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By: Keir Gumbs, Covington & Burling LLP
LEXIS PRACTICE ADVISOR RESEARCH PATH: Securities & Capital Markets > Proxy Statement and Annual Meeting > Shareholder Activism > Articles > Excluding Shareholder Proposals and Seeking No-Action Letters
This article highlights the key shareholder proposal trends and developments to expect in the 2016 proxy season.
This past proxy season, shareholders submitted 943 shareholder proposals to public companies, while 350 companies included 600 shareholder proposals in their proxy materials. Approximately 18% of all of the shareholder proposals submitted in the 2015 proxy season have been withdrawn and approximately 14% have been excluded pursuant to no-action requests granted by the SEC. There were 318 no-action requests in 2015 as compared to 295 in 2015, and the SEC granted no-action relief 61% of the time in 2015 as compared to 71% of the time in 2014. According to Proxy Monitor, Fortune 250 companies faced an average of 1.39 shareholder proposals in 2015—the highest average since 2010.
According to Proxy Monitor, individual investors, institutional investors, and labor-affiliated pension funds accounted for approximately 33%, 29%, and 24%, respectively, of the shareholder proposals introduced to Fortune 250 companies in 2015. The submission of shareholder proposals has been led by New York City Comptroller Scott Stringer on behalf of New York City pension funds, which introduced 75 proposals, 28 of which were submitted to Fortune 250 companies.
Shareholder engagement provides companies and shareholders with an opportunity to discuss issues that would otherwise result in a shareholder proposal or to negotiate the scope and application of a shareholder proposal. Continuing a trend from prior years, many companies described extensive engagement efforts in their 2015 proxy statements. According to one study, 66% of directors are now communicating with institutional investors as compared to 62% last year.
According to Proxy Monitor, as of June 30, 2015, 42% of all shareholder proposals submitted by Fortune 250 companies concerned corporate governance matters, 43% concerned environmental or social matters, and 15% concerned executive compensation matters. Among these proposals, the largest category of proposals was environmental proposals, followed by political spending or lobbying proposals. Of these proposals, proxy access proposals had the most success, as discussed below.
The most significant development in the 2015 proxy season was the proliferation of proxy access shareholder proposals. Approximately 120 proxy access proposals were submitted in 2015, including 75 submitted by the New York City Pension Funds’ Boardroom Accountability Project. These proposals were generally modeled after the SEC’s access rule, which would have required that a nominating shareholder own 3% of a company’s voting securities for three years in order to nominate up to 25% of the board, with no limits on the ability of shareholders to aggregate their shares.
Of the 120 proposals that were submitted, 88 shareholder proposals and 7 management proposals were put to a vote; of these proposals, 55 shareholder proposals and 3 management proposals were approved by shareholders. Votes in favor of proxy access shareholder proposals have increased by more than 20% since 2014, with investor support for such proposals averaging 54.4% in 2015. As of December 18, 2015, at least 120 companies had adopted proxy access bylaws, while roughly 5% of S&P 500 companies had adopted or committed to adopt proxy access.
The significant adoption of shareholder access bylaws in 2015 was in part due to the SEC’s shift in its interpretation of Rule 14a-8(i)(9) of the Securities and Exchange Act of 1934, as amended. Under that rule, a company may exclude a shareholder proposal from its proxy materials “if the proposal directly conflicts with one of the company’s own proposals to be submitted to shareholders at the same meeting.” The SEC has historically allowed companies to rely on Rule 14a-8(i)(9) to exclude shareholder proposals where inclusion of a company proposal and a shareholder proposal in the same proxy statement could “present alternative and conflicting decisions for shareholders and . . . submitting both proposals to a vote could provide inconsistent and ambiguous results.”
Until a shift in the SEC’s approach to arguments under Rule 14a-8(i)(9) in January 2015, many companies were considering whether to submit their own proxy access bylaw proposals for shareholder approval and then seeking a no-action letter under Rule 14a-8(i)(9). Beginning with an announcement in January 2015, however, the SEC indicated that it would express no view with respect to arguments under Rule 14a-8(i)(9) for the remainder of the proxy season following a directive from SEC Chair Mary Jo White to review the proper scope and application of Rule 14a-8(i)(9).
On October 22, 2015, the SEC announced the results of its review of Rule 14a-8(i)(9) in Staff Legal Bulletin 14H (SLB 14H). In SLB 14H, the SEC indicated that a company may only rely on Rule 14a-8(i)(9) to exclude a shareholder proposal if a shareholder proposal and management proposal are “in essence, mutually exclusive.” Specifically, SLB 14H notes:
After reviewing the history of Rule 14a-8(i)(9) and based on our understanding of the rule’s intended purpose, we believe that any assessment of whether a proposal is excludable under this basis should focus on whether there is a direct conflict between the management and shareholder proposals. For this purpose, we believe that a direct conflict would exist if a reasonable shareholder could not logically vote in favor of both proposals i.e., a vote for one proposal is tantamount to a vote against the other proposal.
The SEC provided helpful examples of how the new approach would work in practice:
As evidenced by these examples, the SEC’s new approach to conflicting proposals will make it considerably more difficult for companies to rely on Rule 14a-8(i)(9) to exclude shareholder proposals that differ from, but are not mutually exclusive with, management proposals. For 2016, we expect that this will likely result in the inclusion by companies of significantly more shareholder proposals than would have been the case without the change in position articulated in SLB 14H.
Although less popular in 2015 than in 2014, proposals regarding political spending and lobbying activities remain popular. According to ISS, shareholders submitted 110 political spending and lobbying proposals to public companies in 2015 as compared to 126 in 2014. Fortune 250 companies have received 47 of these proposals as compared to 67 in all of 2014.
Shareholder support for political spending proposals among Fortune 250 companies has averaged 22%.
Although the SEC excluded corporate political spending disclosure from its official rulemaking agenda, it is facing pressure to adopt rules that would require that public companies disclose their political spending activities. On May 27, 2015, former SEC Chairmen Bill Donaldson and Arthur Levitt, along with former SEC Commissioner Bevis Longstreth, submitted a letter to Chair Mary Jo White calling for implementation of procedures that would inform shareholders how corporate funds are being used to influence politics, citing a rulemaking petition request that has received 1.2 million supportive comments. Additionally, the nonprofit Campaign for Accountability has filed suit against the SEC to compel rulemaking that would require public companies to disclose the resources spent on political activities.
Based on the foregoing, there is no reason to expect that there will be any let up in the level of shareholder interest in political spending shareholder proposals in 2016. To the contrary, with a presidential election looming and continued interest in the political spending disclosure rulemaking, we expect shareholders to submit a comparable number of political spending shareholder proposals in 2016 as in 2015.
Shareholder proposals regarding the environment remained popular in 2015, with 110 proposals that included traditional requests, such as adoption of greenhouse gas emissions goals and disclosure of risk associated with climate change, as well as more uncommon topics, such as adoption of carbon dioxide emissions as a metric of executive compensation. Some issuers in the oil, gas, and mineral extraction sector received shareholder proposals calling for appointment of directors with expertise in, or responsibility for, environmental issues. Looking forward, we understand that many of these same proposals have been submitted to companies for the 2016 proxy season.
Social issues appearing in shareholder resolutions include the disclosure of pay equity, risks of specialty drug pricing, risks associated with use of consumer data, adoption of employment principles for companies operating in Israel and the Palestinian Territories, and protection of employees’ right to engage in political and civic activities without retaliation in the workplace. One relatively new topic in 2015 asked boards to report on the risks from rising pressure to contain U.S. specialty drug prices. The SEC took the position that such proposals could not be excluded under Rule 14a-8(i) (7) on the basis that such proposals focus on a company’s fundamental business strategy with respect to pricing policies for pharmaceutical products.
Another proposal in 2015 that is an omen of things to come in 2016 and beyond is a shareholder proposal that requested a comparison of the total compensation package of the top senior executives and the company’s “employees’ median wage and an analysis of changes in the relative size of the gap along with an analysis and rationale justifying any trends evidenced.” The SEC ultimately took the position that this proposal could be excluded under Rule 14a-8(i)(7) on the basis that the proposal related to “compensation that may be paid to employees generally and is not limited to compensation that may be paid to senior executive officers and directors.”
In November 2014, the U.S. District Court for the District of Delaware granted a summary judgment motion in favor of Trinity Wall Street, which was seeking a declaratory judgment that it was entitled to have its shareholder proposal included in the proxy statement of Wal-Mart Stores Inc. See Trinity Wall Street v. Wal-Mart Stores, Inc., 2014 U.S. Dist. LEXIS 165431 (D. Del. 2014).The proposal at issue requested that the charter of Wal-Mart’s Compensation, Nominating and Governance Committee be amended to add the following to the Committee’s duties:
While the proposal was drafted facially neutrally, the supporting statement focused on Wal-Mart’s sale of guns, objecting to “the company’s sale of products, such as guns equipped with high capacity magazines, that facilitate mass killings, even as it prohibits sales of passive products such as music that merely depict such violent rampages.” Based on this language and other statements in the proposal that suggested that the object of the proposal was to have Wal-Mart change its policy with respect to the sale of guns, Wal-Mart successfully persuaded the SEC that it was entitled to exclude the proposal on the basis that it related to Wal-Mart’s ordinary business matters (i.e., the sale of a particular product).
Following the SEC’s grant of no-action relief, Trinity challenged Wal-Mart’s omission of the proposal from its proxy materials in federal district court. The district court ultimately ruled in favor of Trinity, holding that the proposal related to oversight rather than day-to-day implementation of Wal-Mart’s policy with respect to guns, and therefore transcended ordinary business matters. On appeal, the Third Circuit disagreed, ruling that “because the proposal relates to a policy issue that targets the retailer-consumer interaction, it doesn’t raise an issue that transcends in this instance Wal-Mart’s ordinary business operations, as product selection is the foundation of retail management.” In so ruling, the Court noted that:
In SLB 14H, the SEC noted that although the SEC agreed with the outcome in the Wal-Mart decision, the Third Circuit had articulated the analysis of the significant policy considerations exception in a way that differed from how the SEC had historically applied the exception. Specifically, the SEC questioned the Third Circuit majority opinion’s new two-part test under which a company would examine first whether a proposal focuses on a significant policy issue and then whether the significant policy issue is “divorced from how a company approaches the nitty-gritty of its core business.”
In order to avoid confusion regarding the SEC’s approach to the issue, the SEC made clear in SLB 14H that the ordinary business exclusion employs a one-part rather than a twopart test. Specifically, a company need only examine whether a proposal focuses on a significant policy issue. Under the test to be applied by the SEC, a shareholder proposal that raises a significant policy issue is not excludable because it transcends a company’s ordinary business operations—even if the significant policy issue relates to the “nitty-gritty of its core business.”
The 2015 proxy season provides a good view into the significant corporate governance issues facing boards and shareholders in 2016. At the top of the list is proxy access, an issue that appears to be the most significant governance development in recent years. Given the number of proxy access proposals that were approved by shareholders in 2015, proxy access is unlikely to go away in 2016. Instead, it is reasonable to expect that proxy access will develop into a fairly common feature in the corporate governance landscape. Similarly, interest in political spending disclosure, although not reflected in shareholder votes on the topic, appears to remain quite high as evidenced by the significant number of comment letters that have been submitted in support of the issue. In light of that interest, companies would be well advised to evaluate their political spending disclosures and consider providing information regarding such activities in advance of receiving a shareholder proposal on the topic.
Beyond proxy access and political spending, there are few issues that loom as large as the staff’s resolution of its approach to Rule 14a-8(i)(9) arguments. The recent shift in the way that the SEC administers the rule will likely result in a major shift in the manner in which companies respond to shareholder proposals with respect to governance matters, including proxy access, and could pave the way for shareholders to have greater influence over the corporate governance practices of the companies in which they invest.
Keir Gumbs is a partner in the Washington, D.C., office and vice chair of the Securities & Capital Markets practice group of Covington & Burling LLP.