The shareholder proposal process is a tool of corporate governance meant to enhance the decision-making of the board of directors—the ultimate decision-making authority in a corporation. Corporate law takes such a board-centric approach because the channeling of information into a centralized, hierarchical authority allows for the efficient management of a large organization. Given this sensible theory, it is clear that the board, guided by senior management, has the greatest potential for efficient decision-making, not shareholders or other stakeholders.
This theory has now been turned on its head with public companies receiving shareholder proposals intended to plant the seeds for their own destruction. This is what ExxonMobil recently experienced when two climate activist investors, holders of insignificant amounts of company stock, submitted a proposal to radically reduce the oil giant’s carbon emissions over a very short period of time.
Shareholder approval of the proposal at the ExxonMobil annual meeting and implementation by the board of directors would lead to a major reduction in current operations and a forced sale of oil and gas assets to those companies who do not face such activism. Major harm to shareholder value is sure to follow. Moreover, there is no expectation that use of the assets in different hands would lead to a reduction in carbon emissions. This lack of environmental impact adds another level of absurdity to the proposal.
As James Copland and I discussed in detail in our writing for the Columbia Law School’s Blue Sky Blog, the blame for such destructive proposals’ rests at the feet of the Securities and Exchange Commission (“SEC") and its increasingly permissive and political approach to shareholder proposals.
The SEC’s Overreach
The U.S. Supreme Court has repeatedly stated that “state law will govern the internal affairs of the corporation” unless Congress has provided it with express authority to do so. A reading of Section 14(a) of the Securities Exchange Act of 1934, the statutory section on proxy solicitations, reveals that when it comes to deciding which shareholder proposals are to be included in a company’s proxy materials for a vote at the annual meeting, there is no Congressional command that directs the SEC to interfere in this area of substantive board decision-making. Section 14(a) only provides the SEC with authority to regulate disclosures in the proxy solicitation process.
The absence of Congressional authority has not stopped the SEC. Currently, the SEC thinks it has the authority to compel the insertion of shareholder proposals on social issues, not only when they are not significant to a company’s business, but also when there is not even a “nexus” between the social issue and the company—essentially empowering shareholders to use the corporate proxy process as a platform for any issue the agency staff deems important.
Moreover, the SEC has provided its staff with inexplicable discretion in the shareholder proposal process. The staff’s discretion is revealed through the no-action letter process. “No-action letters” are informal responses to company requests seeking to know if the SEC staff would recommend to the Commission that an enforcement action be taken if the company were to exclude a shareholder proposal. SEC staff point to one or more of the thirteen Rule 14a-8 substantive bases for exclusion and their own interpretations of those bases in granting or denying no-action requests. But it is obvious that the issuing of no-action letters can be based on the staff’s political preference, not the law. In Trinity Wall St. v. Wal-Mart Stores, Inc., the court referred to the SEC staff’s no-action letter process on shareholder proposals as a “we-know-it-when-we-see-it” approach.
Given this increasingly lawless regulatory environment, it is hardly surprising that ExxonMobil felt it needed to make a stand. Therefore, instead of seeking a no-action request that it expected to be denied, the company responded by taking the extraordinary and costly measure of filing suit seeking court approval to exclude the proposal from its proxy statement. It is estimated that the company budgeted several million dollars to pursue this litigation.
Recommendations
As stated in ExxonMobil’s complaint, the shareholder proposal “seeks to usurp the role of management and the board to impose Defendants’ personal policy preferences through a shareholder proposal process that was not designed or intended for such use.” This proposal is an unlawful interference in the corporate governance of a public company. This type of interference must stop.
The price to be paid for being a public company is to come under the regulation of the SEC. The SEC should be seeking to minimize this cost, not increasing it by overregulating. The solution is for the SEC to support SEC Commissioner Mark Uyeda’s recommendation that private ordering as provided for under corporate law should govern which shareholder proposals enter a company’s proxy materials. This would mean a company’s board of directors using its discretion to exclude a shareholder proposal on substantive grounds under the applicable charter amendments and by-laws that govern the company’s proxy process. This approach would be the optimal way to stop the shareholder proposal madness.
