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18 November 2019
Just in time for proxy season, the Corp Fin staff has issued a new Staff Legal Bulletin 14K on—what else—shareholder proposals and the "ordinary business" exclusion. The SLB attempts, once again, to provide some insight—following SLB 14I (see this PubCo post) and SLB 14J (see this PubCo post) which also the "ordinary business" exclusion— regarding the staff's interpretation of Rule 14a-8(i)(7), including:
In addition the SLB addresses "proof-of-ownership" letters.
And just in case you forgot, the SLB contains a beefed up reminder that the SLB has not been approved by the SEC and, "like all staff guidance, has no legal force or effect: it does not alter or amend applicable law, and it creates no new or additional obligations for any person."
Rule 14a-8(i)(7), the "ordinary business" exception, permits a company to exclude a proposal that "deals with a matter relating to the company's ordinary business operations." Why? Because the resolution of these types of matters is considered to be more properly the province of management and the board of directors than of the shareholders. The ordinary business exception is based on "two central considerations": one is the "subject matter" of the proposal and the other is the extent to which the proposal "micromanages" the company. Both are discussed in the SLB.
Generally, proposals may be excluded under Rule 14a-8(i)(7) if they "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,'" unless, that is, the "significant policy exception" applies. That exception would preclude exclusion of the proposal if the proposal focused on policy issues that were so significant that "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."
Historically, proponents and companies have often focused on "the overall significance of the policy issue raised by the proposal"; the staff advises, however, that the significance discussion should be company-specific—"whether the proposal raises a policy issue that transcends the particular company's ordinary business operations"—rather than discussing whether the particular issue is of general significance:
"In reflecting on the language of the Rule 14a-8 and the Commission's statements on its purpose, we believe the focus of an argument for exclusion under Rule 14a-8(i)(7) should be on whether the proposal deals with a matter relating to that company's ordinary business operations or raises a policy issue that transcends that company's ordinary business operations. When a proposal raises a policy issue that appears to be significant, a company's no-action request should focus on the significance of the issue to that company. If the company does not meet that burden, the staff believes the matter may not be excluded under Rule 14a-8(i)(7)."
For example, the staff raises the possibility of distinguishing between a climate change proposal submitted to an energy company, which could raise significant policy issues, and a climate change proposal submitted to a software development company, which, in the staff's view, potentially may not raise significant policy issues for that company.
In SLB 14I, the staff explained that whether a policy issue is sufficiently significant to fall under the exception "often raise[s] 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….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." That was the staff's view then and remains the staff's view now.
You might recall, however, that, after the issuance of SLB 14I in 2017, a number of companies submitted no-action requests that, consistent with the SLB, included a discussion of the board's analysis, but, for the most part, without successfully persuading the staff to agree with a request for exclusion of the proposal. To provide more guidance, SLB 14J, issued in 2018, outlined the types of "specific substantive factors" that the staff expected to see discussed as part of a "well-developed discussion."
The staff now observes in SLB 14K that, during the most recent proxy season, the staff found that the no-action requests that included a board analysis were "more helpful," even if the staff letter granting relief did not explicitly reference the board analysis. The staff attributed the improvement in the board analyses "to a greater proportion of requests discussing in detail the specific substantive factors that the board considered in arriving at its conclusion that an issue was not significant in relation to the company's business." As a caution, the SLB also notes that in a number of instances, the staff did not grant relief in the absence of a board analysis, especially where the significance of the issue to the company and its shareholders was not self-evident. (For a discussion of one of the referenced proposal, see this PubCo Post.) Accordingly, failure to include a "robust analysis" could affect the staff's conclusion. In particular, the staff notes the importance of having an "appropriate body with fiduciary duties to shareholders give due consideration as to whether the policy issue presented by a proposal is of significance to the company."
On a 2017 webcast regarding SLB 14I, "Shareholder Proposals: Corp Fin Speaks," presented by TheCorporateCounsel.net, Matt McNair, Senior Special Counsel in Corp Fin's Office of Chief Counsel, advised that a board analysis was not mandatory. For example, where, based on a long trail of prior no-action letters, the proposal falls clearly within the exclusion, a board analysis may not be necessary. Note that this position was consistent with the positions previously articulated by Corp Fin director William Hinman and Corp Fin Associate Director Michele Anderson at the PLI Securities Regulation Institute. (See this PubCo post.) Under SLB 14K, is a board analysis now functionally necessary even if not explicitly mandatory? Is the staff effectively reversing its position in the SLB 14K?
The SLB then provides specific advice regarding the presentation of two of the factors discussed in SLB 14J:
Delta analysis. In SLB 14J, the staff explained that a board analysis could address "[w]hether the company has already addressed the issue in some manner, including the differences—or the delta—between the proposal's specific request and the actions the company has already taken, and an analysis of whether the delta presents a significant policy issue for the company." Note, however, that the staff distinguished this analysis from the analysis required for "substantial implementation" under Rule 14a-8(i)(10). In SLB 14K, the staff now observes that a delta analysis could be useful for companies that have addressed the policy issue, but in a different way that may not amount to substantial implementation of the specific request in the proposal for purposes of the Rule 14a-8(i)(10) exclusion.
Prior voting results. Another factor identified in SLB No. 14J was "whether the company's shareholders have previously voted on the matter and the board's views on the voting results." In SLB 14J, the staff indicated that, if a previous vote was significantly in favor or against, the staff would consider the discussion in the board analysis of whether the company has taken any subsequent actions or whether other intervening events have occurred since the vote that may have mitigated or increased the issue's significance to the company. In addition, the more recent a vote, the more likely it would be "indicative of the topic's significance to a company and its shareholders." Last season, the staff was not persuaded by some of the contentions that the issue was no longer significant to the company, including arguments that:
- "The voting results were not significant given that a majority of shareholders voted against the prior proposal.
- The significance of the prior voting results was mitigated by the impact of proxy advisory firms' recommendations.
- When considering the voting results based on shares outstanding, instead of votes cast, the voting results were not significant."
But, the staff is more likely to be persuaded if the analysis includes a "robust discussion" of how "subsequent actions, intervening events or other objective indicia of shareholder engagement on the issue bear on the significance of the underlying issue to the company." In particular, following shareholder engagement, the discussion would be "more helpful" if it described how the board's "view on significance is informed by those engagements as well as any actions the company may have taken to address concerns expressed in the proposal."
The second consideration that forms the basis for the "ordinary business" exclusion is whether the proposal seeks to "micromanage" the company "by probing too deeply into matters of a complex nature upon which shareholders, as a group, would not be in a position to make an informed judgment." Under this prong of the exclusion, the staff does not look at the subject matter, but rather only at the manner in which a proposal seeks to address the subject matter, i.e., how prescriptive is the proposal?
Excessive micromanagement could arise where the proposal
"seeks intricate detail or imposes a specific strategy, method, action, outcome or timeline for addressing an issue, thereby supplanting the judgment of management and the board. Thus, a proposal framed as a request that the company consider, discuss the feasibility of, or evaluate the potential for a particular issue generally would not be viewed as micromanaging matters of a complex nature. However, a proposal, regardless of its precatory nature, that prescribes specific timeframes or methods for implementing complex policies, consistent with the Commission's guidance, may run afoul of micromanagement….Notwithstanding the precatory nature of a proposal, if the method or strategy for implementing the action requested by the proposal is overly prescriptive, thereby potentially limiting the judgment and discretion of the board and management, the proposal may be viewed as micromanaging the company."
As examples, the SLB attempts to explain that staff's approach to various climate change proposals submitted last proxy season (an approach that some may have found to be somewhat mystifying). The staff viewed as micromanagement—and thus excludable—a proposal that sought "annual reporting on 'short-, medium- and long-term greenhouse gas targets aligned with the greenhouse gas reduction goals established by the Paris Climate Agreement to keep the increase in global average temperature to well below 2 degrees Celsius and to pursue efforts to limit the increase to 1.5 degrees Celsius." Why was that proposal consider micromanaging? Because, according to the staff, it "prescribed the method for addressing reduction of greenhouse gas emissions. We viewed the proposal as effectively requiring the adoption of time-bound targets (short, medium and long) that the company would measure itself against and changes in operations to meet those goals, thereby imposing a specific method for implementing a complex policy."
But a proposal "seeking a report 'describing if, and how, [a company] plans to reduce its total contribution to climate change and align its operations and investments with the Paris [Climate] Agreement's goal of maintaining global temperatures well below 2 degrees Celsius'" was not excludable. It both transcended ordinary business matters and did not seek to micromanage the company "because it deferred to management's discretion to consider if and how the company plans to reduce its carbon footprint and asked the company to consider the relative benefits and drawbacks of several actions." (For a discussion of these two proposals, see this PubCo post.)
As discussed in this PubCo post, in 2018, the New York City Employees' Retirement System and other pension funds overseen by NYC Comptroller Scott Stringer, submitted a climate change proposal to TransDigm Group Incorporated, a manufacturer of aerospace components. The proposal requested that the company adopt a "policy with time-bound, quantitative, company-wide goals for managing greenhouse gas (GHG) emissions, taking into account the objectives of the Paris Climate Agreement" and report back on its plans to achieve these targets. The supporting statement contended that "[w]ell over 60% of Fortune 100 companies have already set GHG emissions targets." By "leav[ing] the nature, timing and level of the goals entirely up to TransDigm's discretion," and merely "set[ting] a guiding direction that can be assessed by shareholders," the proposal sought to preempt a potential exclusion effort on the basis of micromanagement under the Rule 14a-8(i)(7) "ordinary business" exclusion.
After the company sought no-action relief from the SEC staff and before the SEC had even responded to the company's request, the proponent pension funds filed suit in the SDNY seeking to enjoin the company from soliciting proxies without including the shareholder proposal and declaratory relief that the exclusion of the proposal violated Section l4(a) and Rule l4a-8. Instead of conforming to the usual practice of submitting its own response to the SEC, the NYC Comptroller's office wrote to the SEC on December 7 that it would not respond to the company's November request for no-action because the pension funds had separately commenced a lawsuit against the company seeking declaratory and injunctive relief "that would ensure the… shareholder proposal is included in the proxy solicitation materials." As a result, in light of the pending litigation, the Comptroller requested that the SEC leave the matter to the courts, requesting that, the "staff follow its prior practice and decline to issue any response to TransDigm's no-action request."
The company apparently decided that this was not a battle worth fighting. By letter dated December 28, 2018, in the midst of the government shutdown, the company advised Corp Fin that it was withdrawing its request for no-action relief and would be including the proposal in its 2019 proxy materials. How much did the uncertainty associated with the staff's approach to climate change proposals factor in to the decision by the Comptroller to circumvent the SEC process and take the issue directly to court?
Again, in connection with micromanagement, the analysis is of the "manner" of the proposal, not the subject—not whether the issues are too complex for shareholders, but rather, "the level of prescriptiveness of the proposal." A proposal that does not afford the company adequate "flexibility or discretion in addressing the complex matter presented by the proposal" could be micromanaging and excludable. Another example of micromanagement given here is a proposal for a policy prohibiting adjustments to exclude compliance costs from financial performance metrics for purposes of determining executive comp; according to the staff, the proposal would be excludable because it would not allow the company to consider specific circumstances or the possibility of reasonable exceptions.
Interestingly, the staff explains that, in its analysis of micromanagement, it considers not just the actual resolution, but also the supporting statement. To that end, "if a supporting statement modifies or re-focuses the intent of the resolved clause, or effectively requires some action in order to achieve the proposal's central purpose as set forth in the resolved clause, we take that into account in determining whether the proposal seeks to micromanage the company."
The staff advises that a company seeking to exclude a proposal on the basis of micromanagement should describe "how the proposal may unduly limit the ability of management and the board to manage complex matters with a level of flexibility necessary to fulfill their fiduciary duties to shareholders."
Apparently, companies are being "overly technical" in trying to exclude proposals on the basis of proof-of-ownership letters for purposes of Rule 14a-8(b). That rule requires a proponent to prove eligibility by offering proof that it "continuously held" the required amount of securities "for at least one year by the date" the proposal is submitted. To help reduce common errors, in SLB 14F, the staff suggested, but did not mandate, a format for those letters. The staff is generally not persuaded by these overly technical arguments, such as mere deviation from the suggested format where, looking at the "plain meaning" of the ownership letter, the proponent has otherwise provided adequate documentary support. The staff admonishes companies to not seek exclusion "based on drafting variances in the proof of ownership letter if the language used in such letter is clear and sufficiently evidences the requisite minimum ownership requirements."
For further information on this topic please contact Cydney Posner at Cooley LLP by telephone (+1 415 693 2000) or email (firstname.lastname@example.org). The Cooley LLP website can be accessed at www.cooley.com.
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