Will the Courts Become the New Battleground for Exclusion of Shareholder Proposals?

By Cydney Posner

Some of the more interesting activity regarding shareholder proposals is once again taking place in the courts, not at the SEC. Often companies find consistent (some might say "stubborn") opposition from the SEC when they seek the SEC's concurrence that a company may exclude a shareholder proposal. As a result, in the last couple of years, more companies have taken their cases directly to court, bypassing the SEC entirely.

Recently, as discussed in Practical Law, a Missouri District Court allowed a company to exclude a shareholder proposal on the basis that the supporting statement included material misstatements and, therefore, was not in compliance with SEC Rules 14a-8 and 14a-9 (which prohibits materially false or misleading statements in proxy soliciting materials). The decision is important because the SEC seems to be reluctant to permit exclusion of shareholder proposals on the basis of factual errors and misstatements, preferring instead to allow the shareholder proponent to cure the defect. The case, Express Scripts v. Chevedden, features the prolific John Chevedden. Mr. Chevedden had submitted a proposal seeking an independent board chair. The company sent him deficiency letters notifying him of numerous factual inaccuracies in his supporting statement and seeking corrections. After several rounds of correspondence, as well as an extension of the deadline for receipt of proposals, Mr. Chevedden failed to submit a corrected proposal. (Apparently, Mr. Chevedden did finally submit an updated supporting statement after the deadline had passed.) The company went to court, notifying the SEC of its court action and intent to exclude the proposal, but not requesting a no-action position from the SEC. The court agreed with the company that the supporting statement was misleading, viewing the discussion in the proxy materials of the company's existing corporate governance practices as especially important to the shareholders' decision on the proposal. In particular, the court agreed that the supporting statement had misstated the CEO's compensation, incorrectly stated that the company had no clawback policy and incorrectly stated that the company had plurality voting for directors. In addition, the court refused to consider the revised supporting statement submitted after the deadline had passed, under SEC Staff Legal Bulletin No. 14F, noting, however, that even the revised version contained material misstatements that would have permitted exclusion of the proposal.

Another basis for exclusion of shareholder proposals that the SEC has not looked upon favorably is the "proposal-by-proxy" argument. Frequently, Mr. Chevedden is not himself a shareholder, but submits proposals on behalf of actual shareholders with whom he is allied. Companies argue that there is no basis in the rules allowing him to act by proxy on behalf of shareholders other than "for the limited purpose of presenting the shareholder's proposal at the shareholders' meeting." Because the SEC refuses to accept that argument as a basis for exclusion of shareholder proposals--the SEC won't even accede to a request that Chevedden be identified as a proponent of his own proposals -- some companies have recently sought affirmation from the courts for exclusion on that basis. For example, last year, in Waste Connections, Inc. v. Chevedden et al., the company succeeded in its request for a declaratory judgment in a Texas federal district court, which allowed the company to exclude a shareholder proposal seeking to eliminate board classification submitted by Chevedden on behalf of two of the company's shareholders. Once again, the company bypassed the SEC no-action process and went straight to court (after giving notice to the SEC). See my article of 5/29/13. Among the arguments for exclusion offered by the company was the contention that, since Mr. Chevedden was not himself a shareholder, nothing in the proxy rules permitted him to advance a proposal based on a purported "proxy" from other purported shareholders. As noted in the corporatecounsel.net blog, in January of this year, another company filed a complaint seeking a declaratory judgment allowing exclusion of a shareholder proposal on the basis, among others, that a proposal may not be submitted by proxy. http://www.thecorporatecounsel.net/member/FAQ/ShareholderProposals/01_14_Chipotle.pdf  (The complaint notes that, in a recent 10-year period, Mr. Chevedden submitted 879 shareholder proposals that were considered for exclusion by the SEC staff.) The complaint alleges that Mr. Chevedden failed, notwithstanding several deficiency notices, to establish his own share ownership, and echoes the argument that SEC rules allow representation by proxy only for the narrow purpose of appearing at a shareholders' meeting to present a proposal.

Where the SEC has historically rejected a basis for exclusion, will taking the case to court, instead of the SEC, now become a common, albeit more costly, practice? Or will the SEC staff begin to take a little guidance from the courts with regard to its unwavering rejection of some categories of claims for exclusion?

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