New SEC guidance reverses course from previous staff guidance and indicates that the staff may no longer permit companies to exclude certain shareholder proposals from company proxy statements. Staff Legal Bulletin No. 14L, issued Nov 3, 2021 by the staff of the SEC’s Division of Corporation Finance, raises the standards the staff will use when evaluating a company’s request to omit shareholder proposals from its proxy materials with respect to Rule 14a-8 of the Securities Exchange Act of 1934. Most notably, the guidance significantly reduces the ability to exclude shareholder proposals under Rule 14a-8’s “economic relevance” exception and the “ordinary business” exception, including setting a higher bar for a company to show a shareholder proposal constitutes “micromanagement.”
Many boards and management teams will need to reconsider their response plans for shareholder proposals in the coming proxy season. The new guidance will encourage shareholders to resubmit variations of proposals previously rejected under prior SEC guidance or to submit new, more aggressive proposals excludable under prior guidance. For example, following significant successes of ESG proposals in the 2021 proxy season, due in part to institutional investors’ increased support of non-binding shareholder proposals, the change in SEC guidance provides additional strength to shareholder campaigns in furtherance of ESG goals. It is unclear how the staff intends to apply other grounds for shareholder proposal exclusion given the guidance changes (including the exclusion of resubmissions).
Rule 14a-8: The Shareholder Proposal Rule
Rule 14a-8 provides a path for shareholders to include a non-binding proposal in a company’s proxy statement for shareholder consideration. Under limited circumstances, a company may exclude a shareholder proposal, but only after submitting its reasons to the Commission in the form of a no-action request.
Rule 14a-8(i) provides thirteen substantive bases for a company to exclude a shareholder’s proposal from its proxy materials, including, among others, the “Economic Relevance” exception and the “Ordinary Business” exception.
The “Economic Relevance” Exception
Rule 14a-8(i)(5), the “economic relevance” exception, permits a company to exclude a proposal that “relates to operations which account for less than 5 percent of the company’s total assets at the end of its most recent fiscal year, and for less than 5 percent of its net earnings and gross sales for its most recent fiscal year, and is not otherwise significantly related to the company’s business.”
According to the guidance, companies may not exclude proposals that raise issues of broad social or ethical concern related to the company’s business, even if the relevant business falls below the five-percent economic and relevance thresholds set forth in Rule 14a-8(i)(5). This guidance reverses the approach articulated by the staff in Staff Legal Bulletin 14I in 2017.
The “Ordinary Business” Exception
Rule 14a-8(i)(7), the “ordinary business” exception, permits a company to exclude a proposal that “deals with a matter relating to the company’s ordinary business operations.” The purpose of the exception is “to confine the resolution of ordinary business problems to management and the board of directors, since it is impracticable for shareholders to decide how to solve such problems at an annual shareholders meeting,” without preventing shareholders from providing high-level direction on large strategic corporate matters.
According to the new guidance, the staff will no longer evaluate the significance of a policy issue to a particular company, but will instead focus on the social policy significance of the issue that is the subject of the shareholder proposal. In making this determination, the staff will consider whether the proposal raises issues with a broad societal impact such that they transcend the ordinary business of the company. For example, the staff indicated that proposals squarely raising human capital management issues with a broad societal impact would not be subject to exclusion solely because the proponent did not demonstrate that the human capital management issue was significant to the particular company. This guidance reverses the approach articulated by the staff in Staff Legal Bulletin 14K in 2019.
The staff will also take a more measured approach to evaluating companies’ arguments that a proposal involves improper micromanaging. According to the guidance, shareholder proposals seeking detail or seeking to promote timeframes or methods do not per se constitute micromanagement. Instead, the staff will focus on the level of granularity sought in the proposal and whether and to what extent it inappropriately limits discretion of the board or management. For example, the staff will no longer concur in the exclusion of proposals requesting that companies adopt timeframes or targets to address climate change, so long as the proposals afford discretion to management as to how to achieve such goals. This guidance reverses the approach articulated by the staff in Staff Legal Bulletin 14J in 2018.
While under prior guidance many ESG-related proposals focused on disclosure, we expect under the new guidance to see an increase in shareholder proposals seeking emissions reductions and “net zero” commitments, board and workforce diversity requirements, political contribution limitations and similar measures. Whether the staff will permit companies to exclude such proposals on other grounds will be a defining feature of proxy solicitations and ESG campaigns under the current administration.
If you have questions regarding the matters contained in this publication, please contact one of the lawyers listed below or your regular Baker Botts contact.
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