Update on Shareholder Proposal Rule Reform

The SEC, shareholder rights advocates and companies have been jockeying for position about possible changes to the Shareholder Proposal Rule over the last two years, as noted above. New interpretations about proposals have come out in two new legal bulletins from the commission—issued in 2017 and 2018, a formal roundtable has aired opposing views about the need for reform in November, and a Senate hearing considered possible new requirements for proxy advisory firms in December.

SEC Staff Legal Bulletins: Proponents are grappling with the fallout from recent interpretive guidance issued by the SEC’s Division of Corporation Finance, the referee which determines if proposals challenged by companies meet the requirements of the Shareholder Proposal Rule (see Appendix for a listing of substantive and technical grounds for omission). SEC Staff Legal Bulletin 14I in November 2017 articulated the staff’s current view about what constitutes “ordinary business” and what is “significantly related” to a company, two of the rule’s provisions. The bulletin also called for more deliberation by boards of directors on these issues to help shape SEC assessments of what should be in included. In October 2018, Staff Legal Bulletin 14J clarified the earlier guidance.

As discussed above (p. 8), the decision last year at EOG Resources reversed longstanding precedent when it said a greenhouse goals proposal would “micromanage” the company, an ordinary business matter, and allowed the proposal’s omission. The fate of additional similar proposals about setting greenhouse gas emissions goals this year remains uncertain. In 2018, the overall proportion of omitted proposals did not jump much despite proponents’ concerns, but its impact was clearly felt on climate change proposals, where omissions rose significantly (graph, p. 8). In their SEC challenges about 2019 resolutions, companies are arguing that many other issues also seek to micromanage and therefore address ordinary business and can be excluded, citing both bulletins and the EOG letter. No decision has yet emerged.

The question of boards’ analysis of a resolution’s significance came up in the political activity proposal challenges last year, and in a few others, but did not seem to affect SEC decisions. It was addressed further in the 2018 bulletin, however, and 2019 challenges are providing more information than last year about the nature of board deliberations, which could affect decisions this year.

Sanford Lewis, an attorney working for many of the proponents discussed in this report, penned a legal analysis of the 2017 bulletin in July 2018. He argued it threatens “market-wide” impacts on issues “that could affect corporate risk management and financial and ESG performance.” Gibson Dunn, a law firm companies often hire to lodge their challenges, concluded in July that while initial attempts to use the 2017 bulletin to exclude proposals were “generally unsuccessful,” they may be going forward.

SEC roundtable: SEC chair Jay Clayton said last July, “Shareholder engagement is a hallmark of our public capital markets, and the proxy process is a fundamental component of that engagement.” But he said the commission should review the process because more companies are reporting shareholder engagement, on more issues, and the commission needs to determine if current rules are effective. As a result, the commission hosted a roundtable on November 15 to consider proxy voting mechanics and technology, shareholder proposals and “effective shareholder engagement and the role played by proxy advisory firms. (The commission is continuing to invite comments, which can be seen on its website.)

Legislative developments: As noted in the executive summary, some business groups, including the National Association of Manufacturers (NAM), are working to make it more difficult for shareholder resolutions to be filed and reconsidered, and to restrict the activities of proxy advisory firms. But so far they have been unable to pass a law that would affect the process. The House did pass H.R. 4015 in December 2017, regarding proxy advisors; the Senate Banking Committee held a hearing on Dec. 6, 2018, which saw some comments similar to those from the November roundtable. It did not proceed further.

NAM is supporting these efforts with a new entity called the Main Street Investors Coalition (MSIC), asserting shareholder proponents are playing politics to the detriment of good financial returns. The proponents counter they are raising key issues that threaten long-term corporate financial health, alongside harms to the environment and society. Mainstream investment firms and corporate governance experts continue to excoriate Main Street Investors, in acidic terms such as the August blog post from the mutual fund behemoth Morningstar entitled “Attacks on ESG from the Swamp.”

While battle lines in Washington are clear, the outcome is uncertain—largely because longtime proponents of shareholder resolutions now count as allies major players on Wall Street who routinely use environmental and social metrics to make decisions about investments. Investors signed up to the UN Principles for Responsible Investment manage $70 trillion.