Securities Regulation and Corporate Governance

Today the Council of Institutional Investors (“CII”), a nonprofit association of corporate, public and union employee benefit funds and endowments that seeks to promote effective corporate governance practices for U.S. companies and strong shareholder rights and protections, published a report titled “Proxy Access:  Best Practices” that describes CII’s views on seven provisions that companies typically address when implementing proxy access.  The CII report is available here.

Background

Proxy access refers to the ability of shareholders to include their director nominees in company proxy materials.  In 2010, the Securities and Exchange Commission adopted a universal proxy access rule (Rule 14a-11), which prescribed many of the provisions addressed today by CII.  Rule 14a-11 was vacated in 2011 when the DC Circuit ruled that the SEC had violated the Administrative Procedure Act in adopting the rule by failing to adequately evaluate its economic effects.  However, other rule amendments permitting proxy access shareholder proposals and allowing companies to implement proxy access mechanisms under state corporate law were not challenged and went into effect in 2011. 

Over 100 companies received proxy access shareholder proposals for consideration at 2015 meetings, making proxy access the most significant corporate governance issue during the 2015 proxy season.  Of the 84 proxy access shareholder proposals voted on thus far in 2015, 49 (58%) received majority votes.  To date, 35 companies have adopted proxy access.[1] 

CII’s Views on Proxy Access

CII views proxy access as a fundamental right of long-term shareholders, and has for several years maintained a policy advocating that companies provide proxy access to a long-term investor or group of long-term investors who have owned at least three percent of a company’s voting stock for at least two years, for nominees representing a minority of a company’s board. Today’s report reflects CII’s view that the proxy access provisions being adopted or proposed by some companies “significantly impair shareowners’ ability to use proxy access, or even render access unworkable” and sets forth the seven “most troublesome provisions that are of concern to CII and many of [its] members.”  CII’s interim executive director was quoted in The Wall Street Journal as stating that as of late June, all of the companies that had adopted proxy access failed to comply with at least one of CII’s seven “best practices.”  The seven “troublesome provisions” are described below, along with CII’s position on what constitutes “best practices,” the treatment of the issue under Rule 14a-11 and data on prevailing practices among companies that have adopted proxy access. 

1. Ownership requirement of 5% of outstanding shares:  CII supports a 3% share ownership threshold in order for proxy access to be available to one or a group of shareholders, which is the same threshold that was included in Rule 14a-11.  Of the 35 companies that have adopted proxy access, 71% use a 3% threshold and 29% use a 5% threshold. 
2. Minimum of two proxy access candidates:  CII supports allowing at least two proxy access nominees.  Rule 14a-11 provided that a company was required to include in its proxy materials no more than one proxy access nominee or a number of proxy access nominees representing 25% of the company’s board, whichever was greater.  Of the 35 adopting companies, only 14% provide for a minimum number of access nominees.  All of these companies provide for a minimum of one access nominee, not two.  
3. Limits on the number of shareholders that can aggregate their shares to satisfy the ownership requirement (e.g., 20 shareholders):  CII does not endorse limits or caps on the number of shareholders in the nominating group.  Rule 14a-11 did not include any aggregation limits.  Of the 35 companies that have adopted proxy access, more than 85% have included a limit on the number of shareholders who can aggregate their ownership to utilize proxy access:  9% allow only one shareholder per group, 3% allow groups of up to five shareholders, 17% allow groups of up to 10 shareholders, 3% allow groups of up to 15 shareholders, and 54% allow groups of up to 20 shareholders.  Only 14% of adopting companies allow unlimited group sizes.  
4. Counting loaned shares toward the ownership requirement:  CII supports counting loaned shares toward satisfying the ownership requirement and also requiring that the shareholder represent that it (1) has the legal right to recall those shares for voting purposes, (2) will vote the shares at the annual meeting, and (3) will hold the shares through the date of the annual meeting.  Rule 14a-11 provided that loaned shares counted as long as the nominating shareholder had the right to recall the shares and did so upon being notified that any of its nominees were to be included in the company’s proxy materials.  Among the adopting companies, only 29% explicitly state that loaned shares count toward the ownership threshold, provided that the shareholder has the right to recall the shares.  Eighty percent of these companies do not require that the shares actually be recalled, 10% require that they be recalled as of the date of the annual meeting, and 10% require that they be recalled as of the date of the shareholder notice and through the annual meeting.   
5. Requiring the nominating shareholder to continue to hold company shares after the annual meeting:  CII opposes requiring the nominating shareholder to state that it intends to continue to hold the requisite percent of the company’s shares after the annual meeting.  Rule 14a-11 required the nominating shareholder to state whether it intended to hold the shares after the annual meeting.  Of the 35 adopting companies, 31% require the nominating shareholder to affirmatively state that it intends to hold shares for at least one year following the annual meeting.  Another 66% require that the nominating shareholder hold the shares only through the date of the annual meeting, although many of these companies require the nominating shareholder to state whether or not it intends to hold the shares for another year.  Only 3% of adopting companies are silent on this issue.  
6. Restricting renominations of failed proxy access nominees:  CII opposes restricting the renomination of a proxy access nominee who fails to receive a specific minimum percentage of votes.  This is consistent with Rule 14a-11, which did not include renomination restrictions due to a nominee’s failure to receive a certain percentage of the vote.  Of the 35 adopting companies, 97% have such a restriction: 89% prohibit the renomination of nominees who fail to receive at least 25% of the vote, 6% of the companies have lower renomination restrictions and 3% have a higher voting requirement in order for an unsuccessful access nominee to be renominated. 
7. Prohibiting compensatory arrangements between proxy access nominees and third parties:  CII opposes prohibiting proxy access nominees from having compensatory arrangements with anyone other than the company but supports requiring disclosure of such arrangements.  Rule 14a-11 required disclosure of, but did not prohibit, such arrangements.  Of the 35 adopting companies, 6% prohibit such compensatory arrangements, 71% require disclosure of such arrangements, 9% do not require disclosure but give the board discretion to exclude nominations of nominees with such arrangements, and 14% are silent.

In its report, CII urges companies that decide to adopt proxy access to talk to their shareholders about the approach they prefer and to avoid requirements that make access “difficult to use or toothless.”  The report highlights both the complexity of a proxy access mechanism and the fact that investors’ views on how and when proxy access should be available (if at all) continue to evolve.