The shareholder empowerment movement consists of activists who advocate shifting corporate decision-making authority to shareholders, and thus away from boards of directors and executive management. In effect, this means allowing uninformed shareholders to interfere with the decision making of the most informed locus of corporate authority.
Among the expected effects of such shifts are suboptimal board and executive decision-making, fewer successful companies willing to become or remain publicly traded and constraints on society’s ability to create economic wealth.
The aspirations of the shareholder empowerment movement—whose members include public pension funds, labor-union-related funds and those ever-growing number of individuals who feed off the trough of such activism—are most apparent in the movement’s advocacy of shareholder proposals that seek to implement proxy access. Under proxy access, certain privileged large shareholders—primarily institutional investors who can meet the standard three-year holding period and 3 percent ownership threshold—may have their own slate of director nominees included in a public company’s proxy materials (the proxy statement and voting card), whether or not the company’s board of directors approves.
But there is a fundamental problem with proxy access. Even the large institutional investors who are eligible and most willing to participate in the process tend to be no more informed about the companies in which they invest than the average investor. That is, no matter how well the corporate governance departments of these eligible investors have memorized the latest principles of what is considered good corporate governance, they do not have enough inside information to decide who should sit on the boards of the thousands of large and complex companies in which they hold a stake.
Typically, the only locus of corporate authority that has this vital information is the board itself and its nominating committee. The board understands how current members interact, both with each other and with executive officers. They know what kind of background and experience would enhance board decision making and what kind of personality the nominee should have in order to meld well with current board members and executive management.
The board, as an informed locus of authority, makes proxy access both inefficient and unnecessary. As I put it in an earlier post:
‘On efficiency grounds, proxy access may have value where the investor base is made up primarily of informed investors. It does not make any practical sense in the context of a large public company with thousands of shareholders, both institutional and retail, who overwhelmingly are uninformed about critical aspects of how the companies they invest in operate or are managed.’
When a company does actually suffer from large agency costs or inefficient decision making due to its current board composition, it isn’t institutional investors who will save the day through proxy access. Rather, it’s the informed investors—such as activist hedge funds and those who make either friendly or hostile bids for corporate control—who will be able to react quickly enough to reduce those inefficiencies before it is too late.
For those in the shareholder empowerment movement, having proxy access is a great negotiating tool when dealing with a company’s board and executive officers. It’s great if you are looking to expand employee benefits or increase wages. It’s great if you are looking to present yourself as a populist political leader fighting the evil corporate interests on topics like climate change and sustainability. But for the core question that should preoccupy every board—how to enhance shareholder value—it has no relevance.
Fortunately, the US House of Representatives already has taken a first step that could help to unwind some of the recent damage. In the Financial Control Act of 2016, a bill that has been approved by the House Financial Services Committee, there is a provision to repeal the Securities and Exchange Commission’s authority to issue rules on proxy access. Specifically, this would mean repealing Section 971 of the Dodd-Frank Act.
Moreover, the SEC should soon be back to its full complement of five members. However, for the first time in many years, the commission will most likely be composed of three Republications and two Democrats. When that occurs, the SEC should be positioned to modify Rule 14a-8(i)(8), the election exclusion rule for shareholder proposals, and thereby return the SEC to its traditional position on proxy access, ie, providing the board with discretion to omit shareholder proposals on proxy access from a company’s proxy materials.