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September 14, 2006
Court Affirms Shareowner Right to File Resolutions on Proxy Access for Nominating Directors
    by Bill Baue

The decision, which simply upholds existing rules that SEC practice had departed from, fills the void left when the SEC proposed then abandoned a rule on proxy access for nominating directors.

Last week, seismic tremors significantly shifted the landscape of shareholder access to the proxy for nominating directors, an issue that has calcified in the three years since the Securities and Exchange Commission (SEC) proposed a rule then let it languish unadopted. First, the Second Circuit Court of Appeals issued its decision on American Federation of State, County, and Municipal Employees Pension Plan v. American International Group, denying AIG the right to exclude AFSCME's shareholder proposal seeking proxy access to nominate directors. Two days later, SEC Chair Chris Cox directed the Division of Corporation Finance to draft a rule to standardize nationwide application of the "town meeting rule"--14a-8(i)(8)--which guides SEC staff in issuing no-action letters on election-related shareholder resolutions.

"This is the fundamental issue in all of corporate governance and the defining character of the Exchange Act--what rights do shareholders have to nominate and elect board members who reflect their interests?" said Rich Ferlauto, director of pension and benefit policy at AFSCME. "Do shareholders only have a right to disclosure, or do they have the right, under the Exchange Act and state laws, to actually engage in an election that's run fairly and on an equal basis where shareholders really have an opportunity to communicate with other owners on who the leadership of the company should be?"

"In some ways, this decision can help bring a democratization of elections that hasn't been there up until this point, and make capitalism more consistent with democracy," Mr. Ferlauto told

The SEC intends to present its proposal at an October 18 open meeting, leaving time for public commentary before a final proposal and rulemaking in time for the 2007 proxy season. This announcement seems to emanate from the department of redundancy department, as the SEC already expended significant resources on a rulemaking proposal on the issue of shareholder access to the proxy for nominating directors, only to allow it to die on the vine.

"The statement last week didn't mention re-visitation of the 2003 proposal," John Nester, SEC director of public affairs, told He pointed out that the Corporation Finance Division has yet to draft the recommendation, so it is not known what it will or will not include. "The proposal in 2003 outlined a process by which shareholders could get greater access to company elections; 14a-8 is not the same thing."

Well, yes and no. The rule in question does not specifically concern shareholder access to the proxy for nominating directors, but the context in which this rule amendment is being considered certainly does concern this issue, as the SEC announcement makes explicit.

In the ruling, Circuit Judge Richard Wesley admonishes the SEC for this same kind of willful separation of evident connections. The judge notes that the SEC interpreted the town meeting rule one way from 1976 until 1990 (consistent with AFSCME's interpretation), and then another way on an ad hoc basis thereafter (consistent with AIG's interpretation), without giving reasons for the change. Furthermore, the amicus brief the SEC filed for this case explaining its position elided this inconsistency, a fact that does not escape the judge's notice.

"The amicus brief is curiously silent on any Division action prior to 1990 and characterizes the intermittent post-1990 no-action letters which continued to apply the pre-1990 position as mere 'mistake[s],'" Judge Wesley states. "While we by no means wish to imply that the Commission or the Division cannot correct analytical errors following a refinement in their thinking, we have a difficult time accepting the SEC's characterization of a policy that the Division consistently applied for sixteen years as nothing more than a 'mistake.'"

AFSCME's argument hinged on a single word: "an." The town meeting rule allows exclusion if the resolution "relates to an election," not "elections," suggesting the rule was intended to allow exclusion of resolutions meddling in specific contests, but not those addressing election reform more generally. The ruling upheld this argument, requiring the SEC to apply this standard from now on.

"This essentially creates a right of proxy access on a company-by-company basis--now shareholder-nominated candidates could appear next to director-nominated candidates on a corporate ballot if, and this is a very important if, shareholders pass a binding bylaw amendment at a particular company," Mr. Ferlauto of AFSCME told "This would balance the power between shareholders, who have large burdens to overcome to run independent nominees, and directors or nominating committees, who have the power of the purse, if you will, and control over the proxy card when they're running candidates."

In a footnote, Judge Wesley notes the irony that the existing mechanism for filing resolutions seeking proxy access for nominating directors upheld by the court is less restrictive than the 2003 proposal, which stipulates shareowners must hold over one percent of a company's stock. In other words, the mere $2,000 threshold of share-ownership required for filing resolutions under the standard process upheld in the court's decision makes it much easier to gain shareowner access to the proxy for nominating directors than through the 2003 proposal.

"We and other institutional shareholders are prepared to move ahead and use shareholder resolutions to create proxy access at companies that are deserving--we're not going to wait for the SEC one way or the other," said Mr. Ferlauto. "We would welcome the SEC revisiting the proposed rule that's languished on the table for three years, but it's not necessary in order to enforce on a national basis the decision of the Second Circuit, since that is where securities issues are litigated and its decisions traditionally become the precedent nationally."


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