The Securities and Exchange Commission (the "SEC") recently issued two alternative proposals on shareholder access to company proxy statements for director nominations. The SEC seeks comments by October 2, 2007.
Both proposals seek to codify an SEC response to the Second Circuit's decision in AFSCME v. AIG, 462 F.3d 121 (2d Cir. 2006). In AFSCME, the Second Circuit held that a company could not rely on the Rule 14a-8(i)(8) exclusion (the "Election Exclusion") to exclude a shareholder proposal that, if adopted, could have the effect of permitting shareholders to wage contested elections in the company's proxy materials at the expense of the company, and without the disclosures required by the SEC's proxy rules under the Securities Exchange Act of 1934 (the "Exchange Act"). The SEC believes that the AFSCME decision was incorrect based on the SEC's historical and current application of the Election Exclusion, and that the decision had the effect of denying the disclosure of material information to persons solicited (that would normally be required by rules applicable to solicitations and contested elections). Therefore, in Release No. 34-56161 (Shareholder Proposals Relating to the Election of Directors), the SEC seeks to codify (and clarify) its historical and current interpretation and application of the Election Exclusion.
Alternatively, in Release No. 34-56160 (Shareholder Proposals), the SEC has proposed amendments to the SEC proxy rules that would permit a shareholder making a proposal like the one at issue in AFSCME to require the company to include this proposal in the company's proxy materials if the shareholder made disclosures similar to those required by the SEC proxy rules currently applicable to solicitations and contested elections. The second proposal would allow a shareholder owning at least five percent of a company's voting shares to include a proposal in the company's proxy materials for amending the company's bylaws that would mandate procedures to allow shareholders to nominate director candidates, subject to compliance with state law requirements and the company's articles of incorporation.
SEC Application of Rule 14a-8(i)(8)
The SEC issued Release No. 34-56161 to clarify its interpretation of the Election Exclusion (as well as to propose an amendment thereto). The SEC's historical and current application of the Election Exclusion permits a company to exclude any shareholder proposal from the company's proxy materials if, among other things, the shareholder proposal may result in a contested election.1 In the SEC's view, a shareholder proposal may result in a contested election "if [the shareholder proposal] is a means either to campaign for or against a director nominee or to require a company to include shareholder-nominated candidates in the company's proxy materials." The shareholder-proposed bylaw amendments at issue in AFSCME, if adopted, would have required AIG to include shareholder-nominated candidates in its proxy materials. According to the SEC, AIG should have been permitted to rely on the Election Exclusion to exclude the shareholder proposal.
Contested Elections - Current SEC Practice
According to the SEC, the AFSCME decision permits a shareholder to do indirectly what he cannot do directly: as a result of a shareholder-approved bylaw change, to conduct a contested election in the company's proxy materials by requiring the company to include shareholder director nominees in the company's proxy materials along with the company's director nominees. If a shareholder's proposal directly recommended the inclusion in the company's proxy materials of certain director nominees (instead of recommending bylaw amendments containing procedures pursuant to which the company would be required to include shareholder director nominees in the company's proxy materials if the bylaw amendments were adopted), the company could clearly be entitled to exclude the shareholder proposal from the company's proxy materials under the Election Exclusion. In addition, if the shareholder still wanted to solicit support of his nominees in opposition to the company's director nominees (i.e., to conduct a contested election), he would be required by applicable SEC proxy rules to provide proxy materials separate from the company's proxy materials and to provide certain disclosures to the other shareholders to provide them with information material to their election decisions.
The SEC believes that, as currently drafted and interpreted, the Election Exclusion works in tandem with the disclosure requirements of the proxy rules. The SEC has deemed it critically important that the shareholder making proposals that may result in contested elections provide separate proxy materials containing disclosures that contain information material to the election decision of the persons solicited.
Proposed SEC Amendments to Election Exclusion
The SEC has proposed two competing amendments to the Election Exclusion. The first proposal seeks only to clarify and confirm the SEC's historical and current application of the Election Exclusion, and to allow companies to rely on the Election Exclusion to exclude bylaw proposals such as those proposed by AFSCME.
The second proposal amends the Election Exclusion to allow a shareholder proposal relating to "a nomination or an election for membership on the company's board of directors or analogous governing body or a procedure for such nomination or election," if the proposal involves a change to the company's bylaws that would establish a procedure by which shareholder nominees for election of director would be included in the company's proxy materials. The proposal must be made by a shareholder who (i) has continuously held more than five percent of the company's voting share for at least one year, (ii) is eligible to file a Schedule 13G as an institutional investor or passive investor, and (iii) has filed a Schedule 13G. A shareholder proposing such a bylaw change must also disclose background information on the proposing shareholder and any course of dealing between the company and the proposing shareholder.
In addition, under the proposed amendments, the company would also be required to disclose any course of dealing between the company and the shareholder making the proposal. Moreover, to ensure that shareholders can make informed voting decisions regarding directors, the proposed amendments would require shareholders making director nominations in the company's proxy materials following approval of the bylaw change to satisfy certain disclosure and reporting requirements.
Electronic Shareholder Forums
The SEC has also proposed rules to encourage ongoing communications among shareholders and between shareholders and companies, including advisory communications from shareholders to the company, by (i) excluding electronic shareholder forums from the definition of "solicitation" and (ii) providing a shield from liabilities associated with statements made by other persons in an electronic shareholder forum. The SEC proposal would exclude electronic shareholder forums from the definition of solicitation if the person using the electronic shareholder forum does not seek, directly or indirectly, the power to act as proxy for a security holder and does not furnish or otherwise request a proxy if the solicitation is made more than 60 days prior to the date announced by a registrant for its next meeting of shareholders. If the registrant announces the date of its next meeting of shareholders fewer than 60 days before the meeting date, then the solicitation may not be made more than two days following the date of the registrant's announcement of the meeting date. The SEC proposal would also shield a company or shareholder who established, maintained or operated an electronic shareholder forum from liability under the federal securities laws for any statement or information provided by another person to the electronic shareholder forum.
If adopted, the foregoing amendments to the proxy rules would exempt the use of electronic shareholder forums from being considered a solicitation. In addition, by reducing the compliance costs of establishing and operating electronic shareholder forums and by shielding persons who establish or operate electronic shareholder forums from certain liabilities, these amendments encourage the use of electronic shareholder forums and increased communications among shareholders and the company.
The AFSCME decision creates some confusion for companies with respect to the application of the Election Exclusion and for shareholders who desire to make proposals. The underlying SEC position is that shareholders may not wage contested elections in the company's proxy materials without providing the type of disclosure normally required in such a contest. On the one hand, the SEC has confirmed that, under its historical application of the Election Exemption, (i) a company may exclude the type of shareholder proposal at issue in AFSCME, and (ii) a shareholder making the proposal would be required to provide separate solicitation materials and certain disclosures. On the other hand, the SEC has proposed amendments that would permit shareholders to require companies to include in the company's proxy materials the type of shareholder proposal at issue in AFSCME, provided that the shareholder and the company provide disclosures that are normally required under the proxy rules. If the proposed amendments become effective, companies may incur additional costs in connection with including shareholder proposals in company proxy materials and with otherwise complying with the new rules.