SEC Proposes Amendment to Rule Governing Shareholder Proposals
POMERANTZ MONITOR | SEPTEMBER OCTOBER 2022
On July 13, 2022, the U.S. Securities and Exchange Commission (the “SEC”) proposed amendments to the rule governing the process for including shareholder proposals in a company’s proxy statement (the “Proposed Rule”). If adopted, the Proposed Rule will limit the ability of companies to exclude shareholder proposals from proxy statements.
Shareholders’ ability to make proposals to be included in a company’s proxy materials and voted on by all shareholders is an important means of engagement between shareholders and public companies. Rule 14a-8, promulgated by the SEC pursuant to the Securities Exchange Act of 1934, requires reporting companies subject to federal proxy rules to include shareholder proposals in their proxy statements, subject to certain requirements. The rule permits companies to exclude shareholder proposals from proxy statements on thirteen substantive grounds. The Proposed Rule would amend three of those grounds: (1) the substantial implementation exclusion, (2) the duplication exclusion, and (3) the resubmission exclusion.
The Proposed Rule aims to provide clarity to all stakeholders concerning when shareholder proposals may be excluded from proxy statements. Further, it will narrow the grounds on which shareholder proposals may be excluded, thus permitting greater shareholder engagement with management.
Of the three provisions addressed by the Proposed Rule, the substantial implementation exclusion is the most frequently invoked by company “no-action requests” concerning shareholder proposals. Disagreements between a company and a shareholder as to whether a proposal must be included in a proxy statement is often resolved by the SEC staff in response to company requests for the Commission to issue a “no-action letter” stating that it would take no action against the company if it excluded the shareholder proposal. Of the no-action requests received by the SEC during the 2019, 2020, and 2021 proxy seasons, 39% invoked the substantial implementation exclusion. By contrast, the duplication exclusion and the resubmission exclusion were invoked in 5% and 1%, respectively, of no-action requests.
The Substantial Implementation Exclusion
Rule 14a-8(i)(10) currently permits companies to exclude shareholder proposals that “the company has already substantially implemented.” The Proposed Rule would permit companies to exclude a shareholder proposal if “the company has already implemented the essential elements of the proposal” (emphasis added).
The SEC staff’s interpretation of the existing rule—that is, whether a proposal has already been “substantially implemented”—calls for consideration of whether the company’s “policies, practices and procedures compare favorably with the guidelines of the proposal” as well as whether the company has addressed the proposal’s underlying concerns and essential objectives.
Shareholders report that this has led to debates regarding the “essential purpose” of a proposal, and that companies have excluded proposals that addressed similar subject matter as existing company procedures even where the proposal set forth a materially different action. For instance, Exxon Mobil sought to exclude a shareholder proposal calling for the company to state whether and how it planned to reduce its carbon footprint in alignment with the Paris Climate Accords. Exxon argued that the proposal was excludable because, among other things, it had already reported information concerning its approach to climate change. It did not, however, report if it intended to align its business with the Paris Climate Accords or state how it intended to accomplish that goal. Nevertheless, the SEC staff agreed with Exxon, finding that Exxon’s disclosures “compared favorably” with the shareholder proposal and, therefore, that Exxon had already “substantially implemented” the proposal.
Under the Proposed Rule, it appears that this proposal would not be excludable under the substantial implementation exclusion because its “essential element”— that the company state if and how it intends to align its business with the Paris Climate Accords—is distinct from a company’s reporting about its general approach to climate change. The SEC stated that the Proposed Rule is expected to promote certainty because a proposal’s “essential elements” are likely easier to define, and less subject to debate, than its “essential purpose.” Therefore, all stakeholders would have greater certainty as to whether a proposal may be excluded under the substantial implementation exclusion.
Shareholder proponents are likely to have greater success avoiding exclusion on this basis if they develop proposals that include specific and identifiable essential elements that are distinct from the company’s current practices. This is illustrated by SEC commentary discussing the Proposed Rule. The SEC addressed, as an example, the fact that historically its staff had permitted companies to exclude proposals to adopt a bylaw permitting an unlimited number of shareholders who collectively have owned 3% of the company’s outstanding common stock for 3 years to nominate up to 25% of the company’s directors, where the company’s bylaws permitted a group of up to 20 shareholders to aggregate their holdings to meet such a threshold. The SEC explained: “Under the proposed amendment, because the ability of an unlimited number of shareholders to aggregate their shareholdings to form a nominating group generally would be an essential element of the proposal, exclusion would not be appropriate.”
The Duplication Exclusion
Rule 14a-8(i)(11) currently permits companies to exclude a shareholder proposal that “substantially duplicates another proposal previously submitted by another proponent that will be included in the company’s proxy materials for the same meeting.”
The Proposed Rule would provide that a proposal “substantially duplicates” another proposal if it “addresses substantially the same subject matter and seeks the same objective by the same means.”
Under the existing standard, the SEC has focused on whether proposals share a “principal thrust” or focus. The SEC stated that this framework can be difficult to apply in a consistent and predictable manner because there are often several ways to determine a proposal’s principal thrust. By contrast, the Proposed Rule sets forth a more precise standard for the duplication exclusion that the SEC expects it can more easily apply consistently.
The proposed amendment to the duplication exclusion is also narrower than the existing standard, so proposals are less likely to be excludable on this basis. As a result, it is more likely that shareholders will face the option of voting on multiple proposals concerning the same or similar topic at the same shareholder meeting. The SEC noted that this may cause shareholder confusion and could lead to difficulties if multiple proposals, perhaps with overlapping or even conflicting objectives, are approved at the same meeting. Nevertheless, the SEC stated that shareholder consideration of similar proposals may increase the likelihood that proposals that align closely with shareholder objectives will be implemented.
Because the duplication exclusion operates in favor of the earlier-submitted proposal, narrowing the exclusion will reduce the incentive for a shareholder to rush to submit a proposal quickly to avoid exclusion on this basis. It will also lessen the likelihood that a shareholder will be able to block proposals from other shareholders concerning the same topic.
The Resubmission Exclusion
Rule 14a-8(i)(12) currently permits companies to exclude a shareholder proposal that “addresses substantially the same subject matter as a proposal, or proposals, previously included in the company’s proxy materials within the preceding five calendar years” and that was voted on at least once in the last three years and did not receive shareholder support above a certain threshold.
Observers may recall that in 2020, the SEC increased the thresholds applicable to the resubmission exclusion. Specifically, the Commission adopted a new rule providing that the resubmission exclusion applied where a proposal was included in the company’s proxy materials within the preceding five years, was voted on within the preceding three years, and the most recent vote was: (1) less than 5% of votes cast, if the proposal was previously voted on once (up from 3%); (2) less than 15% of votes cast, if the proposal was previously voted on twice (up from 6%); and (3) less than 25% of votes cast, if the proposal was previously voted on three times or more (up from 10%).
As a result of increasing these thresholds, more shareholder proposals became vulnerable to exclusion on this basis. Some shareholders noted that this could prevent or delay shareholder consideration of proposals on emerging issues that may have received little support when first introduced. Moreover, because the current resubmission exclusion applies broadly to proposals with “substantially the same subject matter,” it can prevent shareholders from refining their proposals and seeking a vote in a subsequent year.
Under the Proposed Rule, the resubmission exclusion would apply where a proposal “addresses the same subject matter and seeks the same objective by the same means” as an earlier proposal. This is narrower than the existing rule. First, the exclusion would apply only where a proposal addresses the “same” subject matter, not just “substantially the same” subject matter. Second, it would apply only if a proposal “seeks the same objective” as an earlier proposal. Thus, a shareholder proposal concerning a given subject would not block a later proposal on the same topic if the two proposals sought different objectives. Third, the exclusion would apply only if the proposal uses the “same means” as an earlier proposal.
Therefore, if the resubmission exclusion is amended as proposed, shareholder proposals are less likely to be excludable on this basis.
Conclusion
The Proposed Rule is likely to increase shareholders’ ability to have their proposals included in proxy materials and voted upon by other shareholders. Major institutional investors have already expressed support for the Proposed Rule in comments submitted to the SEC.
The deadline for public comments expired on September 12, 2022. The SEC is expected to announce a final rule in the near future. Alternatively— though less likely—the SEC may take no further action (allowing the current rules to remain in place) or may issue a revised proposed rule for further comment.