The Securities and Exchange Commission has announced its intention to make fundamental changes that would impede one of the most important tools to advance corporate social responsibility: the rights of shareholders to influence corporate policies and practices. In order to raise public awareness of what’s at stake, leading advocates for socially responsible investing have launched the Investor Rights Forum. The forum provides current information and commentary on the importance of shareholder advocacy, case studies of successful shareholder engagements, details on the SEC’s proposals to undermine long-standing precedents, and efforts underway to prevent proposed rule changes from going into effect. The Investor Rights Forum is a collaboration between the Shareholder Rights Group and US SIF: The Forum for Sustainable and Responsible Investment; Natural Investments is an active member of each.
The Current Framework for Shareholder Rights
The consensus on socially responsible investing is that the current regulatory framework pertaining to shareholder rights, while imperfect, is not broken. It supports investors seeking to act as responsible stewards. Though sometimes defined by companies as immaterial, shareholder advocacy actually raises salient issues before they become crises and advances measures to protect shareholder value, such as the following requirements:
• Independent directors to be at least a majority of the board
• Advisory votes on executive compensation
• International human rights principles within codes of
conduct and supply chain policies
• Greenhouse gas reductions and reporting
• Corporate sustainability reporting
• Comprehensive nondiscrimination policies that include
sexual orientation and gender identity or expression
• Increased board diversity
It should be noted that while a few shareholder proposals have resulted in laws being passed or stock exchange standards being upgraded, most proposals are voluntary and advisory in nature. But many companies recognize that shareholders are advocating to preserve share value by helping companies acknowledge numerous business supply chain, climate, human rights, pollution, and toxicity risks—as well as governance risks related to pay disparity, board diversity, Internet privacy, and product safety (e.g. opioids).
Shareholder advocacy encourages companies to develop vigorous programs to ensure that their manufacturers and suppliers operate in the least exploitive manner possible. Not only is this paradigm grounded in a sense of social and environmental responsibility, operating according to these principles fosters long-term profitability, better share value, and a more solid economy. The existing process provides a well-established, well-understood, and reasonably predictable vehicle for investor input and corporate accountability.
Proposed Limits on Shareholder Resolutions
In May, the SEC announced its intention to rewrite a rule pertaining to the thresholds for filing and resubmitting shareholder proposals. This rule is a vitally important, cost effective, market-based mechanism for shareholders of all sizes to communicate with management teams, directors, and other shareholders on important corporate governance, risk and policy issues that affect companies and their investors.
Currently, an individual holding only $2000 of stock for at least one year can file a shareholder proposal. The SEC is considering raising the threshold to shareholders holding 1% of company shares or greater, and for a longer period of time; this would restrict proposal activity primarily to large institutional share owners and cripple the democratic process created by the current rules. Many important considerations for management are proposed by small investors, so excluding them from dialogue with company management defies the reason the SEC was first established in the first place: to protect Main Street investors during the Great Depression.
Though about half the submitted shareholder proposals are withdrawn annually prior to a vote (due to management’s willingness to adhere to the proposals’ recommendations), most of those that move on to a vote do not pass. Under the current rule, proposal must have obtained at least 3% shareholder support in the first year, 6% in the second year, and 10% in the third year to be resubmitted on subsequent ballots. These thresholds have worked well to limit shareholder resolutions, especially since votes receiving below 3% remove the issue from formal consideration.
The current thresholds allow for the introduction of a proposal on an emerging concern to prompt ongoing consideration, education, research, and dialogue among the shareholders and companies—a process that can take years. Many of the issues raised by shareholders are unfamiliar to people, so it takes time to build awareness about why these issues merit consideration by the company and its investors. But the potential for re-submission is sometimes sufficient to stimulate a company to address the underlying concern, so keeping these issues front and center is essential to the process. Vote levels for novel proposal topics often grow over time, which sends a clear signal to management, so it is important that even minimally supported proposals be kept on the ballot.
The SEC, having undoubtedly heard from issuers that responding to some of these resolutions is a costly, immaterial nuisance, has indicated that it may seek to raise the re-submission threshold percentages significantly, which would limit the number of critical risk mitigation strategies being presented to companies in these proposals and negatively impact the shareholder education process around issues that are material to financial performance. We are trying to stop this from happening.
Exclusion of Social Issues on Proxy Ballots
For decades, whenever companies wished to exclude an environmental, social, or governance shareholder proposal from the proxy ballot, they filed a request to the SEC explaining why it believes the SEC should exclude the item from the ballot. Last month, the SEC issued a new policy that essentially passes the buck on its regulatory role by suggesting that the SEC may not respond in writing to every company’s request, may not decide for or against the proposal, or may simply respond orally (and put its decision on the SEC website). The sustainable investment industry is requesting the SEC rescind this change in process, as it reduces transparency and accountability, increases the burden on investors, and could increase conflict between companies and investors. Less transparency also limits proper Congressional oversight.
This selective response approach is a direct threat to the rights of shareholders because it fails to provide equal treatment to all shareholder proposals and could create more uncertainty and confusion about the legitimate impact of environmental, social, and governance risks and practices on financial performance. The SEC’s proposed lack of written transparency about its decision-making process will likely leave shareholders with inadequate information necessary to make decisions about ownership, undermining the ability of the market to gain predictive understanding of the regulator’s thinking.
It also means that should the SEC’s inaction encourage a company to exclude a proposal from the ballot, the burden to address the issue at hand could only be addressed by the judicial system. The outcomes resulting from the SEC’s announcement place an unreasonable and unfair burden on investors—especially the Main Street investors whose protection is a central, stated priority for SEC Chairman Jay Clayton. It may not be the SEC’s intention to escalate the amount of issuer-investor tension, costs, and conflicts associated with shareholder proposals. But the new process, oddly justified in the name of efficiency, appears likely to do so.
The SEC proposal amounts to abandoning its legitimate role as a regulator and is entirely unfair to small shareholders who do not have the resources to file suit against companies over such matters. It’s believed by many industry insiders that the SEC is doing this precisely to get government out of the way and let stakeholders duke it out between themselves or in court. This is tantamount to a clear failure of our government in protecting shareholders from mismanagement of the companies they own.
Support from the Business Roundtable
Ironically, while the SEC was supposedly acting on behalf of large corporate interests, last month 181 CEOs of the formidable Business Roundtable (BRT) released a new declaration on the purpose of a corporation, enthusiastically endorsing a shift to address stakeholder concerns—including those of employees, communities, customers, and others in the supply chain, as well as shareholders. The BRT’s new Statement of Purpose acknowledges the evolving expectations of society on companies and offers a new pledge to commit to stakeholders by delivering value to customers, investing in employees, working ethically with suppliers, supporting communities where they work, and delivering long-term shareholder value. The BRT statement notes that by focusing on the well-being of all key stakeholders, and not just on boosting short-term shareholder return, companies will be more successful over the long term.
We hope this new statement urging companies to establish responsible and responsive policies, governance systems, and reporting processes is also a signal of a new level of interest in and support for environmental, social, and governance resolutions put forth by shareholders, which the BRT had previously labeled as distractions unrelated to shareholder value. Time will tell.