Corporate Governance

The SEC's Access Proposal: Some Observations (The Confusion of a Control Motive)

By J. Robert Brown

The provision limits the number of directors to 25% of the board.  Nonetheless, the Commission proposed that no one relying on Rule 14a-11 can "acquire or hold the securities for the purpose of or with the effect of changing control of the company or to acquire more than a limited number of seats on the board."  Exchange Act Release No. 60089 (June 10, 2009).  Proposed Form 14N-1 requires the person signing to provide that:

• By signing below I certify that, to the best of my knowledge and belief, the securities referred to above are not held for the purpose of or with the effect of changing control of the issuer of the securities or to gain more than a limited number of seats on the board.

In case there was any doubt about the seriousness of the disclosure, the form provided immediately after the signature line the following:  "Attention: Intentional misstatements or omissions of fact constitute Federal criminal violations (see 18 U.S.C. 1001)."

The requirement is unnecessary and likely to provide grist for the litigation mill.  Boards may decline to include nominees if they can develop an argument that submitting shareholder has a control purpose.  The fact that the director was submitted at all is evidence of some desire to influence control.  Anyone with a history of sometimes trying to get control will be an easy target.  Moreover, the Commission is not limiting its analysis to the current motivation of shareholders.  Instead, they must represent that when they were acquired (one year ago, five years ago), there was no intent to effect a change of control or acquire more than a "limited number" of seats. 

Why one cares about the date of acquisition (versus the present) is unclear.  Moreover, shareholders acquire stock for multiple reasons and with multiple motives.  In effect, the SEC is requiring that one of them (among many) cannot be to effect a change of control or obtain more than a "limited number" of seats.  That is an inappropriate standard.

Finally, the proposal does not define "limited number."  Presumably, a desire to elect 25% of the board would qualify as a "limited number."  How about 30% or 40%.  This could happen, for example, where the insurgent has representation on the board because management agreed to put them there.  By not defining the standard, the court leaves it to management to decide. 

To the extent that the agency wants to reduce the use of Proposed Rule 14a-11 for any attempted change in control, it would be enough to provide that nominees may only be submitted by those shareholders who meet the ownership requirements and who are not otherwise engaged in a proxy contest (or in league with anyone who was) under Rule 14a-11.  In that way, the issue wouldn't turn on control but on the number of directors nominated in any given election.

Full post as published by The Race to the Bottom on July 06, 2009 (boomark / email).