Additional Lessons from the CBS-NAI Dispute: The Limitations of “Street Name” Ownership in Effectively Exercising Stockholder Rights

The vast majority of public company shares are owned in “street name”—e.g., through a broker. When holding shares in “street name,” a stockholder’s brokerage account reflects his or her ultimate beneficial ownership of such shares, but the records of the issuer (maintained by the issuer’s transfer agent) indicate that the broker (or more often, another intermediary through which the broker holds the shares) is the record holder of such shares. In the typical case of “street name” registration, Cede & Co., as nominee for the Depository Trust Company (“DTC”), is listed on the issuer’s records as the holder of record of most of the issuer’s shares. DTC, in turn, keeps its own account records, which list the DTC participants that hold those shares through DTC, including a number of brokers. Finally, those brokers keep their own account records, listing the ultimate beneficial owners of such shares. Contrast this with direct registration, sometimes referred to as “record ownership,” where the ultimate beneficial holder holds the shares directly and therefore the records of the issuer indicate that such person is also the holder of record of such shares.

Holding shares in “street name” through a broker has become the most common way to hold shares in a public company for a number of reasons. Most importantly, holding shares in “street name” enables prompt and accurate clearance and settlement of securities transactions as the actual shares are immobilized in a central repository with DTC. In order to trade shares that are directly registered on the books of the issuer, such shares normally first have to be transferred to the name of a broker who can then facilitate the trade, usually through an exchange. The re-registration process can take several days and therefore it may be difficult to sell such shares at a specific market price or at a specific time in response to market developments. “Street name” registration, however, allows brokers to quickly execute an order to sell shares already held in their client’s account at a specified price. In addition, “street name” registration allows stockholders to borrow shares from their broker in order to facilitate short-selling. Finally, “street name” ownership allows a broker to act as a central source for beneficial owners to obtain all of the information and related documentation a company may disseminate to its stockholders (e.g., annual reports; proxy statements), which can be especially helpful in the event that the holder beneficially owns shares of more than one company.

Exercising certain rights incident to the ownership of a company’s shares can often become difficult, however, when the shares are held in “street name.” From a state corporate law perspective, the record holder of shares has the right to vote those shares, to receive dividends paid on those shares and to otherwise exercise any rights incident to the ownership of those shares. As a result, significant lead time and coordination between the stockholder, his or her broker, DTC and/or the issuer’s transfer agent is often required for the ultimate beneficial owner of an issuer’s shares to take action with respect to such shares. These issues can be of particular concern for controlling or large stockholders who may wish to exercise rights in addition to simply voting shares at stockholder meetings, including on short notice. Particular examples are discussed below:

• Voting shares at a meeting. Fortunately the right that ultimate beneficial holders seek to exercise most often—the right to vote the shares they beneficially own at a meeting—is the most straightforward. The right to vote is transferred by the record holder (typically, Cede & Co., as nominee for DTC) to DTC participants, and eventually to the ultimate beneficial holders, by way of legal proxy. Shortly after a record date for a stockholder vote is set by the issuer, Cede & Co., as the holder of record of most of the issuer’s shares, delivers an “omnibus proxy” granting the right to vote such shares to the DTC participants that hold those shares through DTC. To the extent those DTC participants are brokers, those brokers will each then request that the ultimate beneficial holders holding through such broker instruct the broker how they would like the broker to vote with respect to the shares they beneficially own (typically via an online portal) and following receipt of such instructions the broker will then vote in that manner on behalf of the beneficial owners (pursuant to the authority granted by the omnibus proxy). If, however, the ultimate beneficial holder wishes to attend the stockholder meeting and vote in person, he or she must request a legal proxy from his or her broker, which transfers the right to vote the shares beneficially owned by such holder from the broker to such holder (which right to vote was originally derived from the omnibus proxy the broker received from Cede & Co.).
• Certain other “ordinary course” stockholder actions. Exercising certain other rights incident to share ownership when holding shares in “street name” is not as straightforward, as Cede & Co.’s “omnibus proxy” does not grant DTC participants any rights incident to share ownership other than the right to vote at a meeting. DTC has attempted, however, to formalize the procedures required to exercise certain other “ordinary course” rights by offering form letters that a DTC participant can execute and deliver to DTC (through the Web Inquiry Notification System—or “WINS”—platform) to direct Cede & Co., as the record holder, to exercise those rights on behalf of the DTC participant. For example, DTC provides form letters for the assertion, ratification or withdrawal of appraisal or dissenters’ rights and for the exercise of stockholders’ statutory rights under state corporate law to demand inspection of stock or other corporate records. Note that the DTC participant must execute and deliver the letter through the WINS platform sufficiently in advance so that the letter can clear DTC’s processes in time (typically twelve (12) to twenty four (24) hours) for the planned exercise of such rights. Of course, the DTC participant (i.e., the broker) will only submit such a request to DTC if instructed to do so by the beneficial owner pursuant to an instruction that the broker finds sufficient.
• “Non-ordinary course” stockholder actions. DTC does not provide form letters to direct Cede & Co. to exercise non-ordinary course rights on behalf of the DTC participant, such as the right to nominate persons for election to the board of directors of the issuer, to propose business to be considered at an annual meeting of stockholders (both of which are often required by public company bylaws via “advance notice” provisions) or to call a special meeting of stockholders. Instead, DTC participants must coordinate with DTC to draft a mutually agreeable letter for the DTC participant to execute and deliver to DTC through the WINS platform in order for Cede & Co. to exercise such rights on behalf of the DTC participant. Once the letter is agreed upon between the DTC participant and DTC, the DTC participant must then execute and deliver the letter through the WINS platform sufficiently in advance so that the letter can clear DTC’s processes in time for the planned exercise of such rights. Again, of course, the DTC participant (i.e., the broker) will only submit such a request to DTC if instructed to do so by the beneficial owner pursuant to an instruction that the broker finds sufficient.
• Action by written consent in lieu of a meeting. One of the most important rights that a large stockholder may wish to exercise (if permitted by state corporate law and the relevant issuer’s charter documents) is to act by written consent in lieu of a meeting in order to exercise any rights incident to share ownership (e.g., to remove or replace directors or amend the issuer’s bylaws). If the shares are held in street name, the beneficial owner must cause his or her broker, as a DTC participant, to coordinate with DTC to draft a mutually agreeable letter that the DTC participant can then execute and deliver to DTC (through the WINS platform), which directs Cede & Co. to execute an action by written consent on behalf of the DTC participant, but in this case the DTC participant must also attach the form of written consent that it is requesting Cede & Co. to execute. To further complicate things, Section 213(b) of the Delaware General Corporation Law provides that, in the absence of the board of directors having fixed a record date for action by written consent, the record date for determining the stockholders entitled to consent to corporate action in writing without a meeting is the date the written consent is first executed and delivered to the issuer. As a result, not only does a DTC participant have to deliver the letter through the WINS platform sufficiently in advance so that the letter can clear DTC’s processes in time for the intended date of execution and delivery, but the DTC participant (or more typically, the beneficial owner or his or her representative) would need to pick up the original copy of the executed written consent from Cede & Co. and deliver it to the issuer’s corporate offices (or designated Delaware agent for service of process) on the same date such written consent was executed (or risk having to start the process all over again).

As alluded to above, the additional wrinkle of course is that any direction letter that is executed and delivered through the WINS platform (whether based on one of DTC’s forms or otherwise) must be executed and delivered by a DTC participant, which is often a broker and not the ultimate beneficial owner. In that (typical) case, the ultimate beneficial owner must first contact his or her broker to determine what is required to direct the broker to execute and deliver the direction letter to DTC on behalf of the beneficial owner. Often this requires an additional letter executed and delivered by the beneficial holder directing his or her broker to in turn execute and deliver an attached direction letter to DTC that would then be submitted through the WINS platform (along with any necessary attachments thereto, such as a form of written consent). This need to work through the beneficial owner’s broker to instruct DTC increases complexity and introduces further delay, as each of the ultimate beneficial owner, his or her broker and DTC must coordinate to draft a mutually agreeable set of letters, and then that daisy chain of letters must clear the processes of both the broker and DTC. Negotiating the letters, obtaining the necessary internal approvals and navigating the WINS platform can add, at best, days to the process. This was the process followed by NAI  [1] in connection with its execution of consents to amend the CBS bylaws, and led in part to the delivery of such consents to CBS’s corporate secretary only a little more than an hour before the TRO hearing began on May 16.

Stockholders with a long-term investment horizon and an interest in influencing corporate affairs, including those who may want to take action by written consent, call a special meeting of stockholders or make nominations or propose new business at a stockholders’ meeting, may well consider whether directly registering the shares they own puts them in a better position than “street name” registration. [2][3]

Endnotes

1Cleary Gottlieb was litigation and corporate counsel for NAI in the matters discussed herein.(go back)

2Note that there are two ways of taking shares out of “street name” and directly registering them with the transfer agent of the issuer: (a) a deposit/withdrawal at custodian (“DWAC”) or (b) through the Direct Registry System (“DRS”). While a DWAC is typically faster than DRS (we understand that a DWAC transfer typically occurs the same day the broker gives transfer instructions to DTC; DRS transfer can take up to 10 days to complete), DWAC requires the issuer to sign-off on the transfer (whereas DRS does not).(go back)

3Indeed, compare the approach of hostile bidders or insurgents in a proxy contest, who customarily will transfer 100 or 1,000 shares from “street name” into record ownership, to permit the quick exercise of stockholder’s rights without the cycle time necessary to act through DTC and/or its broker.(go back)