Sunday, December 12, 2010

Conference Board Paper Argues for Corporations to Address Proxy Access Sooner than Later

Charles M. Nathan and Paul F. Kukish from the law firm Latham & Watkins recently authored a report for The Conference Board, titled "Private Ordering and Proxy Access Rules: The Case for Prompt Attention". Below is a review of some of the information covered in the report:

Despite the SEC stay of proxy access (see our Oct 4 blog post), the authors argue that it is an "almost-certain… shareholder right" that companies must address. Even regardless of proxy access implementation, corporate governance activism is expected to rise and, along with it, new vulnerabilities to boards. Companies should therefore seek to amend bylaws and governance policies "by summer 2011, well before the likely 120- to 150-day window for the 2012 proxy access nominations that would open in late fall 2011 for year-end reporting companies".

Furthermore, amending bylaws and governance policies is an issue that should be taken care of sooner rather than later. The authors, as stated in the report, believe that a prompt and proactive approach is necessary for the following reasons:

Adjusting takes time - Amending bylaw and governance policy requires thorough analysis. Senior management and the board should have time to adjust to the new rules.

Perception matters, especially in the Delaware courts - Revising bylaws during a proxy contest could backfire against the firm and be viewed as "defensive and unfair". Bylaw changes could be challenged in Delaware courts at an inconvenient time.

Rules or not, pressure from activists continue - There is an expectation for more directors being nominated and elected by shareholder initiatives. "Companies need to be prepared for the advent of a new regime for director selection and ensure that it does not threaten traditional board cohesion and collegial values".


Revise advance-notice bylaws, as well as board informational and governance policies 

Explicit Differentiation Option - This would entail companies making it "explicit that the advance-notice bylaw is not intended to apply to proxy access nominations". Such a drafting option would require two different regimes: "one for proxy access nominations and the other for conventional proxy contests". A drawback to this is that it can limit informational requests from nominees than what a unified advance-notice bylaw could otherwise provide. Creating a new advance-notice bylaw exclusive for proxy access purposes also could be criticized as "not reasonable or equitable as a matter of state law". Managing the bylaw could be further difficult if the company is engaged in several proxy contests, in which only some parties make use of Rule 14a-11. "This double-jeopardy-like situation could be avoided by postponing any decisions regarding the proxy access nominee until after the separate advance-notice deadline has passed for conventional election contest nominations" or by "requiring conventional election contest nominees to comply with the advance-notice requirements of the proxy access rule".

Integration Option - This would entail revising the original advance-notice bylaw altogether. According to the authors, of the two revisions, the integration option is "advantageous to most companies". Companies should consider getting more information out of proxy access nominees as a qualification for nomination than that which is required by the SEC under Rule 14a-11 (click here for specific stipulations). Informational requirements should not be an issue under new SEC proxy rules, but they must prove "reasonability and equitability as a matter of state law".

Revise director qualifications and conduct standards

More controversial qualifications that companies should consider establishing, include: (1) stringent independence standards, and (2) "[w]ritten agreement to comply with board governance and informational policies as a condition to nomination". Age, term limits, identity, and stock ownership standards are just some of the requirements that companies need to consider for proxy access nominees. The idea is to make director qualifications and conduct particularly explicit, especially in the context of representatives from special-interest groups.

Revise nominating committee charters and processes 

Firms need to adjust nominating committee charters to thoroughly consider the qualifications of both proxy access and company nominees. Corporations must investigate the qualifications of both respective nominees before recommending a vote. Establishing a nominating committee schedule is also advantageous in evaluating performance and creating a board slate, accordingly. "Among the reasons for such a time table is a provision in the proxy access rules that, if a company engages in a discussion with a nominating shareholder or group before it files its Schedule 14N and subsequently the company puts the proxy access candidate on the board slate, the candidate is not considered a proxy access director for purposes of the 25 percent cap on access nominees". Therefore, companies should create a bylaw stipulation that obliges them to not consider shareholder nominee candidacy proposals before the filing of the Schedule 14N. Doing so would allow companies to fairly decline discussions before the Schedule 14N filing, thus preventing the so-called "proxy access creep".

Review voting standards and size of board 

Since the impending rule caps proxy access nominees to 25 percent and rounding down to the nearest whole number, companies should consider adjusting board size in accordance with their bylaws. The "rounding down" means that, effectively, proxy access nominees could represent at most 25% of a four-member board but only ~14% of a seven-member board, for example. Lastly, majority voting standards could present difficulties when there are several parties seeking board representations.

To see the report from The Conference Board, click here.

Posted by David Schatz