The SEC recently published new guidance under Rule 14a-4(a)(3) of the Exchange Act, which is better known as the “unbundling” rule. This update replaces the SEC’s 2004 guidance on the same topic and creates new procedural voting requirements for shareholder approval of proposed M&A transactions. In an effort to protect shareholders, the SEC has mandated that certain changes to the acquiring company’s organizational documents be voted on by the target company’s shareholders. These changes must be broken out, or “unbundled,” in the proxy statement so that target shareholders can accept or reject each material change.

This unbundling requirement differs from traditional M&A approvals in which shareholders of the target company either accept or reject the transaction in its entirety. Examples of provisions that the SEC feels “substantively affect shareholder rights,” and therefore require separate votes, are provisions relating to: (1) classified or staggered boards; (2) limitations on the removal of directors; (3) supermajority voting; (4) delaying the annual meeting for more than a year; (5) eliminating the ability to act by written consent; and (6) changing minimum quorum requirements. To provide context, the SEC noted that certain other provisions, such as name changes, restatements of charters, and technical changes would likely not rise to the level requiring an unbundled vote by target shareholders.

If a transaction is structured to use a newly-formed acquisition vehicle, as in a triangular merger, the guidelines provide that the party whose shareholders are expected to own the largest percentage of equity securities of the new entity following completion of the transaction should be considered the acquiror. Thus, target shareholders would be provided the opportunity to vote on each material provision in the acquisition vehicle’s organizational documents that constitutes a material change from the acquiror’s organizational documents. Such changes would be subject to the approval of the acquiror’s shareholders as if they were to be made directly to the acquiror’s own organizational documents. 

While the SEC’s new guidance clearly creates a procedural requirement for an acquiring company to disclose any major organizational document change, such as establishing a staggered board, the substantive effect of a rejection of such changes by target shareholders remains ambiguous. The SEC provides some clarity by stating that parties to a transaction may condition completion of the deal on approval of the unbundled proposals by the target’s shareholders. Such conditions, if implemented, must be clearly disclosed on the proxy statement.