- Facilitating Shareholder Director Nominations: Summary of Securities and Exchange Commission Adoption of Rule Changes on Proxy Access
- September 21, 2010 | Authors: Lawrence Goodman; Valarie A. Hing; Jeffrey N. Ostrager
- Law Firm: Curtis, Mallet-Prevost, Colt & Mosle LLP - New York Office
On August 25, 2010, the Securities and Exchange Commission adopted changes to the federal proxy rules to facilitate shareholder access to proxy materials. The changes add a new Rule 14a-11 under the Securities Exchange Act of 1934 (as amended, the “Exchange Act”) and amend certain related rules, including Rule 14a-8 and Rule 13d-1. Under Rule 14a-11, shareholders have the right, under certain circumstances, to include a nominee or nominees for director in a public company’s proxy materials.
The new proxy rules were proposed in June 2009, but were delayed in part due to questions regarding the Commission’s statutory authority to adopt such rules. The recently passed Dodd-Frank Wall Street Reform and Consumer Protection Act expressly provided the Commission with such authority. The rules adopted on August 25, 2010 are substantially similar to the proposed rules from 2009, with certain important changes discussed below.
The following alert summarizes the major changes imposed by Rule 14a-11 and related rules, describing which companies are subject to Rule 14a-11, which shareholders are eligible to take advantage of Rule 14a-11, and what type of access Rule 14a-11 gives shareholders to proxy materials.
Scope of Exchange Act Rule 14a-11
The rule applies to most Exchange Act reporting companies, including:
- investment companies;
- controlled companies;
- voluntary filers;
- smaller reporting companies; and
- non-U.S. domiciled issuers that are not foreign private issuers (foreign private issuers remain exempt from all U.S. proxy rules, including Rule 14a-11).
The rule exempts companies that are subject to proxy rules solely because they have a class of debt securities registered under the Exchange Act.
While the rule does not permit issuers to opt out of its application, it will not apply where state laws or company charters and bylaws prohibit shareholder nominees in proxy materials. Additionally, the rule will not apply to non-U.S. domiciled issuers that are not foreign private issuers if applicable foreign law prohibits shareholders from nominating candidates for director in proxy materials.
Shareholder Requirements to Use Rule 14a-11
Threshold Share Ownership. A shareholder must own a minimum amount of shares in order to have the right to include a nominee or nominees for director in company proxy materials and must be able to prove such ownership. The shareholder must have both voting and investment power over the shares. Shareholders are allowed to aggregate their holdings to meet the share ownership threshold.
To take advantage of the rule, a shareholder or shareholder group would need to own at least 3% of the voting shares of the company. This standard is different than the 2009 proposed rules, which would have set a sliding scale of share ownership based on the size of the company.
A shareholder or shareholder group must provide proof of ownership of the qualifying shares, which may be a statement from a record holder (such as a broker or a bank) through which the qualifying shares are held.
Holding Period Requirement. A nominating shareholder or shareholder group must have held the requisite percentage continuously for at least three years at the time of providing notice to the company of its intent to use Rule 14a-11. This time period also differs from the 2009 proposed rules, which would have required only one year of continuous share ownership. The qualifying shares must be held through the date of the shareholder meeting at which the directors are to be elected.
Nominating Shareholders Must File Schedule 14N. A nominating shareholder or shareholder group must provide notice of its intent to use Rule 14a-11 by filing a Schedule 14N with the Securities and Exchange Commission at least 120 days and no earlier than 150 days prior to the anniversary of the mailing of the prior year’s proxy statement. New Rule 14a-5(e)(3) requires that a company provide in a proxy statement the deadline for submitting nominees for inclusion in the proxy materials of the next annual meeting of shareholders. However, if a company moves its meeting date more than 30 days from the meeting date of the previous year, the company must file a Form 8-K within four days of determining the meeting date and disclose the date by which a shareholder or shareholder group must provide its Schedule 14N notice. Concurrently with filing the Schedule 14N Securities and Exchange Commission, it should also be delivered to the company.
Schedule 14N requires the nominating shareholder or shareholder group to disclose or certify certain information related to its share ownership and intentions, including:
- disclosing the percentage of shares entitled to be voted by the shareholder or shareholder group;
- disclosing the period of time such shares have been held by the shareholder or each member of the shareholder group;
- certifying the intent of the shareholder or shareholder group to hold shares through the date of the shareholders’ meeting at which the directors are to be elected; and
- certifying that the shareholder or shareholder group is not holding stock for the purpose of changing control of the company or to gain more than the maximum number of nominees that the company could be required to include under Rule 14a-11.
Limitations on the Use of Rule 14a-11
Limits to Total Number of Shareholder Nominees. Rule 14a-11 is not intended to allow shareholders or shareholder groups to use the rule to take control over a company. In addition to Schedule 14N, which requires the nominating shareholder or shareholder group to certify that its intent in nominating a director or directors is not to bring about a change of control of the company, Rule 14a-11 specifically limits the maximum number of director positions that can be filled through shareholder nominees.
The total number of nominees from all shareholders that may be elected in reliance on Rule 14a-11 is limited to nominees that would represent 25% of the company’s board of directors or one shareholder nominee, whichever is greater. Generally, shareholder nominees elected to the board through methods outside of Rule 14a-11 would not count towards the maximum 25% or one shareholder nominee number. If shareholders or shareholder groups seek to nominate a number of directors exceeding the maximum number permitted by Rule 14a-11, proxy access would be permitted in order of percentage of voting power of the nominating shareholder(s) and shareholder group(s). This represents a change from the 2009 proposed rules, which would have applied a “first-in standard”, filling up the eligible shareholder nominations permitted in a company’s proxy materials on a first-come, first-served basis. Moreover, as noted above, a shareholder or shareholder group submitting a nominee must certify on its Schedule 14N that it is not holding stock for the purpose of changing control of the company or to gain total representation that is greater than 25% of the company’s board of directors or one shareholder nominee, whichever is greater.
Nominee Eligibility. Shareholder nominees must comply with all other applicable laws, rules and regulations. For instance, a nominee’s candidacy or, if elected, board membership must not violate applicable state or foreign laws and regulations. The nominee must also satisfy the objective independence standards of any national securities exchange or national securities association that are applicable to a company’s directors. Nominees are not subject to any other independence or qualification standards of the board of a company, though a shareholder or shareholder group must disclose in the proxy materials whether it believes the nominee satisfies such company standards.
A company may exclude a shareholder nominee from the proxy materials if it determines that the shareholder nominee would violate any of the limitations or would not fulfill any of the requirements outlined by the rule, but must submit notice of such determination to the Securities and Exchange Commission. If a company is unsure whether a shareholder nominee may be excluded, the company may solicit the opinion of the Securities and Exchange Commission and request a no-action letter.
What Must be Included in Proxy Materials
Rule 14a-11 requires that certain information related to a shareholder or shareholder group and each nominee be provided in the proxy statement related to the meeting in which directors are elected. Such information includes, but is not limited to:
- certain background and biographical information of the nominee and the nominating shareholder or shareholder group;
- disclosure of any direct or material interest, including any contractual agreement, between or among the nominee, the nominating shareholder or shareholder group and the company;
- information about the nominee as would be provided of a board-nominated director under certain items of Schedule 14A; and
- a statement in support of the shareholder nominee from the nominating shareholder or shareholder group, not to exceed 500 words for each nominee.
A company is not responsible for any false or misleading statements provided by the nominating shareholder or shareholder group that is included in the company’s proxy materials.
Amendments to Rule 14a-8(i)(8)
Rule 14a-8 allows shareholders or shareholder groups to submit proposals for inclusion in a company’s proxy materials, subject to certain exceptions. Among the exceptions is Rule 14a-8(i)(8), which previously allowed a company to reject any shareholder proposals that would relate to a nomination or election of the board of directors or a procedure for such nomination or election.
In conjunction with new Rule 14a-11, Rule 14a-8(i)(8) has been amended to delete the exception that allowed a company to reject shareholder proposals concerning procedures for shareholders’ director nominees. As rewritten, Rule 14a-8(i)(8) allows shareholder proposals that augment or supplement Rule 14a-11 nominations, such as by lowering the holding periods or otherwise relating to the procedure for nominating or electing directors. The rewritten Rule 14a-8(i)(8) would still allow a company to reject proposals that, among other things, would question the competence or decisions of directors or director nominees, would remove a director from office before his or her term expired, or would affect the outcome of an upcoming election of directors. Rule 14a-8 is not available for proposals seeking to submit a specific individual for election as director in the proxy materials. Such proposals may be submitted only under and in compliance with Rule 14a-11 or other permitted avenues.
Shareholder Nominations Do Not Prohibit Continued Eligibility to Use Schedule 13G
A shareholder or shareholder group that beneficially owns more than 5% of a class of voting securities of a company, and which is otherwise eligible to report its ownership on Schedule 13G, will not lose its Schedule 13G eligibility solely as a result of nominating one or more director candidates pursuant to Rule 14a-11. Schedule 13G states, among its other requirements for eligibility, that a person using Schedule 13G must certify that they have not acquired such securities with the purpose or effect of influencing the control of the issuer. To the extent that nominations under Rule 14a-11 could be considered as seeking to influence or control an issuer, however, Schedule 13G has been amended to specifically allow a shareholder or a shareholder group making nominations under Rule 14a-11 to file a Schedule 13G, if otherwise eligible. The exemption applies solely to activities in connection with a nomination under Rule 14a-11. Other activities, including activities taking place upon the election to director of a nominee, are not eligible for this exemption.
Certain Communications Among Shareholders Forming a Shareholder Group Will Be Exempt From Proxy Rules Governing Solicitations
Under new Exchange Act Rule 14a-2(b)(7), solicitations by shareholders seeking to form a shareholder group to nominate a director under Rule 14a-11 will not be considered solicitations for purposes of the proxy rules and therefore will be exempt from proxy filing, disclosure and other requirements (other than Rule 14a-11 related requirements). Such an exemption applies to both written and oral communications. While there are no limitations to the content that an oral communication may contain, any written communication may include only:
- a statement of intent to form a nominating group under Rule 14a-11;
- identification of the director nominee or nominees;
- the percentage of voting power the communicating shareholder or shareholder group presently holds; and
- contact information of the shareholder or shareholder group.
Written and oral communications under Rule 14a-2(b)(7) must be filed with the SEC on a Schedule 14N.
Under new Exchange Act Rule 14a-2(b)(8), a nominating shareholder or shareholder group may solicit support from company shareholders for its Rule 14a-11 nominee(s) without triggering the proxy solicitation rules. However, a nominating shareholder or shareholder group may not make use of the Rule 14a-2(b)(8) exemption until the company notifies the shareholder or shareholder group that its nominee will be included in the company’s proxy materials.
In addition, any solicitation made under Rule 14a-2(b)(8) must include:
- a statement identifying the nominating shareholder or shareholder group;
- a description of the direct or indirect holdings in the company of the nominating shareholder or shareholder groups; and
- a legend advising shareholders to read the company’s proxy statement.
Rule 14a-2(b)(8) is only available for a shareholder or shareholder group that does not seek the power to act as a proxy for shareholders. Written solicitation material must be filed on a Schedule 14N.
Effective Date of New Proxy Rules
The new proxy rules will become effective, and compliance will be expected for most companies, 60 days from the date of publication in the Federal Register. The application of the rule to smaller reporting companies (generally speaking, reporting companies with a public float of less than $75 million) will be delayed for three years.