Members of the
board of directors are elected when shareholders vote for names
appearing on the company's annual proxy statement. Currently, only the
names of people nominated by the company appear on the proxy statement.
If a shareholder wants to nominate a candidate, he or she must undertake
a costly proxy contest involving preparation and distribution of
separate proxy materials. Practically speaking, the cost of a proxy
contest often serves as a deterrent.
Are there more changes in
the works? What are the other provisions of the Shareholder Bill of
Rights of 2009?
The
Shareholder Bill of Rights would also require that companies have:
A risk
committee comprised of outside directors who have responsibility for the
company's risk management.
An independent
chairperson of the board of directors - one who has not previously
served as a CEO of the company.
No staggered
terms for directors, meaning that each director is subject to annual
election by the shareholders.
Majority and
plurality voting, meaning that directors must be elected by a majority
of the voters in an uncontested election and by a plurality in a
contested election. If a director does not receive a majority of the
votes in an uncontested election, then the director must resign and the
company must accept his or her resignation.
Changes in Proxy
Rules: Will They Help or Hurt?
Last updated: December 29, 2009
Following the financial market crisis in 2008 and early 2009, the US
Securities and Exchange Commission (SEC) has been taking a fresh look at
the proxy disclosure and solicitation process. The results will likely
be two giant steps forward for investors in public companies that are
regulated by the SEC.
The first step involves enhanced proxy disclosure requirements under
new rules that were adopted in December 2009 and take effect as of
February 28, 2010. Companies and boards of directors will need to
hustle to get meaningful disclosures ready in time for the upcoming
2010 proxy and annual reporting season. But the added information
should prove helpful to investors for both voting and investment
decisions.
The next step is expected in early 2010 when the Commission
considers controversial new rules on proxy access that were proposed
in June 2009 and resulted in significant commentary and analysis.
SEC Chair Mary Schapiro said the rules will likely be finalized in
2010 after the Commission has had time to fully consider all the
relevant input. Based on that timetable, less costly shareholder
nominations of directors could well become a reality in the 2011
proxy season.
This
special report provides highlights of these and other SEC rule-making
initiatives designed to provide better information and greater rights
for shareholders.
Enhanced Proxy Disclosure Requirements
The
final rules approved in December 2009 require that companies provide
more information about their corporate governance and risk oversight. The types of
information to be provided include more details about the qualifications
of individuals serving on (or nominated for election to) the company’s
board of directors, as well as expanded disclosures about the board’s
leadership structure and oversight of any material risks that might
arise from the company’s compensation policies, including any policies
that might encourage inappropriate risk-taking by employees.
Specifically, investors can expect to be better informed about the
following:
Qualifications of directors and nominees.
The proxy statement will contain a description of the experience,
qualifications, attributes and skills that led the board to conclude
that each individual director should serve as a director of the
company, even if the individual is not up for reelection at the time
of the report. It will also list all public company directorships
held by each individual during the past five years, and it will
expand the timeframe and definitions used in the rules for
disclosures about any legal actions involving the
company's executive officers, directors and nominees. Under the new
rules, the timeframe covered by these disclosures is now expanded
from the past five years to the past ten years, and the definition
is expanded to include more violations, (i.e., any judicial or
administrative proceeding based on a violation of federal and state
securities, commodities, banking or insurance laws and regulations)
and sanctions (i.e., any disciplinary sanction or order imposed by a
stock, commodities or derivatives exchange, or any self-regulatory
organization).
Consideration
of diversity in board nominations.
In addition to information about individual qualifications, the
proxy statement will discuss other factors taken into consideration
by the nominating committee when evaluating the composition of the
board taken as a group. At the top of the list is a concept called
diversity that is sometimes considered when evaluating
candidates for nomination to the board of directors. The SEC left it
up to companies to define diversity. Some companies may choose to
define it broadly to include differences of viewpoint, professional
experience, education, skills and other qualities or attributes,
while others may define it more narrowly in terms of race, gender
and national origin. Investors have said that information about
diversity (or lack thereof) can be useful for decision-making. The
new rules establish added disclosure requirements for boards that
have policies about considering diversity in identifying director
nominees. If a board has a policy of this nature, then it must
disclose how the policy is implemented and how the effectiveness of
the policy is evaluated by the nominating committee or the board.
Explanations
of the board leadership structure and role in risk oversight.
Recognizing that different leadership structures may be appropriate
for different companies depending on their sizes, operations and
controls, the SEC is requiring companies to describe their
leadership structures and their reasons for selecting these
structures. As part of this discussion, companies should highlight
the rationale behind the organization (e.g., whether the roles of
principal executive officer and board chair are combined and a
description
of the role of the lead independent director, if the board has
appointed one). They should also describe the board’s role in the
oversight of risks, such as credit, liquidity, and operational
risks. As part of these disclosures, companies should explain how
they perceive the relationship between the board and senior
management in managing the material risks facing the company. This
explanation might include a discussion of how the board administers
its risk oversight function, (e.g., through the entire board, a
separate risk committee or the audit committee), the reporting
relationship of the individuals who supervise the day-to-day risk
management responsibilities, (e.g., to the boards as a whole or to a
board committee), and the communications process by which the board
or committee receives information from these individuals.
Compensation
policies and their effect on risk-taking.
Some companies will also need to discuss their compensation policies
and practices for all employees, including non-executive officers,
if these policies or practices create risks that are reasonably
likely to have a material adverse effect on the company. These
disclosures will not appear in the Compensation Discussion and
Analysis as originally proposed, but rather will be a separate
reporting requirement. This way, the CD&A will continue to focus on
compensation to the named executive officers. In an effort to avoid
boilerplate or generic disclosures in this area, the SEC’s final
rules provide illustrative examples of specific situations in which
compensation programs may have the potential to create material
risks to the company, along with examples of the specific types of
disclosures that may be applicable. Smaller reporting companies are
not required to provide the new disclosure. This exception is
consistent with the rules for CD&A disclosures, and the SEC has
indicated that it believes such companies are less likely to have
the types of compensation policies and practices targeted by the new
rules.
Stock and
option awards to company executives and directors.
Changes to the requirements for reporting the value of stock and
option awards made during the reporting period may affect the
identification of the named executive officers in the Summary
Compensation Table and Director Compensation Table. Companies with a
fiscal year ending on or after December 20, 2009 are required to
report the values based on their aggregate grant date fair value in
accordance with FASB ASC Topic 718 rather than report the dollar
amount recognized as an expense for financial reporting purposes for
that fiscal year. The new rules include instructions for awards
subject to performance conditions. Performance awards should be
computed based on the probable outcome of the performance conditions
as of the grant date because that value better reflects how
compensation committees take performance-contingent vesting
conditions into account in granting such awards. Companies must also
make a footnote disclosure of the maximum potential value assuming
the highest level of performance conditions is probable.
Potential
conflicts of interests of compensation consultants.
Companies will also be required to make disclosures aimed at
identifying possible conflicts of interests involving compensation
consultants. These requirements generally involve a fee threshold of
$120,000 per year. For example, if the board or compensation
committee hires its own compensation consultant, they will need to
disclose the amounts paid to the same consultant for the executive
or director compensation consulting and the additional
compensation-related consulting services, if the fees for the
additional services are in excess of $120,000 per year. They will
also need to comment on the board’s and management’s roles in
hiring, recommending, or approving the consultant’s services.
Similarly, if the board or compensation committee did not hire its
own compensation consultant, but management retains a compensation
consultant and this consultant also provides other services in
excess of $120,000, then the company needs to disclose the aggregate
fees paid to the consultant for advising on executive compensation
and the other services.
The new rules will
also require more timely reporting of shareholder voting results on matters
that directly affect shareholder interests, such as elections of
directors, changes in shareholder rights, investments or divestments and
capital changes. This reporting will be shifted from Forms 10-Q or 10-K
to Form 8-K, with the result that voting results will need to be
reported within four business days after the end of the meeting at which
the vote was held. In a contested election in which the results are not
definitely determined at the end of the meeting, companies can file a
preliminary report on Form 8-K within four business days of the meeting
and an amended report at the latest within four business days after the
final voting results are known. If the final results are known sooner,
the preliminary 8-K may not be needed.
Proposed Proxy Access Rules
In
December 2009, the SEC decided to re-open the comment period on the
proposed proxy access rules issued in June 2009. The comment period was
extended until January 19, 2010.Under the SEC's proposed rules on proxy
access released in June 2009, issuers would be required to include
shareholder-nominated directors in issuer proxy statements if certain
conditions are met. In general, the shareholders would need to meet
certain ownership requirements, and companies would need to include the
names of the candidates nominated by the shareholders in their proxy
materials (subject to certain state law prohibitions).
Pros, Cons and Prognosis.
The main supporters of the proposed rules on proxy access are
corporate governance activists, including labor unions,
institutional investors, and pension funds, as well as proxy
advisory firms. SEC Chair Mary Schapiro also appears to be a
supporter. She has explained that the United States is an outlier in
this area. Most other developed countries do permit some level of
shareholder proxy access with minimal if any ill effects. In
contrast, the business community has traditionally been opposed to
shareholder proxy access. Some feel strongly that this subject
should be regulated by the states, rather than a federal agency. But
several recent actions appear designed to counter any concerns of
this nature.
To avoid any legal
challenges based on territorial disputes, Senator Charles
Schumer introduced S.1074 on May 19, 2009. The bill is known as
the “Shareholder Bill of Rights Act of 2009." Among other
things, this bill would confirm the SEC's authority to issue a
proxy access rule, and it would require that the SEC adopt rules
to regulate proxy access (rather than deferring to state law).
The state
legislature in Delaware, where many public companies are
incorporated, made amendments in April to the applicable state
laws so that Delaware corporations will be permitted to adopt
the necessary bylaw provisions to accommodate the SEC's proposed
rules.
The bottom Line.
On balance, the prognosis for passage of a final rule in time for
the 2011 proxy season appears good, perhaps with some minor changes
from the proposed rules. Importantly, these are multi-faceted issues
that will require monitoring of not only the SEC's proposed rules,
but also of any expected changes in state and federal laws, and any
issues that may be brewing in terms of each company's unique
situation and investor base.Will the rules help or hurt? It seems
reasonable to expect that the proxy access rules will be of some
help in restoring investor confidence. Even if they are not widely
used, they will be seen as a safety net.
Other Rule-Making Initiatives
Other SEC rule-making initiatives related to proxies include the
following:
Investor-friendly e-proxies.
Concerns about possible shareholder confusion have prompted the US
Securities and Exchange Commission (SEC) to propose a number of
changes designed to make the e-proxy process more investor-friendly.
Most notably, the existing rules would be clarified to provide added
flexibility in formatting and wording the notices that identify the
matters to be acted upon at the shareholders’ meeting, (e.g.,
election of directors, ratification of auditors, or approval of a
stock option plan). Issuers and soliciting shareholders would also
be permitted to include supplemental explanatory materials with the
notice. These materials would be permitted for purposes of
explaining the procedures for receiving and reviewing the proxy
materials and for casting one’s vote. In addition, the SEC’s Office
of Investor Education and Advocacy, together with the Division of
Corporation Finance, will be developing a program to educate and
inform shareholders, especially individual shareholders, about the
notice and access model. The program will include explanations of
how shareholders can participate through this model and explain
shareholders’ rights under the model. For additional information,
see the Center’s blog on “SEC strives for investor-friendly
e-proxies.”
Broker voting.
The SEC has also approved changes proposed by the New York Stock
Exchange to its Rule 452 that eliminated broker discretionary voting
for uncontested elections of directors at shareholder meetings.
