Proxy Access: Only The Beginning

The recent decision by the SEC is not to seek a rehearing of the Appeals Court ruling staying process access now appears to set in motion a move toward the use of the shareholder proposal process to advance the proxy access concept.

An Access Free-for-All?

It is likely that some labor and public funds will file shareholder resolutions at specific issuers seeking access to the proxy. Also the so-called individual shareholder gadflies are expected to file proposal as well. Issuers however, should not expect a flood of these proposals in 2012. The governance advocate institutional investors will tread carefully and be quite selective in their targets – mega and large capitalization companies with poor performance or visible governance problems or scandals – while the hedge fund community, if they use this tactic at all, are more likely to target small-cap issuers.

Figuring into the equation is how ISS and Glass Lewis will treat these proposals. Each firm has essentially stated that their review will be on a case-by-case basis.

In our last issue, Kenneth Bertsch, CEO & President of the Society of Corporate Secretaries, in commenting on what the responses of the SEC might be, stated: “… board members and managers that would like to drive a stake through the heart of proxy access may be disappointed in the outcome even if the SEC drops the access mandate. The court ruling did not kill proxy access. The idea is likely to be fought over on a company-by-company basis, and the proposed access regimes may be more shareholder-friendly than the default rules under the SEC 14a-11 proposal.”

If the SEC lifts the stay on 14a-8 access proposals we are likely to see proxy access regimes that are far less burdensome on investors than the proposed standards developed by the Commission of holders of 3% having held shares for 3 years or more.

While the SEC proxy access design was universally criticized by issuers and considered much too restrictive and bureaucratic by governance advocates, it would, at the least have provided a certain amount of certainty and order for both issuers and investors.

Private Ordering Risk and Rewards

Let’s take a quick, but by no means an all-encompassing look, at the risks and reward potential in the sphere of private ordering regarding proxy access for issuers and investors:

Issuers’ Proxy Access 14a-8 Risks The private ordering approach, while avoiding the federal fiat of the SEC, does have risk for issuers. Companies perceived as having serious performance, governance and/or executive compensation problems (including those firms who have lost their Say on Pay vote) would face the possibility of a 14a-8 submission. It is likely that such a shareholder submission will ask for a lower threshold for both the ownership and holding period.

Going Viral

In that instance, such a proposal, if filed with a number of under-performing or “troubled” companies, could “go viral” in much the same way as the majority vote protocols did sweeping among the Fortune and S&P 500. This would, if the targets were mega or large cap issuers, have a deleterious impact on mid-size and smaller capitalization companies. As governance advocates will likely seek access at percentages under 3% percent – difficulty for holders of mega/large cap firms. However, were a 2% or 1% standard become the acceptable to shareholders it would make mid/small cap issuers much more vulnerable to hedge funds. In such a scenario, if the SEC were to reexamine and resubmit proxy access it would be more difficult for issuers to argue for higher threshold for holding periods and ownership.

Issuer Reward

The upside, however, is very positive for companies. If governance advocates have their access proposals go down to defeat with little support (below 30%), the management and board will have powerful arguments with both the advocates and the SEC. Issuers could claim that there is no or little shareholder support for any level of proxy access. The pushback with any SEC resubmission would be that original thresholds (3%/3 years) would be much better received.

Investors’ Risks For the governance advocates and investors, the risk of rejection of their less rigorous access regimes via the 14a-8 process, especially if the margin of defeat is considerable (proposals failing to receive even as little as 20%), could result in a reconsideration by SEC i.e. resubmission of an even more restrictive proxy access rule than originally crafted or no resubmission at all.

Investors’ Rewards

A positive for investors would be success, as it defined by market participants, of their 14a-8 resolutions. What this portent is the need for careful target selection by governance advocates, and a consensus on what qualifies as a well-supported proposal. In this week’s Agenda, Kristen Gribben discusses the past success of 14a-8 proxy access proposals. The resolutions, filed respectively by AFSCME at Hewlett-Packard in 2007 (earned 43%), CalPERS at UnitedHealth in 2007 (earned 42%); and by David Portnoy and the hedge fund Focus Financial at Cryo-Cell International in 2007 (53%) received very strong to majority support. We would expect investors to view a first proposal submission, receiving at least 35%, as successful, 40-50% as very successful and, of course, 50% plus one as a victory. And although these would be non-binding resolutions investors would have a very powerful cudgel to use against an issuer – and unlike with Say on Pay the proxy advisor firms would be unlikely to simply yellow card boards failing to enact an approved access proposal.

At this point it is not clear whether the SEC will allow the use of 14a-8 proposals for the 2012 proxy season, but since previous resolutions have gone to a vote at annual meetings it would be reasonable to consider this among the risks facing issuers for 2012.