New Guidance on Shareholder Proposals for 2018 Proxy Season
April 5, 2018
The SEC Recently Published Guidance on Shareholder Proposals Submitted Pursuant to Rule 14a-8 under the Securities Exchange Act of 1934
The Securities and Exchange Commission (SEC) recently published guidance on shareholder proposals submitted pursuant to Rule 14a-8 under the Securities Exchange Act of 1934. Staff Legal Bulletin No. 14I primarily offers guidance on the exclusion of certain shareholder proposals based on the “ordinary business” and the “economic relevance” exceptions. Businesses preparing for the 2018 proxy season should carefully evaluate how the new guidance may impact their procedures and contact experienced counsel with any concerns.
Scope and Application of Rule 14a-8(i)(7)
The “ordinary business” exception authorizes a company to exclude a proposal that “deals with a matter relating to the company’s ordinary business operations.” As explained by the SEC, the purpose of the exception is “to confine the resolution of ordinary business problems to management and the board of directors, since it is impracticable for shareholders to decide how to solve such problems at an annual shareholders meeting.”
Proposals that raise matters that are “so fundamental to management’s ability to run a company on a day-to-day basis that they could not, as a practical matter, be subject to direct shareholder oversight” may be excluded, unless such a proposal focuses on policy issues that are sufficiently significant because they transcend ordinary business and would be appropriate for a shareholder vote. Whether the significant policy exception applies depends, in part, on the connection between the significant policy issue and the company’s business operations.
In Staff Legal Bulletin No. 14I, the SEC noted that many Rule 14a-8(i)(7) no-action requests involve whether a proposal that addresses ordinary business matters nonetheless focuses on a policy issue that is sufficiently significant. “These determinations often raise difficult judgment calls that the Division believes are in the first instance matters that the board of directors is generally in a better position to determine,” the guidance states. “A board acting in this capacity and with the knowledge of the company’s business and the implications for a particular proposal on that company’s business is well situated to analyze, determine and explain whether a particular issue is sufficiently significant because the matter transcends ordinary business and would be appropriate for a shareholder vote.”
With this in mind, the SEC guidance advises that it will expect a company’s no-action request to include a discussion that reflects the board’s analysis of the particular policy issue raised and its significance. “That explanation would be most helpful if it detailed the specific processes employed by the board to ensure that its conclusions are well-informed and well-reasoned,” it further clarifies.
Scope and Application of Rule 14a-8(i)(5)
The “economic relevance” exception allows a company to exclude a proposal that “relates to operations which account for less than five percent of the company’s total assets at the end of its most recent fiscal year, and for less than five percent of its net earnings and gross sales for its most recent fiscal year, and is not otherwise significantly related to the company’s business.” The current version of the rule was enacted in 1983 to address staff interpretations that narrowed the scope of Rule 14a-8(i)(5). However, as noted in the latest guidance, SEC staff continued to exclusively consider whether a company conducted any amount of business related to the issue in the proposal and whether that issue was of broad social or ethical concern.
“We believe the Division’s application of Rule 14a-8(i)(5) has unduly limited the exclusion’s availability because it has not fully considered the second prong of the rule as amended in 1982 – the question of whether the proposal ‘deals with a matter that is not significantly related to the issuer’s business’ and is, therefore, excludable,” the guidance states. “Accordingly, going forward, the Division’s analysis will focus, as the rule directs, on a proposal’s significance to the company’s business when it otherwise relates to operations that account for less than 5% of total assets, net earnings and gross sales.” Accordingly, the SEC advises that proposals that raise issues of social or ethical significance may be included or excluded, notwithstanding their importance in the abstract, based on the application and analysis of each of the factors of Rule 14a-8(i)(5) in determining the proposal’s relevance to the company’s business.
“Because the test only allows exclusion when the matter is not ‘otherwise significantly related to the company,’ we view the analysis as dependent upon the particular circumstances of the company to which the proposal is submitted,” the guidance states. In situations where a proposal’s significance to a company’s business is not apparent on its face, the SEC advises that a proposal may be excludable unless the proponent demonstrates that it is “otherwise significantly related to the company’s business,” such as demonstrating that the proposal “may have a significant impact on other segments of the issuer’s business or subject the issuer to significant contingent liabilities.” The guidance notes that social or ethical issues may still be relevant; however, the “mere possibility of reputational or economic harm will not preclude no-action relief.”
Proposals Submitted on Behalf of Shareholders
The SEC guidance confirms that while Rule 14a-8 does not address shareholders’ ability to submit proposals through a representative, the practice is consistent with the rule. Nonetheless, it also highlights that “proposal by proxy” can raise challenges for businesses, particularly with respect to determining whether the eligibility requirements of Rule 14a-8(b) have been satisfied.
To help SEC staff and companies better evaluate whether the eligibility requirements of Rule 14a-8(b) have been satisfied, the staff will now look to whether the shareholders who submit a proposal by proxy provide documentation describing the shareholder’s delegation of authority to the proxy. In general, the documentation must:
- Identify the shareholder-proponent and the person or entity selected as proxy;
- Identify the company to which the proposal is directed;
- Identify the annual or special meeting for which the proposal is submitted;
- Identify the specific proposal to be submitted (e.g., proposal to lower the threshold for calling a special meeting from 25% to 10%); and
- Be signed and dated by the shareholder.
The Staff Legal Bulletin advises that “where this information is not provided, there may be a basis to exclude the proposal under Rule 14a-8(b).”
Use of Graphs and Images Consistent with Rule 14a-8(d)
Rule 14a-8(d) provides that a “proposal, including any accompanying supporting statement, may not exceed 500 words.” While the SEC has adopted the position that that Rule 14a-8(d) does not preclude shareholders from using graphics to convey information about their proposals, its latest guidance also notes that there is potential for abuse.
Pursuant to Staff Legal Bulletin No. 14I, exclusion of graphs and/or images would be appropriate under Rule 14a-8(i)(3) where they:
- Make the proposal materially false or misleading;
- Render the proposal so inherently vague or indefinite that neither the stockholders voting on the proposal, nor the company in implementing it, would be able to determine with any reasonable certainty exactly what actions or measures the proposal requires;
- Directly or indirectly impugn character, integrity or personal reputation, or directly or indirectly make charges concerning improper, illegal, or immoral conduct or association, without factual foundation; or
- Are irrelevant to a consideration of the subject matter of the proposal, such that there is a strong likelihood that a reasonable shareholder would be uncertain as to the matter on which he or she is being asked to vote.
As further explained in the guidance, exclusion would also be appropriate under Rule 14a-8(d) if the total number of words in a proposal, including words in the graphics, exceeds 500.
Practical Implications for Businesses
In general, the SEC’s latest guidance places additional burdens on the board of directors, particularly with respect to the “ordinary business” and the “economic relevance” exceptions. As we enter the next proxy season, companies must be diligent about documenting the analysis of shareholder proposals under Rule 14a-8.
If you have any questions about Rule 14a-8(i)(7), please contact us
If you have any questions or if you would like to discuss the matter further, please contact me, Jeffrey Cassin, or the Scarinci Hollenbeck attorney with whom you work at 201-806-3364.