On Monday, the SEC announced that John Coates has been appointed Acting Director of Corp Fin. He has been the John F. Cogan Professor of Law and Economics at Harvard University, where he also served as Vice Dean for Finance and Strategic Initiatives. If that name sounds familiar—even if you haven’t been one of his students—it may be because he sometimes pops up in Matt Levine’s column in Bloomberg as the author of “The Problem of Twelve,” which he describes as the “likelihood that in the near future roughly twelve individuals will have practical power over the majority of U.S. public companies.” Beyond that, he has been a very active member of the SEC’s Investor Advisory Committee, and Committee recommendations he has authored may give us some insight on his perspective on issues.
In addition, Acting Chair Allison Lee has named Satyam Khanna to a new post as senior policy advisor for climate change and ESG, signaling, as we have discussed repeatedly, Lee’s continued focus at the SEC on ESG issues, such as climate and diversity. (See, e.g., this PubCo post and this PubCo post.)
Proxy plumbing. In 2019, the SEC’s Investor Advisory Committee voted to submit to the SEC revised recommendations, authored principally by Coates, that addressed “proxy plumbing”—the panoply of thorny problems associated with the infrastructure supporting the proxy voting system. (See this PubCo post.) It is widely recognized that the current system of share ownership and intermediaries is a byzantine one that accreted over time and certainly would not be the system anyone would create if starting from scratch. There is also broad agreement that the current proxy plumbing system is inefficient, opaque and, all too often, inaccurate. As the recommendations observed, under the current system, shareholders “cannot determine if their votes were cast as they intended; issuers cannot rapidly determine the outcome of close votes; and the legitimacy of corporate elections, which depend on accurate, reliable, and transparent vote counts, has been called into doubt.” For the most part, the recommendations would not have reinvented the proxy voting system, instead targeting improvements that were considered essentially “low-hanging fruit.” However, there appeared to be a consensus that eventually more would need to be done. The Committee recommended that the SEC
- require end-to-end vote confirmations for end-users of the proxy system, potentially commencing with a pilot involving the largest companies;
- require “all involved in the system to cooperate in reconciling vote-related information, on a regular schedule, including outside specific votes, to provide a basis for continuously uncovering and remediating flaws in the basic ‘plumbing’ of the system”;
- conduct studies on share lending (to understand the extent to which share lending “contributes to errors, over-votes or under-votes, and whether the effect of share lending on voting entitlements is effectively disclosed to investors”) and on investor views on anonymity (to find out whether so many investors really want to be anonymous “objecting beneficial owners”—which effectively precludes direct company contact—or whether they choose to be OBOs due to confusion or incentives of intermediaries); and
- adopt its proposed ‘universal proxy’ rule, with the modest changes that would be needed to address objections that have been raised to that proposal. (See this PubCo post.)
Interestingly, there was a lot of discussion about proxy plumbing, including a roundtable, during former SEC Chair Jay Clayton’s tenure (see, e.g., this PubCo post), but not much action taken. Was the problem too overwhelming? Will Coates now seek to move these changes forward?
Shareholder proposals/proxy advisors. In 2020, the Investor Advisory Committee voted to submit to the SEC a recommendation, again authored principally by Coates, regarding SEC rule proposals on proxy advisory firms and shareholder proposals. The recommendation was highly critical of both proposals as unlikely to reliably achieve the SEC’s own stated goals, and ultimately advised the SEC to rethink and republish the proposals and reconsider the related guidance it had issued. (Apparently, Coates’s initial draft of the recommendations was a bit more harsh than the version approved, as he indicated to the Committee that the current version reflected substantial revisions, including removing the word “failure” throughout.) The recommendation contended that the proposals were almost futile without addressing in parallel more basic proxy plumbing issues (as the Committee had previously recommended, as discussed above) and that the SEC had not adequately identified the underlying problems that were intended to be remedied, provided a sufficient cost/benefit analysis or discussed reasonable alternatives that might have been proposed. The recommendation also considered the SEC’s proposal regarding shareholder proposals to be inadequate in failing to discuss the value of shareholder proposals, including trends in favorable vote results (which had increased over time). Nor did the proposal adequately analyze the types of proposals that would be excluded under the revised thresholds and the value of those proposal to shareholders. In addition, the recommendation argued that the proposal did not adequately consider the impact of the proposed changes on smaller shareholders or potential unintended consequences. And again, the recommendation was critical of the SEC’s failure to discuss alternatives. While Coates did not object to the notion of increasing the eligibility thresholds, he thought the SEC should have been more incremental in its approach and then studied the impact before raising the thresholds incrementally again.
The Coalition for Sensible Safeguards identified the new shareholder proposal rule and the new proxy advisor rule as potential candidates for action under the Congressional Review Act, which provides that recently finalized rules may be jettisoned by a simple majority vote in Congress and a Presidential signature. Both of these rulemakings were the subject of strong dissents from the Democratic SEC Commissioners. And as discussed in this PubCo post, the SEC’s Investor Advocate also recommended reversal of both of these rulemakings. (See this PubCo post.) Will Congress provide an opportunity for Coates to revise these rulemakings—or perhaps chuck them altogether?
Human capital. The human capital disclosure rulemaking is a different story. In 2019, the Committee voted to recommend that the SEC consider imposing human capital management disclosure requirements as a part of its Disclosure Effectiveness Review and disclosure modernization project. The recommendation was once again drafted by Coates. However, the recommendation was quite flexible, indicating that the disclosure requirements might be limited to the most basic, purely principles-based disclosure, asking companies to “detail their HCM policies and strategies for competitive advantage and comment on their progress in meeting their corporate objectives.” Alternatively, the requirements could be more prescriptive, mandating use of specific metrics, some of which companies might already use to measure the success of their HCM strategies and investments. For example, the recommendation suggested that Reg S-K, Item 101, could be expanded to require more information about the breakdown of workers into full-time, part-time and contingent categories, as well as key performance indicators, such as rates of turnover, internal hire and promotion, safety, training, diversity and standard survey measures of worker satisfaction. Discussion of applicable company policies on these topics might be included. Item 101 also requests information about competitive conditions, which could be interpreted to apply to “productivity and competitive advantages of the issuer’s employee population, relative to competitors and available pools of labor.” Through the SEC comment process, the staff could seek to elicit data about the education, experience and training of the workforce. In addition, proxy disclosure could address how human capital is being “incentivized and managed” by augmenting executive comp disclosure with summaries of material information about broader workforce compensation and incentives, such as factors considered in pay and promotion decisions and organizational structures related to HCM.
As it turned out, in adopting a human capital disclosure requirement, the SEC went strictly principles-based. However, Clayton remarked that, while the SEC is not prescribing “specific, rigid metrics,” under the principles-based approach, he did “expect to see meaningful qualitative and quantitative disclosure, including, as appropriate, disclosure of metrics that companies actually use in managing their affairs.” (See this PubCo post.) Presumably, Corp Fin, under Coates’s direction, will be reviewing the disclosures to assess the level of compliance and perhaps providing guidance to help flesh out the principles-based requirement.