News Release

Proxy Access in Practice

By Bradley A. Robinson, Esq.
Monday, January 30, 2012

The Recap

As discussed in prior newsletters, on September 16, 2011, the SEC announced that the suspended revised Rule 14a-8, giving shareholders the ability to propose proxy access bylaw changes, would become effective September 20, 2011 (see the fall, 2011, Registrar and Transfer Company newsletter under news at www.rtco.com). The Rule generally allows shareholders to establish or propose procedures which will provide a clear and unobstructed path for shareholders to place nominees directly on the company’s slate of nominees without having to engage in a costly proxy contest.

The amended rule had been temporarily put on hold pending the outcome of a review of its mandatory proxy access rule, Rule 14a-11, by the U.S. Court of Appeals for the D.C. Circuit. The court vacated Rule 14a-11 in July 2011. The SEC has announced that the court’s ruling on Rule 14a-11 will not be appealed at this time. Subsequently, the hold on Rule 14a-8 was released. The new rule affects all publicly-held companies, including investment companies and smaller companies. However, until a proxy access proposal is passed by shareholders, the director nomination process remains unchanged.

The rule change has paved the way for the submission of shareholder proxy access proposals. A handful of proposals have already been received by individual companies. These have proposed various proxy access qualifications and, we expect, we’ll continue to see more variations of the access thresholds. The proposals differ from company to company, a process that has come to be known as "private ordering" because the access parameters may vary from proposal to proposal. The ownership threshold and holding periods may be higher or lower than the bar originally proposed under Rule 14a-11, which required an individual or group of shareholders to have a 3% ownership level for three years before being able to submit a director for nomination without a proxy contest, or "3 for 3".

The First Proposals

The beginning of Proxy Season means that shareholders have begun to submit their proposals for annual meetings for 2012, and proxy access proposals have been no exception. In the following table, sourced from Institutional Shareholder Services (ISS), we have shown the first sixteen (16) proposals received by companies under the new rule.

(Chart reproduced by permission of ISS Corporate Services, Inc. ©2012 ISS Corporate Services, Inc. All rights reserved.)

* In what some are calling the first victory for Proxy Access proponents, KSW, Inc. has adopted a proxy access bylaw by which a shareholder with ownership levels of 5% or more for at least 1 year would be eligible to make “a nomination” to the board. The company adopted this standard in an attempt to be able to exclude the shareholder proposal for access at a 1% ownership threshold. It remains to be seen whether efforts by the company to get a “no action” letter from the SEC due to “substantial compliance” will be effective. Given the binding nature of the proposal at the company it is possible, but unlikely.

Will the Proposal Pass?

Effect of Individual Thresholds

As has been noted, because the original 3 for 3 rule was vacated (Rule 14a-11), investors are free to propose their own thresholds for ownership levels and holding periods. As can be seen in the above chart, shareholders have indeed exercised this right, with proposals ranging from the 3 for 3 level proposed by the SEC originally (now proposed by Amalgamated Bank at HP’s annual meeting) all the way down to 1% for 1 year with a 25% cap on seats (proposed by Norges Bank Investment Management).

The varying thresholds are important for several reasons. First and foremost, depending on the level of support received by these proposals, issuers will have to take into account how seriously to take these specified levels when determining if and when to craft their own preemptive bylaw changes. Second, the thresholds specified will likely have an effect on the level of support from shareholders that each proposal receives. Higher, more onerous ownership requirements, we expect, will generally receive the lowest levels of scrutiny and potentially more support. This factor, and the reasonableness of the proposed thresholds, will be particularly determinative for binding proposals that would force companies to adopt the proposal virtually word for word.

Binding vs. Non-Binding Proposals

Just under half of the current proposals would be binding, with seven binding and nine precatory proposals. This will affect companies in a number of different ways. By definition, companies with binding bylaw proposals will generally be forced to adopt these proposals, as written, with little to no room to interpret the results or adapt the proposals to fit individual company needs, if the proposals receive the requisite level of shareholder support (which will vary by company). On the other hand, binding proposals will face greater scrutiny from investors and proxy advisors alike, generally translating into lower average support. However, one caveat to this generality should be issued for companies that have a history of non-responsiveness to shareholder concerns and/or less structural remedies built into their corporate governance. For example, companies that eschewed majority voting for the election of directors may be more susceptible to binding proposals.

Precatory proposals, in contrast, will likely have a lower bar to clear in order to get shareholder support at many companies. While shareholders and proxy advisors will look at similar criteria when evaluating these proposals, the criteria is likely to be applied far less rigorously, factoring in whether, on balance, a company might need some sort of proxy access at a given company, rather than the exact threshold specified in the proposal.

Proxy Advisor Support

Each of the major proxy advisors (Glass Lewis and ISS) have come out with general guidelines by which they will evaluate proxy access proposals at individual companies. Each company agrees that it will review these proposals on a “case by case” basis, believing that in some situations well-crafted and targeted proxy access proposals can be in shareholders’ best interests. ISS will take into account, among other things, the following:

• The proponent's rationale for the proposal at the targeted company;
• The ownership thresholds proposed in the resolution (e.g. percentage and duration);
• The maximum number of directors that shareholders may nominate each year; and
• The method of determining which nominations should appear on the ballot if multiple shareholders submit nominations.

Glass Lewis will consider recommending supporting proxy access proposals taking into account the following criteria:

• Company size;
• The shareholder proponent and their reasoning for putting forth the proposal at the target company;
• The percentage ownership requested and holding period requirement;
• Shareholder base in both percentage and type of ownership;
• Responsiveness of board and management to shareholders evidenced by progressive shareholder rights and reaction to proposals;
• Company performance and steps taken to improve bad performance;
• Existence of anti-takeover protections or other entrenchment devices; and
• Opportunities for shareholder action (e.g., written consent or right to call a special meeting).

As we can see by examining each advisor’s criteria, both companies, while varying in the specifics and exact wording, will look at a very similar range of criteria in evaluating these proposals. Unfortunately for issuers, these criteria remain very general in nature and can be difficult to predict the outcome based solely on the stated framework, particularly given the lack of disclosure in how each advisor will weigh individual criteria.

Conclusion

While the state of proxy access is far from settled, the issues that will be fought over are becoming increasingly clear. The levels of support each proposal will receive are also yet to be determined, and both sides of the argument have yet to fully make their case. It is important to keep in mind that there are several ways in which companies can and will argue that proxy access is unnecessary or that a higher shareholder ownership percentage is warranted. As always, it is recommended that issuers consult a governance and /or legal professional to aid in the evaluation of these factors and possible responses. For more on possible responses, see prior newsletters regarding proxy access, found on rtco.com as well as the Eagle Rock Proxy Advisor website, eaglerockproxy.com, or contact Eagle Rock Proxy Advisors.