Changes to Shareholder Proposal Eligibility Rules
Posted by Elizabeth Bieber, Andrea Basham and Jack Liechtung, Freshfields Bruckhaus Deringer LLP, on
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Engagement, Institutional Investors, Ownership, Rule 14a-8, SEC, Securities regulation, Shareholder communications, Shareholder proposals
More from: Andrea Basham, Elizabeth Bieber, Jack Liechtung, Freshfields
Elizabeth Bieber is counsel, Andrea Basham is counsel, and Jack Liechtung is an associate at Freshfields Bruckhaus Deringer LLP. This post is based on their Freshfields memorandum.
Going into the 2022 annual meeting season, shareholder proposal eligibility criteria under Rule 14a-8 is going to change. [1] On September 23, 2020, the SEC released final rules amending Rule 14a-8—the culmination of a multi-year process to modernize the rule, which governed unchanged for more than two decades. The SEC initially proposed amendments in November 2019 and the recently released final rules are substantially similar to the 2019 proposal, which, among other amendments, implement a slide scale eligibility test that inversely correlates length of ownership to the required equity stake, limits shareholder proposals to one "person," and raises the resubmission threshold.
What companies can expect
The status quo, or an increase in attention?
The 14a-8 amendments may appear on their face to mark a dramatic change, and they may result in a reduction in the overall number of shareholder proposals, at least in the short term. However, some companies—particularly those with a relatively stable shareholder base—may not notice a difference in the number of proposals received, or perhaps even face a slight increase as proponents opt to focus their energy on the companies in which they have long-term holdings and wait to submit shareholder proposals for new investments until they meet the lengthiest, lowest-dollar threshold.
Some institutional investors are simply unlikely to be affected by the $25,000 minimum requirement for a one-year holding period. There are plenty of investors with significant investing power that typically results in initial investments exceeding that (highest) threshold, and some have become more prominent and frequent proponents in recent years. The ability of some of these shareholder proponents to use the shareholder proposal process to drive shareholder engagement and coordinate proposals among dozens of companies resulting in relatively rapid changes in the governance landscape is likely to at least remain the same.
Lastly, companies may face some additional pressure to engage with proponents as a result of the new requirement for proponents to include windows of availability 10 to 30 days after submission of the proposal for potential engagement. While companies are not required to engage proponents during this period, the SEC hinted that engagement may obviate the need for a no-action request, a process it seems to be increasingly reluctant to engage in (see below). It is possible that the SEC begins to ask companies if they have engaged as part of its no-action request deliberation process. And importantly, companies should not expect that lack of engagement will remain a secret and they will need to consider market perceptions about decisions to engage or not.
Increased coordination among proponents
The final rule release emphasizes that none of the amendments to Rule 14a-8 are designed to curtail engagement or coordination among potential proponents. With the new limits more likely to affect the ability of less well-capitalized proponents to invest in new companies and then make proposals on a short-term basis, proponents will be further incentivized to engage and coordinate among shareholders. It is already common for single-focus coalitions to be co-signed by many proponents, and that level of coordination can only be expected to increase. And as the one-person per proposal per company requirement begins, we expect to see new repeat players across companies emerge.
Increased focus on other forms of communication
Engagement and communication among companies and their stakeholders is at an all-time high, as are the forms of engagement and communication available to shareholders (perhaps with the exception as of the date of this post of in-person communications). The SEC in the final rule release acknowledges the availability of "alternative channels" of engagement and the frequent higher degree of productivity from one-on-one engagement with management than engagement through the shareholder proposal process. Companies are also likely to feel pressure to increase engagement through other formats if it does become more difficult for shareholders to submit proposals. Companies that do not meet stakeholder expectations should assume that stakeholders will be vocal about those unmet expectations.
Companies should also expect an increase in the volume of inbound communications from shareholders. These too are likely to come in various forms. For instance, the recent popularity of shareholders submitting voluntary notices of exempt solicitation is likely to increase as shareholders must wait longer to submit shareholder proposals at certain companies.
Potential implications for newly public companies
The revised thresholds are likely to serve as a partial insulating mechanism for newly public companies, who will not be subject to receipt of a shareholder proposal from a shareholder holding $14,999.99 or less for three years. While a number of newly public companies are controlled companies in their early years, they nonetheless remain subject to shareholder proposals and their related reputational impact, even if the proposals would not receive majority support due to the company's ownership structure. Shareholders that wish to make early proposals at newly public companies will have to commit to slightly larger investments, which of course at smaller companies in particular could come with potentially more limited liquidity.
Staring into a crystal ball on the shareholder proposal process
While the SEC has now ushered in a new era of Rule 14a-8, it was the result of a multi-year process that received significant criticism and commentary from those on both sides of the debate about the perceived sufficiency of the degree of change. At the same time that the SEC was reviewing the 14a-8 rules, it also made significant changes to the no-action letter process, including the adoption of informal answers to requests for no-action relief, and an articulated view about the ability of the SEC staff to decline to state a view.
In the process of soliciting comments on the proposed rules relating to 14a-8, the SEC also requested comments on the 14a-8 process in general and the SEC staff's role. In response to concerns about consistency and transparency, the SEC reiterated in the final rule release that prior SEC positions in answers to requests for no-action relief should not be considered precedential. The SEC also noted that while it declined to make changes in this round of rulemaking, comments received on this topic would be considered in connection with future rulemaking and, importantly, future informal modifications to the no-action process, like the guidance it published in the fall of 2019.
It remains to be seen how the SEC will continue to approach its role in adjudicating the relationships between companies and their shareholders.
1The new rules go into effect 60 days after publication in the Federal Register, which has not yet occurred.(go back)