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BOARD MEMO 2021

Impact of the changes to the SEC shareholder proposal rules and DOL regulations

Jerome Ranawake

Jerome
Ranawake

Partner, New York

Elizabeth Bieber

Elizabeth
Bieber

Counsel, New York

The SEC’s changes to the shareholder proposal eligibility requirements under Rule 14a-8 will be effective for proposals submitted towards the end of 2021 in advance of the 2022 proxy season. However, it is likely that companies will perceive changes in the tenor of shareholder engagement earlier than the fall of 2021, as the eligibility requirements are expected to alter the dynamics of the so-called off-season governance engagement because they affect the stakes for proponents and shareholders. 

Shareholders that are potential proponents will likely commence balancing portfolios in order to maximize shareholder proposal eligibility and may use formal and informal engagement efforts to determine the feasibility of alternative engagement methods prior to making such portfolio-balancing decisions.

In addition to the procedural changes to Rule 14a-8, in September 2020, the Department of Labor proposed regulations regarding the requirements of an ERISA fiduciary (which includes most US private pension funds) to comply with its fiduciary duties and its ability to vote for proposals at annual shareholder meetings and engage in stewardship activities (including the submission of shareholder proposals). The proposals clarify, among other things, that:

  • there is no affirmative duty for an ERISA fiduciary to exercise its voting authority; and
  • in order to vote on a proposal or engage in stewardship, the fiduciary must determine that the matter would have an economic impact on the plan.

Given the size and diversity of their assets, individual matters are unlikely to have an economic impact on large plans. While it is unclear whether the proposed regulations will be finalized – and in particular whether the incoming Biden administration will take a different stance – ERISA fiduciaries are likely to take a conservative approach this proxy season due to the chilling effect of the proposal, even in advance of any finalization. In addition, private pension funds and other investments regulated under ERISA have been influential in supporting smaller shareholders. In particular, the combined effect of a finalized Department of Labor proposal and the resubmission thresholds under Rule 14a-8 will make it difficult for smaller proponents to meet the revised resubmission thresholds to grow shareholder support for identical proposals in successive years to significant and even passing levels – a popular tactic that has tended to be utilized by less well-capitalized proponents relying on support from larger, environmental, social and governance-attentive shareholders such as private pension funds.

Companies should have their IR departments determine whether and how these developments will impact shareholder engagement programs, and boards should consider how their companies should prepare to shift their engagement strategy in light of this new regulatory environment. One of the reasons the SEC cited for amending the Rule 14a-8 eligibility requirements is the availability of other forms of engagement and communication to shareholders, so it is reasonable to expect increased focus on such other forms of engagement. In some ways, the Rule 14a-8 process was a statutorily prescribed and therefore preferred single, organized manner for smaller shareholders to engage with companies. The inability, or even perceived inability, of shareholders to reliably access alternative engagement channels where the Rule 14a-8 process is actually or potentially no longer available to them is likely to result in a more fractured shareholder engagement process, for which companies will need to prepare and adapt. Recent experience has shown that the failure of a company to be viewed as responsive to its stockholders (and, increasingly, its stakeholders) may have a significant adverse reputational impact even if it does not have an actual governance impact.