Whose Proxy Statement? The SEC Adopts “Proxy Access”

By Casey M. Nault
September 1, 2010

Overview and Executive Summary

On August 25, 2010, the Securities and Exchange Commission adopted “proxy access” by a 3-2 vote, ending a process that had spanned several years and alternative rule proposals. Significant shareholders or groups of shareholders will now be able to use management’s proxy statement to nominate director candidates to public company boards, rather than preparing and filing their own proxy statements and waging a traditional proxy contest. Neither the adoption nor the timing (i.e., in time for the 2011 proxy season) was a surprise, given comments earlier this year from SEC Chair Mary Schapiro that proxy access was high on the Commission’s agenda.

As more fully described below, the new rules:

Provide a “proxy access” right to shareholders who satisfy a “three percent for three years” test
Limit shareholder nominees under the proxy access rule in any year to 25% of total board seats
Require shareholder nominees under the proxy access rule to be independent under applicable stock exchange standards (but not independent of the nominating shareholder)
Delay implementation of the proxy access right at “smaller reporting companies” for three years

Scope

The new proxy access rules apply to all companies with equity securities registered with the SEC, including companies whose securities are quoted on the over-the-counter bulletin board or pink sheets (i.e., not limited to companies listed on a major stock exchange). However, implementation of the proxy access right for “smaller reporting companies” as defined by SEC rules (generally those with public floats under $75 million) will be delayed for three years.

Key Elements

General. Companies will be required to include the nominees of qualifying shareholders (or groups of shareholders) in the Company’s proxy materials, subject to the conditions and limits on aggregate shareholder nominees under the rules.
Threshold: Three Percent for Three Years. To be eligible, a shareholder must have continuously held at least three percent of the total voting power for at least three years. Shareholders can aggregate their holdings for the purpose of qualifying. Borrowed shares will not count toward the threshold; only shares over which the shareholder has investment control.

The final rule differs from the prior rule proposal, which would have set thresholds of one, three and five percent depending on the size of the compa

Shareholder Nominees Limited to 25% of Total Board Seats. The aggregate number of shareholder nominees cannot exceed 25% of the total board seats. Companies with classified or “staggered” boards should note that the limit is tied to total board seats, not the number of seats up for election in a given year. If the Company determines to support a nominee submitted by a shareholder through the new proxy access process, that nominee will count toward the 25% limit.
Nominees Must Be Independent. Shareholder nominees must satisfy all objective independence criteria under applicable stock exchanges. However, nominees need not be independent of, and may be affiliated with, the nominating shareholder.
Purpose Cannot Be Control. Shareholders cannot use the new proxy access system if they intend to seek control of the Company or a number of board seats in excess of the 25% threshold under the rule.
New Shareholder Notice Filing. Nominating shareholders will need to submit a new notice to the Company and the SEC on Schedule 14N, providing relevant details and supporting statements, no later than 120 days before the anniversary of the prior year’s proxy statement. Similar to the shareholder proposal process, companies will have the ability to seek to exclude nominees on procedural grounds.
Shareholder Proposals Can Expand Proxy Access Right. The SEC also amended the shareholder proposal rules to permit shareholder proposals on proxy access, so long as the proposals do not conflict with the new proxy access rules. For example, companies could not exclude on substantive grounds a shareholder proposal that sought to expand the scope of proxy access (e.g., lowering the percentage ownership threshold below three percent). “Smaller reporting companies” should note that while implementation of the proxy access right has been deferred for three years, the change in shareholder proposal rules has not been deferred, so they will be subject to proxy access proposals, including binding proposals, in 2011.
Effective Date. The new rules will be effective 60 days after publication in the Federal Register, or around November 1, 2010. The 120-day notice period for nominations will apply, but since most calendar-year companies filed their 2010 proxy statements after March 1, 2010, proxy access will apply to most companies for the 2011 proxy season (other than smaller reporting companies, as noted above).

What Should Companies Do Now?

Public companies other than “smaller reporting companies” should assess the likelihood that any shareholder, or group of shareholders, satisfying the “three percent for three years” test would run a slate of director nominees in the company’s proxy statement. Outreach to major shareholders may be appropriate in some circumstances.

Conclusion

Proxy access has been much debated but, as we have discussed in prior alerts, has been widely expected in some form. The ultimate effect of proxy access remains to be seen, but it certainly gives large shareholders greater leverage over director elections and may result in an increase in negotiations between companies and large shareholders over board nominees. Should you have any questions or wish to discuss these issues further, please contact your usual Graham & Dunn attorney or Casey M. Nault (206.903.4808 or cnault@grahamdunn.com) or Stephen M. Klein (206.340.9648 or sklein@grahamdunn.com).