Getting Ready for Proxy Access

Nicolas Grabar is a partner at Cleary Gottlieb Steen & Hamilton LLP focusing on international capital markets and securities regulation. This post is based on a Cleary Gottlieb publication by Mr. Grabar & associate Leah LaPorte Malone. Related research from the Program on Corporate Governance about proxy access include Lucian Bebchuk’s The Case for Shareholder Access to the Ballot and The Myth of the Shareholder Franchise (discussed on the Forum here), and Private Ordering and the Proxy Access Debate by Lucian Bebchuk and Scott Hirst (discussed on the Forum here).

Proxy access will be a leading issue in the 2016 proxy season, and now is the time to make a plan. We have a detailed deck on these questions, available here, but in a nutshell this is what’s happening:

  • Proxy access bylaws are proliferating. The number of companies with proxy access bylaws is growing rapidly. There are about 60 today, with another 40 or so forthcoming as a product of the 2015 proxy season—the result of either an agreement with a shareholder proponent or a favorable shareholder vote. Still others are considering adopting proxy access bylaws preemptively—i.e., before getting a shareholder proposal.
  • New proposals are coming. The proponents of proxy access will be back in 2016, making shareholder proposals at a large number of companies (last year there were more than 100).
  • Controversy is brewing about the details. Last year the proposals were largely identical and simply asked for “3/3/25” (ownership threshold of 3%, ownership period of 3 years, and up to 25% of the board available for proxy access candidates). This year’s proposals will be more specific and detailed, against the background of enacted bylaws that vary as to:
    • ownership threshold—most are at 3%, a few are at 5%;
    • number of seats available for proxy access—most say up to 20%, a few are at 25%, some bylaws also provide that the number will not be less than 2; and
    • rules governing the formation of a group of shareholders to aggregate holdings in support of a nominee—bylaws vary widely on how many shareholders and whether funds under common control are counted separately.

These issues are important to proxy access supporters, but there is also a growing list of secondary implementation details that proxy access supporters consider troublesome, which will get more and more attention going forward.

This landscape is still taking shape. The proxy advisory firms will be coming out with new policies in November, but they are certain to support any standard shareholder proposal for proxy access, as they did last year. The major investment managers are still thinking through their positions on proxy access, and while many support it, others—notably Fidelity—do not. (Retail investors have voted heavily against shareholder proxy access proposals.) In 2014, when shareholder proposals were put to a vote about 60% of them passed, and the average support was 54%; but there was a wide range in the results and in what companies fighting proposals promised or signaled about future implementation. Majority support of a shareholder proposal to implement proxy access over management opposition is not assured, but the battle is not an easy one.

One area of doubt is how the SEC will apply Rule 14a-8 to shareholder proposals for proxy access. A company that receives a proxy access proposal will probably not be able to exclude it from the proxy statement on the basis of a conflicting proposal by management (paragraph (i)(9) of the rule). When companies tried that tactic last year, the SEC initially gave no-action relief to Whole Foods and then withdrew it and promised to review the application of paragraph (i)(9); that review may or may not bear fruit by proxy time, but the odds are against an outcome that favors exclusion. Will a company risk litigation by excluding the shareholder proposal without SEC relief? During the last proxy season, apparently no one did.

Even if the Whole Foods tactic is still off the table, a company receiving a proposal might be able to use the General Electric tactic: exclude it on the grounds that the proposal has already been substantially implemented (paragraph (i)(8) of Rule 14a-8), even if the board adopts the substantially implementing bylaw after the proposal comes in. The strength of the substantial implementation position depends on how different the new proposal is from the existing bylaw. Last year the SEC allowed General Electric to exclude a shareholder proposal where the only difference was that the implemented bylaw had a 20-shareholder limit on forming a group to nominate a proxy access candidate.

With all this in mind, every company should have a plan for proxy access in the 2016 season. Before thinking about what options are viable, we think it’s worth recalling four big-picture points.

  1. Proxy access is primarily a symbolic issue. Its practical consequences will be very limited in the long run: value-driven activist hedge funds will not use it, if only because of the three-year ownership requirement; large investment managers will not use it, because they have limited resources relative to their portfolios of thousands of companies; and single-issue activists will rarely meet the 3% ownership threshold. If proxy access is used at all, there is a chance it will help enhance the voice of some categories of long-term investors, like public pension funds and labor organizations.
  2. Proxy access bylaws will become increasingly common. We expect a significant number of companies will adopt them preemptively in the near term. For the others, it may be just a matter of time until they receive a shareholder proposal, and successful opposition is going to be a challenge.
  3. A shareholder proxy access proposal can be distracting and disruptive, and opposing it requires an investment of time, effort and investor good will that might better be cultivated for other purposes.
  4. Some of the implementation points that are getting increasing attention are important to proponents, but most of them are details that will have little potential impact.

So while companies face a bewildering array of options, we see three that make good sense from a corporate perspective.

  • Disarm—go ahead and preemptively adopt a proxy access bylaw before the 2016 season gets under way. A company taking this approach may not want to be too aggressive on the implementation details, because the point is to take the issue off the table.
  • Prepare for peace—stand by to receive a proposal, but plan to negotiate withdrawal in exchange for a promise to adopt a bylaw. It would be smart to be ready in advance, with either a form of bylaw or a set of bylaw terms that the board has reviewed, because the proponents will need a little time to negotiate withdrawal.
  • Prepare for battle—stand by to receive a proposal, and plan to oppose it. Before adopting this approach, it would be wise to assess the stockholder profile carefully, evaluate the chances of success, and map out a shareholder engagement campaign.

Which option is best will depend on the strength of feeling on the board for or against proxy access, and on the company’s appetite for the spotlight on a potentially divisive issue. It would also depend on the likely strength of support among shareholders, based on the company’s specific shareholder profile, its track record on governance matters and the other issues that may come up in the 2016 proxy season.

The main items of homework for a corporate legal department include talking to the investor relations team (and the proxy solicitors) about how a vote might go. The board and the nominating and governance committee should agree on their approach before the end of the year, including a bylaw summary to have on hand. Companies should also consider drafting a bylaw to have in reserve depending on how the internal discussions go.

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