Proxy access: The free-speech edition…

February 11, 2011

The lawsuit brought against the Securities and Exchange Commission last fall by the U.S. Chamber of Commerce and the Business Roundtable — seeking to toss out a rule giving some shareholders the right to put their own board candidates in the official company proxy filing — got a lot of press at the time.

A recent rebuttal signed by three dozen prominent law professors has gotten much less attention. That’s too bad, because the scholars skewer one of the more strained arguments that the business groups make: That the SEC is restricting corporate free speech rights by letting large shareholders put their board nominees in the proxy that management sends to shareholders.

At issue is so-called proxy access. For years, the only way shareholders could get their board candidates before shareholders for a vote was to wage a costly proxy battle, producing and distributing their own proxy documents. Now the SEC says shareholders with at least 3% voting power, subject to certain conditions, will be able to put candidates forward. (See the full rule [PDF] for more.)

You can read the full Chamber/Roundtable argument here (and a summary here). They list multiple grievances; among them: The plaintiffs say that the SEC ignored evidence that the rule will be costly. They fear that activist investors — and especially government pension funds and the Chamber’s perennial bugaboo, unions — will be able to exploit the system. They argue that mutual funds in particular don’t need proxy access and would find the rule still costlier. And they fret that it violates a company’s free-speech rights to require it to disseminate information about board candidates other than those nominated by the existing board.

You can find the brief by the law professors’ brief here, and a Harvard Law School blog post summarizing it here. We came away with several relatively simple but significant points.

First, just as state law can require companies to hold an annual meeting and give individual shareholders a forum to speak, without violating the corporation’s First Amendment rights, so proxy access can give shareholders another venue. Giving shareholders a voice doesn’t muzzle management, they argue. They also note that companies can already be required to give shareholders access to the proxy to propose various other kinds of measures, from advocating more humane treatment of food animals to proposing limits on executive pay. The new rule “merely prevents management from using the company’s proxy statement for a monologue,” the professors write.

Second, shareholders aren’t alien outsiders whose positions the company is being forced to present.

“Shareholders, … unlike third parties, have an ownership interest … and have rights and powers that properly are understood to be part of the ‘internal affairs’ of a corporation.”

When it comes down to it, this may be thing that bugs us most about the Chamber/Roundtable free-speech argument: It gives the distinct impression that the two groups confuse management and the board with the company itself. Consider this line from p. 10 of the business-groups’ brief:

“The rules violate the First Amendment and is a taking of corporate property because it forces companies to fund and carry election-related speech that is opposed by a company’s duly-elected board of directors.” (emphasis added)

But the interests of the company extend beyond the interest of the current board and management, and explicitly include the interests of shareholders — even those that management doesn’t much like; after all, shareholders might have changed their mind about their duly-elected representatives. The Chamber/Roundtable position seems to treat shareholders as potentially dangerous, if perhaps necessary, annoyances to be kept at arm’s length, rather than as owners with a fundamental right to a voice and a say in the company’s governance.

Finally, the most bluntly practical argument the professors make may be that the baby goes out with the bathwater if the plaintiffs win: Most of the country’s securities regulation is rooted in disclosure — what companies tell their shareholders or potential shareholders.

“Courts have long held that federal securities regulations that compel corporate disclosures are not prohibited by the First Amendment. For over 70 years, the federal government has regulated securities primarily through regulating the speech of corporations, management, and shareholders. Subjecting these laws to strict First Amendment scrutiny would eviscerate the government’s ability to enact and enforce regulations that promote market integrity, capital formation, and investor protection.”

For what it’s worth, we’re not talking about a narrow slice of academia here. The names behind this argument come from many of the big law schools you’ve heard of — Harvard, Columbia, Duke, Boston University, UNC-Chapel Hill, Georgetown, Tulane, UCLA — and others, as well.

There’s an old saw that freedom of the press is for those that have presses — a much bigger deal before the Internet made distribution comparatively cheap and easy, of course. When it comes to the speech of corporate governance, the official proxy filing is the biggest bullhorn around. The question is, should management get to monopolize it?

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