Thursday, January 21, 2016

Six Companies Must Allow Vote on Proposal Favoring Share Repurchases Over Dividends

By John Filar Atwood

Six companies have been notified by the SEC that they will have to include a shareholder proposal in their proxy materials that asks the companies’ boards to adopt a payout policy that gives preference to share repurchases over dividends as a means to return capital to shareholders. The companies argued that the proposal may be omitted on several different grounds under 1934 Act Rule 14a-8, but the staff of the Division of Corporation Finance rejected them all.

The identical proposal to the six companies was submitted by the same proponent, who believes that adopting a general payout policy that gives preference to share repurchases would enhance long-term value creation for the companies. Specifically, he noted that the distribution of a dividend may automatically trigger a tax liability for some shareholders, while share repurchases do not necessarily trigger that tax liability and give a shareholder the flexibility to choose when the tax liability is incurred.

Long-term value. The proponent also cited surveys of company executives finding that executives would pass up some positive net present value investment projects before cutting dividends. Creating long-term value is of paramount importance, the proponent argued, and repurchases have the advantage of not creating an incentive to forgo long-term value enhancing projects to preserve a certain dividend level.

The proponent acknowledged that some shareholders may be concerned that share repurchases could be used to prop up metrics that factor into executive compensation. He believes that any such concern should not interfere with the choice of an optimal payout mechanism because compensation packages can be designed so that metrics are adjusted to account for share repurchases.

Six companies. In their letters to the Commission, the six companies—Reynolds American Inc., Praxair, Inc., PPG Industries, Inc., ITT Corp., Minerals Technologies Inc. and Barnes Group Inc.—most often cited Rule 14a-8(i)(7) and (i)(13) as the basis for excluding the proposal. Paragraph (i)(7) is the ordinary business exclusion, and paragraph (i)(13) allows the omission of proposals that relate to a specific amount of cash or dividends.

The paragraph (i)(13) argument centered on the notion that by requiring share repurchases instead of cash dividends, the proposal was setting the amount of cash dividends at zero. In trying to convince the staff that the proposal deals with ordinary business operations, the companies stated that implementing a share repurchase program is reserved for management and the board of directors, and that the decision to repurchase shares, pay dividends, or both is an integral part of managing the company’s overall capital structure. The SEC staff was not persuaded by either argument.

The other bases that the staff decided would not enable the companies to omit the proposal included paragraphs (i)(1)—not a proper subject for action by shareholders, (i)(3)—the proposal is vague and indefinite, and (i)(10)—the company has already substantially implemented the proposal.

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