SEC Should Reconsider Proxy Access to Allow Nomination of Directors by Shareowners
A recent study by the CFA Institute renews the call to give shareowners access to corporate proxies for the purpose of nominating public company directors. Accountability of corporate directors to company owners is a bedrock principle of effective corporate governance. Leading investors have long maintained that the right of shareowners to nominate directors is critical to director accountability. While such a right would only rarely be exercised, proponents of proxy access affirm that the establishment of clearer lines of accountability through the director selection process would have a beneficial effect on board performance.
Following the 2008 financial crisis, the Dodd-Frank financial reform law required the SEC to pass a rule to allow for proxy access for board nominations. In 2010 the SEC passed such a rule, but stayed its implementation when the rule was opposed and the agency was sued by the Business Roundtable and the U.S. Chamber of Commerce. The D.C. Circuit Court vacated the SEC rule in July 2011, citing insufficient cost-benefit analysis by the SEC and raising questions that such an analysis should address. Because these events took the investment community by surprise, the adoption of the rule (and then its striking down by the court) actually provided an opportunity to conduct event studies on the value the market placed on the rule itself.
The CFA Institute’s comprehensive study reviewed five separate event studies assessing that value. At the same time, the CFA Institute reviewed the effectiveness and value of proxy access regimes outside the U.S. market, particularly focusing on the U.K., Australia, and Canada as the most similar to the U.S. proposal. In these regimes the actual nomination of directors by shareowners is a rare event, occurring only 10 times per year over the period from 2011 to 2013.
On the basis of its analysis, the CFA Institute made the following notable conclusions:
- Limited examples of proxy access and director nominations globally, coupled with the limited availability of corresponding market impact data, challenge whether a more detailed cost-benefit analysis was possible in the context of the court’s decision.
- The results of event studies suggest that proxy access has the potential to enhance board performance and raise overall U.S. market capitalization by between $3.5 billion and $140.3 billion.
- Assessing and measuring increased board accountability and effectiveness is challenging. None of the event studies indicate that proxy access reform will hinder board performance.
- Proxy access is used infrequently around the world, even where low thresholds for ownership and duration of ownership exist. Evidence in these markets suggests that proxy access has not disrupted the election process in jurisdictions that allow it.
- Likewise, there is limited evidence to suggest that special-interest groups can use proxy access to hijack the election process or to pursue special-interest agendas.
CFA Institute, Proxy Access in the United States: Revisiting the Proposed SEC Rule, at 8-9 (2014).
In sum, the CFA Institute concluded “that proxy access would serve as a useful tool for shareowners in the United States and would ultimately benefit both the markets and corporate boardrooms, with little cost or disruption to companies and the markets as a whole.” Id. at 9.
There are other regimes in developed markets where shareowner participation in director selection is not only permitted, but expected or required. In Italy, where many companies have controlling insider or founder groups, minority shareowners are permitted to elect directors through nomination by Assogestioni, an institutional investor collaborative organization. In Sweden, the largest shareowners are expected to put forward director candidates, effectively acting as company nominating committees. As one would expect, these systems have yielded real accountability of boards to shareowners.
Even prior to the SEC’s consideration of proxy access, shareowner involvement in directorial nominations had been recognized as a value-adding governance reform in the U.S. market for many years. Sixteen years ago, Ralph Whitworth of Relational Investors, as a director, convinced Apria Healthcare to adopt a process to empower shareowner nomination of directors. After the bankruptcy of MCI 10 years ago, former SEC Chairman Richard Breeden, as an agent of the SEC, convinced the company to adopt a protocol for shareowner nomination. The implementation of shareowner nomination of directors in these cases, and in more recent ones, has not yielded “special interest” directors; indeed, the candidates nominated and elected have been individuals of the highest quality, keenly able and committed to fulfilling their fiduciary duties.
For many years Robbins Geller, on behalf of its institutional clients in a number of securities cases, has negotiated shareowner nomination of directors as part of settlements of securities litigation. The principals of ValueEdge Advisors have worked with Robbins Geller’s clients to establish effective programs for director nomination by shareowners at many companies – Hanover Compressor, Microtune, CryoLife, Ashland, Dynegy, Broadcom, and UnitedHealth, among others. Invariably, such programs have yielded superbly qualified candidates, identified by actively soliciting the largest unaffiliated shareowners for their input and involvement in director nomination.
Peter Drucker, the late management guru, long raised the question as to whether the current standard of board functioning is so unsatisfactory as to require structural change: “Whenever an institution malfunctions as consistently as boards of directors have in nearly every major fiasco of the last forty or fifty years, it is futile to blame men. It is the institution that malfunctions.”
It is time to strengthen corporate boards in the U.S. and improve their accountability by instituting proxy access for shareowner nomination of directors.