The US Securities and Exchange Commission (SEC) has been active on various fronts, including enforcement. For corporate directors, one significant development so far this year has been the revival of a previously proposed universal proxy rule, largely favored by institutional investors but opposed by many corporations. Based on the SEC’s stated plans, the revived proposal is the first of many rules to come.
Since Chair Gary Gensler was confirmed in mid-April, the SEC has posted more than 30 accounting and enforcement releases; ordered more than 40 trading suspensions; issued more than 100 litigation releases; and initiated or closed more than 100 administrative proceedings, according to the agency’s “Enforcement” web page. In addition, the SEC has made 15 whistleblower awards worth more than $100 million, reports its Office of the Whistleblower. The agency also recently approved Nasdaq’s new listing rule mandating board diversity disclosures.
As far as new SEC rules go, however, the agency has proceeded with caution under both Gensler and his immediate predecessor, Allison H. Lee, who served as acting chair from January 2021 to mid-April. As of August 17, 2021, the agency under Lee and Gensler issued one interim rule on auditors used by foreign firms. Other than two filing modifications, it has not published a single final rule or proposed rule other than the universal proxy rule discussed here. What is happening instead is a great deal of preparation that is likely to result in a cluster of rules into early 2022.
Topics on the Horizon
The SEC’s current Agency Rule List discloses more than 30 rules set to be created or modified before April 2022, including potential new rules on the following topics:
climate change disclosure
corporate board diversity
cybersecurity risk governance
human capital management disclosure
clawbacks (to be written as a new rule based on a previously proposed rule, which sparked this NACD comment letter)
pay versus performance (proposed in May 2015; see this original NACD comment letter)
universal proxy (originally proposed November 2016 as a 243-page rule and reopened for comment with a 14-page release in April 2021)
At this time, the SEC is most actively focused on the universal proxy rule.
Normally, at annual shareholder meetings investors receive one ballot with the names of directors recommended for appointment by the nominating committee. A separate rule from 2004 attempted to encourage shareholder nominations by requiring nominating committees to disclose the source of nomination by category (e.g., shareholder, recruiter, board member, CEO). However, there are still times when shareholders want to propose their own slate directly to other shareholders. If an election is contested in this way (the case in about 1 percent of elections) there must be two ballots—one from the board (commonly referred to as the management slate, though this is a misnomer) and one from the dissidents.
The SEC wants to require the use of universal proxies for contested elections in public companies with certain exceptions—namely for exempt solicitations, registered investment companies, and business development companies. Although such an option has always been available to shareholders voting in-person at the annual meeting, it has not been available by proxy.
The universal proxy rule, proposed on and off since the proxy rule reforms of 1992, would dictate the use of one ballot rather than two, and thus shareholders could mix and match their votes.
This process is not easy to do under the following rules currently in place:
The “bona fide nominee” rule, adopted in 1966, which allows for some mix-and-match capability but requires each side of a proxy contest to obtain consent before listing candidates from the other side
The so-called “short slate” rule, adopted in 1992, which provides a limited exemption from the requirement to obtain consent. A dissident can include candidates recommended by the nominating committee in addition to its own candidates, as long as the slate proposes filling less than half of board seats
Comments are still coming in on the universal proxy rule, most of them from institutional shareholders and their affiliates, such as the California Public Employees’ Retirement System, the Council of Institutional Investors, and Institutional Shareholder Services; as these links show, the letters were supportive. However, a half dozen comments representing corporations’ interests expressed concerns about reviving the proposed rule. Cautionary messages were filed by the US Chamber of Commerce and the Society for Corporate Governance. The most detailed letter (listing 20 pages of legal concerns) came from law firm Sidley Austin and was signed by several partners, including Holly Gregory. A common theme in letters opposing the rule is that, as the Chamber letter states, the rule could “increase the frequency and ease of proxy fights for dissident shareholders.”
The number of proxy contests that occur in any given year is low, ranging from a handful to a couple dozen, wrote Fried, Frank, Harris, Shriver & Jacobson in a client memo. Even so, the law firm noted, “Activists routinely threaten to conduct a proxy contest and frequently initiate the process to conduct a proxy fight, including nominating directors, engaging in investor and public relations activities, and making preliminary filings with the SEC.”
NACD has not yet responded to the reissued rule, but the NACD comment letter submitted January 3, 2017 registered opposition to universal ballots because “the ‘mix and match’ voting approach that they empower could result in a final group of directors that might not be optimal for the specific company they would be serving.” NACD added that “the election process should assemble a board of directors whose skill sets are complementary and who are capable of working together to advance corporate strategy.” As a nonprofit, NACD attempts to forge a middle ground on behalf of all directors.
The clash of views between investors and businesses poses a dilemma for the SEC, which according to its three-part mission serves constituencies and markets alike. It is not uncommon for the SEC to go back and forth between a focus on issuers and a focus on shareholders as presidential administrations change. Public company board members, both incumbent and aspiring, have a stake in the outcome of this proposed rule.
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