Shareholder Proposals

In an unusual collaboration, Relational Investors and CalSTRS succeeded this week in having a majority of shareholders support CalSTRS’ shareholder proposal recommending that the board and management "act expeditiously" to engage an investment bank to effectuate a spinoff of Timken's steel business. CalSTRS’ precatory resolution was favored by 53% of the votes cast.  Given that insiders and affiliates own about 15% to 17% of the company, the activists claimed that at least 65% of non-affiliates supported the proposal. 

Timken indicated that its board would evaluate the results and announce its next steps within 45 days. Relational and CalSTRS are threatening a proxy contest if the company does not follow through with the proposal’s request. The two investors reportedly own 7% of the company together, although the company disclosed that CalSTRS’ share ownership represents less than 1%.

While being far short of a proxy contest, the activist campaign was intense, as evidenced by the number of exempt solicitations filed by Relational and CalSTRS beginning in November, and additional soliciting materials submitted by the company in response. Each side also used social media, with dueling websites devoted to its version of the debate (Unlocktimken.com from the activists and TimkenDrivesValue.com by the company.) 

ISS and Glass Lewis both supported the shareholder proposal. CalSTRS also took issue with the election of several director nominees, including the cousin of a founder serving as an independent director of the audit committee. In another example of how the activists’ collaboration shifted the usual allegiances, a union of steelworkers strongly opposed the proposal.

Relational Investors argued that since the proposal is non-binding, a “yes” vote carries “no downside,” but a “no” vote could send share price lower. Since the proposal was announced in November, the stock price has increased by 38%. 

Shareholder proposals on major business strategies is uncommon. According to the Wall Street Journal, only 10 other such proposals to break up a company or divest assets have been made since 2005. Other companies also received proposals calling for board review of major transactions this year, but many were excluded on grounds of vagueness or under the ordinary business exception when the proposals combined both non-extraordinary and extraordinary transactions. The success of this one, however, could inspire other examples that withstand SEC challenge, and generate active campaigns.

According to a press release from the Association of BellTel Retirees, 53% of shareholders at Verizon supported a proxy access proposal asking the company to amend its bylaws allowing shareholders owning at least 3% of shares for 3 or more years to nominate candidates to the board.

The release indicates that this outcome represents their “10th proxy victory in 15 years” at Verizon of shareholder proposals either receiving majority support or resulting in negotiated changes at the company, including one of the first say-on-pay proposals on the ballot before the advisory vote became law. The company’s press release states that the board will consider the outcome of the vote.

Other upcoming proxy access votes this season include iRobot (May 22), Goldman Sachs (May 23) and Netflix (June 7), but all three have the “retail” versions which are unlikely to fare as well. These proposals seek to give proxy access rights to (a) shareholders owning at least 1% but less than 5% of shares for 2 years and/or (b) 50 or more shareholders who have each held for at least 1 year a number of shares of stock that, at some point within the preceding 60 days, was worth at least $2,000, and collectively at least one half of one percent but less than 5% of shares.  IRobot failed in its attempts to have the proposal excluded by the SEC under Rule 14a-8 on the basis of vagueness and ordinary business.

While the tug-of-war over getting the SEC to adopt future rules requiring companies to disclose political contributions, and dueling legislative initiatives encouraging or prohibiting such disclosure, are making headlines, there has been less attention paid to the very current situation faced by nearly a hundred companies this season in terms of shareholder proposals on the topic. The proposals covering corporate political activities encompass a wide range of focus and, consequently, significant variation among the vote results. 

A shareholder proposal requesting that the company adopt a policy to prohibit the use of funds for political purposes received 4% support at Starbucks, while proposals asking companies to screen their corporate contributions against candidates whose voting records are “inconsistent” with corporate values were favored by only 6% of shareholders at Johnson & Johnson and 5% at Praxair. 

On the other hand, traditional proposals asking companies to report on political contributions, lobbying expenditures, or both, have received much higher support from shareholders. Lobbying proposals won 37% at Visa and 42% at Marathon Oil, while proposals seeking reports on political contributions obtained 39% favorable votes at BB&T and 31% at Northern Trust. At AT&T and Citigroup, however, about 25% of shareholders endorsed the proposals. 

ISS has been making recommendations for proposals requesting disclosures on a case-by-case basis, based largely on whether a company has an existing report that provides certain information, particularly policies and oversight mechanisms. In our experience, if a company meets nearly all of the criteria in the ISS policy statement, the report ISS issues may provide a sense of what additional changes the company can adopt that will cause ISS to recommend against the proposal. These may include additional disclosure, or clarifications, regarding management or board oversight. Having ISS side with a company can decrease support levels substantially. 

Disclosure of political contributions was also part of the groundbreaking News Corp. corporate governance settlement, which has led some to speculate that future shareholder derivative suits may include efforts to obtain this disclosure.    

The D.C. Circuit has dismissed for lack of jurisdiction the case brought by the American Petroleum Institute and others against the SEC rules requiring certain companies to disclose payments made to foreign governments relating to the commercial development of oil, natural gas or minerals.  The case will now be decided in the U.S. District Court for the District of Columbia, where the petitioners had also filed suit "out of an abundance of caution.” 

The Commission had not disputed the Circuit Court’s right to hear the petition for review, but intervenor Oxfam America argued that the petitioners must first sue in district court.  Exchange Act Section 25 establishes the framework for initial appellate review of Commission actions.  Congress created original appellate jurisdiction over challenges to certain Commission rules in 1975, because it believed that the district court's factfinding function is rarely necessary in these cases. 

In this case, the D.C. Circuit determined that absent a statutory grant of original appellate jurisdiction under Section 25, a party must first file in district court.  While certain enumerated sections of the Exchange Act specifically give the appellate court jurisdiction, the Commission did not rely on any of those sections when it published the resource extraction rule.  In fact, the Court noted that Section 25 is limited to Exchange Act provisions directly relating to the operation or regulation of the national market system, a national clearing system or the Commission's oversight of the self-regulatory organizations.

In another case, the U.S. District Court for the Southern District of New York found that the 2010 amendment to Rule 14a-8(i)(8) did not change its original holding in Lucian Bebchuk against Electronic Arts, Inc.  In February 2008, the plaintiff submitted a shareholder proposal to the company to amend its bylaws and require management to allow shareholders to vote on all "qualified proposals."  Qualified proposals include all submissions made on behalf of any shareholders owing at least 5% of stock that are valid under state law and did not deal with ordinary business operations.  Before the SEC could respond to a no-action letter request from the company, plaintiff filed suit.

In November 2008, the district court held that the proposal was contrary to the proxy rules because it eliminated the discretion of the company and dismissed the complaint under Rule 14a-8(i)(3).  The court found that the plaintiff’s proposal contradicts the purpose of Rule 14a-8 given that different grounds are available for exclusion of shareholder proposals, which the plaintiff’s proposal would not recognize.

Plaintiff appealed and while appeal was pending, the SEC adopted the proxy access rules in 2010 and amended Rule 14a-8(i)(8).  The Second Circuit then remanded to the district court to determine the relevance of the proxy rule changes to this case.   

Is there a difference between a shareholder proposal that asks that the Board's chairman be an independent director as defined by the rules of the New York Stock Exchange and who has not previously served as an executive, and one that asks that the chairman be an independent director (by the standard of the New York Stock Exchange), who has not previously served as an executive? 

Yes, according to the SEC Chief Counsel’s office in its decisions on three recent proposals. The Staff last year declined to permit the exclusion of GE's proposal, and other similar proposals which requested independent chairs by reference to the “standard of the New York Stock Exchange," who were not former executives. The Staff has now, however, concurred with KeyCorp, Chevron and Ashford Hospitality Trust on three proposals that link director independence “as defined by the rules of the New York Stock Exchange.” All of the companies had argued that the proposals were vague and misleading under Rule 14a-8(i)(3).  

Like GE and other similar proposals that were required to be included in proxy statements last year, the proposal in KeyCorp also requested that the chairman not have previously served as an executive.  The proposals in Chevron and Ashford Hospitality Trust, which faced a binding bylaw proposal, did not include the prohibition on former executives. Those proponents later attempted to change their proposals to mirror the ones that used the "New York Stock Exchange standard” instead, but the revisions were rejected as being akin to an untimely second proposal.

Unlike the previous year, the Staff went to unusual lengths to explain its position in each of these three no-action letters, noting that the proposals referred to the “rules of the New York Stock Exchange" or the “New York Stock Exchange listing standards” for the definition of an "independent director," but does not provide information about what this definition means, when the definition is a central aspect of the proposal. The Staff pointed to its Legal Bulletin 14G, which indicated that they consider only the information contained in the proposal and supporting statement and decide whether, based on that information, shareholders and the company can determine what actions the proposal seeks. According to the Staff response, because the proposal does not provide information about what the New York Stock Exchange's definition of "independent director" means, they believe shareholders would not be able to determine with any reasonable certainty exactly what actions or measures the proposal requires.

Verizon faced a proposal that contained a lengthy list of relationships that would disqualify a chair from being deemed independent, without mentioning any stock exchanges. The Staff disagreed with Verizon’s claim that the myriad of requirements could be subject to conflicting and confusing interpretations. 

At its meeting last week, Disney’s proxy access proposal received 40% in support.  As we previously discussed here, the SEC Staff did not permit the company to exclude the proposal from its proxy statement.

While it is probably too early to think that proxy access shareholder proposals have exhausted their 15 minutes, they have largely been in the background this season, as ISS reports that only a few were submitted.  In this case, the company’s proxy access proposal was overshadowed by continuing agitation over Disney’s decision in 2011 to appoint the CEO as the chairman of the board, after having an independent chair since 2004.  The week before the meeting, CALSTRS and PGGM filed a notice of exempt solicitation urging shareholders to support both the proxy access and independent chair shareholder proposals and also vote against Disney’s say-on-pay resolution due to the “guaranteed minimum target values and a guaranteed five year term for the CEO.”

The company responded with a terse two-sentence statement emphasizing its exceptional results in 2012 with 76.3% total shareholder return, and 139% over the CEO’s tenure.  This defense was followed by another notice of exempt solicitation, this time from Connecticut Treasurer Denise L. Nappier, the proponent of the independent chair proposal.  The Treasurer’s letter accused Disney of deliberately avoiding shareholder input on recombining the CEO and Chairman roles by timing the announcement of the change in 2011 after the deadline for accepting shareholder proposals had passed, and argues that the two roles should only be combined in “extraordinary circumstances,” a stricter standard than making decisions in light of the “best interest” of the company.  The proposal ultimately received 35% in favor.

Say-on-pay was also a focus of the Treasurer’s letter, which attacked the CEO’s “guaranteed target pay opportunities” and “guaranteed long‐term incentive award target.”  The letter indicated that ISS estimated $100 million as the value of the CEO’s severance payments.  

58% of shareholders voted for Disney’s say-on-pay resolution, similar to 2012 when 57% supported it.  TheCorporateCounsel.net reports only three failed votes so far at smaller companies, but Disney, and previously at Apple where say-on-pay received 61% in support, shows that say-on-pay continues to be challenging even at companies with stellar financial performances.

As widely reported, on February 22 in Greenlight Capital, L.P. v. Apple, Inc., a federal court in New York enjoined Apple shareholders from voting on a proposal that combined four charter amendments into a single proposal. The Court found a strong likelihood of success on the merits that Apple violated the SEC’s so-called “unbundling” rules, which require proxies to identify clearly and impartially “each separate matter” and give shareholders the ability to vote for, against or abstain from “each matter.”

The decision should come as no surprise since it is consistent with how practitioners and members of the SEC Staff have applied the unbundling rules in the past. When the SEC Staff have decided to review a proxy statement, they have frequently requested issuers to unbundle in the M&A and recapitalization contexts and proposals to amend a company’s governing documents, including preferred stock rights. Admittedly, there are examples of proxy statements that are inconsistent with this articulated approach, in some cases most likely because the SEC Staff did not review the proxy.

Although the Apple decision should not change the norm, it highlights the risk that a “bundled” proposal could be enjoined and is therefore a timely reminder of the need to think about the application of the unbundling rules with respect to all proxy statements. The risk of litigation, alone, may induce companies to act more conservatively by unbundling important management proposals. 

Companies with shareholder proposals are often frustrated by what they view as offensive, or merely wrong, supporting statements that accompany the resolutions. The supporting statements at times target specific directors with provocative claims of failed oversight. Several companies this season tried to exclude proposals, including asking to omit only a portion, on the basis that those supporting statements were false and misleading under Rule 14a-9. The Staff disagreed.

Boeing failed to convince the Staff that a proposal seeking an independent chairman which contained a supporting statement that focused on their CEO's responsibilities on other companies’ boards would confuse shareholders in thinking that the proposal is actually about limitations on board service. The Staff also disagreed that statements in a proposal at UMB Financial impugned the character, integrity or personal reputation of directors or made charges concerning improper, illegal or immoral conduct or associations without factual foundations. UMB Financial had protested against statements which questioned whether the family of the former and current chairman “dominated” the company and made allegations of "nepotism." The Staff differed with Wendy's views that references to a GMI report about the board, statements regarding long director tenures and advanced ages and one director's past involvement with a public company bankruptcy were irrelevant to the subject matter of the proposal, which was focused on accelerated vesting of equity upon change of control, and instead merely constituted an opportunity to "attack" individual directors.

The Staff did not allow portions of proposals to be omitted even when a company demonstrated that the statements were simply untrue. Allergen tried to exclude portions of a proposal seeking to give shareholders the right to act by written consent that the company objected to as false and misleading, including statements regarding a former president who the proponent claimed acted as interim CEO, and his reported compensation. Allergen noted that the former president was never the company's CEO and the information in the supporting statement, including compensation, seemed to be about an entirely different company where their former president now serves as CEO. The company also asserted that, contrary to the claims in the proposal, it does not pay performance share units at all and again, it is the other company that pays these types of units. Allergen also protested as false the proposal’s claims that the company still has a poison pill, which had instead been allowed to expire in 2010, and that the company was transitioning to annual elections when the company had completed declassification by the 2012 meeting. The Staff denied exclusion on the basis that Allergen did not demonstrate objectively that these portions are materially false or misleading.

New York State Comptroller Thomas P. DiNapoli on Friday issued a press release announcing that the New York State Common Retirement Fund has withdrawn the lawsuit it filed in early January against Qualcomm over political spending disclosure, after Qualcomm implemented and publicly posted what the release calls an “industry-leading” Political Contributions and Expenditure Policy. The lawsuit, which we previously discussed here, sought Qualcomm's books and records under Section 220 of the Delaware corporation law.

The press release includes statements from both Qualcomm's CEO and Chairman and Mr. DiNapoli extolling the importance of increased transparency about corporate political spending.  According to the release, the company’s policy will include information on contributions to political candidates and parties, and expenditures to trade associations and Section 501(c)(4) organizations, as well as contributions to influence ballot measures. 501(c)(4) groups, whose primary purpose must be focused on “social welfare” in order to stay tax-exempt, have come under increasing attention for their involvement in the political process while being able to maintain donor anonymity. 

The Center for Political Accountability weighed in and in the same release announced that the Qualcomm disclosure "puts it near the top" of its CPA-Zicklin Index, which we described here.  According to the CPA, 107 large public companies have agreed to disclose corporate political spending so far.  

The 4-page Qualcomm policy indicates that political expenditures require the approval of certain members of management and oversight by the board’s governance committee. The company plans to update the policy twice a year for information on specific political contributions, dues to U.S.-based trade associations that received payments of at least $25,000 (and the portion of those dues and special assessments that were used for activities that are not deductible if such information is available after making reasonable efforts), payments of $10,000 or more to social welfare organizations, and contributions to influence the outcome of ballot measures. The policy states that the company does not plan to make independent expenditures on behalf of federal candidates.

While some had expected a decrease post-election, ISS reported that, like last year, it is tracking more than 110 shareholder proposals on the topic this season. 

In what may be a first, Western Union is seeking to exclude a proxy access shareholder proposal from Norges Bank by arguing in a no-action letter request that the company is submitting its own conflicting management proposal.  The Norges Bank shareholder proposal urges the board to adopt a bylaw amendment so that a shareholder, or a group of shareholders, owning 1% or more of company stock continuously for a year would be able to include their board candidates in the company’s proxy statement. 

The company argues that, pursuant to Rule 14a-8(i)(9), the shareholder proposal should be excluded because it would directly conflict with the company proposal that it intends to include in its 2013 proxy materials, which would ask shareholders to vote on a bylaw amendment permitting shareholders who own 3% or more of company stock continuously for 3 years to nominate directors for inclusion on the company’s proxy.  The company’s letter cites numerous precedents of other no-action letters that succeeded under Rule 14a-8(i)(9) related to shareholder proposals asking for shareholders’ ability to call special meetings, changes to simple majority vote provisions and the right for shareholders to act by written consent. 

A proliferation of letters making Rule 14a-8(i)(9) arguments, which form the most common (and usually the only) basis for excluding those types of governance shareholder proposals, have dominated the SEC shareholder proposal no-action letter process in the last few years.  Western Union concludes that the same reason that the SEC staff granted exclusion in those cases, namely because the company proposal seeks to provide shareholders with the same right sought in the shareholder proposal, but at a different ownership threshold, should also apply to its no-action letter, since its proxy access ownership threshold is different (and therefore “conflicting”) from the threshold sought in the Norges Bank shareholder proposal. 

Interestingly, it appears that Norges Bank has changed the form of proxy access shareholder proposal that it submitted to numerous companies in 2012 by no longer making the bylaw immediately binding upon approval, but instead making the proposal precatory, or advisory, as is the general norm for shareholder proposals. 

Perhaps the surprise of the proxy season so far is the relative quiet with respect to proxy access shareholder proposals, as there have been few reports of companies receiving them. This may follow the general trend that there appears to be less shareholder proposals this year overall, or it may be an indication that the traditional institutional proponents are following through on their original plan of targeting these proposals only at a few select companies.

While companies have not publicly declared receiving them and the traditional data sources are not showing much, recently a no-action letter by iRobot Corporation arguing that a proxy access proposal should be excluded on the basis of vagueness and ordinary business indicates a new retail version has been submitted to companies. The proposal seeks nominations by (a) any group of shareholders who have held at least 1% but less than 5% of shares continuously for at least 2 years or (b) any group of shareholders of whom 50 or more have each held continuously for 1 year shares worth at least $2,000, and collectively represent at least one-half of 1% but less than 5% of shares. Each group may nominate up to 24% of the board.

The proposal represents a change in ownership thresholds from prior retail versions of proxy access rights, which we previously discussed here.  Those proposals had received low support as a result of negative recommendations from ISS and Glass Lewis, which criticized the proposals for setting the ownership levels so low that shareholders with as little as $100,000 at stake (50 shareholders with the Rule 14a-8 amount of $2,000 each) could make access nominations. If the iRobot proposal survives the SEC no-action request (one argument being made is that the ownership thresholds as written are vague and indefinite), it will be interesting to see if the proxy advisory firms find these standards to be more appropriate.  

According to a post on the Harvard Law School Forum on Corporate Governance and Financial Regulation, the SEC has updated its entry in the Office of Management and Budget’s Unified Agenda to indicate that it plans to issue proposed rulemaking requiring public companies to disclose their political spending this April. The post goes on to discuss the SEC rulemaking petition that was submitted by the Committee on Disclosure of Corporate Political Spending, co-chaired by Lucian Bebchuk and Robert Jackson. They report that the petition has received more than 300,000 comment letters in support. 

The rulemaking petition supports the concept providing public information but does not give more than a general framework for the specific disclosure than might be proposed, including the possibility of a de minimis exemption. However, one comment letter signed by some of the same institutional investors who are proponents of shareholder proposals seeking political contributions reports not surprisingly advocates for the type of content and form of disclosure that are similar to the requests in their shareholder proposals. This includes information on policies and procedures for political contributions and expenditures as well as more broadly, contributions and expenditures that are “used to participate or intervene in any political campaign on behalf of (or in opposition to) any candidate for public office, and used in any attempt to influence the general public, or segments thereof, with respect to elections or referenda.”

As for the OMB Unified Agenda, the SEC list contains fairly extensive and ambitious timetables, and include the possibility of rulemaking on the Dodd-Frank executive compensation topics (pay-for-performance, pay ratio, clawback and employee and director hedging) in February 2013 and other timing that has already been missed, including the crowdfunding rules, scheduled for December 2012.

As media outlets are reporting, New York State Comptroller Thomas DiNapoli announced that the NY State Common Retirement Fund has filed suit in Delaware court against Qualcomm for the right to inspect its books and records to determine how shareholder funds are being spent for political purposes.  According to the press release, in 2011 and 2012, the Fund filed 27 shareholder proposals asking for disclosure of political spending, reaching agreement with 10 companies. In addition, they support the rulemaking petition submitted to the SEC regarding disclosure of political expenditures.

The complaint states that shareholders have an interest in “knowing how corporate funds are spent, especially in the political arena, in order to monitor the actions of corporate fiduciaries, to exercise responsible decisions when voting annually for the election of corporate directors, and to hold corporate fiduciaries accountable for their stewardship of the corporation.” It further claims that without disclosure, shareholders cannot “assess the level of risk to their investments in a given company.”

Mr. DiNapoli is quoted in a New York Times article as saying, “We’ve done the petitions and the letter-writing. We’ve done shareholder resolutions. Rather than continue to be rebuffed, we’re taking this new approach.”

The press release and the complaint also cite to Qualcomm’s ranking under the Corporate Political Accountability Index, which we previously discussed here. 

In the midst of shareholder proposals season as submission deadlines have largely passed and companies are analyzing the proposals received, Georgeson’s 2012 Annual Corporate Governance Review offers an interesting retrospective on 2012 events that continues to be informative for this coming season. Analyzing shareholder proposals for the S&P 1500 in the first six months of 2012, the report found that while 454 proposals were submitted, only 269 were ultimately voted on as the remainder were either withdrawn or omitted after negotiations or through the SEC no-action letter process. These figures are fairly steady from 2011 and represents a sharp drop from 2008, when perhaps due to the recent onset of the economic crisis, 652 proposals were submitted (with 339 voted on).  

While it is no longer surprising to those with experience in shareholder proposals, the report indicates that the majority of proposals (109) in 2012 were from individual shareholders (45 from the ever prolific John Chevedden alone), 70 originated from labor unions and 57 through public pension funds. The report lays out the details of who submitted what types of proposals, for those companies interested to learn more about particular proponents. 

Most useful for companies may be the voting results of proposals, which are organized in summary form but also in detail by company, topic and sponsor. Since many of the proposals received in 2013 are similar to past topics, this can provide a quick reference guide for voting results on a particular proposal, and also a roadmap for finding examples of opposing statements. 

In addition to shareholder proposals, the report gives the results of say-on-pay votes for each S&P 500 company, a review of contested solicitations (defined as campaigns where dissidents distributed separate proxy cards) and other actions by activists, which were waged without distributing proxy materials and focused primarily on seeking greater support for shareholder proposals or “vote no” campaigns aimed at directors. 

In addition to all of the data points, the report highlights the continued trend toward, and rising importance of, active company discussions with shareholders about ballot items. This evolution in engagement is perhaps the overall theme of the report. As Rhonda Brauer, Senior Managing Director-Corporate Governance at Georgeson, remarked to us, “We saw 2012 as the Year of Engagement, with a marked increase in company-shareholder engagement that went beyond the traditional proxy season to a year-round phenomenon. Topics ranged from executive compensation and board structure and composition, to negotiations with shareholder proponents over potential or the withdrawal of shareholder proposals, to simply open-ended discussions to facilitate better understanding on all sides. We see this phenomenon continuing into 2013 and beyond.”

On December 13, the SEC declined to permit Disney to exclude a proxy access shareholder proposal submitted by Legal and General Assurance (Pensions Management), in conjunction with its client, Hermes Equity Ownership.

The proposal requested that Disney’s board adopt a bylaw that would allow a holder of 3% of its stock for at least three years to nominate up to 20% of the directors. The ownership requirements of the proposal closely resembled those of the SEC’s vacated proxy access rule and was substantially similar to two other proposals that were approved by a majority of shareholders at Chesapeake Energy and Nabors Corp. at their 2012 annual meetings.  

Disney sought to exclude the proposal as vague and indefinite under Rule 14a-8(i)(3), arguing that the proposal’s requirement that the nominating party provide Disney with information required by SEC “rules” about the nominating party and the board nominee was vague and misleading because it did not describe the substantive provisions of such rules. Disney also argued that the proposal was subject to multiple interpretations and its references to both SEC rules and to “any federal regulations” was vague and misleading.

In response, counsel to the shareholder proponent argued that the proposal “is a garden-variety ‘proxy access’ proposal” whose “central aspect” is the request of proxy access for owners of 3% of the stock for three years for up to 20% of the board. As such, the proponent argued that the language cited by Disney as vague and misleading was a secondary element of the proposal. The shareholder also disputed the claim that the wording was vague and subject to multiple interpretations. Disney then submitted a second letter to the SEC refuting the claims in the proponent’s response.

The SEC did not agree with Disney’s views, including its argument that the proposal’s reference to the SEC’s “rules” made it vague and indefinite and therefore subject to exclusion subject to Rule 14a-8(i)(3). In contrast, in the 2012 proxy season, the SEC had found that proxy access proposals which referenced “SEC Rule 14a-8(b) eligibility requirements,” without specifically describing such requirements, were subject to exclusion as vague and indefinite. In those letters, the SEC reasoned that the specific eligibility requirements were a central provision of the proxy access proposal in question.

A copy of the correspondence can be found here.

The United Brotherhood of Carpenters has sent a number of companies shareholder proposals seeking (a) triennial say-on-pay votes and (b) a vote not only on the overall executive compensation but also on different components, such as annual pay, long-term incentives and post-employment compensation.

The SEC has posted the first of the likely many no-action letters to exclude the proposal. In the letter, BorgWarner refers to the SEC final release in adopting Rule 14a-21, which implemented both the say-on-pay vote and the vote required once every six years on how frequently the say-on-pay vote should occur (the frequency vote).

At that time, the SEC adopted an amendment to Rule 14a-8(i)(10) to allow companies to exclude a shareholder proposal that seeks advisory votes to approve the compensation of executives as disclosed under Item 402 of Regulation S-K, or that relates to the frequency vote, so long as the company adopted a policy to implement the frequency that is consistent with the choice of the majority of votes cast. In this case, BorgWarner decided to adopt annual say-on-pay votes consistent with the selection made by more than 70% of shareholders.  

The company also argues that the annual say-on-pay vote that it is currently providing is substantially duplicative of the approach in the shareholder proposal that seeks a view on multiple parts of the executive compensation, and that a number of questions raised by the language of the proposal renders it vague and indefinite under Rule 14a-8(i)(3).

Political contributions shareholder proposals continue to be a perennial favorite among activists even post-election, as we are seeing a proliferation of those proposals already. There appears to be more variety in the resolutions compared to years past, so that instead of just asking for a broad set of disclosures on all activities, some proposals are narrowly focused on lobbying, board-level policy-making or payments to tax-exempt organizations.

The focus on corporate involvement with the political efforts by tax-exempt organizations seemed to have also moved beyond just trade associations, as proponents are raising concerns over the activities of other “social welfare” entities under IRS 501(c)(4). This group could include the so-called “superPACs” that were widely covered by the media during the election frenzy.

ISS has come under some scrutiny for sometimes favoring corporations that already provided some level of political contributions and lobbying disclosure when evaluating voting recommendations on shareholder proposals in 2012. The ISS policy on this matter provides them with a fair amount of discretion, so we may see some shifts there as well in 2013.

In response to what they view as “partial disclosure” by companies in many respects, the Center for Political Accountability has published a one-page summary of what they consider to be key components of sufficient disclosure, including policies, levels of disclosure and board oversight. The CPA is often involved in some ways with these proposals, and is best known for its index ranking companies’ disclosure, which we previously discussed in detail. Companies receiving these proposals and interested in assessing what proponents expect can look to this information as starting points for possible discussions.

We previously reported on an interesting action by National Fuel Gas Company (NYSE:NFG) regarding a shareholder proposal submitted by the Harvard Shareholder Rights Project, on behalf of a public pension benefit trust, seeking declassification of the company's board of directors. The company had sought a declaratory judgment in U.S. District Court for the Western District of New York, arguing that the proponent was unable to credibly or accurately represent that the proponent intends to hold the securities through the annual meeting, as required by Rule 14a-8, because the proponent had delegated to a money manager the investment discretion over the proponent's National Fuel stock. The company further alleged that the proponent had also delegated voting authority to the same money manager, whose Form 13F reported that the money manager had sole voting authority over the proponent's National Fuel stock, so that the proponent was not entitled to vote at the meeting as required by Rule 14a-8. 

We understand from the company itself that the proponent has since withdrawn the shareholder proposal, and the company then voluntarily dismissed the lawsuit. According to the company, this represents an appropriate outcome given the procedural issues surrounding this proposal.

National Fuel Gas Company has sent a letter to the SEC regarding a common shareholder proposal that authorizes the Harvard Shareholder Rights Project (HSRP) to ask the company’s board to declassify. The proposal was submitted on behalf of the Massachusetts Pension Reserves Investment Trust Fund (PRIT) by its trustee, the Pension Reserves Investment Management Board (PRIM). The letter states that the company is not seeking no-action relief from the SEC staff as it has instead elected to seek an injunction in U.S. District Court for the Western District of New York on procedural grounds under Rule 14a-8.

The company argues that the proponent has failed to meet its burden of proving continuous share ownership for a year from the date of submission and providing an express statement of an intent to hold the securities through the annual meeting because the proponent indicates that it uses outside investment managers and does not exercise investment discretion over the securities. Since the proponent does not make the investment decision, the company claims that it cannot credibly confirm its intent that it will continue to hold the securities as required.

In addition, the company argues that because the proponent has failed to provide any evidence as to whether it has voting authority over the securities, it has failed to satisfy the procedural requirement under Rule 14a-8 that a shareholder proponent must be entitled to vote at the meeting. Under its own research based on the state’s public records law, the company alleges that it was able to identify the proponent’s investment manager, which in its Form 13F filing reports sole voting authority as to these securities.  

Given that the SEC staff has not been asked for its views, it is unlikely to respond in any way. We will have to wait and see how the court decides on the matter.

The coming election coincides with increased efforts by the Center for Political Accountability (CPA), through letters and shareholder proposal campaigns, to cause companies to provide reports on corporate political spending. Companies targeted by CPA that are considering either providing initial reports or seeking ways to bolster their existing reports, should be aware of the 2012 CPA-Zicklin Index. The Index ranks and scores the top 200 companies in the S&P 500. The top-scoring companies include Merck and Microsoft.  

How do you become a high-scoring company under the Index? Company reports are graded based on 25 different criteria. While the key remains giving detailed information about direct corporate contributions and other payments, much of the focus is also on senior-level involvement and authority:

Disclosure of Contributions.  Companies receive points for disclosing the (a) names and amounts of corporate contributions to candidates, parties and 527 organizations; (b) independent political expenditures; (c) payments to, and payments by, trade associations or tax-exempt organizations that may be used for political purposes; and (d) payments to influence ballot measures.

General Corporate Policy.  Having a publicly available policy about corporate political contributions and expenditures alone will net a company 6 points, but that is basically a bare minimum given the maximum score is 72. Companies can increase their scores for having policies that:  (a) state that the contributions are made without regard for executives’ private preferences; (b) describe the types of organizations and/or candidates considered to be proper recipients; (c) explain the specific criteria for making or approving these payments; and (d) provide archives of prior reports that include information on trade associations and tax-exempt groups. The report is expected to be posted on the company's website with an affirmation of annual adherence to its code. Better yet is a dedicated webpage with a statement of periodic review by outside experts.

Executive Authority.  The Index examines the involvement of executives, including scoring based on disclosure of (a) managers, by title or names, with final authority over political spending decisions and (b) requiring senior managers to oversee and have final authority over political spending.  

Board Authority.  Regular board oversight is clearly considered central to these reports. Additional scores are also given for having a specified board committee that is committed to reviewing the company's policy, contributions, payments to trade associations and tax-exempt organizations and approving all political spending, as well as a committee of outside directors, along with the board, with oversight responsibilities. 

It is unclear what score cut-off is deemed sufficient by the CPA. 120 companies scored below the halfway mark, with 59 companies given a score of 10 points or lower as many companies still do not provide a report at all or only make a general policy statement. But companies are increasingly responding with more disclosure, as the Index reports improved scores by 85% of companies from their last survey in 2011. As this area evolves and companies expand their publicly available information, there is some concern that the expectations continue to ratchet up and the goalposts are a moving target.

A Summary of Governance Resources

Our memos on two governance events last week – the release of Staff Legal Bulletin 14G giving additional guidance on citing procedural deficiencies for shareholder proposals and a summary of the ISS draft policy survey – can be found here. It seems that proxy season is clearly getting underway, so this may be the last chance to find time to catch up on a trove of recent studies and research:

Board practices.  The Spencer Stuart 2012 US Board Index has a wealth of useful data for benchmarking against the practices of S&P 500 boards, reporting for example that the CEO is the only inside director at nearly 60% of those companies. With respect to board leadership, 43% have separated the chairman and CEO roles, though only 23% have independent chairmen. Given the increased demands on board service, more than half of sitting CEOs do not serve on any outside boards, resulting in the leaders of major business divisions and functions making up 22% of new directors. Nominees are needed to replace, among others, directors who reach the mandatory retirement ages that have been adopted at 73% of companies (85% using 72 or older as the age cut-off). Director composition is a key focus since 83% of the large-caps conduct annual elections.  

Directors’ concerns.  Even at companies with combined CEO/chair positions, half of their boards are discussing splitting the roles at the next CEO succession, according to PwC’s annual board survey of over 800 directors. Compensation committees have increased their workloads, with 64% of directors responding that their practices have changed due to the say-on-pay votes and 86% indicating that compensation consultants are “very influential.” With increased concerns about executive pay, it is not surprising that 62% of directors reported that they have directly communicated with institutional investors (although 33% believe directors should not have such dialogues at all) and 53% have spoken to proxy advisory firms.  

Director Elections.   While more companies failed say-on-pay this year, support for directors remain fairly strong. Only 175 directors at Russell 3000 companies received a majority of negative support (either withholds or against votes) in the last 3 years, according to research conducted by the Investor Responsibility Research Center (IRRC) Institute and GMI Ratings. Their findings concluded that 80% of majority withholds occurred at smaller companies, which were more likely to have straight plurality voting for electing directors (the overwhelming type of standard at 91% of the companies reviewed). The combination of small companies that likely receive less public scrutiny coupled with plurality voting standards may largely explain why only 5% of all directors who received less than majority support left their boards as a result. Interestingly, while there are good arguments that the middle ground between majority and plurality voting standards, the “plurality plus resignation” approach, is substantially the same as majority voting, it turns out that half of the directors at companies that have adopted majority voting stepped down after receiving majority against votes, and only 8% of those directors at companies with only “plurality-plus” did the same. 

Shareholder proposals.  Finally, as we approach the shareholder proposal season, the 2012 Proxy Monitor report examined the shareholder proposal activities at Fortune 200 companies from 2012 meetings and found that a small group of shareholders continue to sponsor the majority of shareholder proposals (36% from labor and pension funds; 31% from three individual investors and their relatives and affiliates; and 22% from activists with socially responsible agendas), with a plurality of the proposals focused on corporate political contributions and lobbying. We will likely see a similar trend for 2013 meetings. 

Less attention is paid to shareholder proposals during the summer months, which is when Norges Bank Investment Management (NBIM) submitted a series of proposals seeking independent chairmen at a number of companies. While not an uncommon topic for shareholder proposals as we previously discussed, this version called for an immediate bylaw change mandating that the chairman be independent upon the requisite shareholder approval. 

Almost all shareholder proposals are precatory, written as advisory requests urging boards of directors to take action, but NBIM, the asset management unit of the Norwegian central bank which manages the Norwegian Government Pension Fund Global, seems to be fond of the binding form. It is probably most well known as the proponent of recent binding bylaw proxy access proposals.

While the binding bylaw independent chair proposals were not new for NBIM, no-action letters were written this summer and the SEC staff ultimately determined that the proposals can be excluded from proxy statements, given the vagueness of the reference to the NYSE standard required to be followed for determining chairman independence. NBIM used largely the same text in its resolutions as the proposal that the SEC decided Wellpoint could keep out of its proxy statement back in February, although a very similar proposal also referencing the NYSE director independence standard received the opposite treatment by the SEC in its rulings for GE and others.  

Like the Wellpoint proposal as submitted by SEIU Master Trust, NBIM’s proposal stated that the board's chairman be an independent director according to the definition set forth in the NYSE listing standards, unless the company’s stock ceases to be listed on the NYSE and is listed on another exchange, at which time that exchange's standard of independence should apply. Compare that to GE’s proposal which requested that the chairman be an independent director by NYSE standards who had not previously served as an executive officer of the company.

Given that there is a similar form of proposal that the SEC has found must be included in proxy statements, watch for the defects in these versions to be fixed in future submissions. As history has shown, binding bylaw proposals calling for independent chair can be potent. In 2009, such a proposal passed at Bank of America, leading to Ken Lewis’ resignation as chairman. 

In July we discussed the prospect of two proxy access shareholder proposals coming up for vote this summer, first at Forest Labs and then Medtronic. Both were generated by the form developed from the U.S. Proxy Exchange. This “retail” version submitted by John Chevedden and Ken Steiner sought to permit access nominations by (a) one or more shareholders who own at least 1% of outstanding shares for two years and/or (b) 50 or more shareholders who have owned at least $2,000 worth of stock continuously for one year during the preceding 60 days, for up to 12% of the board.

While the average level of support prior to these companies’ meetings was 36% for access proposals, excluding Nabors Industries and Chesapeake Oil where the proposals passed, it appears that their investors were not favorably inclined toward these two proposals. At Forest Labs, the proposal was supported by 25% of shares voting, in the midst of a proxy contest with Carl Icahn. Mr. Icahn recommended that shareholders mark abstain on the access ballot item. More recently, Medtronic reported that the proposal received only slightly over 7% of “for” votes, a record low.

What might have been a significant influence on the vote outcomes was ISS’ negative recommendations for both proposals, because of concerns that the second threshold would allow holders owning as little as $100,000 to nominate candidates for the board, a threshold that the proxy advisory firm declared was too low. In addition, there was no limit on the total number of seats that could be filled through proxy access, which raised the possibility of a change in board control. 

U.S. Proxy Exchange members had attempted to explain their position to the advisers, as they described, and indicated that Glass Lewis also declined to support the proposal. A similar version, but with a cap on the total number of nominees at 48%, is coming up at H&R Block. In addition, ISS’ survey policy for their 2013 guidelines sought input on appropriate access thresholds and safeguards, so there will be more to watch for as we monitor these developments.

A recent press release from the Shareholder Rights Project (SRP), issued jointly with the Massachusetts Pension Reserves Investment Management Board, indicates that they have been working together on shareholder proposals to 20 companies asking them to move to annual board elections. Negotiated outcomes have already been reached with 4 of those companies.  

SRP is a clinical program at Harvard Law School that represents and advises investors on submission of declassification proposals, including proposals to over 80 S&P 500 companies in the 2012 season. As we previously noted, those proposals often pass by wide margins.

We understand from Scott Hirst, associate director of SRP, that the 20 proposals mentioned in the press release include submissions to companies with both 2012 and 2013 annual meetings, as some deadlines fall in August or early September.  While almost all shareholder proposals arrive shortly before the specified deadlines in company proxy statements, it is useful to remember that proponents can send proposals at any time prior to the deadline (Rule 14a-8 does not provide for a “window period”). Under the SEC rule allowing for exclusion of duplicative proposals, there are advantages to being the first at the door if proposals on the same subject matter are submitted by more than one proponent.

The 14-day clock for companies to cite procedural deficiencies start when the company receives the proposal, regardless of the deadline. Last year, SLB 14F begin to allow for exclusion if a shareholder’s proof of ownership is not from a DTC participant, but as we discussed this past March when the SEC Staff handed down its determination in the Allergen no-action letter, the Staff expects companies to provide clear guidance to the shareholder in a deficiency notice about the DTC participant requirements. Even a specific reference to SLB 14F in the company’s letter is apparently not sufficient. In such a case, we recommend providing a short description of the SLB 14F requirement along with a copy of SLB 14F as well. 

We are pleased to announce the publication of Getting The Deal Through – Corporate Governance 2012. Davis Polk lawyers Arthur Golden, Thomas Reid and Sapna Dutta authored the “Global Overview” chapter. 

We note this year that, as the wave of post-financial crisis corporate governance reform continues across the globe, the impact of the significant burdens on the regulators that are responsible for implementing these reforms is becoming increasingly visible. That said, we are also seeing a subtle divergence in the nature of these regulatory efforts in different parts of the world.  In the United States, regulatory efforts have focused primarily on implementation of the Dodd-Frank Act, which continues to require significant time and has resulted in delays in the rulemaking schedule. In contrast, Europe has seen more in the way of new initiatives, including the publication of the European Commission’s Green Paper on a future EU-wide corporate governance framework and the U.K. government’s significant proposals intended to curb executive compensation.

As the year goes on, we expect that U.S. and European companies will continue to experience intense pressure from regulators and shareholder advocacy groups in respect of their corporate governance practices on a number of fronts. It is inevitable that the reaction to the financial crisis of 2008 and the ongoing Eurozone crisis should provoke such severe and prolonged reaction.  What remains to be seen, if, as and when global economic conditions stabilize, is whether or not these ongoing governance reforms ultimately do anything to improve the competitiveness or actual governance of individual companies or the North American or Western European economies, or whether they are simply a series of responses – ranging in nature from remedy to retribution – that may be understandable, but perhaps not efficient in the long term. 

Read the “Global Overview” chapter >

This is the fourth in a series of posts to discuss shareholder proposals during the 2012 proxy season.

While the number of shareholder proposals on independent board chairs increased significantly this year, shareholder support for these proposals did not show a corresponding surge. As of June 30th, there was a total of 48 proposals voted on at Russell 3000 companies, as compared to 21 at the same time last year.

This increase in number of proposals is due in part to a concerted effort this year by activist investors, including AFSCME, to target companies with combined chair and CEO positions. Not all shareholders, however, followed the lead of these activist investors. Of the 48 shareholder proposals, only 3 proposals passed. The average level of shareholder support for all independent chair proposals was 36% of votes cast, which is lower than the support received this year by other governance proposals such as declassification and majority voting.

It seems that the appointment of a lead director is not enough to prevent a company from receiving a shareholder proposal for an independent chair, as a majority of the companies receiving shareholder proposals this year had a lead director in place. All but four of the remaining companies had a presiding director. In addition, there were independent lead directors at all three companies at which the proposals passed. 

According to a Spencer Stuart 2011 Board Index, only 21% of S&P 500 companies have an independent board chair.

This is the third in a series of posts to discuss shareholder proposals during the 2012 proxy season.

The number of shareholder proposals relating to shareholder ability to call special meetings continued to decline: to 17 this year, down from 30 last year and 45 in 2010. 

This decline is due, in part, to the number of management proposals on the same topic. Management proposals relating to special meetings typically require a higher percentage (20%-25%) of share ownership to call a special meeting than do those proposed by shareholders, which generally require 10% ownership. Companies often submit management proposals to provide a basis for excluding a shareholder proposal with a lower ownership requirement under Rule 14a-8(i)(9). There have been 18 management proposals to date this year.

Close to one-third of the shareholder proposals on special meetings passed; the average level of shareholder support of votes cast was 44%. The common factor at all the companies where the shareholder proposal passed was that the shareholders of the companies in question did not have any right to call a special meeting. (At some, although not all, of the companies where the shareholder proposals failed, the shareholders of the company already had a right to call special meetings, although at a higher percentage than that sought in the shareholder proposal.) 

The SEC also permitted a number of these shareholder proposals to be excluded based on Rule 14a-8(i)(3), which allows exclusion of shareholder proposals that are “vague and indefinite.” Those proposals called for an ownership threshold of 10% “or the lowest percentage of outstanding common stock permitted by state law,” which language was found to be vague and indefinite. Interestingly, this was the same language in the proposals at most companies that chose the alternate route of seeking no-action relief  based on introducing a management proposal.

The quieter summer months muted what may turn out to be an important turning point in the proxy access landscape: the SEC staff denial of no-action requests for proxy access proposals submitted by John Chevedden and Ken Steiner. Two of the most prolific proponents of shareholder proposals appeared to have entered the proxy access and private ordering debate. According to SharkRepellent, the two proponents, along with Evelyn Davis, together sponsored more proposals in 2012 than any other proponent, including well-known organized institutions.  

Messrs. Chevedden and Steiner are arguably responsible for the large number of companies that have provided shareholders with some right to call special meetings, though usually at higher levels than those demanded in the proposals. One thing that proxy access proposals have in common with the special meeting proposals submitted by Messrs. Chevedden and Steiner is the focus on the appropriate stock ownership threshold before action can be triggered. In the context of special meeting proposals, many companies have been adopting their own formulation in order to exclude the shareholder proposals.   

The form of proxy access proposal submitted to Medtronics and Forest Laboratories are from the U.S. Proxy Exchange (“Version A”) and updates the prior version that the SEC staff had ruled can be excluded from proxy statements. If adopted, the proposals would allow for (a) one or more shareholders who own at least 1% of outstanding shares for two years and/or (b) 50 or more shareholders who have owned at least $2,000 worth of stock continuously for one year during the preceding 60 days, to submit director nominations for up to 12% of the board. 

The original proposal from the U.S. Proxy Exchange, with these same ownership thresholds, were voted on at only two companies, Ferro Corporation (13% in favor) and Princeton National Bancorp (32% in favor). The average support of 36% for the total of 9 that came to vote, excluding Nabors Industries and Chesapeake Oil where the proposals passed, is fairly high for a new proposal, especially since several were binding resolutions that tend to draw lower votes. Both Medtronics and Forest Laboratories are holding meetings in August.

While we had already expected to see more proxy access proposals in 2013 than the 22 that were sponsored this year, the involvement of two highly experienced, and tireless, proponents who tend to submit proposals in large numbers across a wide range of companies, with a version that has withstood the SEC staff’s examination, makes that prediction a certainty. The resolutions cite a number of reasons the proponents appeared to have targeted these two companies, primarily aimed at director matters (support for director elections, overboarding, long tenure, director ages and lack of experience), but both refer to the fact that a number of directors own no company stock. In addition, Jim McRitchie at Corp.Gov.Net declared that companies with failed say-on-pay votes could be targets for proxy access proposals. 

This is the second in a series of posts to discuss shareholder proposals during the 2012 proxy season.

Not surprisingly, shareholder proposals on majority voting for uncontested director elections continued to garner support this year, averaging 62.5% of votes cast at 33 companies as of early July, up slightly from 59.2% in 2011.

Of this total, 18 of the proposals voted on were at S&P 500 companies. Half of those  passed with average support of 57.5% of shares cast. Two companies – PACCAR and CF Industries – had notably high shareholder support: 97.1% and 91.7%, respectively. Management had supported the proposal at PACCAR but opposed it at CF Industries. 

At its annual shareholder meeting this year, Apple announced its intention to adopt a majority voting standard, as proposed in a shareholder proposal in its proxy statement. This followed a year of Apple’s refusal to adopt a majority vote standard, despite 73% of its shareholders having supported such a proposal in a non-binding vote in 2011. CalPERS had submitted the majority vote proposals at Apple in both 2011 and 2012.

In looking at these results, it seems that while majority voting is often referred to in the same breath as other governance stalwarts such as board declassification (which we recently discussed), shareholder support for such proposals is not nearly as high. Indeed, this season management proposals for majority voting passed at 9 companies, but failed at two companies. Nevertheless, the trend of adoption of majority voting standards, especially at large cap companies, continues apace; according to ISS, 79% of S&P 500 companies had adopted majority voting by 2011, up from 59% in 2009.

The Business Roundtable has updated its Principles of Corporate Governance, last revised in 2010.  It would be easy to dismiss the Principles as 32 pages of platitudes and conventional wisdom, but it’s actually worth a look.  The Business Roundtable is far from a thought leader, but at the same time it is not as reflexively retrograde as some other business organizations that come to mind.  The Principles may not be bold, but it is rooted in a humility—we may not know all of the answers, and different situations may call for different approaches—that is welcome in a field more often characterized by rigidity and bluster.

You can think of the Principles as providing a useful, albeit lagging, indicator of what large U.S. public companies actually do, or at least aspire to do, in corporate governance.  Put it this way: if your company is not following a practice that the Principles recommends, it should be as a result of a conscious decision at the board level.   

The general approach of the Principles is to be prescriptive as to matters that are thought to be noncontroversial (and that in many cases are already required by law or stock exchange rule), to be equivocal as to areas where the authors believe a consensus has not definitively emerged, and to be silent as to truly controversial areas.  Thus:

• Prescriptive: Items in the 2012 update that are in the “every public company should” category include: having an independent chair or lead director; having a “substantial majority” of the board be independent; having a majority vote policy under which directors who fail to receive a majority must offer their resignation; establishing a risk oversight structure (although not usually a dedicated committee); annual succession planning sessions; board oversight of political activities; and board prioritization of dialogue with “long-term” shareholders.
• Equivocal: Plenty of things that companies should “consider,” including separating the CEO and chair, using restricted stock rather than stock options for board compensation, adopting a disclosure policy with respect to political activities, board retirement age policies, and adopting a three audit committee membership limit (no reference to overboarding rules generally).
• Unaddressed: Annual election of directors, proxy access, one share/one vote, shareholder rights to act by consent or call special meetings, and audit firm rotation.

You might consider including the Principles in your next board packet.

This is the first in a series of posts to discuss shareholder proposals during the 2012 proxy season.

The march towards board declassification showed no signs of slowing down in the 2012 proxy season. Of the 45 precatory shareholder declassification proposals that had gone to a vote as of mid-June, 40 of such proposals passed with an average support of 89% of the votes cast. This shows an increase in support of shareholder declassification proposals over the previous proxy season, in which  declassification proposals passed with average support of 77% of votes cast. For the proposals that failed, the average support was 43.7% (excluding a failed proposal at Hospitality Properties Trust, which garnered the support of 90% of votes cast but failed to get the requisite 75% of outstanding shares.) 

The number of shareholder declassification proposals might have been even higher had an additional 44 companies receiving such shareholder proposals not negotiated agreements to offer management proposals to declassify their boards, according to a report by the Harvard Law School Shareholder Rights Project (SRP). All the management proposals regarding declassification received resounding support of votes cast, but some nevertheless failed at companies, such as Alcoa and Charles Schwab, which require votes of more than 80% of the outstanding shares.

According to the ISS, only one-third of all S&P 500 companies have staggered boards, as compared with over half of the mid-cap and small-cap companies. Notwithstanding this gap, the activist focus continues to be on the large-cap companies. Approximately three-quarters of the shareholder declassification proposals this season were filed at large-cap companies, many of them proposed by institutional investors who were advised by the SRP. 

The movement toward exclusive forum provisions, which as we recently discussed had been gathering steam over the past couple of years, is under attack and is for the moment, we believe, in retreat.   Although some 200 companies have adopted exclusive forum provisions since 2010, mostly in the form of board-adopted bylaws, recent litigation in Delaware has caused some companies to dismantle these bylaws and numerous others to defer consideration of the issue.

This recent shift illustrates what happens when a small group with strong preferences encounters a large group with less strong ones.  The large group in this case is the companies.  An exclusive forum provision mandating that shareholder litigation take place in Delaware does not eliminate shareholder litigation, but it channels it in a way that can avoid forum shopping and duplicative litigation and enhance predictability, since the Delaware courts handle these sorts of cases for a living.  It is easy to conclude, as many companies have, that this is in the interests of shareholders, but most companies we’ve talked to view these provisions as “nice to have” rather than as a matter of critical importance.

The small group, of course, is the plaintiffs bar, for whom duplicative litigation and forum shopping are a feature rather than a bug, since they magnify uncertainty (and thus settlement value) and may facilitate finding a congenial place to make a fee application.  Faced with a threat to their franchise, the plaintiffs bar determined to act preemptively, and sued about a dozen companies in the Delaware Court of Chancery for adopting exclusive forum bylaws.  Plaintiffs also challenged charter amendment proposals by three companies.  Suing in Delaware was an interesting tactical decision, since Chancery, with its natural interest in upholding the primacy of the Delaware courts, might have been thought to be the court most likely to uphold these provisions.

Faced with this unexpected development, the defendants faced the dilemma of whether to invest time and money defending litigation over a provision that had been promoted as a device to reduce litigation.  Not surprisingly, the great bulk of the companies chose to reverse course, repealing the exclusive forum bylaws provisions and mooting the pending litigation. Two of the three companies whose charter amendment proposals were challenged also withdrew the proposals in response.

Leaving the field of battle may not be for free, however.  The plaintiffs filed fee applications seeking approximately $400,000 in each bylaw case and $500,000 in each charter proposal case.  Ten of the thirteen mooted cases reached settlement agreements earlier this week for undisclosed amounts.  The other three fee petitions remain pending.

This leaves two companies, Chevron and FedEx, continuing to litigate the validity of their bylaws.  Chevron has also been sued in a copycat action in federal court in California, and has moved to stay or dismiss the California action.

How do shareholders feel about these provisions?  The evidence is inconclusive.  Of the five exclusive forum provisions that were to have been on the ballot in 2012, two were approved, two were withdrawn and one voted down.  In addition, shareholder proposals seeking to remove exclusive forum provisions at two companies (including Chevron) failed to pass.  While labor unions and other shareholder groups traditionally aligned with the plaintiffs bar will invariably oppose exclusive forum provisions, the voice of the majority of institutional shareholders has not yet been heard clearly.

Now that adopting an exclusive forum bylaw has turned out not to be costless, we expect most companies to wait for guidance from the Court of Chancery before taking further action in this area.

We're at that stage during proxy season when observers analyze and come to preliminary views of the results so far, as we did ourselves in this memo. With more annual meetings having taken place, many focus on the voting tallies for shareholder proposals. The Conference Board's May Proxy Season Fact Sheet uses data for Russell 3000 companies as of the end of April and includes a detailed chart of each company's reported say-on-pay vote. The Manhattan Institute's Center for Legal Policy's Proxy Monitor's Mid-Term Report is based on its scorecard tracking every ballot proposal at Fortune 200 companies. Some of the notable details in these reports include:

• While governance proposals make up the bulk of proposals when examining Russell 3000 companies, political spending and executive compensation proposals dominate at the Fortune 200 companies that already have many of the governance practices (annual elections and majority voting) that are often the subject of those proposals.



• 30% of Fortune 200 companies faced political spending proposals, but support has actually decreased on average to less than 20%, in large part due to different levels of voluntary disclosures by many companies. Proposals seeking an advisory vote or direct prohibition on political spending have even received less than 5% support. The averages hide the disparate results at specific companies, with the same proposal garnering 19% at Sprint Nextel and 39% at AT&T, the highest level for a political contributions proposal.



• With mandatory say-on-pay already on proxy cards, executive compensation proposals now focus on limiting practices such as gross-ups, golden parachutes and death benefits, or requiring a certain period of equity award retention. The proposals average 26% support, though proposals calling for pro-rata vesting or prohibiting accelerated vesting upon a change-in-control are reaching upwards of 40%.



• Other than declassification, majority voting and elimination of supermajority provisions, other governance topics do not receive majority of shareholder support. For that reason, exceptions are always noted, as written consent proposals succeeded at Eastman Chemical and a handful of other companies and came very close with over 49% at Pfizer. A special meeting proposal passed at Allergen, and Sempra Energy is the first company to see majority support for an independent chair proposal this season.

On Tuesday, I was fortunate to co-moderate a NYSE-sponsored webcast with Judy McLevey at the NYSE, as we discussed the leading proxy and governance issues for 2012 with a group of recognized experts that included Doug Chia from Johnson & Johnson, Michelle Edkins and Robert Zivnuska from BlackRock, Gordon McCoun from FTI Consulting and Pat McGurn from ISS.  An archive of the webcast is available here. Judy first informed us that while 285 companies have held annual meetings, 430 more are slated for April with another 970 currently scheduled for May.  The panelists then provided interesting perspectives and useful advice on several issues relevant to public companies today, including the following:

Proxy Statements.  Doug discussed J&J's efforts to start from scratch for this year's proxy statement with an eye toward redesigning it for the individual investor, noting that a number of companies have attempted to make their documents attention getting, almost like glossy annual reports.  Due to its large volume of holdings, Bob stated that BlackRock's starting point for proxy review are the summaries generated by proxy advisor firms, before they dive into the proxy statements themselves.  CD&A summaries with the board's perspective, clarified through tabular and graphical disclosure, has been a helpful innovation, but they are not as enthusiastic about proxy summaries that may be trying to get ahead of proxy advisors and fail to include data that BlackRock would find important, such as conflicts of interests.

Say-on-Pay.  Pat reiterated that ISS has changed its methodology to place more emphasis on the three-year and five-year timeframe in its initial quantitative pay-for-performance analysis, as well as review overall pay magnitude.  More companies are providing proxy disclosure that already anticipates investor (and ISS) concerns, as a preemptive strike, which has proved to be helpful in allowing ISS to get information out to their clients faster and possibly avoid the need for so many of the ancillary filings made last year.  As a result of these and other improvements, Pat predicts that there will not be a substantial increase in opposition in 2012.  There has only been one instance so far of ISS making negative recommendations against the compensation committee as a result of unresponsiveness to the prior year's low votes.  Overall, average support levels are at 91% with 9% against, and the number of ISS' negative recommendations are currently running in the low teens.

Shareholder Engagement.  According to Bob, BlackRock has seen a significant increase in shareholder engagement during the post-season period, from July through February, as companies reach out to investors to interpret their vote result in order to build in those perspectives into their compensation committees' processes.  Board members have even met directly with investors when there have been real concerns.  While triggered by compensation, BlackRock has used these engagement opportunities to also speak to companies about other governance or performance questions.  Since BlackRock and likely other investors are not looking at the proxy statements until a week or two before the vote is due, Michelle emphasized that building an existing relationship with investors is the best way to facilitate those last-minute panicked calls to try to obtain support in the face of negative proxy advisory firm recommendations.  Doug recounted J&J's broad outreach efforts in light of the company's 61% support for say-on-pay in 2011, as they devoted more time and resources to gain an understanding of the vote results and explain their story.  On his part, Gordon believes that the 2012 proxy vote will be as much about the engagement process companies have undertaken in response to the 2011 say-on-pay vote as on the compensation paid. 

Shareholder Proposals.  Shareholder engagement is also the reason that there are fewer proposals this year, as companies and proponents agree on compromises after negotiations.  After speaking with hundreds of investors, Pat stated that it continues to be difficult to predict the level of support that proxy access shareholder proposals will receive.  About a dozen proposals are likely to come to vote.  Investors have indicated that rights to access should only be available at a reasonable ownership level, but have not quite agreed upon what level is reasonable.  Interestingly, the length of the holding period seem to be less of a concern to investors.  In giving their views on several different proposals, Bob and Michelle indicated that BlackRock believes a strong lead independent director can provide sufficient independent oversight without the need for an independent chair in all instances, but that a declassified board coupled with majority voting really enhances the accountability of directors.  With respect to the popular political contributions proposals, BlackRock conducts a case-by-case analysis on the nature of the proposal and the kinds of disclosure the company is already making.  Their advice for company opposition statements in proxy statements is to avoid starting with the conclusion that the proposal is not in the best interest of the company and instead focus on how the company has already addressed the concerns raised in the proposal. 

• Just in time before most proxy statements are issued, the SEC staff has issued a CDI on how say-on-pay resolutions should be described on proxy cards and voting instruction forms, with specific examples given of resolutions that would be considered compliant.  The four examples (To approve the company’s executive compensation; Advisory approval of the company’s executive compensation; Advisory resolution to approve executive compensation; and Advisory vote to approve named executive officer compensation) all contain the notion of "approval" in casting the vote.   The Staff indicated it was concerned that some resolutions, such as "To hold an advisory vote on executive compensation," are not sufficiently clear.
• Western Union has announced that it will drop its plans to adopt a proxy access bylaw, in light of its decision to declassify its board and "its ongoing assessment of whether proxy access should be included in the Company’s corporate governance structure."
• CalPERS, other pension funds and investors submitted a letter to the SEC asking that the Commission focus on certain priorities in the next 12 months.  The list includes proxy access, the remaining executive compensation provisions required under the Dodd-Frank Act, International Financial Reporting Standards (IFRS) and corporate disclosure on sustainability issues, such as environmental matters and board diversity. 
• As noted on TheCorporateCounsel.net, Apache and John Chevedden have reached a settlement in the Southern District of Texas, permitting Apache to exclude Chevedden's shareholder proposal, which Apache had disputed with respect to Chevedden's proof of ownership.  Chevedden's appeal in the Fifth Circuit with respect to a similar prior case (KBR v. Apache), is pending. 
• The NY Post reports that a whistleblower has filed a complaint with the SEC alleging that an employee in the Boston office of ISS has been providing proxy solicitors with shareholder voting data in exchange for cash and gifts. 

Instead of being the first company with a proxy access shareholder proposal voted on at its meeting, Hewlett-Packard recently became the third company to agree to implement proxy access.  If approved at the 2013 meeting, HP would allow shareholder groups that own at least 3% for 3 years to nominate candidates for up to 20% of the board.  HP follows in the steps of Western Union and KSW, in making efforts to permit proxy access in response to these shareholder proposals.  HP managed to get its proposal, submitted from Amalgamated Bank, withdrawn, but Western Union and KSW are seeking exclusion through the SEC no-action letter process and are still waiting to hear. 

Since several companies have submitted no-action letters to the SEC staff in an effort to exclude the proposals they received, it is unclear how many will actually be voted on.  Currently, there are five different variations of proposals, and without HP, a total of 16 outstanding, as noted below:

• Seven companies received a version from retail shareholders that was associated with the US Proxy Exchange, which seeks implementation of proxy access for shareholders that own 1% for 2 years (Bank of America, Chiquita, Ferro Corp., Goldman Sachs, MEMC Electronic Materials, Textron and Sprint).  All but Ferro Corp. have sought exclusion on the basis of no-action letter requests.
• Six companies received binding proposals from Norges Bank, which seeks proxy access rights for shareholders that own 1% for 1 year (Charles Schwab, CME Group, Pioneer Natural Resources, Staples, Wells Fargo and Western Union).  Western Union has sought to exclude this proposal by writing the SEC staff on the basis that it is submitting its own proposal.  Charles Swab and Wells Fargo argued that the website reference referred to in the proposal should be removed, and Staples made various other arguments to exclude.
• One company (Nabors) is reported to have received a proposal from several state pension funds based on previously adopted SEC Rule 14a-11 standards of ownership levels of 3% for 3 years, similar to HP's proposal.
• Two companies (KSW and Microwave Filter Corp) received binding proposals from the Furlong Fund.  The KSW proposal seeks proxy access for shareholders owning 2% for 1 year, while the proposal received by Microwave Filter Corp was in connection with a proxy contest, and asks that shareholders owning 15% for at least one month be able to nominate candidates. 

We'll continue to track developments throughout the proxy season, as it will be interesting to see how these proposals fare in their inaugural year.

Note: Thanks to James McRitchie at corp.gov.net for pointing out that we missed Princeton National Bancorp. Inc (PNBC) on our list of companies that received proxy access shareholder proposals. PNBC received the retail version.

Contact Ning Chiu.

Western Union recently submitted a no-action letter to the SEC Staff seeking to exclude a binding proxy access shareholder proposal from Norges Bank, arguing under Rule 14a-8(i)(9) that the company is submitting a conflicting management proposal to amend their bylaws allowing for proxy access.  The Norges Bank proposal sought to provide proxy access to shareholders who own at least 1% of shares for a year, while Western Union's provision would permit shareholders to make nominations if they own 5% for at least 3 years. 

Another company, KSW, has already amended its bylaws to allow for shareholder nominations by shareholders who own 5% or more shares for at least one year, in response to a different binding shareholder proposal it received seeking to give proxy access rights to shareholders who own 2% for one year.  KSW is arguing exclusion of the shareholder proposal on the basis of Rule 14a-8(i)(10), that it has substantially implemented the essential elements of the shareholder proposal.

Both no-action letters can be considered against the backdrop of similar efforts to exclude special meeting shareholder proposals, which usually ask companies to allow shareholders owning 10% or more to call special meetings. Companies that have adopted, or plan to adopt, similar provisions but at higher thresholds of ownership (usually 25%) have argued substantial implementation (unsuccessfully) and conflicting proposals (successfully).  The downside of making the exclusion argument on the basis of a conflicting proposal is that the proponent may submit the same proposal to the company next year. 

While we believe the SEC Staff will likely grant Western Union's no-action letter request, what is more interesting is that two companies have taken the steps of adopting, or will soon adopt, proxy access in response to these untested shareholder proposals, given that there is still a great deal of uncertainty as to the level of support the proposals will receive from institutional investors.  Even at these higher ownership thresholds, supporters of proxy access may still view these actions as quite positive in response to the first year that proxy access shareholder proposals have been submitted, when none have been voted on yet.  There have been fewer than 20 proxy access proposals submitted this year, but these actions may motivate proponents to submit many more for next season.

Several other companies (Textron, Bank of America and Goldman Sachs among them) are arguing to exclude the proposal on numerous other grounds that do not call for implementing the proposal in any form. 

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While the SEC Staff's recent pronouncements in Staff Legal Bulletin 14F was intended to provide clarity and stem the tide of no-action letters citing procedural deficiencies, at least in the short term, it has spawned a new set of arguments.  As noted in our memo, SLB 14F makes clear that only DTC participants are viewed as record holders of securities that are deposited at DTC.

In a letter from Allergan, the company argues that a shareholder proposal from John Chevedden should be excluded because the statement from Ram Trust Services refers to shares being held by Northern Trust, a DTC participant, but does not include a separate proof of ownership from Northern Trust.  AT&T submitted no-action letters seeking to exclude two shareholder proposals on the basis that the proofs of ownership were not from the entities named in the DTC participant list that is available on the DTC website (and linked to in SLB 14F).  For example, one proposal (from John Chevedden) included a broker's letter from TD Ameritrade, Inc. but the DTC participant list names only TD Ameritrade Clearing, Inc. and TD Ameritrade Trust Company while the broker's letter for another proposal (from Calvert) included a broker's letter from State Street Corp. but the DTC participant list contains only State Street Bank and Trust Company and State Street Global Markets.  Rite Aid also argues that proposals (from Steven Krol) with broker's letters received from TD Ameritrade, Inc. resource specialists are procedurally deficient. 

Finally, Apache sent the SEC Staff a letter, not to seek the Staff's views, but merely notifying the Staff of an intent to exclude a shareholder proposal from John Chevedden, which included proofs of ownership from both Ram Trust Services and Northern Trust.  Apache argues that Ram Trust Services is neither a bank or broker, but rather an investment advisor.  Ram Trust Services responded by disputing the company's characterization.  The company argued, however, that Ram Trust Services did not provide any additional documentation, could not be found as a registered broker-dealer or bank under various federal and state agencies, and therefore under two prior Texas federal court cases (KBR v. Chevdden and Apache Corp. v. Chevedden), the company is permitted to exclude the proposal. 

The SEC Staff has not weighed in on any of these bases for exclusion, and, in fact, the letter from Allergan, dated December 1st, is the oldest letter seeking no-action letter relief currently undecided on the SEC's webiste. 

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In what would appear to be the first filing of proxy access proposals by an institutional investor, Norges Bank Investment Management (NBIM), manager of the Norwegian Government Pension Fund, has recently filed proxy access shareholder proposals at six U.S. companies. The Norwegian Government Pension Fund held approximately $98 billion in U.S. equities and $63 billion in U.S. bonds as of the end of November.

According to its press release, NBIM filed shareholder proposals at Wells Fargo, Charles Schwab, Western Union, Staples, Pioneer Natural Resources and CME Group, asking each of the companies to establish procedures for shareholders to nominate candidates to the company’s boards of directors.  The NBIM proposal would require that shareholders own a minimum of 1% of the company’s stock for at least one year in order to nominate directors.  Under the proposal, up to 25 percent of the board may be nominated by shareholders. These proposals provide a lower threshold of stock ownership required for nomination than that of  the SEC’s vacated Rule 14a-11, which required ownership of 3% of a company’s shares for a period of three years in order to nominate a director.

All but one of the companies targeted by NBIM has seen a drop in its stock price over the last year.  In its press release, a spokesperson for NBIM said that it “will continue to identify companies with unsatisfactory performance.” According to an article in the Wall Street Journal today, NBIM selected the six targeted companies after a review more than 2000 of the fund’s U.S. holdings.  A spokesperson also said in the article that NBIM is “not planning [on nominating directors] now; we would much rather have a good dialogue with the board.”

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ISS has asked that we encourage interested parties to register for its free webinar to discuss its new proxy voting guidelines, which we recently summarized in a client publication.  The session focused on U.S. policies will take place on Wednesday, December 7, at 11:00 a.m. EST and will feature Martha Carter, Head of Governance Research; Carol Bowie, Head of U.S. Compensation Research; and Pat McGurn, Special Counsel. 

Having been on panels with Carol and Pat, both frequent speakers about ISS, it is always helpful to hear them discuss ISS' recent experiences and the background and application of ISS guidelines.  They may explain and further elaborate on some of the seeming complexities of the new pay for performance criteria that will be used to evaluate say-on-pay in 2012, and may provide indications of their upcoming guidance to be issued on the topic, likely in mid-December.  They may also give a sense of the latest status of proxy access proposals.  While many are critical of it, no one disputes the reality of ISS' influence on proxy voting, so this is a welcome opportunity for education as a key step toward being prepared. 

A separate discussion of the European policies will take place a day earlier, and you can find registration for that session on the same site as noted above.   

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In what may be the first major decision this proxy season on shareholder proposals, the SEC staff has granted no-action letters to two companies, Hewlett-Packard Company and Deere & Company, that had sought to exclude proposals submitted by the United Brotherhood of Carpenters Pension Funds.  The proposals had requested that the boards and audits committees establish policies that require the respective audit firms, at least every seven years, to rotate off the engagement for a minimum of three years. 

While there is a line of precedents indicating that the SEC staff traditionally viewed the selection and engagement of auditors as part of a company's ordinary business as understood under Rule 14a-8, and not a subject suitable for being voted on by shareholders, recent actions by the PCAOB raised at least the possibility that audit firm rotation could be considered a "significant policy issue" as a subject of widespread public debate.  In August, the PCAOB issued a concept release to solicit comments on ways to enhance auditor independence, objectivity and professional skepticism.  A cornerstone of the release is the idea of mandatory rotation of audit firms, which would limit the number of consecutive years for which a firm could serve as auditor.  The Release highlighted concerns, from more than 2,800 engagements in eight years of inspections of the largest audit firms, of audit failures that could be attributable to a failure to exercise objectivity, and speculates that mandatory audit rotation could help overcome the basic conflict of auditors attempting to develop engagements into long-term relationships with management.   Comments are due on the PCAOB release on December 14, 2011.  The European Commission is considering similar issues and may shortly propose legislation.

Carpenters specifically cited the PCAOB release in making its arguments to the SEC staff, but failed to persuade the staff.  In its decision, the SEC staff noted, in a bit of awkward phrasing, that "proposals concerning the selection of independent auditors, or more generally, management of the auditor's engagement, are generally excludable under rule 14a-8(i)(7)".  The two uses of "generally" in this brief statement suggests that the staff is likely watching this topic, and related proposals, closely. 

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Exclusive forum provisions in charters and bylaws, under which derivative suits and other shareholder litigation must be brought in the courts of the company's state of incorporation, drew some attention during the 2011 proxy season.  My recent piece summarizing the state of the law and the practice on this subject is here.  No consensus on this topic has yet emerged among institutional investors, and the 2011 votes were close and had mixed results.

ISS's position on these provisions in the 2011 season ignored the merits of exclusive forum requirements and instead looked to a set of largely unrelated governance "best practices":

• annual election of directors
• majority voting for directors in uncontested elections
• 10% shareholders having the right to call special meetings
• the absence of a poison pill unless approved by shareholders

Only companies that had adopted all four of these practices would receive an ISS recommendation in support of an exclusive forum provision.

ISS has revisited this policy in connection with its overall policy review for the 2012 season and, as often seems to be the case with ISS, has taken a step or two forward and a step back.  Instead of the checklist approach used in 2011, ISS says that this issue will now receive "case-by-case" analysis, taking into consideration most of the same factors that were in the checklist.  The weighting of these factors is unclear.

A step forward is the deletion of the 10% shareholder special meeting requirement from the list of best practices.  ISS acknowledges that "this governance feature is less relevant to exclusive venue than it is to other proposals".  (The same could of course be said about the other items on the list, but never mind.)

The step backward is the addition of a new factor that ISS says it will consider: "[w]hether the company has been materially harmed by shareholder litigation outside its jurisdiction of incorporation, based on disclosure in the company's proxy statement."  It's hard to make sense of this one, since exclusive forum provisions are by their nature prophylactic and not retrospective.  If avoidance of potentially duplicative litigation is a legitimate goal, it hardly becomes less legitimate if the company has not yet been a victim of the practice.  This would be akin to saying that you shouldn't buy fire insurance unless your house has burned down at least once in the past.

The new guidelines make ISS's position on any particular company's proposal less predictable than before, and to that extent further complicate the decision tree for companies considering whether to adopt an exclusive forum provision and, if so, whether to submit it for shareholder approval.  We may need to see another proxy season's results before this becomes more clear.

Contact Bill Kelly.

Last week, the U.S. Proxy Exchange, an organization supporting retail shareholder activists, released its Model Proxy Access Proposal. According to an ISS blog, two proxy access proposals which closely resemble the U.S. Proxy Exchange’s model proposal were filed by retail shareholder activist Ken Steiner at MEMC Electronic Materials, Inc. and Textron Inc. on November 11th and November 15th, respectively.  The model proposal provides a lower threshold of stock ownership for shareholder nomination of directors than that contemplated by the SEC’s vacated Rule 14a-11, which required ownership of 3% of a company’s outstanding shares in order to nominate a director.  The model proposal recommends that the company’s proxy include nominees of: “any party of one or more shareholders that held continuously, for two years, 1% of the Company’s securities eligible to vote for the election of directors” or any party of 100 or more shareholders that satisfy SEC rule’s 14a-8(b) eligibility requirements ($2000, or 1% of company’s securities eligible to vote, continuously held for at least 1 year). In addition, the model proposal provides that any one party may make one nomination to the board or, if greater, a number of nominations equal to 12% of the current board members.  In its comments to the proposal, U.S. Proxy Exchange noted that the 12% provision is intended to dissuade boards from growing beyond 16 members in response to proxy access provisions.

These targeted companies are not obvious choices to receive shareholder access proposals. MEMC Electronic Materials and Textron both received relatively strong support in their 2011 say-on-pay votes: 81% and 82%, respectively. In addition, both companies’ GRId profiles are low concern on board and medium concern on both compensation and shareholder rights.  Nonetheless, both proposals do focus on executive compensation.  The MEMC Electronic Materials proposal states that the company’s CEO was awarded “options worth over $14 million in 2009 without performance-contingent criteria” and the “CEO’s 2011 annual awards will be 20%-based on a subjective analysis of personal metrics.” In addition, MEMC Electronic Materials has seen a 63% drop in its stock price over the last 52-week period.  The Textron shareholder proposal notes that “[e]xecutive compensation is a particular concern” and refers to a “potential $39 million payout to our CEO.” Textron’s shares had declined 11.8% over the previous 52-week period.

One wonders whether these proposals will prove beneficial to the proponents of proxy access.  We would expect that even if these proposals survive no-action challenges by the company, they will most likely fail to obtain shareholder approval and may set a precedent that shareholders are not in favor of proxy access. In addition, any proxy access proposal submitted first by a retail shareholder could be used by a company as a basis for exclusion of a proposal received later from an activist institution.

The head of the U.S Proxy Exchange has indicated that their members plan to file at least four more proposals.  The filing of two shareholder proposals right on the heels of the U.S. Proxy Exchange’s Model Proxy Access Proposal, combined with the fact that a number of companies have proxy filing deadlines in December, may indicate that there will be more proxy access proposals than initially expected this season. 

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As we prepare for the upcoming proxy season and the answer to the question of whether we will see many, any, or only a few targeted, proxy access shareholder proposals (see the Davis Polk memo), we look back to the last time when proponents had the opportunity to make access proposals.  In 2007, two major companies, Hewlett-Packard and United Healthcare, received proxy access proposals after facing allegations of stock options backdating, and in H-P’s case, highly public scandals involving its board.  Proponents were emboldened after the Second Circuit sided with AFSCME in its challenge of the SEC staff’s decision to allow AIG to exclude an access proposal, ignoring prior SEC precedents. 

It was also AFSCME that submitted a binding proposal to amend H-P’s bylaws to include persons in H-P’s proxy statement who are nominated by shareholders owning at least 3% of H-P’s stock for at least two years.  Each “Nominator,” as so named in the bylaws, could nominate up to two candidates at a meeting, without limitations on the number of Nominators.  CalPERS’ proposal to United Healthcare contained the same provision, but due to a requirement in Minnesota state law that only shareholders owning 3% or more of a company may propose a bylaw amendment, CalPERS changed its proposal to a precatory one, seeking a request of the board to adopt an access bylaw instead. 

H-P sought to exclude the proposal, arguing to the SEC staff that the AIG decision is not binding outside of the Second Circuit and therefore inapplicable to the company.  H-P also cited an extensive list of prior SEC staff decisions that permitted the exclusion of the same proposal, based on the SEC’s views that such a proposal, “rather than establishing procedures for nomination or qualification generally, would establish a procedure that may result in contested elections of directors” which would not comply with the SEC proxy rules.  Ultimately, the SEC staff indicated to H-P that it is unable to dispute or concur in the view that the AIG decision would not apply to the company, and declined to express any view on whether H-P may exclude the proposal.  UnitedHealth had also made a similar argument to the staff since the company was also outside the Second Circuit, but after the staff’s decision in H-P, withdrew its no-action request. 

As a binding bylaw amendment, H-P asserted that the proposal would need 66 2/3% of the outstanding shares in order to pass, rather than the majority of votes cast that usually applies to shareholder proposals.  While both proposals failed, there was enough support (43% at H-P and 45% at United Healthcare) that shareholder activists declared the efforts to be significant victories as “landmark votes,” anticipating the filing of a horde of proposals at other companies as a result.  But in December 2007, the SEC adopted rules that reinstated the election exclusion under Rule 14a-8, ending the era of permissible access shareholder proposals, until now.

So much has changed since 2007 that it is difficult to say whether those proposals act as any kind of predictor for the upcoming proxy season.  Shareholder proposals have evolved to include a multitude of topics and proponents.  One constant, however, is that proxy access continues to be unnecessary as a means to effect stronger board accountability.  For one, shareholders have other tools to express dissatisfaction with a board's oversight, such as withholding or voting against in director elections.  The comment letters for the proxy access rule proposal and the subsequent debate highlight a significant amount of investor concern which remains valid, as to whether proxy access leads to better governance, or permanently distracting and burdening companies.  The risk with targeted shareholder proposals is the possibility that some of those proposals pass because they act only as a referendum on a company's circumstance at a specific point of time, but with immutable consequences. 

Contact . Contact .

Section 953(b) of Dodd-Frank requires companies to disclose the internal pay ratio between the total annual compensation of their CEO and the median total annual compensation of their employees.  Effectiveness of the requirement has been delayed until the SEC promulgates implementing rules.  Meanwhile, companies have complained that the calculations required to comply with the disclosure requirement are burdensome and unfeasible, and proposals for Section 953(b)’s repeal have been introduced in Congress. 

Against this background, it is somewhat surprising that shareholder proposals seeking disclosure of the internal pay ratio decreased in 2011, and average shareholder support for this disclosure has remained low (although it increased slightly in 2011).  According to an executive compensation bulletin published by Towers Watson in June 2011, shareholder proposals with respect to internal pay ratio disclosure dropped from 9 in 2010 to 3 in 2011 (through mid-June), while average shareholder support increased from 6.2% to 9.1%.

One such example of a failed shareholder proposal is the 2011 proposal by the International Brotherhood of DuPont Workers calling for the board of directors of E. I. du Pont De Nemours to compare the “compensation packages for senior executives with that provided to the lowest paid employees.”  The proposal received just 5.8% in shareholder support.

Some companies already address concerns regarding internal pay equity.  Examples of such “proactive” companies include Whole Foods Market, which places a cap (expressed as a multiple of the company’s average wage) on executive cash compensation, NorthWestern Corporation, which voluntarily disclosed in its 2011 proxy that its targeted compensation for its CEO in 2010, excluding benefits, was 18 times the median pay of all its employees, and Goldman Sachs, which released supplemental proxy materials dedicated exclusively to its compensation practices.

A possible reason for this lack of activism may be that shareholders as a whole are less concerned with internal pay ratio disclosure than with other areas of compensation policy, such as linking pay to performance and requiring executives to retain a significant percentage of their equity.

As we wait to see where the SEC and Congress will come out on mandatory internal pay ratio disclosure, it is difficult to predict where we will end up, but one thing looks certain – shareholder proposals are not currently leading the charge. 

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A fairly recent development in governance proposals has been the surge in proposals seeking the ability of shareholders to act by written consent, in lieu of a meeting. The proposal has gained substantial momentum in a short period, averaging 48.4% support at 32 companies where the proposal was voted on during the 2011 proxy season and winning majority support at 12 companies. Almost all of the proposals were submitted by Chevedden or the Steiners. As of April, ISS reported that 30% of S&P 500 companies allow shareholders to act by less than unanimous written consent.

Some believe that shareholders are less likely to support a written consent proposal if a company already permits shareholders to call special meetings. Our analysis indicates that while there is correlation, it is not dispositive. 19 of the 22 companies where the proposal failed give shareholders the right to call special meetings at 25% thresholds or below. However, 5 companies that provide for the special meeting right nonetheless received majority support for the written consent proposal, including at Liz Claiborne (67%), Staples (60%) and AT&T (54%). AT&T announced that it intends to implement the proposal at its next annual meeting.

In response to a shareholder proposal from the prior year, Home Depot proposed restating its charter to allow for action to be taken without a meeting and without a vote by shareholders, through the written consent of not less than the minimum number of votes necessary to authorize the action. The adopted provision requires certain advance notice, including a request to the board by at least 25% of the outstanding shares to set a record date, and the same kind of information about the soliciting shareholders mandated under the company's advanced notice bylaws. In addition, consents must be solicited from all shareholders. The proposal was approved by 82% of Home Depot's outstanding shares.

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As of July 2010, 43% of S&P 500 companies have separate CEO and chairman positions, but only about half of those companies have an independent chair.  The debate about the value of having an independent chair continues, including through shareholder proposals.
 
Only a small percentage of the proposals submitted to vote succeed, and usually by narrow margins.  In 2001, only 4 (about 17% of the total) passed, none of the 45 proposals in 2010 received sufficient majority support, and 4 in 2009 (about 10% of the total) and about 5% of the over 160 proposals from 2005 to 2008, won shareholder approval.  In the instances where the proposals pass, companies generally respond promptly.  Looking at 2009 results, Bank of America lost an unusual binding bylaw proposal and appointed a new independent chair.  Weyerhaeuser also elected an independent chair at its annual meeting. 

In recent years, many boards with executive chairman have appointed lead directors to provide countervailing independent board leadership.  Having a lead director with specified responsibilities is one of the factors that could lead ISS to recommend against a shareholder proposal calling for an independent chairman.  Evidencing their view that stock price is tied to board structure, another required factor for this ISS policy and one that cannot be as easily managed by companies, is the requirement that a company's total shareholder return exceeds peers (as defined by ISS).
 
It has been reported that over 50% of S&P 500 companies now have lead directors.  Unfortunately, the absence of clear distinctions between the use of the terms "presiding" director vs. "lead" director means little discernible correlation between the presence of a lead director and the voting results of these shareholder proposals.  Some presiding directors only lead executive sessions, as required by the NYSE, while others have similar responsibilities as directors designated as "lead directors."  There is also a range of duties among those named as lead directors. 

Although the board had a lead director, in 2011 Moody's lost the shareholder proposal (56% in support).  At Vornado Realty Trust, where the company had a separate, but non-independent, chairman, the proposal received slightly above 50%.  The recent requirement by the SEC that companies with combined CEO and chair positions also indicate whether there is a lead director, may have caused some change in roles. 

There are slight variations among the proposals.  While much less common, some shareholder proposals ask for the designation of a lead director rather than an independent chair.  This season, the SEC staff determined a proposal seeking a lead director was sufficiently duplicative with another proposal calling for an independent chair, so that only one needed to be presented in the proxy.  Some companies that already have independent chairmen, such as Whole Foods, received proposals asking that the structure be made permanent. 

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As a result of targeted activism in the last few years, more than half of the S&P 500 companies now allow shareholders to call special meetings.  The number of shareholder proposals relating to special meetings declined this year, to 28 in 2011 from 54 in 2009. 

The decline can be attributed in part to companies submitting management proposals in order to exclude the shareholder proposals from their proxy statements.   Shareholder proposals generally seek the ability of 10% or more shareholders to call special meetings, but if companies include a management proposal giving shareholders the same right, but at a different ownership level (for example, 40% for EMC and 25% for Weyerhaeuser), then the SEC staff permits the shareholder proposal to be excluded from a company's proxy statement on the basis that the company is submitting a conflicting proposal under Rule 14a-8(i)(9).

This now well-recognized method of excluding special meeting shareholder proposals doesn't mean that the same proposal won't continue to be submitted after the company adopts a provision, in an attempt to get the ownership threshold ratcheted down to 10%.  But these proposals can often be defeated at companies that already allow some percentage of shareholders to call special meetings.  This year, most companies where the proposals failed had minimum ownership thresholds at 25% (Citigroup, Goldman Sachs, DuPont and Office Depot) with some higher (Amazon at 30%) or lower (Pepsi at 20%).  At Home Depot, however, the shareholder proposal received majority support although the company already provides the ability of 25% or more shareholders to call special meetings. 

The coalescence around these preferred ownership percentages by shareholders do not seem to result from individual analysis of a particular companies' holdings, but rather seems to reflect a "one-size-fits-all" approach.  Almost all shareholder proposals seek the right to call special meetings at ownership levels of 10% or more, even at companies like Wal-Mart which has more than 40% insider control.  Verizon implemented a bit of a creative approach by providing the threshold at 10% for a single shareholder, or 25% ownership for multiple shareholders.

While companies are rightly concerned about adopting provisions that may result in significant board and management time and expense, it may be worth noting that special meeting provisions generally include necessary procedural safeguards and qualifications to minimize those costs.  The requirements include certain notice and possibly certifications for shareholders, and restrictions on the time period and manner for calling special meetings, especially if another annual or special meeting covering the same subject matter has just passed or is upcoming in the near future.  In fact, the ISS 2011-2012 policy survey inquires about a fairly recent phenomenon that it declares only a “handful” of companies have adopted:  the requirement that the ownership threshold be held in a net-long position.

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Proposals to elect directors by a majority vote fared well this season, averaging 56.6% at 31 companies as of early June.  This was the topic with the most number of submissions, as Carpenters, CalPERS and other proponents sent over 80 shareholder proposals to companies, almost twice as many as in 2010.  Activists were angered by the fact that the requirement for all public companies to adopt majority voting was dropped from the final version of the Dodd-Frank Act.  Many companies decided to proceed with implementation and negotiate for withdrawal of the proposal rather than putting it to a shareholder vote.

Analysis of the voting results for the shareholder proposals that ended up in proxy statements is complicated by the fact that the term "majority voting" is often used to include both: (a) policies in corporate governance principles that continue to retain plurality voting but require a director that received more "withhold" rather than "for" votes to submit his or her resignation (sometimes known as a "director resignation policy") and (b) majority voting standards in charters or bylaws that also demand the same type of director resignation, but triggered by whether the director received more "against" rather than "for" votes.   Both standards need the additional step of a director offering to resign based on the election results because of state law holdover statutes that severely restrict the involuntary removal of a director, regardless of the amount of votes cast.  Both standards also provide boards with ample discretion to accept or reject a director's offer of resignation.

Shareholder proposals request that the charter or bylaws require majority voting, as activists consider director resignation policies in governance principles to be merely symbolic resolutions that are legally unenforceable and easily changed by later board decision without public fanfare.  However, most shareholder proposals fail to pass if a company maintains plurality voting but has a director resignation policy in place, given the similar effect of adopting majority voting in charters or bylaws.  During this season, more than 85% of the companies where the proposal was not approved already had a director resignation policy, including at Caterpillar, Baker Hughes, Duke Energy and Kellogg.

As expected then, the proposals succeeded at over 90% of the companies without a director resignation policy, most notably this season at Apple.  CalPERS campaigned for  the proposal, declaring:  “We’re asking for an election, not a coronation of the board.”  Apple argued that the adoption of majority voting would harm the company given the unusual complexity of California state law, which requires not only the affirmative vote of a majority of the shares but also the affirmative vote of more than half of the shares required for a quorum.  In addition, under California's mandatory termination law, a director’s term in office would simply end 90 days after failing to receive the requisite votes.  Apple's explanations, however, went unappreciated by the more than 73% of its shareholders that supported the proposal, signifying a major win for CalPERS. 

Two other companies, Qualcomm and BB&T Corporation, failed to convince shareholders that they had adequate substitutions in place.  Their policies require only board review if a director receives more "withhold" rather than "for" votes, without triggering director resignation.

Even companies with director resignation policies will often agree to adopt majority voting without putting the shareholder proposal to a vote, as Pepsi did this year.  Companies that need charter amendments to implement majority voting must include a management proposal asking for shareholder support, which were overwhelmingly supported. 

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This is the first of a series of posts to discuss key shareholder proposals during proxy season 2011. 

While ISS reports that 39% of S&P 500 companies continue to have staggered boards, shareholder proposals requesting that the board of directors be elected annually continue to receive the highest level of support of any shareholder proposals.  As of early June, 39 proposals received more than majority support, averaging 73%, while only 5 failed.  Many proposals never reach shareholder vote as companies, recognizing the likelihood of strong support for the proposal, negotiate for withdrawal by agreeing to take action.  For example, eBay agreed to conduct a review of declassification within 6 months. 

This year, a joint effort by the Florida State Board of Administration (FSBA) and the Nathan Cummings Foundation resulted in the submission of proposals at 14 S&P 500 companies.  Other proponents of declassification proposals include prolific retail activists John Chevedden, Ken Steiner and Gerald Armstrong.  McDonald’s and Western Union turned to the SEC for relief, arguing that the proposals violate Rule 14a-8(i)(8) because they prevent directors from completing their elected terms.  The SEC staff agreed, but allowed the proponents to modify the proposals to provide that the unexpired terms of directors elected at or prior to the 2011 annual meeting would not be affected.  Both companies ultimately included the revised proposals in their proxy statements.  McDonald’s filed additional soliciting materials emphasizing that good governance is not “one size fits all,” but over 77% of shareholders nonetheless voted “for” the proposal.

As a result of the continuing drumbeat of declassification shareholder proposals over the years, over 50 companies submitted management proposals to amend their governance documents to permit annual board elections in their proxy statements this year.  Ironically, some management proposals do not succeed, particularly where charter amendments require more than a simple majority to pass.  At Eli Lilly, the company failed in its fifth consecutive effort to receive the requisite more than 80% outstanding shares in support. 

Most management proposals phase-in annual elections after all board members have completed their elected terms.  Visa adopted an unusual declassification resignation policy, contingent on shareholder approval of its bylaws, such that directors with unexpired terms tendered their resignations and the entire board will be elected on an annual basis next year. 

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The Delaware Chancery Court recently rejected a challenge to an advance notice requirement for shareholder proposals that appeared in the Company’s proxy statement, not in its bylaws, and that imposed a deadline of more than 150 days before the meeting. Most Delaware advance notice bylaws require notice 90-120 days prior to the anniversary of the previous year's annual meeting.

In Vermillion, the Court rejected the claim that the advance notice requirement was unreasonable and unduly restrictive, noting that advance notice requirements are “useful in permitting orderly shareholder meetings” and that the board (which was disinterested) had established the deadline on a proverbial ‘clear day’, well before the plaintiff shareholder appeared to have expressed his dissatisfaction to the Company.

Here is a copy of Vice Chancellor Noble’s opinion in Goggin III v. Vermillion, Inc. (C.A. No. 6465-VCN) (Del. Ch. June 3, 2011)

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Questions have come up about whether companies can declare how frequently they intend to hold say-on-pay votes in the Form 8-K announcing annual meeting results within four business days after the meetings, or whether they must wait and make the disclosure in an amended Form 8-K.  While this seems to demand a simple "why not" response, the confusion stems from the fact that careful readers of the rules noted that the Form 8-K itself only provides for disclosing future frequency in an amended 8-K, to be filed no later than 150 days after the end of the meeting and 60 days before the 14a-8 shareholder proposal deadlines. 

The instructions do not appear to be exclusive, and if a board has made a decision there seems to be no reason to later prepare an amendment and make two filings.  In fact, at least half of the companies that have announced annual meeting results so far have gone ahead and declared their future intentions with respect to the frequency of say-on-pay, in particular where (a) the board recommended annual and (b) votes were overwhelmingly in favor of annual. 

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Although it often looks like proxy season 2011 is a one-topic event, say-on-pay is just one item on proxy cards.  Recent data reminds us that say-on-pay may even be the least controversial item.  ISS reports that as of May 9, shareholder proposals calling for declassifying boards (annual election of directors) won as much as 95% and 81% approval rates at MEMC Electronic Materials and Alcoa, respectively.  Average support so far for nine proposals is 69%, up from 61% last year.  Shareholder proposals on majority voting are also faring well, averaging 57% support at 14 companies, including 78% at SkyWest.

Recognizing the increased probability of getting these types of results, companies that receive such proposals often go ahead and implement without putting the shareholder proposals on the ballot.  Companies seeking management proposals to amend governance documents for declassification and majority voting have won more than 96% approval this year. 

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When shareholders mark "abstain" on a ballot, what does it mean?  Does the meaning differ depending on whether it's to elect a director, vote on say-on-pay or a shareholder proposal?  The effect of abstentions in determining the pass/fail rate for an item depends on state law and corporate governance documents, but should they be excluded if we're trying to examine different companies' results for comparability?

 

You may be aware that it is ISS policy to ignore abstentions when reporting the results of shareholder proposals, citing Rule 14a-8(i)(12).  The approval rate of shareholder proposals determined by ISS feeds into their policy of recommending against boards for failure to implement proposals that receive majority support two out of three years in a row.  If abstentions were counted, it would decrease the level of support for these proposals.  Given the close votes received on written consent and special meeting proposals in recent years at some companies, whether or not abstentions are counted sometimes matter.

 

We're not aware that such a policy exists yet for say-on-pay.  In his RiskMetrics Insights blog, Ted Allen reports results that includes abstentions, as duly noted in the articles.  As a management proposal, abstentions have the opposite effect on say-on-pay than for shareholder proposals, by decreasing the level of support.  In both cases, the companies come out looking worse.

 

Thus far, abstentions have played a minor role in say-on-pay results, averaging about 1.9% of votes.  However, abstentions played the deciding role in causing Motorola to report a failed vote in 2010, a similar fate faced by Hemispherx BioPharma and Cooper Industries this year.  Hemispherx had nearly 16% in abstentions.  In the U.K., investors often "abstain" against say-on-pay in the first instance to express a milder form of dissatisfaction with executive compensation.

 

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Notwithstanding the proliferation of advance notice bylaws, floor resolutions at annual meetings are fairly unusual. In January, Walden Asset Management and 44 other investors contacted over 30 companies with representation on the Chamber of Commerce board regarding the Chamber’s position on climate change, health care legislation, financial reform and its political spending, noting its intent to introduce resolutions at annual meetings asking boards to initiate a review of the companies’ participation with the Chamber. It appears that Walden embarked on this strategy after determining that the resolution risked being excluded under SEC Rule 14a-8 for being too direct and specific in focus. After discussions with several companies, in early April Walden announced its plans to introduce resolutions at six companies.

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Perhaps as another fallout of the financial crisis, Moody's shareholders approved an independent chair proposal with 56% support, a substantial increase from the two prior years which saw votes at more typical levels for this proposal - 33% and 30%. It's been reported that the proponents, Hermes and Laborers International, actively campaigned and cited the financial crisis as a key reason to support the proposal. More than 15 independent chair proposals will be voted on this season.

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Last year a Texas judge allowed Apache Corp. to exclude a shareholder proposal from John Chevedden on the basis that his broker statement did not come directly from a “record holder” in DTC, but rather an introducing broker. Consistent with its own precedent, the SEC rejected that line of reasoning in several Rule 14a-8 no-action rulings, including a no-action request from Texas company Kinetic Concepts in March.  A month later the same Texas judge permitted KBR to omit a shareholder proposal following the Apache holding.

Immediately thereafter, Kinetic Concepts informed the SEC that they intend to omit Chevedden's proposal by relying on the judge's ruling, noting that the SEC staff has stated previously that the SEC will defer to the courts regarding exclusion of shareholder proposals.  Apache had similarly notified the SEC this season, without submitting a no-action request. With three Texas companies omitting Chevedden proposals, activists are urging the SEC to take action to stop the “Texas Secession” and have provided form letters that can be sent to Commissioner Schapiro at the SEC.

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We did so well with our sound bites in our last interview that we were again quoted by Compliance Week (subscription required) on another Rule 14a-8 story, this time on substantial implementation.  It’s easy to show the SEC that you’ve substantially implemented a request to, for example, declassify your board.  But if the proposal asks for any kind of report with a specified list of “asks”, then it’s much harder if not nearly impossible to show that your report on the same subject already complies.

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We were quoted in a recent Compliance Week story (subscription required) on the evolution of the ordinary business exclusion in getting the SEC staff to agree on companies’ no-action requests for Rule 14a-8 shareholder proposal.  The exclusion becomes more elusive over time, but requests that continue to be granted include proposals that the Staff agrees relate to the sale of a company’s products and services, terms of code of conducts and policies, managing marketing and other expenditures and income tax risks.  There are sometimes tough lines to draw, for example, proposals implicating board oversight of risk is not excludable, but if the proposal reaches into how management reviews risk, then it’s excludable.

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