06/22/2020 - Legal Analysis - Private Sector Project - Student Work

SEC’s Proposed Amendment to Rule 14a-8 May Make Life More Difficult for Climate Investors

by Martin Levy, JD 2020

Increasingly, businesses are taking the economic risks of climate change seriously. In a January 2020 letter, BlackRock CEO Larry Fink announced that, “Climate Change has become a defining factor in companies’ long-term prospects,” and threatened votes, “against management and board directors when companies are not making sufficient progress on sustainability-related disclosures and the business practices and plans underlying them.”[1] Fearing the impacts of climate change on the long-term value of their investments, shareholders have waged campaigns to remove fossil fuel executives from corporate boards[2] and demanded that public companies make more sustainable products,[3] buy renewable energy,[4] and commit to the goals of the Paris Climate Accord.[5]

These campaigns are possible, in part, because of Securities and Exchange Commission (“Commission”) rule 14a-8, which addresses how public companies must include shareholder proposals in proxy statements at annual meetings.[6] These proposals allow shareholders to present a course of action to other shareholders and the board, and allow other shareholders to vote on the proposed action. Even though the vast majority of shareholder proposals are not legally binding, they improve management-shareholder communication and often lead to important changes within organizations.[7] For instance, in early 2019 Amazon announced its intention to achieve net zero emissions for half its shipments by 2030, prompting the withdrawal of a related shareholder proposal.[8] Employees at Amazon continue to use their shares in the company to pressure it into further action on climate change.[9]

However, on November 5, 2019, the Commission proposed amendments to Rule 14a-8 that will make it more difficult for climate-conscious investors to influence the behavior of public companies.[10] In particular, the proposal makes two key changes: (1) tightening eligibility requirements for submitting proxy statements and (2) increasing the threshold for resubmitting proposals under rule 14a-8. The comment period for this proposal closed on February 3, 2020. Below I discuss the details of these two changes and the arguments made for and against the new rule by the commenters.

Proposed Changes to Rule 14a-8 & Issuer Support

First, the rule would impose stricter eligibility requirements under Rule 14a-8(b). Currently, shareholders must hold at least $2,000 or 1% of a company’s securities for at least one year to be eligible to submit a proposal.[11] Because the Commission believes holding $2,000 worth of stock for a single year does not demonstrate a sufficient economic stake in a company,  justifying the inclusion of a shareholder proposal in a company’s proxy, it has proposed three new alternative eligibility thresholds.[12] Going forward, shareholders would need to demonstrate continuous ownership of at least: (1) $2,000 of stock for three years, (2) $15,000 of stock for at least two years, or (3) $25,000 of stock for at least one year.[13] The Commission would also eliminate the 1% alternative ownership threshold.[14] The Commission hopes that the increased eligibility requirements will make it “more likely that the shareholder’s proposal will reflect a greater interests in the company and its shareholders, rather than an intention to use the company and the proxy process to promote a personal interest or publicize a general cause.”[15]

Issuers, and groups representing issuers, such as the National Association of Manufacturers, the Business Roundtable, the Chamber of Commerce, and ExxonMobil, have all voiced support for the increased eligibility requirements. They maintain that proxy proposals are dominated by “corporate gadflies” that “spam company proxy ballots by taking de minimis positions in a wide range of issuers” so as to push their own goals unrelated to the long-term good of the company.[16] These goals can include social and political changes irrelevant to the long-term health of the firm[17] or a “parochial public interest,” such as a proposal by PETA demanding Levi Straus use vegan leather in their products.[18] Moreover, these groups maintain that the Commission should tie eligibility requirements to inflation, reducing the need for future amendments.[19]

Second, the Commission would increase resubmission thresholds under Rule14a-8(i)(12). Currently, companies can exclude a shareholder proposal that “deals with the same subject matter as another . . . included in the company’s proxy materials within the preceding 5 calendar years” if the matter failed to garner: (i) 3% of the vote if previously voted on once; (ii) 6% of the vote if previously voted on twice; or (iii) 10% of the vote if previously voted on three or more times.[20] In order to stop proposals without widespread support from being resubmitted, year after year, with no indication of ultimate success,[21] the Commission has proposed amending the current resubmission “thresholds of 3, 6, and 10 percent with new thresholds of 5, 15, and 25 percent, respectively.”[22] Additionally, the Commission would like to add a “momentum requirement,” which would allow management to exclude proposals that (i) have been voted on three or more times within the last five years, (ii) received less than a majority of votes in their most recent vote, and (iii) saw support decline by 10% from the immediately preceding vote.[23] The Commission hopes that, together, these proposals will relieve management and shareholders from the costs associated with repeatedly considering proposals for which there is little or declining shareholder interest.[24]

As with eligibility requirements, issuers and representatives of issuers, have supported the new resubmission thresholds and the “momentum requirement.” The National Association of Manufacturers and the US Chamber of Commerce applauded the Commission for seeking to eliminate “zombie proposals” (those with significant shareholder opposition) that “divert management time and company resources and prioritize[s] a small set of activist investors over the good of the company and the broader shareholder base.”[25] ExxonMobil noted how higher resubmission thresholds reflect the reality of proxy voting today as any proposals with support from either institutional investors or Institutional Shareholder Services (ISS) would meet the 25% support threshold.

Critiques by investors and climate activists

Critics of the proposed rule’s eligibility and resubmission requirements raise three central complaints. First, the rule does not adequately account for the impact on “main street” investors. The SEC’s Investor Advisory Committee (“IAC”) and the AFL-CIO note that “main street” investors would have to invest virtually their entire portfolio into a company to meet the higher eligibility requirements.[26] These higher ownership thresholds could exclude up to 58% of all proposals, 52% of which are related to environmental and social topics.[27] With fewer proposals on environmental topics, managers will face less pressure to disclose environmental risks, therefore limiting shareholder access to material information.[28] Finally, the new holding periods exclude most shareholders from the proxy system because, under current market realties, stocks are typically sold within two years of their initial purchase.[29]

Second, the resubmission thresholds do not reflect the realities of shareholder-management interaction. To start, CalPERS notes that resubmission proposals are the least costly for management to handle.[30] Additionally, IAC, the AFL-CIO, and the Comptroller of the City of New York all argue that the Commission’s resubmission thresholds fail to consider the value of proposals that do not reach majority support. If it appears likely that a proposal will get majority support, the board often adopts it voluntarily in exchange for the shareholder’s withdrawal of the proposal.[31] For example, in the 2019 proxy season, approximately 72% of the New York City Retirement Systems’ proposals addressing Environmental, Social, and Corporate Governance (ESG) matters were withdrawn after the companies agreed to take steps towards meeting the proposals’ goals.[32] Moreover, investors, like TIAA-CREF, and shareholder activists, like As You Sow, maintain that the resubmission thresholds do not consider how “company- and industry-specific developments, as well as macroeconomic events, regulatory changes, and stakeholder concerns, can change dramatically over a three- or five-year period” leading to drastic changes in investor support for shareholder proposals.[33] Such changes in shareholder sentiment were a feature of proxy voting after the 2008 financial crisis.

Third, investors critique the Commission for overstating the cost and the understating the value of 14a-8 proposals. For instance, the AFL-CIO accuses the Commission of relying heavily on old studies and anecdotal cost estimates by industry trade associations that favor restricting shareholder proposal.[34] Additionally, investors argue that the opportunity costs associated with shareholder proposals in terms of management time and attention are not significant; boards can choose to ignore non-meritorious proposals and even most majority-approved proposals are merely advisory.[35] The climate advocacy group, Ceres, notes how ESG proposals help management avoid controversies and long-term business risks,[36] and ESG-focused funds, like Trillium Asset Management, view shareholder proposals as a key part of their investing strategy.[37]

The core of the disagreement over the proposed amendment to rule 14a-8 amounts to a disagreement over the value of shareholder proposals generally, and ESG proposals in particular. Are these investors simply “corporate gadflies” distracting management from running the business? Or do shareholder proposals highlight important social and environmental risks, in turn enhancing long-term company value?

Future of Rule 14a-8

Because the proposed rule is just that, a proposal, the Commission may still reverse tack and address investor concerns in its final rule or in a new proposal. Additionally, a few recent supplemental comments on the proposed rule have urged the Commission to reconsider their proposal in light of the COVID-19 pandemic.[38] The next move by the SEC is unlikely to be the last, as any final rule could be challenged by investors and climate activists in litigation or, in the event of a changed presidential administration, through the Congressional Review Act.[39] Still, the ultimate result of this 14a-8 amendment process will materially impact the ability of climate-conscious investors to influence public companies.

[1] Larry Fink, A Fundamental Reshaping of Finance, Black Rock available at https://www.blackrock.com/corporate/investor-relations/larry-fink-ceo-letter.

[2] Laura Noonan, JPMorgan Chase removes former oil boss from lead director role, Financial Times (May 3, 2020) available at https://www.ft.com/content/843205f9-6785-4b79-b4be-f1d114b5e826.

[3] Sarah Krouse & Theo Francis, Climate Changes as Firms Heed Investors on Social Issues, Wall Street Journal (May 1, 2019) (“Oreo cookie maker Mondelez International Inc. last year said all its wrappers would be recyclable by 2025. The move came four years after Parnassus Investments, a small San Francisco-based money manager, and other investors began pushing Mondelez to assess the environmental impact of its packaging.”) available at https://www.wsj.com/articles/companies-make-room-for-investors-pushing-climate-social-issues-11556715600.

[4] Id. (“Earlier this year, after Verizon Communications Inc. vowed to generate or buy renewable energy equal to half of its total yearly electricity consumption by 2025, an environmentally focused shareholder withdrew a proposal it had filed in late 2018 calling for Verizon to report on ways to increase its reliance on renewable energy.”)

[5] Andrew Ward, Shell faces shareholder push on climate change goals, Financial Times (March 25, 2018) available at https://www.ft.com/content/fae8e478-2eba-11e8-9b4b-bc4b9f08f381; see also Dieter Holger, BP Agrees to Draft Climate Change Shareholder Resolution, Wall Street Journal (Mar. 27, 2020) available at https://www.wsj.com/articles/bp-agrees-to-draft-climate-change-shareholder-resolution-11585339089.

[6] 17 CFR § 240.14a-8 – Shareholder proposals.

[7] Recommendation of the SEC Investor Advisory Committee (IAC) Relating to SEC Guidance and Rule Proposals on Proxy Advisors and Shareholder Proposals (January 24, 2020) (“Shareholder proposals provide a number of important social benefits. Despite the vast majority being legally non-binding, they commonly are implemented by managers, despite initial opposition or resistance by boards, suggesting that they can persuade managers to review and revise their beliefs about topics covered by resolutions.”) available at https://www.sec.gov/spotlight/investor-advisory-committee-2012/sec-guidance-and-rule-proposals-on-proxy-advisors-and-shareholder-proposals.pdf.

[8] As You Sow, Press Release, Amazon Responds to Increased Shareholder Pressure, Commits to Cut Delivery Emissions 50% by 2030 (March 7, 2019) available at https://www.asyousow.org/press-releases/amazon-cut-emissions-climate-change.

[9] See Karen Weise, Over 4,200 Amazon Workers Push for Climate Change Action, Including Cutting Some Ties to Big Oil, New York Times (April 10, 2019) available at https://www.nytimes.com/2019/04/10/technology/amazon-climate-change-letter.html; see also Emily Stewart & Alexia Fernández Campbell, 8,000 Amazon employees asked the company to do more on climate change. Shareholders just said no., Vox Recode (May 22, 2019) available at https://www.vox.com/recode/2019/5/22/18635604/amazon-shareholder-meeting-2019-climate-change-proposal.

[10] See Procedural Requirements and Resubmission Thresholds under Exchange Act Rule 14a-8, 84 Fed. Reg. 66458 at 66,463 (December 04, 2019), https://www.federalregister.gov/documents/2019/12/04/2019-24475/amendments-to-exemptions-from-the-proxy-rules-for-proxy-voting-advice. The Commission announced the rule on November 5. See U.S. Securities and Exchange Commission, SEC Proposes Amendments to Modernize Shareholder Proposal Rule (Nov. 5, 2019) available at https://www.sec.gov/news/press-release/2019-232.

[11] 17 CFR 240.14a-8(b)(1).

[12] Procedural Requirements and Resubmission Thresholds under Exchange Act Rule 14a-8, 84 Fed. Reg. 66458 at 66,463 (December 04, 2019).

[13] Id. at 21.

[14] Id. at 22.

[15] Id at 19-20.

[16] Chris Netram, Vice President, Tax and Domestic Economic Policy, National Association of Manufacturer’s, Letter to Vanessa Countryman, Secretary of the SEC (February 3, 2020); see also Neil A. Hansen, Vice President- Investor Relations Secretary, Exxon Mobil, Letter to Vanessa Countryman, Secretary of the SEC (February 3, 2020) (arguing that voiced concern for how low eligibility requirements make the proxy process a potential platform for abuse by Shareholders whose primary interest is in obtaining a high profile platform for themselves or their causes).

[17] U.S. Chamber of Commerce Capital Markets Competitiveness: January 31, 2020, Tom Quaadman Executive Vice President, Letter to Vanessa Countryman, Secretary of the SEC (January 21 2020).

[18] Business Roundtable: Maria Ghazal Senior Vice President & Counsel of Business Roundtable, Letter to Vanessa Countryman, Secretary of the SEC (February 3, 2020).

[19] Id.

[20] 17 CFR 240.14a-8(i)(12).

[21] Proposed Rule at 47. (“the current resubmission thresholds may allow proposals that have not received widespread support from a company’s shareholders to be resubmitted—in some cases, year after year—with little or no indication that support for the proposal will meaningfully increase or that the proposal ultimately will obtain majority support.”)

[22] Id at 50.

[23] Id at 58.

[24] Id.

[25] Chris Netram, Vice President, Tax and Domestic Economic Policy, National Association of Manufacturer’s, Letter to Vanessa Countryman, Secretary of the SEC (February 3, 2020); see also U.S. Chamber of Commerce Capital Markets Competitiveness: Tom Quaadman Executive Vice President Letter to Vanessa Countryman, Secretary of the SEC (January 21, 2020) (discussing the growth in “zombie” proposals and noting that only 5% of these proposals eventually pass).

[26] See Recommendation of the SEC Investor Advisory Committee (IAC) Relating to SEC Guidance and Rule Proposals on Proxy Advisors and Shareholder Proposals (January 24, 2020); see also AFL-CIO, Brandon J. Rees, Deputy Director, Corporations and Capital Markets, Letter to Vanessa Countryman, Secretary of the SEC ( February 3, 2020) (noting how the median balance of working age individual with a retirement account is $40,000 and, accordingly, the newly proposed $15,000 and $25,000 thresholds are equal to 37.5% and 62.5% of the average retirement account.)

[27] Madison Condon, Attorney, Institute for Policy Integrity, NYU Law, Letter to Vanessa Countryman, Secretary of the SEC (February 3, 2020).

[28] Id.

[29] See Recommendation of the SEC Investor Advisory Committee (IAC) Relating to SEC Guidance and Rule Proposals on Proxy Advisors and Shareholder Proposals (January 24, 2020) (noting average stockholding time is 16 months); see also Marcie Frost, Chief Executive Officer, CalPERS Letter to Vanessa Countryman, Secretary of the SEC (February 3, 2020) (noting average stockholding time is 9 months)

[30] Marcie Frost, Chief Executive Officer, CalPERS Letter to Vanessa Countryman, Secretary of the SEC (February 3, 2020).

[31] See AFL-CIO, Brandon J. Rees, Deputy Director, Corporations and Capital Markets, Letter to Vanessa Countryman, Secretary of the SEC ( February 3, 2020); see also Office of the Comptroller of New York City, Scott Stringer, Letter Vanessa Countryman, Secretary of the SEC (February 3, 2020)

[32] Office of the Comptroller of New York City, Scott Stringer, Letter to Vanessa Countryman, Secretary of the SEC (February 3, 2020)

[33] Amy O’Brien, Senior Managing Director, Head of Responsible Investing Nuveen LLC and Yves P. Denize, Senior Managing Director, Division General Counsel Nuveen LLC (TIAA-CREF), Letter to Vanessa Countryman, Secretary of the SEC (February 3, 2020); see also As You Sow: Chelsea Linsley, Staff Attorney, and Danielle Fugere, President & Chief Counsel, Letter to Jay Clayton Chairman (SEC) and Vanessa Countryman, Secretary of the SEC (February 3, 2020) (noting that momentum requirement is likely to preventing the success of proposal on complex or emerging issues whose value is not immediately apparent to other investors).

[34] AFL-CIO, Brandon J. Rees, Deputy Director, Corporations and Capital Markets, Letter to Vanessa Countryman, Secretary of the SEC (February 3, 2020).

[35] See Id.; see also As You Sow: Chelsea Linsley, Staff Attorney, and Danielle Fugere, President & Chief Counsel letter to Jay Clayton Chairman (SEC) and Vanessa Countryman Secretary of SEC on February 3, 2020.; Office of the Comptroller of New York City, Scott Stringer, Letter to Vanessa Countryman, Secretary of the SEC (February 3, 2020).

[36] Ceres: Mindy Lubber, CEO and President of CERES, letter to Vanessa Countryman, Secretary of SEC (February 3, 2020).

[37] Trillium Asset Management: Jonas D. Kron, Senior Vice President, Letter to Vanessa Countryman Secretary of the SEC (February 3, 2020).

[38] See Andy Green, Managing Director of Economic Policy, Center for American Progress et al., Letter to Vanessa Countryman, Secretary of the SEC (May 26, 2020); see also Timothy smith, Director, ESG Shareowner Engagement, Boston Trust Walden, et al., Letter to Vanessa Countryman (April 30, 2020)

[39] See, e.g., Kevin Chen The Congressional Review Act’s Legal Uncertainties, Environment and Energy Law Program (May 15, 2020) available at https://eelp.law.harvard.edu/2020/05/the-congressional-review-acts-legal-uncertainties/.