Securities Law Prof Blog

Editor: Eric C. Chaffee
Univ. of Toledo College of Law

Monday, April 28, 2014

Brown on Proxies

J. Robert Brown Jr. has posted The Proxy Plumbing Release Revisited and the Need for Version 2.0 on SSRN with the following abstract:

Congress assigned the Securities and Exchange Commission (SEC or Commission) responsibility over the proxy process in the Securities Exchange Act of 1934. The Act gave little guidance but left the Commission with broad authority to adopt rules that were “necessary or appropriate in the public interest or for the protection of investors.” The Commission found itself thrown into the middle of a complex regulatory environment already inhabited by other decision makers. State law governed the substantive rights of shareholders, determining who could vote, the matters subject to their approval, and the percentages needed for adoption. Stock exchanges regulated the relationship between brokers and street name owners and the activities of listed companies.

The SEC for the most part focused on disclosure. Solicitations were to be accompanied or preceded by a proxy statement that provided shareholders with the information needed to make an informed voting decision. To ensure accuracy, the earliest version of the rules included a strong anti-fraud provision.

Beginning in a modest fashion, the proxy process ultimately assumed a disproportionate role in the system of corporate governance. The right of shareholders to nominate directors or make proposals was meaningless without the ability to solicit proxies. Aware of this, the proxy rules were designed to function as a “replacement” for the annual meeting and to give shareholders the same rights available under state law.

In fact, the rules amounted to more of a limit on, rather than a replacement of, the rights of shareholders. The costs associated with solicitations restricted shareholders communications and sharply curtailed the ability to nominate directors. Even where the Commission provided access to the proxy statement, the authority extended only to certain shareholders and allowed for the exclusion of proposals on grounds not sanctioned under state law. Proxy cards bore little resemblance to ballots used at the meetings, restricting shareholder choice in contests for control of the board.

Changes in the underlying dynamics, however, gradually challenged the system of regulation. Investors shifted from record to nominee ownership, facilitating trading activity but complicating the voting process. Institutional investors grew in importance and chaffed under the restrictions contained in the rules. The proxy process increasingly confronted the logistical problems that arose from the need to process billions of votes in thousands of meetings over a short period of time.

The proxy rules needed reform. Longstanding but antiquated provisions interfered with effective exercise of voting rights. The plethora of participants made accountability difficult. Hanging chads threatened to throw results into doubt. The process resulted in low participation rates for retail investors. Aware of these strains, the Commission initiated a comprehensive reexamination of the regulatory regime in 2010. Dubbed the Proxy Plumbing Release, or Concept Release, the SEC sought comments on a wide range of issues that potentially affected the integrity of the voting process. The Concept Release addressed, among other things, back office issues, the role of intermediaries, and the plight of retail investors.

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