No Good Deed Goes Unpunished: A Reply to Professor Macey’s Reply

According to the Guinness World Book of Records, the longest game of correspondence chess spanned 53 years and ended only with the death of one of the participants. Professor Macey and I have a good start at challenging this record, but with any luck, we will reach closure without either of us having to expire. And, if you are keeping score, this post is my reply to Professor Macey’s reply (here) to my response (here) to Professor Macey’s reaction (here) to a paper posted by Commissioner Gallagher and me asserting that the Harvard Shareholder Rights Project has violated federal securities law (here). Whew.

As an initial matter, I would like to thank Professor Macey for the time and effort he has devoted to commenting on our article. While Professor Macey and I seem destined to disagree on significant points, Professor Macey’s most recent post suggests strategies to strengthen the coming revision of our article, and we are grateful for those observations.

Professor Macey’s most recent post states “in a major retreat, the authors dramatically modify their allegations.” But there is no retreat, major or minor. If anything, there is consternation that accommodations designed to modulate our critique of the Harvard Proposal are misconstrued as retreat. We will, however, address that challenge in the next revision of our paper by eliminating opportunities for ambiguity.

1. Professor Macey’s first argument proves the adage that no good deed goes unpunished. This argument relies entirely on footnote 29 of our article. From that footnote Professor Macey incorrectly concludes that the number of challenged proposals is only seven, and that even in those seven instances the Proposal was not deficient when submitted. This argument is incorrect for four distinct reasons.

First, the footnote’s text clearly contradicts Professor Macey’s interpretation. It states: “To be conservative in our position, we assume that the contradictory literature did not become material in the aggregate until a month after the last of the five articles was posted to SSRN. [Which would be January of 2014.] It is possible to argue that the contradictory research was material before then, but it is unnecessary to press that point to proceed with our analysis.” Footnote 29 also explains that the first of the contradictory studies appeared on September 7, 2011. Footnote 29 thus expressly reserves the right to claim that every Proposal made after that 2011 date violates Rule 14a-9 because of a failure to address contradictory research, and explains that we did not press the point because we did not view it as necessary. Apparently, Professor Macey thinks it necessary that we press the point we were willing to let slide. We can do so by simply dropping footnote 29’s conservative assumption and by making the stronger claim that the Proposal was defective as of September 2011.

Second, the Harvard Proposal describes the SRP as the shareholder proponent’s “representative and adviser in connection with the resolution.” In reality, the shareholder delegates to the SRP all authority to act with respect to the Proposal, including the authority to negotiate a resolution, amend the proposal, and to withdraw the proposal. See note 32 of our article and Section V.C The Harvard SRP is thus the Proposal’s “maker” under Janus Capital Group, Inc. v. First Derivative Traders, 131 S.Ct. 2296 (2011). Describing the SRP as a mere representative when it actually holds “ultimate authority” is a misrepresentation not limited in time to the more recent proposals. Footnote 32 makes this point expressly, but the text does not emphasize it. For the avoidance of doubt, we will expand the text to explain that every instance in which the Proposal describes the SRP as a mere representative, rather than as the maker of the statement, or its equivalent, violates Rule 14a-9.

Third, “several of the studies upon which the Harvard Proposal relies employ a metric known as Tobin’s Q, which describes the ratio of a firm’s market value to its book value, and says nothing about a firm’s stock price valuation or market capitalization. The Harvard Proposal, however, describes Tobin’s Q as measuring “firm valuation,” a term that gives no indication to the reasonable investor that the studies are measuring a complex financial ratio that is distinct from actual stock market prices or from firm capitalization.” (see notes 32 and 119 of our article) This description of Tobin’s Q as a measure of firm valuation, that fails to explain that Tobin’s Q is a complex metric that differs from stock price valuation or market capitalization, also violates Rule 14a-9. Again, to the best of our knowledge, this misrepresentation is present in every instance in which the Harvard Proposal appears on a proxy.

Fourth, the Harvard Proposal’s language that seeks to distinguish the findings in Bates, Becher and Lemmon can be criticized as materially inaccurate. The argument supporting this conclusion is at Section III.C of our paper, and need not be repeated. This is a further violation of Rule 14a-9.

In sum, in response to Professor Macey’s observations, we will be clarifying our paper to explain with greater precision that every instance in which the Harvard Proposal appears in a proxy statement violates Rule 14a-9. In addition to our original conclusion that the failure to describe contradictory research is a material omission, we will explain that statements regarding the SRP’s role as a mere representative, descriptions of Tobin’s Q as a measure of valuation, and descriptions of the Bates, Becher and Lemmon article, alone or in combination, are material misstatements and omissions that violate Rule 14a-9.

1.a Professor Macey suggests that we have dropped our allegations “against the overwhelming majority of SRP proposals, reducing the number of challenged proposals from 129 to 7.” Not at all. For the reasons just described, every Harvard Proposal appearing in a proxy can be characterized as violating Rule 14a-9. It is also an unusual defense to argue that the SRP violated the federal securities laws on 7 occasions rather than on more than 100. Seven violations are impressive enough.

1.b Contrary to Professor Macey’s suggestion, the response does not “completely relinquish[] the claim that companies can use the alleged deficiencies to invalidate declassifications that took place in approximately 100 companies.” For the reasons stated in point 1, above, every instance in which the Harvard Proposal appeared on a proxy constitutes a potential violation of Rule 14a-9.

1.c Rule 14a-9(a) imposes an express duty to correct earlier communications that later become false or misleading. Professor Macey’s observation that the seven challenged proposals “could at most be allegedly faulted for not being withdrawn prior to the vote” is again curious because the failure to correct or withdraw a statement that becomes misleading is not a lesser violation than submitting a misleading initial statement. A violation is a violation.

2. Professor Macey suggests that my reply admits “our real quarrel is with the SEC, not with the SRP proposals.” But why can’t the quarrel be with both? As the article explains, the Staff’s decision to step back from providing “integrity reviews” fosters an environment in which proponents can propound misleading proposals with little concern that the company will seek no-action relief. That very low probability emboldens proponents to submit defective proposals. This is simple deterrence calculus, and is entirely consistent with the pattern manifest in Express Scripts. This dynamic made it easier for the Harvard SRP to continue with its proposal campaign, unchallenged by the no-action process because the staff has taken itself out of the integrity review business. But the absence of a cop on the beat does not absolve the SRP from its independent obligation to comply with Rule 14a-9. That obligation exists independently of any staff review. Indeed, only a federal court can determine whether the rule has been violated, and even a no-action letter is no guarantee that the courts will agree with the staff’s position. See, e.g., Trinity Wall Street v. Wal-Mart Stores, Inc., 2014 U.S. Dist. LEXIS 165431 (D. Del. Nov. 26, 2014) It is therefore entirely consistent to have a quarrel both with the staff for its failure to act as a cop on the beat and with the Harvard SRP for submitting proposals that violate Rule 14a-9.

3. Professor Macey observes that “the type of enforcement action or private suit” discussed in the paper is without precedent. Yes it is. But the fact that a litigation theory is without adjudicated precedent makes it novel, not incorrect.

4. Professor Macey claims that my reply “conspicuously fails to explain why not a single company raised a claim of material omission.” I did not address this point because I thought the response clear from the paper’s text. Simply put, if the challenge is to explain why companies don’t seek no-action relief when a proposal violates Rule 14a-9, I refer the reader to point 2 above, and to Section V.F of the article’s text. But if the question is why no company has to date initiated litigation challenging the Proposal, there are at least two replies. First, companies often consider many variables, in addition to the probability of prevailing, when deciding whether to initiate litigation. Companies could determine that litigation of the sort described in the article is not in their best interests for many reasons that are unrelated to the validity of the claims that could be asserted. Companies might also be concerned about the adequacy of the remedy that courts might grant. See Section V.F of the paper. Second, counsel simply might not have considered the theories discussed in our article, and upon further reflection might decide to test these propositions in a court of law. That said, I agree that litigation is not the best way forward. Improved SEC procedures and attentive compliance by proponents are the first best remedy, but the possibility of litigation based on prior conduct cannot be eliminated. A violation is a violation.

5. Professor Macey suggests that I treat the Harvard Proposal and the Netflix response inconsistently. Here we can agree to disagree as I see nothing at all inconsistent in my approach. The Harvard SRP must submit a Proposal that is neither false nor misleading on a stand-alone basis, and it fails to do so for the four reasons described in Point 1 above. The company can’t be held liable for any of these flaws and has no duty to correct the errors in the Harvard Proposal. Netflix cites two studies (arguably the two most persuasive studies) in opposition to the Harvard Proposal, and cites no additional research supporting the Harvard Proposal. But the company has no obligation to correct or to supplement a proponent’s supporting statement. The lack of any such obligation is particularly clear in the instance of Netflix’s response because the omitted studies at issue in Professor Macey’s analysis are easily described as immaterial given the studies already cited in the Harvard Proposal. Professor Macey’s suggestion of inconsistency is thus contrary to the law: it would make the company responsible for flaws in the proponent’s proposal and impose on the company a duty to correct and enhance the proponent’s own proposal.

6. Professor Macey challenges my suggestion that he and I share the same view with regard to the “undisputed” current state of the empirical evidence. I cannot, of course, claim that Professor Macey and I agree when he states that we disagree. Thus, I will defer entirely to Professor Macey’s characterization of areas where he perceives agreement and dispute.