The Commission and Access: The Three Year Holding Period

We will continue to muse over aspects of the access rule (14a-11) just adopted by the Commission.  The weakest part of the access proposal was not the 3% threshold for stock ownership.  That will be a high burden in some companies but it is a reasonable compromise.  In time, pressure will build to bring it down but for now it is a good place to start.

The most unexpected and severe requirement was the three year holding period.  The release is replete with statistics about the number of companies that have 3% shareholders (or two 1.5% shareholders) but there is no statistical analysis on how the three year holding period will impact those statistics.  More importantly, unlike many other portions of the release, the explanation was not strong.  The release noted that the "decision is based on our belief that holding securities for at least a three-year period better demonstrates a shareholder’s long term commitment and interest in the company."

That, of course, is a legitimate position.  But it doesn't explain the three year period.  For that, the Commission relied to some extent on the comments.  Yet commentators didn't really support a three year period.  As the release noted:

• We also based our decision to have a holding period longer than one year on the strong support of a variety of commenters.  For instance, we received comments that advised that we should “adopt a more reasonable holding period of at least two years,” and “a minimum holding period of at least two years is appropriate” because a “shorter holding period would allow shareholders with a short-term focus to nominate directors who, if elected, would be responsible for dealing with a company’s long-term issues.” Another commenter stated that “three years would be a more reasonable test with respect to longevity of stock ownership.” Although two commenters suggested even longer holding periods, we believe that a three year holding period reflects our goal of limiting use of the rule to significant, long-term holders and appropriately responds to commenters’ suggestions regarding the length of the holding period. In this regard, as noted previously, some commenters suggested a two year holding period, but others stated it should be “at least” two years. Given the support expressed for a significant holding period, we believe a three year holding period, rather than one or two years, strikes the appropriate balance in providing shareholders with a significant, long-term interest with the ability to have their nominees included in a company’s proxy materials while limiting the possibility of shareholders attempting to use Rule 14a-11 inappropriately, as discussed further below.

The Commission also reasoned that the three year period helped eliminate anyone with "a change of control intent with regard to the company."  The longer period, therefore, acted as "another safeguard against shareholders that may attempt to inappropriately use Rule 14a-11 as a means to quickly gain control of a company."

While the reasoning is sound enough, it could easily have justified a two rather than three year period.  Indeed, when Senator Dodd proposed amendments to the Commission's access authority, he proposed a two year holding period.

What is likely is that the Commission, rightfully, is reacting to the sensitivity of access.  The authority for the rule narrowly survived an attempt in Congress to limit its reach to 5% shareholders and shareholders with a two year holding period.  This reflected the fact that even Democrats were under pressure to reduce its impact.  The provision that came out of Congress ultimately gave the Commission all but unlimited authority, but the sensitivity could not be ignored.  By increasing the holding period, the Commission emphatically took away most of the concern that access would be a mechanism used by short term investors, perhaps the group feared the most by issuers.

Over time, evidence will develop about the impact of the three year threshold.  For now, it is a restriction designed to make access more palatable and on that score, probably a necessary one.     

Non-Accelerated Filers (approximate percentages)
Large Accelerated Filers (approximate percentages)
Companies with at least one 1% shareholder
37%
37%
Companies with at least one 3% shareholder
33%
32%
Companies with at least one 5% shareholder
22%
16%
Companies with at least two 1% shareholders
36%
37%
Companies with at least two 1.5% shareholders
33%
33%
Companies with at least two 2.5% shareholders
27%
25%
Our further review of relevant data has persuaded us that applying different ownership thresholds