The proper care and handling of shareholder proposals has generally meant one thing for Corporate America: finding ways to keep those proposals off the proxy statement.
This coming proxy season, that exercise will be even more murky than usual. At issue are two recent developments: one at the Securities and Exchange Commission, the other in a U.S. federal district court.
Traditionally, companies wanting to exclude a shareholder proposal have asked the SEC Division of Finance staff for a no-action letter, allowing the company to keep the proposal off the proxy if it chooses; tailoring that request for a no-action letter to the SEC’s exemption criteria is a crucial part of the process. Not necessarily easy, but a well-understood routine of corporate securities law.
This coming year, not so much. Earlier this month the SEC offered no-action relief to Whole Foods over a proxy access battle, which might suggest looser standards in the SEC’s decision-making process in the future. At the same time, however, a ruling from the U.S. federal district court in Delaware not only sided with shareholders—it also said the SEC’s authority in no-action letters can be challenged, paving the way for more activists to sue in the future.
The Whole Foods case involved dueling proposals to let shareholders place their own director nominees on the proxy: one from activist investor James McRitchie granting proxy access to any shareholder who owns at least 3 percent of the company for at least three years; and a counter-proposal from Whole Foods itself setting the threshold at 9 percent of company stock for least five years.
“It is very important to be aware of what the staff’s positions have been and what the prior letters say. At the same time, be aware that positions may change, as they have over time.”
Claudia Allen, Head of Corporate Governance Practice, Katten Muchin
Whole Foods argued that shareholders shouldn’t vote on both ideas at one time (because approving both plans simultaneously would provide inconsistent results) and that Whole Foods had the discretion to decide which of the two proposals can go in the proxy—namely, its own. The SEC agreed. The Whole Foods victory implies that the SEC is willing to take a broader, business-friendly view of what constitutes a “substantially similar company proposal.”
It also arrives just as companies prepare for a spike in proxy access proposals this season. New York City Comptroller Scott Stringer, on behalf of the city’s $160 billion pension funds, has filed 75 proxy access shareowner proposals requesting bylaws that give shareowners who meet the “three and three” threshold the right to list their director candidates. Companies targeted include Exxon, eBay, Chipotle, Electronic Arts, Staples, Hasbro, and Duke Energy.
Responding to a Proposal
One peril here for companies seeking similar no-action relief is that the SEC may well reverse course in the future. “The approach was effective this year, but we don’t know if it will be effective in the long term,” says Bree Archambault, of the law firm Reed Smith. “Companies need to consider all their options, and this is not necessarily a magic bullet to avoid shareholder proposals.”
The SEC handles no-action requests on a company-by-company basis, and often views matters differently, warns Claudia Allen, head of the corporate governance practice at law firm Katten Muchin. “It is very important to be aware of what the staff’s positions have been and what the prior letters say,” she says. “At the same time, be aware that positions may change, as they have over time.”
For example, no-action requests typically are not granted for proposals that involve “significant policy issues”—but the SEC’s view of what a significant policy issue is can change; these days, they are more likely to include environmental and diversity matters. “Things that in the past might have been excluded are significant policy issues now,” Allen says. “While there is something predictable about the body of precedent with no-action letters, they are not binding and something that may have been a good argument one year may no longer be a good argument the next.”
Courts Can Step In
When Can a Company Exclude a Shareholder Proposal?
When the Securities and Exchange Commission assesses whether it will issue no-action relief to a company looking to exclude a shareholder proposal from its proxy statement, ensuring that it will not face enforcement action for doing so, it relies upon standards laid out in its Rule 14a-8. Among the criteria:
• If implementing the proposal would violate state, federal, or foreign law;
• The proposal or supporting statement violates proxy rules, including the prohibition on false and misleading statements in proxy materials;
• The submission amounts to a personal grievance;
• The company lacks authority to implement the change;
• A proposal deals with a matter related to a business’s ordinary business operations;
• A proposal seeks changes that have already been substantially implemented;
• Resubmission of a substantially similar past proposal that doesn’t meet SEC timelines;
• The proposal directly conflicts with one from the company or another shareholder at the same annual meeting.
While activists were upset over the Whole Food’s decision, a separate development may give them an alternative. A November decision by the U.S. District Court for the District of Delaware slapped down a no-action letter that sided with Walmart’s exclusion of a shareholder proposal at its 2014 annual meeting. That case involved a battle between the retailer and Trinity Wall Street, an organization associated with New York City’s Trinity Church.
In December 2013, Trinity submitted a proposal aimed at pressuring Walmart’s board of directors to decide whether the company should keep selling guns with magazines able to hold more than 10 rounds of ammunition. Walmart asked the SEC for a no-action letter that would allow it to omit the proposal on the basis it “deals with matters relating to the company’s ordinary business operations.” The SEC agreed and granted the no-action letter. Trinity turned to the court in protest.
Walmart’s argument was that the “broad variety of products” it offers and the many customers, employees, and communities around the world it works with shows “there is no single set of family and community values” readily identifiable as being “integral to the company’s promotion of its brand.” It also argued that the proposal was “impermissibly vague and ambiguous.”
The court, however, sided with Trinity and declared that social issues can “transcend the day-to-day business matters” and be appropriate for a shareholder vote. The sale of high-capacity firearms, it said, meets that standard. The court also ruled that the proposal was properly drafted as it steered clear of dictating that specific products not be sold, leaving those decisions to the board.
In the decision—which clears the way for Trinity to re-propose the proposal at Walmart’s 2015 annual meeting—Judge Leonard Stark noted that the SEC’s exclusion criteria can be overly broad. “Viewed at a general level, anything a company like Walmart does at least somewhat ‘deals with’ a matter ‘relating to’ the company’s business operations,” he wrote. His opinion also notes that no-action responses are “informal views” and “only a court can decide whether a company is obligated to include shareholder proposals in its proxy materials.”
The reminder from the Walmart decision: What the SEC giveth, courts can taketh away. “Appeals, traditionally, are fairly rare because of the expense,” Allen says. “But the successful court case may embolden others to take that step, knowing that the court may be less deferential to the SEC process than they anticipated.”