UPC, 14a-4 Proposals, and 14a-8

Well, this post gets a little technical, so bear with us as we get to some very practical implications a little later. Securities attorneys should already know this material pretty well, so we understand if they stop reading here.

On our podcast that posted last week, we discussed developments in universal proxy cards (UPC). We referred only briefly to ways the new UPC rule affects other elements of activism. This includes the novel application of proxy solicitation to shareholder proposals, which has intrigued us for awhile. In this sense UPC and that application of proxy solicitation rules (14a-4) intersect in an interesting way.

A somewhat arcane change associated with UPC essentially made it practical for activists to use 14a-4 for shareholder proposals. Here we explain the change and how it enabled 14a-4 proposals.

No more bona fide nominee rule

Bona fide: "made in good faith without fraud or deceit", per Mirriam-Webster; literally, from Latin, "in good faith"

For decades, companies and activists needed to follow the SEC bona fide nominee rule. Companies and activists that wanted to include someone on a proxy statement as a BoD nominee needed that person's consent to became a bone fide nominee. Companies would naturally obtain consent from its incumbents, and activists from its challengers.

An activist might want to include company incumbents on the activist's proxy statement. An activist would do that if it nominated a small number of candidates for a BoD, less than the number of available BoD seats. An activist would then want to list on its proxy statement both its challengers and the incumbents it did not oppose. Thus, other shareholders could vote for some or all of both the challengers and those company incumbents.

For the activist to include those incumbents on its proxy statement, the activist would need their consent based on the bona fide nominee rule. Companies would of course not allow incumbents to so consent. Doing so would help shareholders vote for the activist candidates, since shareholders could vote for a complete BoD slate - some or all of the activist candidates and the remaining incumbents. This would make life a little easier for an activist.

So, for decades, activists would solicit votes only for their own challengers. Companies would of course solicit votes only for incumbents. This was but one reason why the white and blue (or green or pink) cards remained separate.

Under UPC the bone fide nominee rule made no sense. UPC of course now requires companies to include activist nominees on the company proxy statement and activists to include company nominees on the activist proxy statement. Obtaining consent from the nominees to do so added an unnecessary step to an already-complicated process. So, when the SEC adopted the UPC rule, it also rescinded the bona fide nominee rule. (It didn't actually rescind and remove the section, but redefined it to essentially accomplish that.)

All proxy statements, not just proxy contests

The bona fide nominee rule never made much sense. If an incumbent (or a challenger) agreed to serve on a company (or activist) BoD slate, the incumbent (or challenger) almost certainly would agree to serve on the activist (or company) BoD slate. The company might not want that, as it makes life easier for an activist.

Here the SEC cares more about voting shareholders than about companies. Specifically it seeks to allow shareholders to choose from among both challengers and incumbents. Keeping the bona fide nominee rule only for uncontested elections would also require some intricate rule making. So, the SEC rescinded it completely, rather than only for proxy contests.

The SEC regulates proxy statements in part under Rule 14a-4. That rule generally allows an activist to solicit shareholder votes for BoD nominees and also precatory proposals. Until the last year, and not since 2010 and only a very few times before then, activists solicited votes only for BoD nominees, and not for precatory proposals. As we've discussed before, earlier this year a resourceful activist solicited proxies under 14a-4 to obtain votes for five shareholder proposals. A couple of weeks ago another activist followed.

The bona fide nominee rule was part of 14a-4. Rescinding it made it practical for activists to solicit proxies for precatory proposals.

Why not just solicit proxies for precatory proposals?

Under 14a-4, an activist always could solicit proxies for one or more precatory proposals. It would notify a portfolio company of the intent to propose one or more resolutions, under whatever advance notice bylaw terms the company adopts. It would circulate a proxy statement to shareholders, with its proposal(s). 14a-4 has indeed allowed this for decades.

The activist could even solicit proxies that include the company's proposals, such as on executive say-on-pay or appointing the external financial auditor. It did not need the company's consent to include any and all company proposals.

An activist did need the company's consent to include BoD incumbents, as we mentioned. Specifically it would need consent from those incumbents, under the bona fide nominee rule. Companies didn't allow incumbents to so consent.

Before UPC and pursuant to the bona fide nominee rule, an activist would end up soliciting proxies to vote for its precatory proposal(s) and also any company proposals. It could not vote for directors, though:

• The activist could not include incumbent directors on the proxy statement and proxy card
• Without directors on the proxy statement, shareholders could not authorize the activist to vote for directors at the AGM
• Without the ability also to vote for directors, few shareholders would support the activist and its proxy card.

Most shareholders found it more important to vote for directors than to vote for one or another precatory proposal from an activist.

After UPC and without the bona fide nominee rule, an activist could include company incumbents on the activist's proxy statement. The activist essentially copies the company's proxy statement and proxy card, listing all of the company director nominees and company proposals (say-on-pay, auditor appointment, and anything else). It then adds its own proposals to the list of company proposals.

How it works now

If you followed this far, even securities attorneys, then here we set forth the practical implications, as a few simple steps.

1. An activist will notify the company of its intent to propose its precatory proposals at the next AGM, pursuant to the company advance notice bylaw terms, just like with director nominees in a proxy contest
2. The company eventually files its proxy statement and card with the SEC, listing director nominees and any company proposals for shareholders to consider
3. The activist copies the filed company proxy statement and card, including company BoD nominees and proposals, and adds its precatory proposal(s) from the notice in 1. above
4. The activist files its complete, updated proxy statement and card with the SEC
5. The activist solicits proxies using its complete filed proxy statement and card, which allows it to vote for all the company BoD nominees and proposals, and also its precatory proposal(s).

The activist can also communicate with shareholders about its proposal. After 1. above, it can seek to persuade shareholders about its precatory proposal(s), before it files its proxy statement in 4. above. It files an SEC form, Additional Definitive Non-Management Proxy Soliciting Materials (Form DFAN14A) with the SEC each time it does this. This is of course exactly the same as soliciting proxies for director nominees in a BoD proxy contest, because it follows the same proxy solicitation rules. It merely does this for one or more precatory proposals, instead of for one or more director nominees.

We need to mention, again, that an activist that goes through all this does indeed solicit proxies for one or more precatory proposals. We contrast this with the usual shareholder proposal process, under SEC rule 14a-8. As hundreds of mostly ESG activists are aware, they can submit proposals to a company for the company to include on the company proxy statement and card. 14a-8 prescribes when and how the company must or need not include those proposals.

When we mention the activist must solicit it proposals, we mean it drafts and files a proxy statement with the SEC. It also likely retains a proxy solicitor. This all costs more, possibly considerably more, than submitting the proposal to the company under 14a-8.

With the ability to duplicate the company proxy statement and card and willingness to solicit proxies, an activist gives a company little choice. It can re-copy the activist proxy statement and card, including the activist proposal(s). Or, it can let the activist solicit some or even most of the proxies, and thus lose some control over tracking and counting votes. If the company does include the activist proposals on the company proxy materials, then the activist need not incur the expense and hassle of soliciting proxies itself.

We see how the United Mine Workers achieved its goals at HCC, and Starboard presents a formidable contest at NWSA. We expect other activists to follow, all because of UPC.