January 20, 2010

KEEPING CURRENT: SEC to rule on Rule 14a-11 and Rule 14a-8 proposals by early 2010

The 2011 proxy season is expected to be unlike any seen to date. Securities and Exchange Commission (SEC) Chair Mary Schapiro recently announced her hopes "to finalize the [proposed proxy access] rules early in the new year [2010]." The SEC's proposals fill a tome, coming in at over 250 dense pages, but can be distilled down to the position that proxy reform is necessary due to a "loss of investor confidence" and "serious concerns about the accountability and responsiveness of some . . . boards of directors to the interests of shareholders."

The battle over proxies has been ongoing for many years, but proponents of greater shareholder access tend to gain momentum during times of economic crisis. In 2003, the SEC issued a proposal that would have enabled long-term, significant shareholders to include their director nominees in a company's proxy statement. As recently as 2007, the SEC introduced a proxy access proposal narrowing the exclusionary power companies have over shareholder proposals. Those proposals are precursors to the ones currently under consideration but were abandoned after receiving resoundingly negative comments. So what has changed? The severity of the economic downturn in 2008-2009 has exacerbated investors' perception that boards are unresponsive to their demands, and the SEC's newly appointed commissioners have taken a cue from the White House and Congress to expand federal powers in securities regulation.

Highlights of Current Proposals
Under the Rule 14a-11 proposal, a shareholder or shareholder group would be eligible to have its nominees included in the company's proxy materials if it meets certain eligibility requirements. As an example, the shareholder must own a minimum amount of a company's outstanding voting shares for at least one year: (1) at least 1 percent of a large accelerated filer (market value > $700 million); (2) at least 3 percent of an accelerated filer (market value > $75 million but < $700 million); or (3) at least 5 percent of a nonaccelerated filer (market value of < $75 million).

Under the 14a-8 proposal, the current "election exclusion" that companies have used to keep out shareholder proposals regarding director elections from proxy materials would be narrowed to effectively permit the inclusion of these shareholder proposals. Under the anticipated new regime, a shareholder proposal that would amend provisions of a company's bylaws concerning the nomination procedures or disclosure provisions would not be excludable.

Preparing Your Client
Attorneys must assess what consequences the proposed rule changes would have for their corporate clients. The lawyers should review clients' bylaws and other governing documents to determine if the procedures for nominating directors and assessing a nominee's qualifications will conform to the new regime or should be altered to comply. For instance, companies may wish to adjust the size of their board of directors. The proposal would permit the nomination of one director or up to 25 percent of the board, whichever is greater. If the result of the 25 percent calculation is fractional, the maximum number of directors that could be nominated would be rounded down. The rounding down of the cap has direct implications for the size of a board. Additionally, clients need to more closely monitor their shareholder list to identify eligible shareholders or shareholder groups that might avail themselves of the new rules. These are just two examples of the many that must be considered when crafting a plan that best responds to the needs of corporate clients.