Private Ordering and the Proxy Access Debate

Lucian Bebchuk is the Director of Harvard Law School’s Program on Corporate Governance. Scott Hirst is the Co-Executive Director of the Program and Co-Editor of the Harvard Law School Forum on Corporate Governance and Financial Regulation.

The Harvard Law School Program on Corporate Governance recently issued our paper, Private Ordering and the Proxy Access Debate. The paper can be downloaded here.

The paper addresses key objections raised against the SEC’s proposal to provide shareholders with rights to include shareholder nominees for election as directors on the company’s proxy statement. Opponents have argued that a preference for private ordering and a recognition that “one size does not fit all” support retention of the current default rule that prevents shareholder nominees from being included on the company’s proxy. We show that this is not the case.

First, opponents argue that, even assuming proxy access is desirable in many circumstances, the existing no-access default should be retained and the adoption of proxy access arrangements should be left to opting-out of this default on a company-by-company basis. Our article identifies strong reasons against retaining no-access as the default. There is substantial empirical evidence indicating that insulating directors from removal is associated with lower firm value and inferior performance. Furthermore, when opting-out from a default arrangement serves shareholder interests, a switch is more likely to occur when it is favored by the board than when disfavored by the board. We analyze the impediments to shareholders’ obtaining opt-outs that are favored by shareholders but not the board, and we present empirical evidence indicating that such impediments are substantial. The asymmetry in the reversibility of defaults highlighted in this article should play an important role in default selection.

Second, opponents of the SEC’s proposed reforms argue that, if the SEC adopts a proxy access regime, shareholders should be free to opt-out of this regime. We point out the tensions between advocating such opting out and the past positions of many of the opponents, as well as tensions between allowing opting-out and the general approach of the proxy rules. Nonetheless, we support allowing shareholders to opt-out of a federal proxy access regime, provided that the opt-out process includes necessary safeguards. Opting-out should require majority approval by shareholders in a vote where the benefits to shareholders of proxy access are adequately disclosed, and shareholders should be able to reverse past opt-out decisions by a majority vote at any time.

The implications of our analysis extend beyond proxy access to the choice of default rules for corporate elections, and to the ways in which shareholders should be able to opt-out of election defaults. In particular, the current plurality voting default should be replaced with a majority voting default, and existing impediments to the ability of shareholders to opt-out of arrangements that make it difficult to replace directors should be re-examined.

Our paper is scheduled to appear in the February 2010 issue of The Business Lawyer together with an article by Joseph Grundfest in defense of retaining the current no-access default. Grundfest’s article, The SEC’s Proposed Proxy Access Rules: Politics, Economics, and the Law, is available here.

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One Comment

  1. Posted Saturday, December 12, 2009 at 8:04 pm | Permalink

    I completely agree with Professor Bebchuk’s proposal of having a Proxy Access Default on the menu and then allowing Corporations to “opt-out” of it with appropriate safeguards.

    I would add another insight that we have from behavioural L&E literature; that of status quo bias, that supports this argument.

    Having a Proxy Access Design advocated by Professor Bebchuk will have the effect of “debiasing” the shareholders. [Cf. Sunstein/Jolls on “Debiasing through Law”]

    The Opponents know that collective action problems coupled with status quo bias will disincentivize shareholder activity to “opt out” once they have a “No Proxy” default in place and hence the clamour for a “No Proxy” default rule.

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