As an alternative to filing a Rule 14a-8 No-action Letter Request with the U.S. Securities and Exchange Commission (SEC), a company may seek a declaratory judgment from a federal court to exclude a shareholder's proposal from its proxy materials. A federal court recently allowed a shareholder proposal to be excluded from a company's proxy materials, based on the proposing shareholder's failure to properly demonstrate ownership of the company's shares.
The court concluded that:
- A company has standing under the Declaratory Judgment Act to challenge a shareholder proposal, even if the proposing shareholder promises not to sue if the proposal is excluded.
- A shareholder must comply with the proof-of-ownership requirements to submit a proposal.
On April 4, 2011, the U.S. District Court for the Southern District of Texas filed a memorandum and opinion in KBR, Inc. v. Chevedden,1 permitting KBR to exclude John Chevedden's proposal from its proxy statement and reaffirming its decision in Apache Corp. v. Chevedden.2 KBR filed a complaint seeking declaratory judgment to exclude Chevedden's proposal from its proxy materials for its May 2011 annual shareholders' meeting and moved for summary judgment.3
Chevedden contended that KBR did not have standing because he promised not to sue the company if it excluded his proposal from its proxy materials and that, accordingly, there was no case or controversy between him and KBR as required by the Declaratory Judgment Act.4 The court determined that despite the company's requests that Chevedden withdraw his shareholder proposal, he refused to do so and that such refusal demonstrated a willingness to continue to litigate the dispute and created an uncertainty that the company was entitled to have clarified.5 The court concluded that KBR had standing to pursue a declaratory judgment.
The only remaining issue was whether the SEC's rejection of no-action requests from other companies that raised arguments similar to those raised in Apache cast doubt on Apache's validity. The Apache court concluded that Ram Trust Services (RTS) was not a record holder of Apache shares because RTS did not appear on the non-objecting beneficial owner list and was not a Depository Trust Company (DTC) participant. In KBR, Chevedden submitted a letter from RTS to establish his ownership in KBR, which contained the same deficiencies as the RTS letter at issue in Apache.
A few months after the Apache decision, the SEC adopted Rule 14a-11, which governs shareholder proposals seeking to establish a procedure in a company's governing documents for the inclusion of one or more shareholder director nominees with similar proof of ownership requirements as in Rule 14a-8.6 The court noted that the SEC's comments on Rule 14a-11 are consistent with Apache's findings that letters from RTS are insufficient to establish Chevedden's eligibility to submit a shareholder proposal. The court concluded that Apache's reasoning remains persuasive, and the SEC's denial of no-action requests by other companies using arguments similar to those used in Apache did not undermine Apache. In addition, the court noted that the SEC has consistently stated that it will defer to a court's decision to exclude shareholder proposals.7 The court ruled that KBR may exclude Chevedden's shareholder proposal from its proxy materials.
The SEC notes it will defer to a court's decision to exclude shareholder propo- sals. Companies faced with unwel- come shareholder proposals might consider seeking declaratory judg- ments to exclude them.