The SEC’s proxy rules allow a company to exclude any shareholder proposal from its proxy solicitation materials if that proposal or its supporting statement is contrary to any of the SEC’s proxy rules, including Rule 14a-9 which prohibits materially false and misleading statements in proxy materials. In this regard, a recent academic paper adds to the string of successes by companies in federal court for resolving some shareholder proposal disputes.
The Academic Paper
Former SEC Commissioner Joe Grundfest and current SEC Commissioner Daniel Gallagher have created a dustup with their recently published paper, Did Harvard Violate Federal Securities Law? The Campaign Against Classified Boards of Directors. In their paper, Mr. Gallagher and Mr. Grundfest suggest that companies are dropping their staggered board structures—and shareholders are voting to eliminate them—based, in part, on faulty research by Harvard University’s Shareholder Rights Project (“SRP”). According to Gallagher and Grundfest, that research relied heavily on empirical research portraying staggered boards as categorically detrimental to shareholder interests, but makes no mention of recent empirical research that directly contradicts that position.
Grundfest and Gallagher suggest that Harvard University and its clinic violated the federal securities laws by providing proxy proposal language for use by shareholder proponents that fails to include references to academic studies contrary to the views of those proponents, which they say is a “material omission” by SEC standards. The authors claim that the Harvard wording ignores five studies that do not support its conclusions on the benefits of annual elections, and therefore could “be viewed as materially false and misleading” and in violation of SEC rules that require information to be accurate and fair.
On the other hand, Professor Jonathan R. Macey of Yale University argues that the SRP proposal does not contain a material omission, as it neither purports to contain a review of the academic literature nor suggests that contrary studies do not exist. Professor Macey also questions the propriety of a sitting SEC commissioner’s levying accusations at “an academic institution and a professor” as a means of effecting changes in enforcement practices at the agency.
SRP is a group created by Professor Lucian A. Bebchuk, a Harvard Law School professor who has long researched corporate governance issues and has been an outspoken advocate for increased democracy in corporate America. Since 2012, SRP has floated nearly 200 proposals at some 130 companies to change policies that prevent shareholders from electing, or replacing an entire board at one meeting.
Advocates for staggered boards say they create continuity and are an effective defense against a rival company—or activist investor—that tries to take over a company through a proxy contest without paying a premium to shareholders. Opponents of staggered boards, like Professor Bebchuk, say such a mechanism silences shareholders, entrenches management and makes it less likely that suitors or activists will emerge, depressing valuations. The paper also questions whether proxy advisory firms ISS and Glass Lewis have discharged their fiduciary duties in making recommendations in favor of de-staggered board resolutions, noting that they "will have to bear the burden of explaining why [the resolutions] continue to best serve the interests of shareholders, given the new state of empirical research."
The efforts of SRP and Professor Bebchuk have had a significant effect on the corporate landscape, corporations have been dropping their staggered board structure in droves. Only about 60 companies in the S&P 500-stock index had staggered boards in 2013, down from 300 in 2000, an 80 percent drop, according to the paper.
Going forward, we may see some companies bypassing the SEC’s no-action letter process to exclude an SRP de-staggering proposal and instead proceeding directly to federal court for a declaratory judgment that the SRP proposal is false and misleading and can either be excluded from the issuer’s proxy materials or must be modified to include information regarding the other studies. As noted earlier in this Alert, the determinations reached in the staff no-action letter process do not adjudicate the merits of a company’s position with respect to any shareholder proposal. Only a U.S. District Court can provide a definitive determination of whether a proposal is sufficiently false and misleading to allow its exclusion from a company’s proxy materials.