011 non-binding “say-on-pay” vote, according to information from the Council of Institutional Investors.

Another group consists of proposals filed by one entity, Norges Bank Investment Management, manager of the Norwegian Government Pension Fund, including the one filed at Western Union. At the end of December 2011, the fund held about $98 billion in U.S. equities, and the bank had filed proposals at a half-dozen other companies, including Charles Schwab and CME Group. The proposals would allow shareholders to nominate candidates if they owned just one percent of the company's stock for at least one year, although they capped the percentage of board seats these shareholders could nominate at 25 percent.

In terms of handicapping the reception the various proposals are likely to receive, “we'd expect NBIM's proposals to be viewed more favorably by institutional investors, because the NBIM is an institutional investor,” Wild says. “NBIM inherently has institutional credibility.” Although NBIM's proposals set the bar for proxy access much lower than SEC Rule 14a-11 did, they should receive a high level of support, he says.

Individual investors, the last group, are “the wild card,” McGurn says. Many ask for the right to submit proposals when a shareholder has owned one percent of the company's stock for two years, or when a group of 100 investors has each held at least $2,000 in stock for 12 months. These requirements essentially follow a template developed by the U.S. Proxy Exchange, a non-profit focused on facilitating shareowner rights, McGurn says.

The Waiting Game

Despite the actions of Western Union and KSW, most companies haven't rushed to adopt proxy access schemes in advance of receiving shareholder proposals, Lynn says. Moreover, it doesn't appear that organizations like the Council of Institutional Investors have pushed their members to file proposals. “Everyone is playing a wait-and-see game.”

KSW BYLAW AMENDMENTS

What follows is Amendment No. 1 to the amended and restated bylaws of KSW:

This Amendment No. 1 to the Amended and Restated By-Laws of KSW Inc., a Delaware corporation is adopted by the board of directors of the company on Jan. 5, 2012.

By-law 13(b) is hereby deleted and replaced in its entirety to read as follows:

“(b) Nominations of persons for election as directors of the company may be made at a meeting of stockholders (i) by or at the direction of the board or (ii) a stockholder who meets the criteria, and complies with the procedures, set forth in this by-law 13. Each nominator may nominate one candidate for election at a meeting. All nominations by nominators must be made pursuant to timely notice in proper written form to the secretary.

To be eligible to make a nomination, a nominator must:

(i)have beneficially owned 5 percent or more of the company's outstanding common stock continuously for at least one year;

(ii)execute an undertaking that the nominator agrees to (1) assume all liability of any violation of law or regulation arising out of the nominator's communications with stockholders, including the disclosure required by by-law 13(c) and (2) to the extent it uses soliciting material other than the cCompany's proxy materials, comply with all applicable laws and regulations; and

(iii)be current in all required filings with the Securities and Exchange Commission regarding such nominator's ownership of the company's common stock.”

Source: SEC.

Given that the 2012 proxy season has yet to commence, it's also hard to pinpoint how the proposals will fare. However, “if the proposals do well and get majority support or close to it, proponents will be encouraged to file more next year,” Allen says.

As a result, corporate compliance officers will want to monitor events as they occur. That's particularly true for companies that have struggled or experienced a significant loss in value, as they may be more vulnerable to proxy access filings, says Francis Byrd, senior vice president, corporate governance, and risk practice leader with Laurel Hill Advisory Group. Other targets include companies that score low on board independence measures and those that lost “say-on-pay” votes on executive compensation last year.

Compliance officers also need to assess the quality of their corporate governance practices from the viewpoint of investors and governance advocates, Byrd says. “Is there a sense that the market has concerns about the quality of the board's oversight?” 

Companies may also want to include in their by-laws minimum requirements for anyone who can be nominated for a seat on the board of directors, Wild says. A caveat: These requirements would have to also apply to those currently on the board. “You have to be comfortable that the current directors would meet the qualifications.”

Some firms may move to majority, rather than plurality voting, Wild adds. In plurality voting, votes that are withheld aren't counted as either for or against a candidate. In theory, a nominee in an uncontested election could be elected as a director with just one affirmative vote if all the rest were withheld. In contrast, under majority voting, a nominee typically needs to receive an affirmative vote from a majority of the total votes cast in an uncontested election; withheld votes are effectively “no” votes. Again, however, both the board's nominees, as well as any proposed by shareholders would have to meet this threshold.

For now, the incidence of proxy access proposals appears to be a manageable, Lynn notes. However, that could change. “If institutional investors feel that there are problems with companies and that they're not being heard, they may try to pursue this approach going forward.” Strong corporate governance, responsiveness to investors, and reasonable compensation practices reduce the risk that companies will be targeted by shareholders, he adds.