At a PLI conference yesterday on Corporate Governance, Corp Fin Director Keith Higgins gave us a preview of the Division’s thinking about how to address the issues that have arisen recently with respect to Rule 14a-8(i)(9), which allows a company to exclude from its proxy statement a shareholder proposal that conflicts with a management proposal on the same topic. While he was very forthcoming about the intricate analysis the Staff was undertaking, unfortunately, he does not give us much insight into the direction the staff may take, perhaps because the staff’s views (and his own) are still embryonic. When his predecessor as Corp Fin Director, Meredith Cross, tried to elicit some guidance, Higgins’s responses were cryptic. In any event, it certainly seems that some changes are in the offing, at least in the area of disclosure, if nothing else.
As we discussed here and here, the saga began when the SEC staff granted the no-action request of Whole Foods, confirming that the company could omit a proxy access shareholder proposal from its proxy statement on the basis of Rule 14a-8(i)(9). The shareholder proposal would have permitted shareholders (or groups) that, for the preceding three years, had continuously held at least 3% of the company’s voting securities to nominate up to 20% of the board and to include those nominees in the company’s proxy statement. As described to the staff, the Whole Foods proposal would allow any single shareholder owning at least 9% of the company’s common for five years to submit nominations to be included in the company’s proxy statement — threshold levels that would have made proxy access unavailable to any current shareholder. In view of its strategic success, a significant number of companies then followed the Whole Foods model – including a number that were among the 75 companies that received proxy access proposals from the NYC comptroller’s office — although most opted for lower thresholds in their conflicting management proposals. The Whole Foods shareholder proponent then requested that the entire Commission reconsider and reverse the Whole Foods decision. The shareholder proponent was not the only critic of the SEC’s position, as the Council of Institutional Investors, as well as members of the media, piled on, suggesting that perhaps the Staff’s interpretation of the exclusion was misguided. Finally, in response, Corp Fin withdrew its favorable response to Whole Foods and announced that it would express no opinions on any 14a-8(i)(9) no-action requests for the remainder of the current proxy season.
Higgins began by reminding us that the staff has generally taken the position that conflicting proposals do not need to “be identical in scope or focus for the exclusion to be available. The staff has generally agreed that a shareholder proposal conflicts with a management proposal where the inclusion of both proposals in the proxy materials could ‘present alternative and conflicting decisions for shareholders and that submitting both proposals to a vote could provide inconsistent and ambiguous results.’” The exclusion was “used infrequently” until 2009, when companies began to rely on it to exclude shareholder proposals to provide to shareholders the right to call special meetings of shareholders, typically countering with management proposals that set higher thresholds than those in the shareholder proposals.
It’s clear from this speech that the staff is looking carefully at the criticism of its past approach to the conflicting proposal exclusion. For example, Higgins recounts the analysis offered by the Council of Institutional Investors, which sent a letter to Corp Fin asserting that the exclusion should be available in only two circumstances: where there are two binding proposals on the same topic or, if the shareholder proposal is merely precatory, when the shareholder proposal is the opposite of the management proposal. (E.g., in the face of a shareholder proposal for proxy access, management’s proposal would, in effect, need to be against proxy access.) But, CII contended, where the proposals suggest reform in the same direction and just contain different thresholds or other terms, there is no real danger of “conflict”; the message is clear. In fact, CII argued, having only a single proposal blunts the communicative value of the vote shareholders do have because the vote on the shareholder proposal provides the board with additional data that the directors can take into account in their responses.
Responding to that argument, Higgins observes that Corp Fin has not previously considered the precatory/mandatory distinction: because almost all shareholder proposals are precatory, application of the distinction would narrow the exclusion to the point that it would be rarely available, although, he acknowledges, it’s unclear from the regulatory history whether that might have been the intent. In addition, he contended, the additional data points could well “be ambiguous for the directors to interpret,” and shareholders may not understand exactly how to send their messages through the vote:
“Take the example of the special meeting of shareholders and assume that both the 10% and the 25% proposals are on the ballot. If both proposals are approved, how should management interpret that result? Should management implement the proposal that received the highest number of votes for approval? A shareholder who favors 10% over 25%, but in all events believes that some percentage of shareholders should be able to call a special meeting, might vote yes on both. If that results in the 25% alternative receiving more ‘for’ votes than the 10% proposal, how should the board interpret the result? And does this pose a dilemma for the shareholders in deciding how to vote? Some might say, however, that the shareholders have a similar dilemma if only the management proposal appears on the ballot, particularly if the shareholders are aware of the excluded proposal.”
That dilemma suggests that there may be a structural problem, Higgins submits. Perhaps the staff needs to consider modifications to the rules governing the form of proxy (14a-4(b)) that would allow shareholders — instead of just voting for or against or abstaining on the proposal — to indicate whether, using the example above, they prefer the 10% or the 25% threshold. However, he recognizes that this approach “still would not accommodate the preferences of shareholders who either want a different threshold or do not believe that shareholders should be entitled to call a special meeting at all. But should Rule 14a-4(b) be amended to permit more flexibility than a thumbs up or thumbs down approach?”
Another criticism Higgins addresses is the “management motive” argument advanced by the Whole Foods shareholder proponent. The proponent contended that the staff should not allow companies that oppose the substance of proposals to use Rule 14a-8(i)(9) as “a tactical weapon in order to exclude shareholder proposals” by developing their own proposals that are preclusive or otherwise “unworkable” in response to the shareholder proposal. This concern regarding motives could also play out in the context of companies’ submitting proposals for shareholder approval of corporate actions that boards could take on their own, e.g., bylaw amendments that do not require shareholder approval. Or, going a step further, Higgins speculates that management could offer slightly different proposals every year just to exclude the shareholder proposal from the proxy statement. Should the staff seek to prohibit use of 14a-8(i)(9) for consecutive-year proposals on the same topic?
In the end, he recognized, the staff is not really in a position to try to assess anyone’s motive or good faith: is a bylaw amendment being presented voluntarily for shareholder approval as a tactic or as a matter of good corporate governance? Aren’t companies supposed to be responsive to shareholders? “[R]ecalling the words of a former President,” he quipped (unfortunately, without much audience reaction), the staff is reluctant, “to look management in the eye and get a sense of its soul.”
Finally, those who love those detailed (and sometimes juicy) “background of the merger” sections in merger proxy statements may just be in luck. As his last point, Higgins questioned whether shareholders are really getting adequate disclosure when a shareholder proposal is excluded under 14a-8(i)(9):
“Reading the proxy statement — and nothing more — the shareholder might get the impression that management had independently arrived at a decision to present a governance proposal to shareholders and the proposal in the proxy statement is the result. And that may in fact be the case. But it also may not be the entire story. Should the Commission, for example, require that when management uses Rule 14a-8(i)(9) to exclude a shareholder proposal, it needs to include in the proxy statement something akin to a ‘Background of the Merger’ discussion that appears in a merger proxy statement to explain the circumstances that led it to present its proposal, a discussion of alternatives and management’s rationale for crafting its proposal as it did? Another approach might be to require the company to allow the shareholder proponent whose proposal was excluded to include a statement in opposition, much as management does when it is required to include a shareholder proposal in the proxy.”
Alan Beller, one of the program co-chairs and a former Corp Fin director, questioned whether the current interpretation of the Rule 14a-8(i)(9) exclusion was really consistent with the underlying intent of Rule 14a-8 — to help effectuate the shareholders’ state law rights to present proposals at shareholder meetings. If a company submitted a proposal to allow shareholders holding 25% of the shares to call a special meeting, he asked, couldn’t a shareholder attending the meeting also offer a proposal to allow shareholders holding 10% of the shares to call a special meeting? It appeared to him that the Rule was being used to restrict shareholders from doing what they otherwise could do if they attended the meeting.
Meredith Cross, the other co-chair of the program, tried to elicit some guidance as to what companies should do in the face of the staff’s no-recommendation position. For example, if a company includes its own proposal and excludes a shareholder proposal in reliance on the exclusion, would the staff automatically review the company’s preliminary proxy? Higgins responded that the staff typically does not review preliminary proxies and would not want to further disrupt the process; however, the staff would want to see that there was full disclosure.
Later in the program, panel members indicated that there seemed to be no one generally accepted approach to the conflicting proposal conundrum created by the staff’s position. One panelist indicated that, at first, it appeared that many companies were simply going to exclude the shareholder proposal in reliance on the exemption, even without the SEC’s blessing. That view seemed to shift, however, when Glass Lewis announced that, in some circumstances, it may recommend against company nominees for director when the company excludes a shareholder proposal for proxy access on the basis of a conflicting management proposal, and some institutions appeared to follow suit. Now, the panelist suggested, the trend may be for companies to include the shareholder proposal in their proxy statements and use their best efforts to contest it.