July 1 was a momentous day at the U.S. Securities and Exchange Commission as the commissioners approved a long-awaited board election reform and proposed a series of wide-ranging disclosure rules.
By a 3-2 vote, the SEC gave final approval to a New York Stock Exchange rule change to bar brokers from casting uninstructed client shares in uncontested director elections starting in 2010.
The rule approval was praised by advocates for institutional investors, which have lobbied for a ban on "broker votes" for more than a decade. However, the SEC's two Republican commissioners warned that the new rule could diminish the influence of retail shareholders, increase the number of directors who lose their seats each their year, and impose additional costs on issuers.
Also on July 1, the SEC unanimously voted to propose new rules that seek more information on compensation risks, other services performed by pay consultants, director qualifications, and board leadership structures. The disclosure proposals also include a new mandate that companies disclose proxy vote results in an 8-K filing within four business days of an annual meeting, instead of up to several months later in a quarterly filing. The commission also voted to issue draft rules that address the annual advisory vote on pay requirement that now applies to financial firms that receive support under the Troubled Asset Relief Program (TARP). Both rule proposals will be subject to a 60-day comment period, and SEC officials hope to have final rules in place before the 2010 proxy season.
The broker vote rule change will apply to all NYSE-listed issuers, except for registered investment companies. Under current Rule 452, brokers may cast client shares for management nominees in uncontested elections if they don't receive voting instructions from the beneficial owner within 10 days before a shareholder meeting.
While voting levels vary by company, broker votes overall accounted for 16.5 percent of the votes during the 2008 proxy season, according to Broadridge Financial Solutions. If the NYSE rule change leads to a 10 or 15 percent reduction in director support levels, the number of directors who fail to achieve majority support could significantly increase. In 2008, 32 directors at U.S. companies had majority opposition, while another 200 received more than 35 percent "withhold" or "against" votes, according to RiskMetrics Group's Voting Analytics data.
Commissioners Troy Paredes and Kathleen Casey opposed the rule change. They warned that the NYSE rule could increase the influence of institutional investors at the expense of retail shareholders who typically support management. The Republican commissioners also said the SEC should have addressed broker votes along with other proxy process issues, such as the so-called "OBO-NOBO" communication rules (referring to shareholders who choose not to identify themselves), the problems of "empty" and "over voting," and the decline in retail voting since the SEC's "e-proxy" rules took effect.
While praising the intent behind the NYSE rule change, Casey also expressed concern about the cumulative burden on issuers posed by other regulatory initiatives, including the SEC's controversial proxy access rule. "I have concerns about the stresses that a large number of changes will place on the [proxy] system," Casey said. "Taken as a whole, these may come together to create a tipping point that causes U.S. companies to reincorporate elsewhere."
While noting the concerns raised by issuers and the commissioners who urged delay, SEC chair Mary Schapiro recalled that the rule was first drafted three years ago by a NYSE proxy working group with a "widely diverse" membership. "Keeping hard decisions on hold for many years doesn't solve any problems. It's time to move forward," Schapiro said.
Schapiro called on the SEC staff to start work later this year on developing regulatory proposals to address other proxy voting issues. However, any such rules won't be proposed and finalized in time for the 2010 proxy season. SEC staff members said the commission may hold a roundtable on these issues in October or November.
Schapiro and most of the other commissioners urged the agency staff to work with the NYSE and issuers to educate investors about proxy voting in the absence of broker discretionary votes. "There is a role for the SEC to play," she said. "There is no way that we can abdicate our responsibility in this area."
In recommending approval of the NYSE rule change, the SEC staff noted the "distortive" effect that broker voting can have on "vote no" campaigns and the importance of ensuring that votes are cast by those who have an economic stake in companies. Staff members said these considerations outweighed the additional short-term costs to issuers. When asked by Commissioner Elisse Walter whether a broker vote ban would prompt companies to refrain from adopting majority voting policies, Meredith Cross, director of the Corporation Finance Division, said the change may give some companies "pause" about adopting such provisions, but she said she did not think that the NYSE rule would have a significant impact.
Investors praised the SEC approval of the NYSE rule. "Investors everywhere are grateful to the SEC for doing the right thing in the face of vigorous opposition from many corners of the business community," Ann Yerger, executive director of the Council of Institutional Investors, said in a press release. "Eliminating discretionary broker votes will ensure that director elections are no longer tainted by phantom votes."
New Disclosure Rules
The rules proposed by the SEC on July 1 would seek more disclosure on the following issues:
* The relationship of a company's overall compensation policies to risk. SEC officials said companies would only be required to address "material" risks.
* The qualifications of director nominees and how their skills would help them to serve on the board and perform their specific committee assignments. In addition, companies would have to provide details on outside directorships held during the past five years, instead of only current board memberships. SEC staffers said issuers should welcome a chance to expound on the qualifications of their nominees. While the proposal appears to be aimed at companies that have appointed former military leaders, politicians, sports heroes, and other "celebrities" to their boards, it would provide shareholders with more meaningful information about board nominee qualifications.
* Board leadership structure. Companies would have to explain why they decided to appoint a non-executive chairman or chose to combine the roles of board chair and CEO.
* Potential conflicts of interests of compensation consultants. Companies would have to provide details on other services performed by pay advisers and the fees paid for that work. The AFL-CIO, which has filed shareholder resolutions seeking more disclosure on pay consultants, welcomed the SEC initiative. "Better disclosure is needed to bring these conflicts of interest out of the shadows," John Sweeney, the labor federation's president, said in a press release.
Commissioner Casey praised the proposed rules on board leadership and compensation consultants for only requiring more disclosure rather than trying to mandate certain practices.
The proposals also include a revised proxy solicitation rule to allow short-slate dissident groups to round out their slates with candidates from other dissident groups. Under current rules, dissidents may only supplement short slates with management nominees. SEC staffers said this provision was inspired by this season's proxy fight at Amylin Pharmaceuticals, where billionaire investor Carl Icahn and Eastbourne Capital Management each fielded partial slates.
The SEC initiatives include a rule change on the disclosure of equity compensation. In their summary compensation tables, companies would be required to report the aggregate grant date fair value of equity granted during the previous year, instead of the current accounting value of previous grants.
Commissioner Walter specifically praised the proposal to expedite the reporting of proxy vote results. "There is no reason for investors to wait a few months to see the results of voting," Walter said.
Amy Borrus, deputy director of the Council of Institutional Investors, said this proposed rule was a "pleasant surprise." New York City's pension funds filed several shareholder proposals this season asking companies to adopt a policy to provide prompt disclosure of vote results on investor resolutions.
The SEC also is seeking comment on whether issuers should provide disclosure on director diversity and diversity policies. Commissioner Luis Aguilar praised this initiative, noting that studies have shown that diversity "results in real va