One story of the 2015 proxy season is shareholder proposals to nominate directorsand a 48-year-old shareholder proposal exclusion rule. The rule allows for the exclusion of a shareholder proposal that directly conflicts with a management proposal. While the rule has been around since 1967, recent developments regarding a proxy access shareholder proposal filed at Whole Foods Market has raised the prospect of whether the rule needs to be changed.
One story of the 2015 proxy season is shareholder proposals to nominate directorsand a 48-year-old shareholder proposal exclusion rule.
The rule allows for the exclusion of a shareholder proposal that directly conflicts with a management proposal. While the rule has been around since 1967, recent developments regarding a proxy access shareholder proposal filed at Whole Foods Market has raised the prospect of whether the rule needs to be changed.
In January, SEC Chair Mary Jo White asked the agency’s staff to review the rule after SEC staff had initially granted no-action relief to Whole Foods management. Subsequently, the commission’s Division of Corporation Finance announced it will “express no views on the application of Rule 14a-8(i)(9) during the current proxy season.”
In the Whole Foods case, the shareholder, James McRitchie, proposed to amend the company’s bylaws to allow shareholders (or groups) that, for the preceding three years, have continuously held at least 3% of the company’s voting securities, to nominate up to 20% of the board (or no less than two directors in the event the size of the board was reduced).
At issue is whether or not management is required to include the shareholder proposal alongside the management proposal in the proxy statement.
On February 13, Whole Foods announced that it has indefinitely postponed its annual meeting, originally scheduled for March 10, due to the SEC’s actions. The company stated: “the postponement of the Annual Meeting is necessary to ensure the Company can meet applicable deadlines and allow the Board adequate time to review and evaluate the Company’s alternatives.”
Management’s proposal, which was included in its 2015 proxy filed after the company received the original no-action relief from the SEC, included higher proxy access thresholds. Shareholders owning 5% or more of the company’s common stock continuously for five years would be allowed to nominate the greater of one director, or 10% of the board.
So far this proxy season, about 100 companies will face proxy access shareholder proposals, according to proxy advisor Glass Lewis. Many of these have come from New York City Comptroller Scott M. Stringer’s proxy access shareholder proposal campaign that began late last year. He submitted proposals at 75 companies on behalf of the $160 billion New York City Pension Funds. [For more information on this, read BoardroomDirect November 2014 (Issues in brief).]
If the SEC ultimately decides not to issue no-action relief under the conflict proposal exclusion, boards could be faced with determining the course of action if both proposals get a majority of the vote.
Proxy access has been discussed by several SEC staff members recently.
“If you have favorable votes on a 9% and 5 years [proxy access proposal] and 3% and 3 years [proxy access proposal], it’s not clear what the board should do,” David Fredrickson, chief counsel of the SEC’s Division of Corporation Finance, said during a recent Investor Advisory Committee (IAC) meeting. “The current system doesn’t provide for subject matter preemption.”
He went on to say that while a shareholder proposal is non-binding, the management proposal would be binding. “If one is mandatory and the other is precatory, then it’s up to the board determine what to do with that information,” Fredrickson said.
Keith Higgins, director of the Division of Corporation Finance, addressed the specifics of the Rule 14a-8(i)(9) exclusion and proxy access in a February 10 speech to a Practicing Law Institute program on corporate governance.
“For the most part, they [who believed the proposals didn’t conflict] reasoned where the management proposal is mandatory and, by contrast, the shareholder proposal is precatory, the proposals do not directly conflict,” Higgins said. Because the management proposal is mandatory, it would be implemented, and the vote on the shareholder proposal would simply provide the board with additional data on the same subject matter, Higgins said.
Higgins noted that the Division didn’t take into account the mandatory versus precatory distinction in the Whole Foods case because “virtually all shareholder proposals are precatory” and that applying that distinction to conclude there is no conflict would make the exclusion applicable to a small number of cases. Also, he said that even if a shareholder proposal served as just a data point for directors, there is a concern that directors may not know how to interpret those voting results.
“This episode showed a structural weakness [in the proxy system] where management can move after the shareholder moves,” Damon Silvers, associate general counsel of AFL-CIO and IAC member, said at the IAC meeting. “By moving after the deadline, management can move to remove any proposal they wish.”
The SEC’s Fredrickson acknowledged that there is concern that the exclusion rule is “being played.” He said he has an open mind about what a better approach would be. Options would include asking the staff to review the rule and evaluate whether there should be a new policy on such exclusions, or seeking a new rule that would have to be approved by the full commission.
Regarding possible solutions, Higgins raised two rhetorical questions:
Darla Stuckey, president and CEO of The Society of Corporate Secretaries and Governance Professionals, expressed the view that boards will do the right thing when faced with a situation like Whole Foods.
“There’s a gut feeling that why don’t we put both proposals on the proxy and see how the shareholders vote,” Stuckey said. “If one gets 53% and the other gets 60%, the board has to figure out what to do. They are going to [have to] engage with shareholders.”
She noted that shareholders will hold directors accountable for the results of such a vote, and that they can vote directors off the board.
[Directors may also want to read Institutional Shareholder Services (ISS) bulletin on its new proxy access shareholder proposal voting recommendation policy in light of the recent developments.]