Shareholder Non-Access, Corporate Governance and the SEC: The Statistics (Part 2)

We are engaging in a discussion of the SEC's proposals on shareholder access (and non-access) to the company's proxy statement with respect to bylaws that would allow shareholders to include director nominees in the proxy statement.

We think the discussion ought to begin with an overview on how directors of public companies are elected.  The short answer is that directors are invariably nominated by the board and elected without opposition. 

According to SEC data in 2006, there were 9428 companies listed on the NYSE, Amex, Nasdaq and OTC Bulletin Board.  Of that number, approximately 2027 of the companies (21.5%) had a total market capitalization of above $787 million.  In addition, the Pink Sheets (which is now electronic) included another 4504 public companies.  The data can be found in Advisory Committee on Smaller Public Companies, Exchange Act Release No. 53385 (Feb. 28, 2006). 

In other words, there are a lot of public companies, maybe 14,000, of which more than 2000 are large.  All of these companies presumably have annual meetings at which directors are elected.  A slate of directors is invariably nominated by the board.  For companies on the NYSE and Nasdaq, the nominating committee of the board must be staffed by independent directors.  That does not, however, prevent the members from soliciting advice from other directors, including the CEO.  Once the slate is determined, companies traded on a stock exchange must solicit proxies.  To the extent companies do not solicit proxies, they must nonetheless provide shareholders with an Information Statement under Section 14(c) of the Exchange Act.  In other words, all public companies must essentially pay the cost of drafting a proxy statement/information statement and distributing it to shareholders. 

Invariably the management nominated slate always wins.  Let's look at the statistics.  Lucian Bebchuk at Harvard has written a paper on this subject, The Myth of the Shareholder Franchise, which has just been published in the University of Virginia's Law Review, and had included some statistics on the number of proxy contests (that is, a shareholder nominating one or more directors to compete with management's slate).  How often does this occur?  Not often.  As his article relates:

Year	Number
2005	16
2004	19
2003	32
2002	33
2001	32
2000	23
1999	20
1998	16
1997	19
1996	18
Total	229

Not a particularly large number considering the number of public companies.  Moreover, with respect to larger companies, he notes that "Only twenty-four companies, or less than three per year on average, had a market capitalization exceeding $200 million at the time of the electoral challenge."  At least part of this is likely to relate to the expense involved in soliciting shareholders of larger companies. 

And the outcomes? Insurgents lose.  "About two-thirds of the challengers lost. The absolute numbers make the picture especially stark: putting aside contests over a sale of the company or open-ending a closed-end fund, rivals seeking to oust incumbents succeeded in gaining control in only eight companies with a market capitalization above $200 million during the decade."

In other words, few contests occur and management's slate always wins.  To be fair, the data does not take into account the rush towards majority voting standards for directors.  These do not involve contests but can result in removal of a director.  The data, however, suggests that this will not occur often.  Moreover, the board can replace the vacant director with a person of their own choosing.

The point of the data is that few incumbent directors ever confront a challenge and few ever lose their seats.  The data raises a fair question about the value, if any, of the shareholder election mechanism.  Moreover, it is clear that a director who wants to stay on the board could rationally adopt a strategy designed to appease the board's nominating committee.  In other words, it would be rational to take positions designed to support the other directors (including the CEO) rather than to support shareholders.