Shareholder Access and the House Committee on Financial Services

On Thursday of last week, the House Committee on Financial Services held hearings on the SEC's access proposal. The witnesses included:

Mr. Donald Kirshbaum, Principal Investment Officer – Policy, Office of the Treasurer, State of Connecticut

Ms. Ann L. Yerger, Executive Director, Council of Institutional Investors

Mr. John J. Castellani, President, Business Roundtable

Mr. Timothy Smith, Senior Vice President – Director of Social Investing, Walden Asset Management; Chair -- Social Investment Forum

Mr. Paul Schott Stevens, President and Chief Executive Officer, Investment Company Institute

Most of the groups expressed hostility toward the denial of access and the limitations proposed by the Commission to be imposed on shareholders wanting to make an access proposal.  In particular, Ann Yerger at the Council for Institutional Investors blasted the Commission's access proposal, agreeing with the approach but criticizing the proposed restrictions. As she noted:

• "The Commission’s “longer” proposal imposes such onerous requirements on shareowners simply interested in sponsoring access resolutions that the proposal is empty and unworkable.  More specifically, the proposed five (5) percent threshold for submitting a proposed bylaw amendment is too high a barrier for shareowners who routinely file resolutions. Even the ten (10) largest public pension funds combined would be unlikely to meet this threshold at a public company of any size—whether it be a large-, mid-, or small-cap company.  In addition, the proposed disclosures are unnecessary and overly burdensome and for some inexplicable reason are far more extensive than currently required even for shareowners planning a hostile takeover of a public company.  Also inexplicable are the Commission’s reasons for imposing such excessive requirements on proposals that ultimately would have to face the test of the marketplace and be approved by a majority or even, in some cases, a supermajority of the outstanding shares. The Council believes the end result of these onerous requirements would be that few, if any, shareowners would ever again have the ability to exercise what we believe is a fundamental shareowner right."

Timothy Smith at Walden Asset Management took a similar position ("Simply put, if adopted, these concepts would either eliminate entirely or severely limit the ability of any investor to sponsor a shareholder [access] proposals.") as did Donald Kirshbaum from the Connecticut Office of the Treasurer ("While the proposed rules are long and complex, the concept of Access to the Proxy is a simple one.  Access to the proxy would provide a mechanism for an investor -- or group of investors -- who meet certain ownership criteria, to nominate several members for election to the Board of Directors, and those nominees would appear in the company's proxy and on their proxy card.").  

Paul Schott Stevens, the President and CEO of the Investment Company Institute split the baby.  He favored access but agreed on the need for significant limitations on those eligible to make access proposals, including the need for a 5% threshold and a restriction on those with a control motivation.  Moreover, in computing the 5% threshold, the ICI recommended that "the SEC make explicit that shareholder proponents who borrow stock of an issuer may not count those shares toward meeting the ownership threshold or the holding period".  

The only witness to unequivocally support a denial of access was the Business Roundtable, with the opposition channelled through John Castellani.   The Business Roundtable may mouth the position of most public companies but this does not always mean an antagonism towards improved standards of corporate governance.  The Business Roundtable, for example, supported improved listing standards by the exchanges and, most critically, supported SOX, even when it wasn't always a popular position.  

In this case, though, the Business Roundtable is squarely opposed to access.  Castellani's testimony indicates that the main opposition is over the election of "special interest" directors. The concern is actually broader. The election of shareholder nominated directors will mean the presence, inside the board room, of directors not vetted by existing management. This means no control over the personalities or expertise of those persons, something that will at least sometimes affect the decision making process. 

It is a fair concern, although having true shareholder representatives in the boardroom has many advantages. Moreover, as the evidence indicates, it is probable that access proposals will only result in occasional elections of shareholder nominated directors.  But whatever the merits, it is a matter for state rather than federal law to resolve. Castellani had this to say on the issue:

• Director elections are governed by state law where the company is incorporated, and the proxy is a management mechanism for shareholders to vote when not attending shareholder meetings. Shareholders do have the right to nominate directors and run campaigns, but not on the company proxy. The SEC has consistently recognized this and excluded director election proposals from the company proxy. Proponents of Proxy Access want to turn the system on its head by creating federal rules allowing virtually any board candidate to be placed directly on the proxy.

Its a confusing jumble of comments but it admits that state law allows for director nomination by shareholders and that it is federal law that prevents access to the proxy statement. In other words, the Commission is in the middle of the corporate governance process and is effectively being asked to prevent shareholders from exercising their state law governance rights.  This is an inappropriate role for the Commission. 

How did the hearing itself go?  Apparently for opponents of access, not well.  The LA Times included this description of an exchange at the hearing: 

• Frank wanted to know whether shareholder resolutions about corporate involvement in Darfur or Iran were "in the special-interest category."
  
  "Not if it were determined to be in the best interest of all shareholders," Castellani said.
  
  The answer didn't satisfy Frank: "You're just dodging the question."
  
  At that point, Smith offered a general assertion: "The business community too easily falls into, 'I don't like that point you're raising. You're a special interest group.' " 

Or, as the WSJ reported today, Barney Frank apparently comment at the hearing that it was time for the Commission to "start over."