On Wednesday, SEC Commissioner Mark Uyeda spoke to the Society for Corporate Governance 2023 National Conference on the topic of shareholder proposals under rule 14a-8, a topic on which, historically, the commissioners’ energetic back-and-forth has been reflected in Corp Fin interpretations that have literally shifted back and forth. You might think these reversals are a new thing, but Uyeda reminds us about the goings-on in 2015, when Whole Foods was first permitted to exclude, as a conflicting proposal under Rule 14a-8(i)(9), a proxy access proposal, only to have the staff reverse course shortly thereafter. (See this PubCo post, this PubCo post and this PubCo post.) “Relying on the Commission’s rules, or its staff’s positions,” he later observes, “in this area is akin to building a sand castle on the beach. Any rule or interpretation, no matter how recently adopted, is at risk of being erased by the next wave.” However, Uyeda finds the reversals over the course of the last few years particularly problematic. In his view, the recent interpretative changes in SLB 14L have led to a surfeit of proposals the aggregate effect of which he finds to be “value-eroding.” He suggests some approaches to address the problem. Are we looking at a fundamental—some might say radical— reimagining of the shareholder proposal process?
Background. Historically, the issue of shareholder proposals has been fraught. You might recall that, beginning in 2017, Corp Fin issued several new SLBs (I, J and K) addressing, among other things, the exclusions under rules 14a-8 (i)(5), economic relevance, and (i)(7), ordinary business, an exclusion on which companies frequently rely to seek to omit environmental and social proposals. SLB 14I provided that, under 14a-8(i)(5), when a proposal related to operations that accounted for less than 5% of total assets, net earnings and gross sales, but raised issues of “ social or ethical significance,” the test allowed exclusion when the matter was not “otherwise significantly related to the company,” and the staff viewed “the analysis as dependent upon the particular circumstances of the company to which the proposal is submitted.” (See this PubCo post.) Under rule 14a-8(i)(7), proposals may be excluded if they raise matters that are “so fundamental to management’s ability to run a company on a day-to-day basis that they could not, as a practical matter, be subject to direct shareholder oversight”—unless, that is, the “significant policy exception” applies. That exception would preclude exclusion of the proposal if the proposal “would transcend the day-to-day business matters and raise policy issues so significant that it would be appropriate for a shareholder vote.” In SLB 14K, the staff advised that the issue of policy significance should be company-specific—“whether the proposal raises a policy issue that transcends the particular company’s ordinary business operations”—rather than whether the particular issue is of general significance. That is, under SLB 14K, the staff took “a company-specific approach in evaluating significance, rather than recognizing particular issues or categories of issues as universally ‘significant.’” (See this PubCo post.)
In addition, in October 2020, the SEC adopted amendments to rule 14a-8 to modify the eligibility criteria for submission of shareholder proposals, as well as the resubmission thresholds; provide that a person may submit only one proposal per meeting, whether as a shareholder or acting as a representative; prohibit aggregation of holdings for purposes of satisfying the ownership thresholds; facilitate engagement with the proponent; and update other procedural requirements. Proponents thought the amendments reflected an appropriate and necessary rebalancing of the costs and interests of shareholder proponents as against the subject companies and the other shareholders (who must share in the costs). Opponents of the amendments viewed the changes as a restriction on a mechanism for shareholder oversight of management, particularly affecting smaller holders and proposals related to ESG issues. The rulemaking generated an animated discussion among the commissioners in the course of the long meeting, as well as substantial pushback through the public comment process, discussed in more detail in this PubCo post and this PubCo post. Then-SEC Chair Jay Clayton observed that a “system in which five individuals accounted for 78% of all the proposals submitted by individual shareholders” needed some work, and former Commissioner Jackson characterized the proposal as swatting “a gadfly with a sledgehammer.” (See this PubCo post.)
Then, in November 2021, with a new SEC majority in place, Corp Fin issued new SLB 14L, which outlined Corp Fin’s most recent interpretations of the ordinary business and the economic relevance exclusions under rule 14a-8, and rescinded three earlier SLBs—SLBs 14I, 14J and 14K. Generally, new SLB 14L presented its approach as a return to the perspective that historically prevailed prior to the issuance of the three rescinded SLBs. (See this PubCo post.) Under SLB 14L, with regard to (i)(5), “proposals that raise issues of broad social or ethical concern related to the company’s business may not be excluded, even if the relevant business falls below the economic thresholds of Rule 14a-8(i)(5).” With regard to (i)(7), SLB 14L provided that the staff will “focus on the social policy significance of the issue that is the subject of the shareholder proposal. In making this determination, the staff will consider whether the proposal raises issues with a broad societal impact, such that they transcend the ordinary business of the company.” The effect of SLB 14L was to make exclusion of shareholder proposals—particularly proposals related to environmental and social issues—more of a challenge for companies, smoothing the glide path for inclusion of proposals submitted by climate and other activists, both pro- and anti-ESG.
In addition, in July 2022, the SEC proposed amendments to rule 14a-8 designed to “promote more consistency and predictability in application.” The proposal would revise three of the substantive bases for excluding a shareholder proposal under the rule: substantial implementation, specifying that a proposal may be excluded as substantially implemented if “the company has already implemented the essential elements of the proposal”; duplication, providing that a proposal constitutes a “substantially duplication” if it “addresses the same subject matter and seeks the same objective by the same means”; and resubmission, providing that a shareholder proposal would constitute a “resubmission”—and therefore could be excluded if, among other things, the proposal did not reach specified minimum vote thresholds—if it “substantially duplicates” a prior proposal by “address[ing] the same subject matter and seek[ing] the same objective by the same means.” (See this PubCo post.) The proposal to amend rule 14a-8 is on the most recent SEC reg-flex agenda with a target date for final action of October 2023.
Uyeda Remarks. In his remarks, Uyeda takes note of a recent increase in submission of shareholder proposals and decline in the proportion of staff concurrences with proposed exclusions. Why? Uyeda attributes some of the changes to SLB 14L. Since 2021, he notes, there has been an 18% increase in the number of proposals submitted (961 in 2023), and a 40% increase in the number presented for a vote (629 proposals in 2023). In particular, environmental and social proposals increased by 52%, with the number reaching a vote increasing by 125%. In addition, in the “year before SLB 14L, the staff concurred with a company’s argument to exclude a proposal pursuant to paragraph (i)(7) 40% of the time and did not concur 25% of the time. These outcomes nearly reversed in the year after SLB 14L, when the staff concurred 23% of the time and did not concur 54% of the time.” (Interestingly, from October 1, 2022 to March 31, 2023, Uyeda notes that the staff concurred with exclusion under (i)(7) 45% of the time. However, he attributes this “higher success rate” during this period to “companies becoming more judicious with their no-action requests based on paragraph (i)(7), after better understanding the staff’s position in SLB 14L. Companies made only 73 requests to exclude a proposal pursuant to paragraph (i)(7) during this six-month period from 2022 to 2023, as compared to 100 requests and 92 requests during the same period from 2021 to 2022 and 2020 to 2021, respectively.”) He even indicates that, according to some practitioners, the staff have already begun, in effect, to implement the proposed amendments to rule 14a-8 described above, “revers[ing] prior no-action positions and narrow[ing] the scope of these exclusions.” For example, the data shows that, for the exclusion for “substantial implementation” under paragraph (i)(10), “the staff previously concurred with exclusion 32% of the time and did not concur 30% of the time. Subsequently, the staff concurred 10% of the time and did not concur 58% of the time.”
However, Uyeda notes, during the same period from 2021 to 2023, the percentage of favorable votes declined from 36% in 2021 to 24% in 2023, and the percentage of majority of votes cast declined from 19% to 5%. The decline for E&S proposals was even more dramatic, from 37% favorable votes in 2021 to 20% in 2023, with only 3% actual majority votes. Could that decline reflect “shareholder overload”? Not so much perhaps, Uyeda contends, from proposals that “limit management entrenchment,” which “can add value to a company,” but rather from the volume of proposals that asset managers do not see as increasing enterprise value. Recently, several asset managers have characterized many shareholder proposals as too prescriptive or unconnected to material risks or long-term value, or generally of decreased overall quality. (See this PubCo post and this PubCo post.)
In addition, we shouldn’t forget that dealing with shareholder proposals can be costly both in dollars and in time and opportunity, Uyeda cautions. Although only a small minority of shareholders actually submit proposals—the top five shareholder proponents submitted approximately 55% of all proposals for the 2023 season—the costs are borne by all shareholders. However, he adds, quoting from a 1982 SEC release, “Rule 14a-8 was not intended ‘to burden the proxy solicitation process by requiring the inclusion of proposals [submitted by a few proponents that are unrelated to the general interests of shareholders].’”
Given the current trajectory, Uyeda offers three approaches to address the issue: “(1) greater use of private ordering to manage shareholder proposals; (2) exclude proposals on social policy issues that lack a material relationship with the company; and (3) changes to how the Commission staff processes shareholder proposals.”
Greater Use of Private Ordering. Here, Uyeda advocates a fundamental reconfiguration of the shareholder proposal process—the use, under state law authority, by companies of “private ordering” of the shareholder proposal process. Essentially, Uyeda suggests, take the federal regulators out of it. Uyeda contends that “Section 14(a) does not specifically preempt state corporate law or even specifically mention shareholder proposals….Indeed, such a broad claim of Commission authority might raise issues under the major questions doctrine discussed in West Virginia v. EPA.” (See this PubCo post.) According to Uyeda, “rule 14a-8’s procedural bases for exclusion—contained in paragraphs (b) through (e)—should be viewed as default standards that apply only if companies decline to establish their own standards in their governing documents. If a company established its own standards, then neither the Commission nor its staff should be involved in determining whether the proponent satisfied those standards under state law; instead, any disagreement between the proponent and the company should be treated like any other dispute over an interpretation of a company’s governing documents and resolved in state court.” He notes that his idea is similar to an SEC proposal (not adopted) from 1982, differing in that the SEC proposal included minimum standards. To support his concept, he looks to the “philosophy” underlying rule 14a-8 as articulated by the SEC Chair in 1943: “to grant to a shareholder ‘those rights that he has traditionally had under [s]tate law[:] to appear at the meeting; to make a proposal; to speak on that proposal at appropriate length; and to have his proposal voted on.’” The idea was to facilitate shareholders’ rights, he contends, not replace them. Consistent with the rule’s underlying intent, “a company should have the right to adopt, in its governing documents, requirements for shareholder proposals that differ from those set forth in rule 14a-8.” Private ordering, Uyeda suggests, would offer companies the benefits of “certainty that the procedural standards will not change based on who is leading the Commission,” the opportunity to tailor the proposal regime to companies’ needs, and the ability to more quickly revise their shareholder proposal procedures as circumstances and trends evolve. What’s more, exploration of possible private ordering for shareholder proposal requirements, Uyeda concludes, “may not require any legislative or regulatory action.” He holds up proxy access as an example of the successful use of private ordering. (Of course, proxy access is rarely used.)
Relationship between Social Policy Issues and the Company. In the absence of private ordering, Uyeda advocates that the SEC adopt a “single standard for evaluating social policy issues in shareholder proposals under rule 14a-8.” The concept of a social policy exclusion can be traced back to 1952, when a proposal could be excluded if it was “primarily for the purpose of promoting general economic, political, racial, religious, social, or similar causes.” Citing again the former SEC Chair in 1943, Uyeda asserts that rule 14a-8 was “not intended to allow proponents to make political statements through their proposals.” Through 1976, Uyeda, argues, “the history is clear that a company could exclude a proposal that promoted a general social policy issue because it, by definition, did not have a significant relationship to the company.” He acknowledges, however, that, in much of the period following, the need for a “nexus between the social policy issue and the company” was more murky. As noted above, SLB 14K imposed a “company-specific approach” in evaluating policy significance, which was reversed in SLB 14L. Following the issuance of SLB 14L, Uyeda maintains, “many proposals have been submitted in an attempt to force public companies to take positions on various political issues.”
In light of this history of the social policy exclusion, Uyeda advocates the adoption of a new single standard that would provide an independent basis (i.e., not an exception to another exclusion) for exclusion of a social policy proposal based on a material relationship between the policy issue and the company. As described by Uyeda, the “degree of the relationship should be sufficiently unique so that social policy issues generally applicable to any company are excludable. The standard could be similar to that for risk factor disclosure, where the Commission requires disclosure of material risks and discourages inclusion of ‘risks that could apply generically to any registrant.’…Hence, a proposal would be excluded if it focuses on a social policy issue that is not materially related to the company. As with any materiality standard, quantitative and qualitative factors specific to a company would be considered.”
Processing of Shareholder Proposals. Finally, Uyeda advocates some changes designed to improve the efficiency of processing shareholder proposals. First, Uyeda suggests that the SEC reconsider whether companies still need to send the shareholder proponent a copy of the opposition statement 30 days in advance of filing the definitive proxy statement. That requirement, he said, dates to a time when all proxy statements were first filed as prelims and potentially reviewed by staff, and the requirement was intended to relieve some of the staff’s burden by allowing time for proponent review. Now, filing of prelims is quite limited, and so the rationale is no longer entirely operative. In addition, the 30-day timeline no longer works with the current longer time for staff responses to no-action requests. That is, the opposition statement may be required to be prepared even before the company knows whether proposal may ultimately be excluded or while the proponent and the company are still negotiating potential withdrawal of the proposal.
Uyeda also advocates that the involvement of the SEC staff through the no-action process be eliminated entirely or at least limited. The staff commitment of time is enormous, and, while no-action letters may provide comfort to companies, “only a court can adjudicate whether that decision complied with rule 14a-8.” Alternatively, staff responsibility could be limited. Because decisions about whether an issue is a social policy issue “are fact-intensive and inherently subjective,” Uyeda recommends that the staff not be required to make those determinations. Not to mention the possibility that bias could influence the decision. In addition, other than federal securities law, he suggests, the staff should not be required to make any determinations on whether a proposal violates an area of law about which the staff does not have particular expertise, such as state law or foreign law, even if the no-action request is accompanied by an opinion of counsel. (See, for example, the exclusions under 14a-8(i)(1) (not a proper subject for shareholder action under applicable state or foreign law) and (i)(2) (violation of state, federal, or foreign law).) With regard to these exclusions, it is not necessary to obtain no-action relief, Uyeda asserts, “a court is the more appropriate forum for deciding issues that are not rooted in the federal securities laws. If either the proponent or the Commission disagrees with a company’s decision to exclude a proposal, then the parties can litigate the issue in court.” (He notes, however, that, under rule 14a-8(j), the “company would still need to file its reasons for excluding the proposal and provide a copy to the shareholder proponent.”) For example, the staff has not issued no-action relief as to affiliate status for decades, and market participants have simply performed their own analyses. By limiting the role of staff on these questions, the staff would have more time and resources to devote to other no-action requests, allowing the staff to provide no-action responses that offer more explanation for the decision and thus providing more transparency.
In conclusion, Uyeda observes that, if the SEC takes no action “to prevent value-eroding shareholder proposals from being part of the annual meeting process,” and, as a result, “the number of shareholder proposals continues to grow at double digit rates, a future SEC commissioner might reminisce about how much simpler proxy season and shareholder proposals were in 2023.”
[View source.]
