SEC Provides New Guidance on Rule 14a-8 Shareholder Proposals
By: SCOTT J. DORFMAN
On October 18, 2011, the Securities and Exchange Commission (SEC) issued Staff Legal Bulletin No. 14F (the Bulletin), which provides guidance on issues arising under Rule 14a-8 of the Securities Exchange Act of 1934. Rule 14a-8 contains guidelines for the submission of security holder proposals to be considered at public company shareholder meetings, including shareholder eligibility to submit proposals and the form, content, and procedures for submission of such proposals. The Bulletin clarifies the SEC staff’s view on who constitutes a record holder for purposes of submitting proposals, provides guidance to shareholders on submission of revised proposals and common errors that shareholders can avoid in presenting proof of ownership to companies, and introduces the new process by the SEC’s Division of Corporation Finance (the Division) for transmitting Rule 14a-8 no-action responses by email.
Record Holder Guidance
Under Rule 14a-8, a shareholder is eligible to submit a shareholder proposal if the shareholder has continuously held at least $2,000 in market value or 1 percent of the company’s securities entitled to be voted at the shareholder meeting for at least one year as of the date the shareholder submits the proposal, and must continue to hold the securities through the date of the meeting. The shareholder must also provide the company with a written statement of the shareholder’s intent to hold the securities through the date of the meeting. Most public company shareholders hold shares in “street name,” meaning that shares are held in book-entry form through a broker or bank. Rule 14a-8 provides that a beneficial owner can show proof of ownership by giving a written statement from the record holder of the shares verifying that the street name holder held the required number of shares continuously for at least one year.
Most brokers and banks deposit clients’ shares with and hold shares through the Depository Trust Company (DTC), which is a clearing agency that acts as a securities depository. The names of brokers and banks, often referred to as “participants” in DTC, do not appear as the record holders of the shares deposited with DTC; rather, DTC’s nominee, Cede & Co., appears on the shareholder list as the sole record holder of such shares. A company can request a “securities position listing” from DTC in order to identify which brokers and banks have a position in the company’s securities as of a specific date. The bifurcated ownership structure can sometimes be confusing to a street name holder seeking to prove ownership in connection with submission of a shareholder proposal.
To further complicate the record holder issue, there are frequently two types of brokers that engage with street name holders. An “introducing broker” engages in sales and related activities that involve direct contact with clients, such as accepting orders and opening trading accounts. Introducing brokers are not permitted to maintain custody of client funds and shares, and thus engage another broker—a “clearing broker”—to maintain custody of funds and shares and execute trades. Introducing brokers generally are not DTC participants; clearing brokers generally are DTC participants.
Prior SEC staff guidance indicated that introducing brokers could be considered record holders for the purpose of verifying street name shareholder ownership and required companies to accept proof of ownership from brokers and banks in cases where the company could not verify ownership positions against DTC’s securities position listing. The Bulletin reverses the prior guidance and establishes that, for Rule 14a-8 purposes, only DTC participants such as clearing brokers should be viewed as record holders of securities deposited at DTC. The Bulletin reiterates the SEC staff’s view that a street name holder need not obtain proof of ownership from DTC or Cede & Co. in addition to proof of ownership from the DTC participant broker or bank.
Submitting Revised Proposals and Avoiding Common Errors
The Bulletin also provides guidance on procedures for shareholders to follow in submitting revised proposals to the SEC and avoiding common proposal submission errors. Under Rule 14a-8, in order for a shareholder proposal to be included in the company’s proxy statement for the shareholder meeting, the shareholder must submit the proposal “timely,” generally defined as not less than 120 calendar days before the one-year anniversary of the company’s prior-year proxy statement mailing date. The Bulletin clarifies that if a shareholder submits a timely proposal and then submits a revised proposal that is also timely, the company must accept the revised proposal. The first proposal is deemed effectively withdrawn. Conversely, if a shareholder submits a timely proposal and then submits a revised proposal that is not timely, the company is not required to accept the revised proposal and can instead submit a no-action letter to the SEC stating its intention to exclude the proposal as untimely. The company can also choose not to accept the revised proposal and try to exclude the initial proposal by submitting a no-action letter to the SEC with its reasons for excluding the initial proposal. In the case of any revised proposal, the proponent must prove share ownership as of the submission date of the initial proposal.
With regard to avoiding common errors, the Bulletin highlights two frequently seen errors made by shareholders in submitting proof of ownership to companies. First, many shareholders fail to verify the shareholder’s beneficial ownership of company stock for the entire one-year period preceding and including the submission date of the proposal. In some cases, the proof of ownership speaks as of a date before the proposal is submitted, leaving a gap of time prior to the submission date, and in other cases it speaks as of a date after the proposal is submitted, in some cases failing to comply with the one-year continuous holding period prior to the submission date. Second, many shareholders fail to satisfy the proof of continuous ownership requirement because the shareholder includes a broker letter that shows beneficial ownership only as of a specific date, but omits any reference to continuous ownership for a one-year period.
Email Transmission of No-Action Responses
Finally, the Bulletin outlines the Division’s new process for transmitting copies of Rule 14a-8 no-action letter responses by email. Previously, the Division transmitted its responses to no-action letter requests by U.S. Mail to companies and proponents. Going forward, the Division intends to transmit Rule 14a-8 no-action responses by email and encourages companies and proponents to include email contact information in any correspondence to the Division and to each other. In cases where email contact information is not given, the Division will provide a response through the U.S. Mail. The SEC will also post the Division’s response and the related correspondence to the SEC’s Web site shortly after issuance of the response.
While the Bulletin is mostly applicable to shareholders, most notably brokers and banks, companies should be aware of its impact on the shareholder proposal process. The reversal of prior guidance regarding introducing brokers provides another avenue for companies to pursue in seeking to exclude shareholder proposals, if the proponent provides proof of ownership through an introducing broker. Also, companies should be aware of the Division’s preference for email going forward and provide email contact information in any Rule 14a-8 correspondence with the Division.