Civil Rights and Shareholder Activism: SEC v. Medical Committee for Human Rights

In the fall of 1971, SEC v. Medical Committee for Human Rights was billed as one of the most important cases of the Supreme Court’s new term. Though nominally an administrative law case, it was highly anticipated because of its potential to define the scope and meaning of “corporate democracy.”  The case was an appeal of a decision of the D.C. Circuit that had sided with a socially-progressive shareholder (Medical Committee for Human Rights, a civil rights organization) over Dow Chemical Company, one of the country’s largest public companies.

My new paper, Civil Rights and Shareholder Activism: SEC v. Medical Committee for Human Rights, recounts the history of this litigation, which began in 1968 with the submission of a Rule 14a-8 shareholder proposal seeking to end Dow’s practice of manufacturing napalm. It ended in 1972, when the Supreme Court declared the controversy moot. Justice William O. Douglas, the former New Deal chairman of the SEC, dissented—noting, presciently, that the issues raised by the case were likely to recur. Of course, history has vindicated Justice Douglas’s prediction.

Origins of the Dispute

Medical Committee, which came to national prominence in the Freedom Summer of 1964, was “the health arm of the civil rights movement and the civil rights arm of the health professions.” In 1968, after it received a donation of five shares of Dow stock, Medical Committee demanded to put the company’s napalm production to a shareholder vote. Dow had, for years, been a lightning rod for public protest of the Vietnam War; in 1967, a protest of Dow at the University of Wisconsin’s Madison campus turned into a riot, marking the first time that tear gas was used on an American university campus.

Dow refused and eventually obtained a No Action Letter from the SEC, allowing it to exclude the napalm proposal from its proxy. Medical Committee appealed the SEC’s decision to the D.C. Circuit, which decided the case in July 1970.

In the months that preceded that decision, the U.S. experienced the most tumultuous proxy season in its history. At corporate annual meetings across the country, shareholders and proxyholders demanded progressive reforms to corporate policies. They were met by private security forces and guard dogs. At Honeywell’s annual meeting, for example, protests devolved into rock-throwing and crowds were maced by police officers in gas masks; Honeywell’s board chair, who was called a “war criminal” by a stockholder on the floor of the meeting, ended proceedings after fourteen minutes. Heated confrontations between stockholders and managers played out at many companies that spring, making headlines.

Only weeks after the end of proxy season, in July, the D.C. Circuit issued its “pathbreaking” opinion in Medical Committee, essentially siding with the activists. The New York Times proclaimed that the case meant that shareholders had “broad rights to participate in corporate decisions that have social impact.”

The D.C. Circuit’s decision, authored by the conservative judge Edward Allen Tamm—who, five years later, would write an influential dissenting opinion in Buckley v. Valeo, in which he argued that First Amendment protection should apply to political spending—framed Medical Committee for Human Rights v. SEC as a case about corporate democracy. It was the first time the phrase “corporate democracy” had been used in the federal courts in the D.C. Circuit.

Tamm’s opinion concluded not only that the No Action Letter was reviewable, but that it was “obvious to the point of banality” that Congress had intended federal securities law to “give true vitality to the concept of corporate democracy.” In the judgment of the court, this meant that shareholders could “present to their co-owners” “the question of whether they wish to have their assets used in a manner which they believe to be more socially responsible but possibly less profitable than that which is dictated by present company policy.”

The SEC appealed the case to the U.S. Supreme Court, but after certiorari was granted—and on the eve of oral argument—the SEC reversed course and urged the high court not to decide the case. In the end, Justice Thurgood Marshall authored an opinion declaring the case moot, and Medical Committee’s gains for corporate democracy were lost.

SEC v. Medical Committee for Human Rights offers many lessons for the current day. The corporate democracy movement of the 1950s and 1960s focused on shareholders’ power to advance reforms within corporations. This was not “stakeholder capitalism,” the idea recently endorsed by the Business Roundtable, which would give corporate managers the power to balance the interests of shareholders against those of employees, creditors, customers, and communities. The D.C. Circuit’s expansive take on corporate democracy did not invoke “stakeholder interests,” although of course many stakeholder groups would have benefited from a decision by Dow to stop making napalm. Neither Medical Committee nor the D.C. Circuit asserted that Dow’s board should have decided the matter by taking stakeholder interests into account; rather, they argued that Dow’s shareholders had the right to decide for themselves whether their company would participate in an unpopular war.

Thus, as the case helps clarify, stakeholder capitalism preserves managerial authority, because it vests the power to balance stakeholder interests in management. Corporate democracy operates as a check on managerial authority, because it gives shareholders the right to weigh in on important policy matters. At a time when shareholding itself was “democratizing,” civil rights activists like Medical Committee saw shareholder activism as a potential avenue for progressive reform.

The pushback from the business community—including Milton Friedman’s now-iconic call for profit maximization, published in an essay in the New York Times Magazine in September 1970—was fierce. Friedman’s essay must be understood in historical context, as a defense of a form of corporate governance that had, until the spring of 1970, effectively suppressed nearly every shareholder objection on environmental, social, political, or “racial” policy. (In 1970, Rule 14a-8 specifically forbade shareholder proposals on “racial” matters—because the SEC had enacted such a rule after the Greyhound bus company received—and excluded, with SEC approval—a proposal demanding that it desegregate its buses.)

After it punted on Medical Committee in 1972 on grounds of mootness, the Supreme Court never revisited the question at the heart of that case: whether, and under what circumstances, a shareholder has a right under federal securities law to put a proposal about a social or political reform on the corporate proxy. Yet, in the decades that followed, questions about the scope of Rule 14a-8 have recurred again and again. Over the same period, the Supreme Court has cited corporate democracy several times as a justification for expanding corporate speech rights.

History repeats itself. Recently, Facebook responded to controversy over its political ads policy by proclaiming that it was protecting free speech on principle—Sheryl Sandberg, Facebook’s COO, said that political ads generate so little revenue they aren’t “worth the controversy.” This is precisely the argument that Dow made about napalm in the late 1960s—that revenue from the sale of napalm did not offset the trouble it cost the company, but that it would sell napalm to the government out of “principle”. As my paper points out, after Dow took that moral stand, it quietly stopped making napalm in May 1969, right around the time of the first shareholder meeting at which Medical Committee’s proposal would have been considered. Dow never conceded that sustained public controversy and a shareholder insurgency had any effect on its decision making, but they almost certainly did—just as, years later, Walmart fought its own shareholder about an assault weapon proposal (and won in court), but ultimately came around to the outcome its shareholder had sought. We’ll see if Facebook takes a page from the Dow/Walmart playbook.

The complete paper is available here.