Thursday, September 24, 2020

Divided Commission approves controversial amendments to shareholder proposal process

By John Filar Atwood

In a 3 to 2 vote, the SEC adopted amendments to Rule 14a-8, which governs the shareholder proposal process, to put in place stricter eligibility requirements for shareholder proponents and higher thresholds to resubmit proposals that do not receive widespread shareholder support. The agency issued the proposals for public comment in November 2019 and received thousands of letters in response, many of which opposed the planned changes.

Chairman Jay Clayton lauded the amendments, saying that they represent a much-needed modernization of the shareholder proposal process, and will better align the interests of proponents and their fellow shareholders. Commissioner Elad Roisman, who spearheaded the Commission’s efforts on the issue, said that the amendments will curb the potential misuse of the process by a few proponents at the expense of the rest of a company’s shareholders.

Commissioners Allison Herren Lee and Caroline Crenshaw voiced strong opposition, with Lee calling the move the capstone in a series of actions taken by the Commission that will dial back shareholder oversight of companies. Lee expressed particular concern that the amendments will reduce the focus on environmental, social, and governance (ESG) issues just when they have become critical to a company’s value, and that the changes will largely shut out smaller investors from the process.

New eligibility requirements. The final amendments change Rule 14a-8(b) by replacing the current ownership threshold, which requires holding at least $2,000 or 1 percent of a company’s securities for at least one year, with three alternative thresholds. A shareholder will now be required to demonstrate continuous ownership of at least:
  • $2,000 of the company’s securities for at least three years;
  • $15,000 of the company’s securities for at least two years; or
  • $25,000 of the company’s securities for at least one year.
The amendments eliminate the ability of shareholders to aggregate their holdings for purposes of satisfying the amended ownership thresholds.

The amendments require that a shareholder that elects to use a representative for the purpose of submitting a shareholder proposal provide clear documentation that the representative is authorized to act on the shareholder’s behalf. In addition, a proponent must now state that he or she is able to meet with the company, either in person or via teleconference, no less than 10 calendar days, nor more than 30 calendar days, after submission of the shareholder proposal.

Resubmission requirements. The SEC amended Rule 14a-8(i)(12) to revise the levels of shareholder support a proposal must receive to be eligible for resubmission at the same company’s future shareholder meetings. Existing levels are 3 percent, 6 percent and 10 percent for matters previously voted on once, twice or three or more times in the last five years. The new requirements are 5 percent, 15 percent, and 25 percent, respectively. Consequently, a proposal will need to achieve support by at least 5 percent of the voting shareholders in its first submission in order to be eligible for resubmission in the following three years. Proposals submitted two and three times in the prior five years would need to achieve 15 percent and 25 percent support, respectively, in order to be eligible for resubmission in the following three years.

One-proposal rule. The Commission also amended Rule 14a-8(c) to apply the one-proposal rule to "each person" rather than "each shareholder" who submits a proposal. As a result, a proponent may not submit one proposal in his or her own name and simultaneously serve as a representative to submit a different proposal on another shareholder’s behalf for consideration at the same meeting. Similarly, a representative cannot submit more than one proposal to be considered at the same meeting, even if the representative were to submit each proposal on behalf of different shareholders.

In support of the new eligibility requirements, Clayton emphasized that any investor who can submit a proposal today by having held at least $2,000 worth of company securities for one year will continue to be able to submit a proposal without increasing the dollar amount of their holdings. They simply will be required to continue to hold those securities, he added.

Clayton and Roisman also pointed out that currently a very small number of proponents impose the expense associated with including a proposal on other shareholders. Clayton cited the adopting release which states that of the 65 million direct and indirect investors in companies subject to the proxy rules in 2018, only 170 shareholder-proponents submitted proposals that appeared in proxy statements. Roisman took that statistic a step further, noting that between 2003 and 2014, only five people accounted for the vast majority of all the proposals submitted by individual shareholders.

In Roisman’s view, the adopted amendments strike a balance by ensuring that a shareholder who submits a proposal to a public company has interests that are more likely to be aligned with the other shareholders who bear the expense. He also believes that the new resubmission thresholds address the existing situation where even if 90 to 97 percent of a company’s shareholders vote against a proposal, a person can still resubmit the same proposal every year.

Opposition. In voting against the amendments, Lee noted that the Commission received thousands of letters from all corners of the industry in opposition to the proposals. Those who opposed the changes vastly outnumbered those who supported them, she said.

One of her primary concerns with the amendments is that she believes they undermine ESG initiatives, which comprise most of the subject matter of recent proposals, at a time when support for such proposals is rising. There has been a marked increase in support for ESG proposals in recent years, she noted, and the amendments will restrain those efforts just as they are gaining real traction with companies. A similar claim was leveled by the Council of Institutional Investors and other investor advocacy groups this summer following a Roisman speech in which he said shareholders should use private ordering for environmental and social issues, not shareholder proposals

Crenshaw agreed, noting that many corporate governance advancements, and annual and majority votes for director elections have come from investor-led proposals.She is concerned that the amendments mean that proposals related to the COVID-19 pandemic and climate risk, both of which are material to company’s performance, will no longer make the ballot. The rule amendments may chill the debate over these important issues, she added, and will effectively curtail shareholders’ rights to express their views.

Clayton countered these arguments by claiming that the revised requirements are agnostic as to the subject matter of any particular shareholder proposal. The rule will not be a way for the SEC to regulate or make judgments with respect to the merits of any particular shareholder proposal topic, he added.

Disenfranchising small shareholders. Lee’s other major concern, also shared by CII, is that the adopted amendments severely restrict smaller shareholders from accessing the process, and prohibit them from banding together to protect their interests. The rules hike the one-year eligibility threshold 12.5 times the current required investment amount, she argued, forcing smaller shareholders to either invest a substantial portion of their portfolio into a single company, or hold an investment for two additional years. Wealthier investors face no such restrictions, she noted.

Lee views the amendments as a sharp departure from the goal of the shareholder proposal process to provide an avenue of communication for smaller shareholders. The amendments not only make such communication harder, she said, but go a step further by dismissing this disenfranchisement as irrelevant since it did not merit analysis in the final release.

Crenshaw concluded by pointing out that the Commission has recently focused on increasing the participation of everyday Americans in the markets. One of the bases for expanding the "accredited investor" definition was the idea that the ability to participate in private capital markets should not be limited to those with high income and wealth, she noted. In her view the Rule 14a-8 amendments send the message that the ideas of retail investors are not worth hearing.