by Cydney Posner
In this recent preliminary working paper, Why Do Managers Fight Shareholder Proposals? Evidence from No‐Action Letter Decisions, academics at the USC Marshall School of Business attempt to determine why corporate management seeks to exclude shareholder proposals: are corporate managers acting as “responsible managers” who view shareholder proposals as “value‐destroying — either misguided or intended to benefit the narrow interests of proponents” — or as a “self‐interested managers” who oppose shareholder proposals “to preserve corporate practices that provide them with private benefits”? Apparently, the results of prior studies have supported both views. Although proponents of shareholder proposals may insist otherwise, the results of this study led the authors to conclude that, in using the no‐action letter process to try to exclude shareholder proposals, managers act “based on a genuine concern that shareholder proposals harm firm value, and… not merely [to provide] a convenient rationalization in order to preserve managerial private benefits.”
To assess management’s motives, the authors examined the market impact (abnormal returns), over the period 2007 to 2016, of the issuance or denial of SEC no-action positions regarding corporate requests to exclude shareholder proposals from company proxy statements. According to the paper, companies “seek to exclude about 31 percent of proposals that they receive, and the SEC decides to grant a no‐action letter permitting omission about 67 percent of the time.” The study examined the stock price reaction in the days surrounding the date of public disclosure of the SEC’s decision, based on this theory: “If managers are resisting proposals for responsible (value‐maximizing) reasons, then we should observe a positive market reaction when the SEC allows a proposal to be omitted; if managers are resisting proposals for self‐interested (value‐destroying) reasons, then we should observe a negative market reaction when the SEC allows a proposal to be omitted.”
The study’s “main finding” was that the market reaction to the grant of a no‐action letter (which would ensure that the proposal would not be submitted to a shareholder vote) was generally favorable: the authors found “no evidence that investors consider these proposals to be value‐enhancing on average, and thus no basis for concluding that managers fight these proposals for self‐interested reasons. To the contrary, our evidence is consistent with the view that managers fight these proposals because they are in fact harmful to the firm.”
The study also sought to contribute to the larger discussion of the market value consequences of shareholder proposals. Observing that the continued expansion of shareholder rights gives “the impression of a consensus that enhanced rights are beneficial,” the authors assert that “the scholarly evidence is surprisingly inconclusive.” According to the paper, several prior studies, based on market reaction, have shown little in the way of “compelling evidence that investors value having more rights.” Indeed, the authors found the market value impact of shareholder proposals to be “material, ranging from ‐2.04 to ‐7.85 percent of firm value depending on specific assumptions made and methods used.” (Note, however, as the authors observe, this particular study is obviously limited by the fact that management does not seek to exclude 69% of the proposals received, and so no judgment can be drawn from the study about investors’ views of the value of those proposals.)
The analysis also looked at various factors that could affect the market’s reaction to a no‐action letter decision, such as the type of proposal submitted. The study showed significant negative reactions to various corporate governance proposals, depending on the nature of the proposal, but no significant reaction either way to proposals related to compensation or social issues. The study also looked at seven specific types of governance proposals: allowing shareholders to call a special meeting, majority voting, proxy access, independent board chair, disclosure of political contributions, shareholder written consent and declassifying the board. Although the paper concluded that none of the evidence was robust, the market reacted most negatively when a no-action request was declined (i.e., allowing the proposal to go forward to a vote) in connection with board declassification proposals, which, ironically, have “been a notable success of the governance reform movement in the last few years.” Interestingly, the second most significant negative reaction was to proxy access proposals: according to the authors, “[t]here is no evidence that investors welcome increased proxy access; rather it seems they dislike it.”
SideBar: If that’s the case, you have to wonder why proxy access has been relatively successful, as shareholder proposals go? According to Alliance Advisors, for the 2016 proxy season through July 1, 2016, investors voted on 79 shareholder-sponsored proxy access proposals, which received 51.1% average support and 41 majority votes.
Another factor analyzed was the nature of the proponent. With regard to socially responsible funds, the authors were hesitant to draw strong conclusions, although investors seemed to have a somewhat negative reaction to these proposals on average. The reaction to proposals from labor unions and public pension funds was not significant either way, in contradiction to the skepticism expressed by some that these groups abuse the process. However, the data tell a different tale for proposals sponsored by individual shareholders — including the well-known corporate “gadflies” — who sponsored 38% of the proposals. In these instances, the data “is consistently negative”: the “clearest message” was that “investors consider proposals from individual shareholders to be value‐destroying on average.”
SideBar: “Gadflies at the Gate: Why Do Individual Investors Sponsor Shareholder Resolutions?” (see this PubCo post ) from the Rock Center for Corporate Governance at Stanford University could well be a companion piece to this study. That paper sought to understand why individual shareholders invest their time and energy pursuing shareholder proposals? Given how prolific some of these shareholders are —reportedly, the group associated with John Chevedden and James McRitchie accounted for approximately 70% of all proposals sponsored by individuals among Fortune 250 companies in 2014 — these investments must be substantial. Since, in most cases, there’s not really any financial incentive involved, what drives them to do it? The paper reports that, in many cases, these activists “were motivated to become involved in governance matters either because of issues they witnessed directly in their careers or because of social matters that strongly resonate with them.” Other activists, the paper reports, were “concerned about environmental risks, lack of gender diversity on boards, or human rights violations in foreign countries, and decided to file resolutions to change corporate practices.” According to the paper, overall, these individual activists “see their activity as part of a broader process of bringing about change.” While these shareholders have elicited admiration from many quarters and the process has been defended as essential to shareholder democracy, there are nonetheless critics who contend that individual shareholder activism is a nuisance and a waste of corporate time and money. According to this NYT DealBook column, the U.S. Chamber of Commerce estimates companies’ costs at $87,000 for each proposal, presumably reflecting costs of submitting no-action requests to the SEC, preparing statements in opposition for proxy statements, engaging with shareholders and sometimes even battling the proposals in court. As a result, it should come as no surprise that some of these critics advocate tightening of the criteria to submit shareholder proposals.