We are discussing the Commission's decision (by a 3-1 vote) to adopt the non-access proposal.  The decision was made possible because Chairman Cox, who had previously indicated support for access, voted with Commissioners Atkins and Casey in support of non access.  He explained his reasons in a statement made atthe open meeting on November 28. 

He argued that the failure to act would result in excessive legal uncertainty, a questionable position and one we have already discussed.  He went even further, however, and essentially took the position that those submitting access proposals were free to lie and make material misrepresentations.   Non-access was necessary to prevent such an unacceptable result.  If only it were true. 

He noted that if the Commission did nothing, there would be an "easy end run around the Commission's required disclosures and our antifraud rules in proxy contests."  As a result, "doing nothing would put all investors at risk."  As if not enough, he provided an example:  

• Its not difficult to imagine an offshore hedge fund with a focus on short term returns that sets it sights on a public company and devises a scheme to strip out the cash and leverage up.  They wouldn't care about the damage to the share price and the existing investors because they'd have completely hedged their position so they'd have voting rights but no economic risk.  Without disclosing anything about themselves or their plans, let's say they propose a procedure that will let them have access to the company's proxy statement to nominate directors.  Their written statement which goes into the proxy, says they're submitting the proposal because they want a seat on the board to advance corporate governance and integrity.  If the AFSCME decision applied without any new SEC rule to make sense of it, potentially there would be no meaningful disclosure about who made this proposal or why other than name, address and number of shares. 

A few thoughts.  First, its not at all clear why the Commission is demonizing hedge funds (labeling them off shore is a nice touch, avoiding insult to US based hedge funds).  Second, it has long been recognized that investors can hedge their positions and reduce their economic risk in connection with a company.  There are any number of ways an investor can vote without actually having any economic risk, most noticeably by selling the shares after the record date.  Yet why this is a problem with access proposals and not voting in general is not at all clear from the Chairman's remarks.  Third, the Chairman selects a hedge fund that is seeking "short term returns."  But every access proposal voted on so far has required a one year holding period for director nominations.  This hardly qualifies as short term. 

This, however, was not all Chairman Cox had to say about our wayward off shore hedge fund seeking only short term returns.  Instead, he noted:

• And even if all of the disclosures that were made were intentionally and materially false and misleading there would be a serious question whether our existing rule Rule 14a-9 the antifraud rule would apply to the hedge fund.  That's because the rule is directed to a person conducting a proxy solicitation.  And since the hedge fund would be riding on the company's proxy, it's the company that's doing the soliciting.  In a case like this, which is unfortunately all too easy to contemplate, shareholders would have no knowledge of the background and designs of the hedge fund.  They'd have no way of knowing that its tiny share ownership is hedged and that it has none of the economic risk that every other shareholder bears of the company's stock price falling.  They'd have no knowledge about any plans the hedge fund has to loot the company or manipulate its securities.     

Chairman Cox does two things wrong here.  First, he misstates (through omission) the application of the antifraud provisions.  Second, he makes a disingenuous argument about the degree of disclosure. 

It is true that in the absence of Commission action, shareholders would not necessarily learn anything about the background of the nefarious hedge fund making the access proposal.  But of course, Rule 14a-8 doesn't require disclosure of the background of anyone making a shareholder proposal.  Chairman Cox perhaps prefers to require this type of background information (although he does not explain why it is necessary here, but not in other places) but Rule 14a-8 has been functioning quite well in the absence of such requirements. 

More importantly is the mischaracterization of the antifraud provisions.  The quote leaves the impression that investors will be subjected to deliberate lies with no recourse.  But in fact, that is not true.  First, while it is the case that the company is the one undertaking the solicitation, anyone supplying the company with false information can be sued for aiding and abetting or for causing a violation.  So, for example, when a company makes a misstatement in the proxy, actions can be brought against the responsible officers and directors.  The same would be true of the hedge fund.  Any other position would suggest that every shareholder making a proposal under Rule 14a-8 need not worry about false statements because they are not subject to the antifraud provisions.

Most disingenuous of all, however, was the carefully worded nature of the representation.  Chairman Cox opined that there "would be a serious question whether our existing rule, Rule 14a-9 the antifraud rule," would apply to the misstatements by the hedge fund, suggesting that the lies could be made without concern about the antifraud provisions.  In fact, an action could be brought for false statements under Rule 10b-5.  The Rule applies to any false statements made in connection with the purchase or sale of a security, even those appearing in management's proxy statement.  In other words, even if a hedge fund thought it was free to lie under Rule 14a-9, it would know that it was not free to do so under Rule 10b-5.

As with Chairman Cox, the adopting release is every bit as careful and selective.  It notes that "false and misleading disclosure in connection with such an election contest could potentially occur without liability under Exchange Act Rule 14a-9 for material misrepresentations made in a proxy solicitation."  It does not go on and say that, nonetheless, the statements would be prohibited under Rule 10b-5. 

It is wrong to suggest that in the absence of Commission action shareholders and investors would be left to an environment where lies could occur without redress.  Chairman Cox knows better.  

There is no question that Chairman Cox was in a bind.  Although apparently favoring some type of access, he craved certainty.  Without Commissioner Campos, he had no hope of obtaining a rule that allowed for access.  In the quest for certainty, he sided with the two commissioners opposing access.  In other words, he elevated certainty over principal.  But that's a tough thing to admit.  As Commissioner Nazareth accurately observed in in herwritten remarks:

• I do not believe that we are in a state of great uncertainty, let alone an escalating one. The discussion of uncertainty contained in the release appears to be a post-hoc rationalization of a path that was ill-conceived in the first place. The non-access proposal and interpretation was an eleventh-hour maneuver, included as an alternative only after it was clear that an access proposal would fail to pass with a shorthanded Commission.

Chairman Cox all but admitted that non-access is inconsistent with shareholder rights and promised to move forward on a rule that "makes the federally regulated proxy system fit better with the state authorized rights of shareholders to determine the directors of the companies that they own."  In fact, had he really been concerned with doing so, he would have included a sunset provision in the non-access proposal.  That he did not suggests that he is in fact not serious about coming up with an access proposal.  It will happen, but not until after the 2008 elections and a regime change at the Commission.