On January 22, 2015, the SEC staff issued a letter advising a company that the staff did not agree with the company’s view that a shareholder proposal seeking a bylaw amendment related to audit committee service could be excluded from the company’s proxy statement. The proposed bylaw amendment would bar any director from serving on the company’s audit committee if he or she was the director at a public company when that company filed for reorganization under Chapter 11 of the federal bankruptcy law.
The SEC’s Division of Corporation Finance stated that it did not concur with the company that the proposal was so inherently vague or indefinite that neither the shareholders voting on the proposal, nor the company in implementing the proposal, would be able to determine with any reasonable certainty exactly what actions or measures the proposal requires. The staff also did not agree that the company lacked the power or authority to implement the proposal or that the proposal would have the effect of disqualifying, removing, or questioning the competency of a particular director nominee.
Comment: The notion that service on the audit committee of a company that files for bankruptcy reflects adversely on a director’s fitness seems wrong-headed and counter-productive. At minimum, each situation would require an in-depth analysis of the reasons for the bankruptcy filing and the director’s involvement, if any. Nonetheless, proposals of this nature illustrate the increased scrutiny shareholders are affording to audit committee members. This proposal may also foreshadow proposals that companies will face if public disclosure of the engagement partner’s name becomes mandatory. See August 2014 Update. Shareholders may seek to preclude the audit committee from using the services of an engagement partner when another client of that partner has been involved in a restatement, bankruptcy, or some other adverse financial reporting event.