We are doing a series of posts on the Merck case, a decision recently taken by the Supreme Court that will examine the standard for commencing the statute of limitations under Rule 10b-5. Nonetheless, we have been hearing rumblings of a law suit by business interests against the SEC should the current access proposal be adopted. We felt the need to comment.
How many stories exist where one side wins but really loses. Does anyone remember when the federal government tried to extend FDA regulation to tobacco products and was shot down by the Supreme Court after protracted litigation instigated by the tobacco industry? Most likely had this occurred the regulation would have preempted most states and been modest in its affect. Only belatedly did the industry realize this was the case. Federal legislation has now been passed to give the FDA this authority and, most likely, the level of regulation will be more onerous. In other words, the efforts in the 1990s were a victory but surely a Pyrrhic one.
The same has got to be true for the Business Roundtable's suit against the SEC for Rule 19c-4, the rule that imposed one-share one vote. The Business Roundtable won. The DC Circuit struck down the rule. The SEC had no authority to use Section 19(c) to impose listing standards on stock exchanges that would regulate the corporate governance process. A victory, no doubt, but likewise Phyricc. Why? Listing standards (particularly those enforced by for profit companies) are largely toothless. Look at the independent director standard, where the NYSE allows fees to be excluded from consideration of material relationships. Moreover, there are no private rights of action for violations (for now). In other words, the burdens aren't all that onerous.
Because of Business Roundtable, however, the SEC lacked the leverage to impose stricter governance standards. SOX was one consequence (particularly Section 302 on audit committees). Likewise current legislative efforts would significantly expand the SEC's authority in this area. Had the SEC been able to use Section 19(c) to accomplish these goals, the legislation would likely have been unnecessary.
With that, we come to access. Short sightedness in this area has reigned supreme. First, Chairman Cox imposed a ridiculously narrow concept of access, one that would give 5% shareholders a right to submit only a bylaw that, if it passed, would permit access. Industry (and its supporters) rose up in opposition and the proposal was killed. Had it passed, it would have taken away much of the pressure for access and almost never resulted in shareholders having access rights (passing these bylaws would be difficult). Indeed, Commissioner Paredes, who voted against the current proposal, called for access. He no doubt understood that its adoption would have little or no impact on the election of shareholder nominated directors.
With regime change, the SEC has issued an access proposal that gives shareholders the right to submit nominees directly, no bylaw needed. The proposal, however, is modest, with a one year holding period and reasonable but not easy thresholds for stock ownership for those submitting proposals. Moreover, the SEC logically differentiated among companies by size, reducing the likelihood the authority would be used against smaller companies.
Nonetheless, the Chamber of Commerce is saber rattling about bringing a lawsuit if the proposal is adopted. Perhaps this is strategic, designed to get the SEC to adopt something that is modest in effect and less likely to be challenged. On the other hand, the threat may well be just that. If this passes, there will be a legal challenge.
We will no doubt write about these issues in the future. The common view seems to be that the SEC has the authority to adopt this requirement under Section 14(a). The source of the authority makes the case very different from the proposal in Business Roundtable.
But lets assume that the Chamber brings a suit and wins. Be prepared for another Pyrrhic victory. There is little doubt that access will happen. If the SEC is denied regulatory authority, attention will simply shift to Congress. Already the Shareholder Bill of Rights, in a nicely anticipatory fashion, has a provision that expressly grants to the SEC authority to regulate in this area. The result of a legal victory will be delay (that is, unless Congress acts during the pendency of the litigation) but in the end broad authority for the Commission. With broad authority will likely come more onerous regulation (and less likely to be weakened in the future).
Business interests should work hard to get the best deal they can from the Commission. They should have done that two years ago, when the deal would have been much more favorable. Moreover, whatever deal they strike now can potentially be improved when the regulatory environment is more favorable. We are guessing, however, that this matter will add in litigation and that either the SEC will win or the case will be added to the category of Pyrrhic victories.