by Cydney Posner
According to this report in Bloomberg BNA, the plans for changing the shareholder proposal process in the Financial CHOICE Act 2.0 are quite dramatic and could effectively curtail the process, if that is, the current version of the provision ever makes it into law.
In February, we saw a memo from Jeb Hensarling, Chair of the House Financial Services Committee, to the Committee’s Leadership Team outlining the proposed changes from the original Financial CHOICE Act, introduced last year (see this PubCo post), to be included in the Financial CHOICE Act 2.0. The memo indicated that one of the provisions of CHOICE 2.0 would seek to modernize the shareholder proposal and resubmission thresholds for inflation, but no details were provided. (See this PubCo post.)
SideBar: Currently, to be eligible to submit a shareholder proposal, the shareholder must have continuously held, for at least one year, company shares with a market value of at least $2,000 or 1% of the voting securities. With regard to resubmission, shareholder proposals that deal with substantially the same subject matter as proposals that have been included in the company’s proxy materials within the past five years may be excluded from proxy materials for an upcoming meeting (within three years of the last submission to a vote of the shareholders) if they did not achieve certain voting thresholds, which vary depending on the number of times previously submitted: if proposed once in the last five years, the proposal may be excluded if the vote in favor was less than 3%; if proposed twice and the vote in favor on the last submission was less than 6%; and if proposed three times or more and the vote in favor on the last submission was less than 10%.
Now, as BNA reports, draft CHOICE Act 2.0 would require the SEC to revise the eligibility requirements for shareholder proposals to eliminate the dollar threshold entirely and provide eligibility only where the shareholder holds 1% of company’s voting shares (or a higher threshold if the SEC so determines). The draft would also increase the required eligibility holding period for shares from one year to three years. In addition, CHOICE 2.0 would require the SEC to raise the resubmission thresholds (see the SideBar above) as follows: if proposed once in the last five years, the proposal could be excluded if the vote in favor was less than 6%; if proposed twice and the vote in favor on the last submission was less than 15%; and if proposed three times or more and the vote in favor on the last submission was less than 30%. And, in a provision that seems expressly tailored to limit (or at least restructure) the activity of that most frequent submitter of shareholder proposals, John Chevedden, CHOICE 2.0 would prohibit an issuer “from including in its proxy materials a shareholder proposal submitted by a person in such person’s capacity as a proxy, representative, agent, or person otherwise acting on behalf of a shareholder.’’ Mr. Chevedden often handles shareholder proposals and interacts with Corp Fin as a representative for his associates.
SideBar: 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. According to the NYT, Mr. Chevedden’s focus on shareholder proposals “started after being laid off,” with his first target being the parent of his employer to which he submitted a proposal asking the parent to disclose more information about the employment practices of Chevedden’s former employer. His current activism, he believes, “‘gives shareholders more of a say’ and potentially puts management on its toes and prevents it from lapsing into complacency.” (See this PubCo post.)
In a 2014 interview with The Corporate Crime Reporter, Chevedden affirmed that he was a believer in corporate democracy and that, notwithstanding the absence of financial incentive to submit these proposals, one reason for his actions was simply to improve governance: “‘These proposals have been adopted by many companies. Some of the ones that get big votes — like declassify [the board] and simple majority voting — when I go back to companies that have adopted these, they will point out that they have improved their governance by adopting these proposals, as if they did it without my suggesting it, and therefore they don’t need any more improvement. They are so good they don’t need to get any better.’” Interestingly, many of the proposals that were submitted many years ago—and considered highly controversial at the time—have now become commonplace proposals and, in some cases, routine corporate governance practices, such as shareholder ratification of the selection of corporate auditors.
The draft provision is clearly intended to staunch the flow of shareholder proposals, which have certainly been the bane of many a CEO and board. The article observes that the “higher threshold would block ‘corporate gadflies,’ faith- and values-based investors and even the nation’s biggest public pension funds” from submitting shareholder proposals, especially at larger companies “where 1 percent of stock would be billions of dollars. Only the likes of Vanguard, BlackRock and State Street would be able to propose ideas for a shareholder vote at the largest companies. Asset managers have shown little interest in wielding their voting power on proposals, much less submitting their own.”
SideBar: Although the shareholder proposal 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 are likely to be fully on board with this draft provision tightening the criteria to submit shareholder proposals. In support of their contentions that the process is wasteful, these critics also point to the poor showing of most of these proposals. According to a recent paper from the Rock Center for Corporate Governance at Stanford University, most of these proposals receive only minimal shareholder support — an average of only 29% of the vote over the 10-year period, with “only a handful of subject matters garner[ing] meaningful support, including the elimination of supermajority requirements, the elimination of staggered boards, and the removal of bylaw provisions that limit shareholder influence.” We might add proxy access to the list. “By contrast,” the paper observes, “voting support for most board, compensation, and social policy matters remains exceptionally low; over half of all categories of issues brought before individual shareholders never received majority support in any corporate meeting during the entire 10-year measurement period….”
However, public pension funds appear to be up in arms over the possibility. A representative of CalSTRS commented in the article that “‘[i]t would shut down the shareholder proposal process completely.’” And the New York State Comptroller, who manages the state’s retirement fund, contended that “the legislative proposal would ‘diminish corporate accountability’ and ‘put investors and corporations at risk.’” A representative of CalPERS observed that the proposed legislation would turn the shareholder proposal process “into the billion dollar club.”
A House hearing on CHOICE 2.0 is scheduled for next week and, while passage in the House seems likely, it would be surprising for the Act to survive the Senate unscathed — raising the question perhaps of whether Chair Hensarling might possibly be staking out a tough position for expected future negotiation. But, even if adopted, according to one academic commentator cited in BNA, the idea could very well “backfire,” as “many shareholders who might otherwise have filed proposals ‘will find other ways to confront management,’ by voting against directors, for example.”