SEC Approves Controversial Proposal Regarding Proxy Access for Corporate Board Elections

by CCI @ 2009-06-01

Category: Compliance News, General Interest, Governance

Corporate board elections, a subject that has already been drawing a strong amount of debate and controversy in the wake of America’s economic troubles, is about to draw more.

According to the Pittsburgh Post-Gazette, the SEC recently approved a proposal regarding corporate board elections that “would give shareholders who meet stock ownership thresholds the power to nominate a limited number of directors in corporate board elections.” According to the proposal, which was passed by a 3-2 vote, shareholder nominees would be included in proxy statements mailed in advance of shareholder meetings, thus lessening the expenses incurred for a shareholder wishing to wage a proxy contest on their own.

Here are the basics of the proposal by the SEC regarding corporate board elections and proxy access:

Under the SEC proposal, shareholders would be permitted to nominate up to 25 percent of a company’s board — or one nominee in the case of a three-person board. To make the nomination, a shareholder or group of shareholders would have to own at least 1 percent of a company’s stock if the company had a market capitalization (the number of shares outstanding multiplied by the share price) of $700 million or more. The ownership threshold would increase to 3 percent at companies with market caps from $75 million to under $700 million and 5 percent for companies with a market value of less than $75 million.

Additionally, shareholders would have to own the shares for at least a year, sign a pledge to hold their shares through the annual meeting, and certify that they weren’t seeking to gain control of the company.

Arguments are already lining up on both sides of the issue.

In his DealBook blog, Andrew Ross Sorkin breaks down the argument in favor of the SEC proposal to open up proxy access in corporate board elections:

Supporters said the proposal was a crucial response to the market crisis, which they said had been caused in part by inadequate supervision of executives by boards over issues including executive pay and risk management.

“This crisis has led many to raise serious questions and concerns about the accountability and responsiveness of some companies and boards of directors to the interests of shareholders,” said Mary L. Schapiro, the chairwoman of the commission.

“These concerns have included questions about whether boards are exercising appropriate oversight of management, whether boards are appropriately focused on shareholder interests and whether boards need to be more accountable for the decisions regarding such issues as compensation structures and risk management,” Ms. Schapiro said.

Board elections bear no resemblance to democratic elections. Voters almost always get only one slate of candidates nominated by the board, and those candidates win even if there is heavy opposition. Moreover, efforts by investors to replace directors through a proxy contest can be prohibitively expensive. The new rules would change that.

Sorkin also says the SEC proposal has been endorsed by many labor unions and large pension funds, which, not coincidentally, is one reason why many conservative voices have been in opposition to the proposal.

A recent article by Ronald Orol of MarketWatch breaks down the arguments against the SEC proposal to alter corporate board elections, which was voted against by two Republican commissioners of the agency: Kathleen Casey and Troy Paredes.

“Our authority to adopt this is questionable,” said GOP Commissioner Kathleen Casey. “I cannot support the proposed rules.”

Troy Paredes, the agency’s other Republican commissioner, also opposed the measure. He argued that shareholders are already having an impact on corporations without the necessitating the director election measure. He also said shareholders are already being empowered by state legislators, with some states such as Delaware already taking steps to give investors some say in director elections.

“Market discipline has resulted in shareholder empowerment already,” Paredes said. “Shareholders are becoming empowered without SEC regulation.”

Conservative groups, including the U.S. Chamber of Commerce, are opposed to the measure, in part, because they believe it could give a wide variety of different investors — from labor unions to activist hedge-fund managers — more influence in boardroom governance at the expense of improving the share-value of corporations.

Another argument against the SEC proposal to grant shareholders greater proxy access is that it pre-empts state corporate law, as explained in the Pittsburgh Post-Gazette cited above:

This is an unprecedented pre-emption of state corporate law — the bedrock of corporate governance — that will turn the boards of more than 15,000 publicly traded companies into political bodies and threaten their ability to function,” warns John J. Castellani, president of the business interest group.

Despite the objections, most observers seem to agree that the proposal has a strong likelihood of being approved and placed into practice. The SEC proposal is currently pending approval as it is out for public comment.

According to Harvard professor Lucian Bebchuck, in an article posted at the Harvard Law School Corporate Governance Blog and the Wall Street Journal, the proxy access proposal by the SEC could tremendously improve corporate governance overall:

The objections to the SEC proposal are weak. Indeed, the proposed proxy access should be supplemented with additional reforms of corporate elections…

…The case for comprehensive reform of corporate elections is supported by a significant body of empirical evidence. Arrangements that insulate directors from removal are associated with lower firm value and worse performance.

The proxy rules have been intended by Congress, the courts have stated, “to give true vitality to the concept of corporate democracy.” Adopting the SEC proposal, and the additional reforms I discussed, would advance this important goal.

What do you think? Use the comment section to respond to the questions below:

Should the SEC’s proposal to grant greater proxy access for shareholders be put into practice?
What supporting statements or critiques of the SEC proposal on corporate board elections do you most agree/disagree with?
What other improvements can be made to the process for electing corporate boards?

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