Governance

Limitations on director nomination procedure are wrong

A trend in corporations adopting proxy access has been to limit to 20 the number of shareholders in a group that can aggregate the eligible percentage of shares to nominate directors.

That is an unacceptable limitation that effectively disenfranchises all but the largest shareholders from potentially participating in access to corporate proxy materials to nominate directors.

There should be no limit on the number of shareholders in a group so long as they meet the other eligibility requirements, including that the group combined holds at least 3%, generally, for three consecutive years, a provision designed to give priority to long-term investors to encourage long-term corporate strategy and sustainability.

The New York City Retirement Systems, which has been the leading fund in pushing for adoption of proxy access, now plans to begin to nominate directors. But it is an exception among large institutional investors. Often the largest shareholders are large index fund companies, which tend to eschew activist engagement such as filing shareholder proposals.

Smaller asset owners and other institutional shareholders often are more active proponents. A challenge for smaller institutional investors is that unless they can marshal enough of the largest shareholders to make up a group of 20 shareholders, these more activist proposals have no chance of advancing a nomination of a director to a corporate board. A limit of 20 also pushes aside voices of smaller institutional shareholders, which deserve to be heard as well.

Companies that adopted proxy access bylaws with limits on the number in a group eligible to nominate shareholders include Exxon Mobil Corp. in November 2016, General Motors Co. in March 2016 and Apple Inc. in December 2015.

When given a chance to vote on management proposals with limits on the number of shareholders in a group, asset owners and other institutional investors have tended to embrace them under the notion that the proposal — even if not ideal — advances board accountability and shareholder rights in corporate governance. But institutional investors haven't conceded to a limit.

At Apple, a shareholder proposal calling for proxy access would end the limitation of the number of shareholders in a group that the company imposed when it adopted its bylaw in 2015. Apple's annual meeting is Feb. 28.

Companies have used their adoption of a proxy access bylaw to seek SEC so-called no-action rulings to enable them to exclude new proxy access proposals from a shareholder vote on the groups. The companies have argued they have implemented essentially the same proposal, settling the issue. But these new proposals are materially different in proposing an end to limits on the size of groups and, to the SEC's credit, have often won inclusion in proxy statements.

Asset owners and other institutional shareholders must keep up the pressure to end limitations to enable proxy access. Such a move would broaden benefits to corporations and expected shareholder value.

Institutional shareholders must do more to communicate these advantages to corporations and other shareholders to win more support to end limitations.

This article originally appeared in the February 6, 2017 print issue as, "Limitations on director nomination procedure are wrong".