Shareholder Proposals and Boards’ Veto Power
Most major jurisdictions in the world allow shareholders of listed companies to submit proposals to the agenda of the general meeting subject to two categories of constraints, the respect of which is usually controlled by the board of directors: formal capital ownership requirements, on one hand, and conditions relating to the purpose of the proposal, on the other hand. While formal ownership requirements are assessed objectively, conditions pertaining to the purpose of the proposal leave room for a more subjective interpretation and have recently given rise to heated debate in various jurisdictions. In France, the rejection by TotalEnergies’ board of directors of a climate-related shareholder proposal supported by a consortium of French and foreign investors, advised by the authors of this post, recently put back this question to the front of the scene.
Against this background, this blog post discusses more generally the question to which extent boards of directors should be able to control shareholder proposals. It is based on our recent paper (French version published in the Revue Trimestrielle de Droit Financier), discussing the principles that legislators, administrative agencies and courts should follow when it comes to assessing whether a board’s refusal to put a shareholder proposal on the agenda of the general meeting should be deemed lawful.
As the law stands, the United States is, from the perspective of formal requirements, one of the most permissive jurisdictions, with the SEC’s Rule 14a-8 allowing shareholders holding $2,000 to $25,000 in market value of the company’s securities (depending on the number of years they have held these securities) may submit shareholder proposals, on top of other accessory rules and subject not to interfering with the company’s ‘ordinary business’. In the UK, the Companies Act 2006 allows shareholders from listed companies holding at least 5% of the company’s capital to request the submission of proposals to the agenda of the general meeting, which may represent several billions of pounds in market capitalization for the largest listed companies. Similar thresholds exist in Germany and in France.
One may have expected from the very high thresholds required by Western European jurisdictions that the control of shareholder proposals’ purpose be more lenient in these jurisdictions than in the US, where much lower applicable thresholds call for greater board supervision. However, a study of various Western jurisdictions shows that there is no necessary (inverse) correlation between formal and substantive requirements. In the US, the ‘ordinary business’ rule, which comes on top of a few other limited exceptions, is rather permissive, as it merely prevents shareholders from submitting proposals dealing with matters relating to the company’s ordinary and day-to-day business. Substantive requirements in the UK, where formal requirements are much more stringent than in the US, are equally limited, albeit slightly different than those provided by US law. Finally, French law both provides for very stringent formal requirements, as shareholders need to own between 0.5% and 5% of the company’s capital depending on the amount of the company’s social capital, and is very unclear as to the general meeting’s and the board’s respective areas of competence, which has often been interpreted as giving boards substantial leeway in rejecting shareholder proposals.
Boards of directors’ ability to control the admissibility of shareholder proposals based on their purpose and content is in fact highly dependent on policy choices and beliefs as to the degree of independence that should be granted to boards of directors in the interest of the company and, as the case may be, the shareholders themselves. This poses the question of what exactly can justify this independence.
General meetings of listed companies are called upon to decide on the most important decisions affecting these companies, both at their inception and during their life, because shareholders are the company’s residual claimants: they receive all of the profits generated by the company, but only once creditors have been paid. It is therefore in their interest to ensure that their company take adequate risks while being as profitable and successful as possible, at least so long as the company is solvent.
This being said, and just as a democratic state cannot rely on referendum as its sole decision-making framework, the general meeting process is too cumbersome to be entrusted with the day-to-day operation of the company. Managerial and, to some extent, supervisory functions must therefore be delegated to boards of directors and managers called upon to pursue the company’s objectives. However, the interests of the company’s executive may not be perfectly aligned with those of the shareholders, which means that they may refrain from, or even seek to avoid, taking action that is in the best interest of the shareholders.
From this perspective, shareholders should never be prevented from submitting proposals at the agenda of their company’s general meeting. In particular, managers and board of directors shouldn’t be entrusted to control which shareholder proposals are in the company’s interest, as shareholders themselves should ultimately be called on to decide on this as part of their general meeting. The fact that managers and directors may be required in some jurisdictions or by virtue of the company’s bylaws to pursue the interests of other constituencies than the shareholders, such as the company’s employees, may theoretically justify some exceptions to this rule, but few examples of shareholder resolutions come to mind that would clearly benefit the shareholders to the detriment of other stakeholders of the company. Likewise, the idea that boards of directors may be more willing than shareholders to pursue the company’s long-term interest rather than privileging short-term objectives has been shown to be both questionable from a theoretical standpoint and hardly supported by any empirical evidence.
This being said, there may exist (theoretical) circumstances where boards of directors should be entitled to prevent shareholders to submit a proposal to the agenda of the general meeting. First, a shareholder may submit a proposal furthering in its own interest but going against those of the other shareholders and/or of the company as a whole. Such would for instance be the case of a proposal aiming to cease a profitable activity carried out by the company with the sole purpose of preventing it from competing with another company of which the proponent of the proposal is the majority shareholder. Other shareholders may vote in favour of the proposal due to internal policies requiring them to vote favourably for a given category of proposals, even though the circumstances would command voting otherwise. A shareholder may also exercise its voting rights in the company while minimizing its economic exposure through ‘empty voting’ strategies relying on derivative instruments or share lending. Another less extreme example, but perhaps of greater practical importance, is that of resolutions whereby shareholders interfere with the day-to-day management of the company without having the necessary information to assess the merits of their intervention.
Theoretically, non-filing shareholders should systematically vote against this type of resolution, thus making the filter of the board of directors unnecessary. However, many shareholders of listed companies are highly diversified and do not have the time, means or incentives to examine in detail any and all shareholder proposals. At the same time, they may be required to exercise their voting rights due to structural and/or regulatory constraints requiring them to vote on most resolutions submitted to shareholders’ vote. Shareholder proposals could thus be calibrated by their filers to tick the boxes of the categories of resolutions in favour of which asset managers automatically vote, whether or not they are in the company’s or the shareholders’ best interest. In these circumstances, resolutions contrary to shareholders’ interests could be adopted because of the implicit endorsement of the resolution, justifying the ex ante control exercised by the board of directors. Finally, the control of frivolous, vexatious, and defamatory proposals by the board of directors generally makes sense, especially in countries such as the US where share ownership requirements to submit a proposal are particularly low.
None of this means that boards of directors are better informed than the shareholders on the strategy to be pursued because they are in charge of the day-to-day management of the company. The vast majority of listed companies’ institutional shareholders are sophisticated enough to take informed decisions and, if necessary, to engage with the company's board before the general meeting. The increasing complexity of listed companies’ business models also makes it more and more difficult for directors to carry out their duties by themselves, and thus justifies their cooperation with institutional shareholders willing to make a strategic contribution. Even more importantly, boards may misuse their veto power to promote their own interests to the detriment of those of the shareholders, and may thus be incentivised to reject a proposal that, for instance, places additional constraints on the strategy to be pursued or increases the responsibility of the directors.
There is no straightforward or universal answer as to the precise extent to which boards of directors should be entitled to control shareholder proposals. As we have seen, the scope of directors’ control should depend at least partly on specific circumstances, such as institutional investors’ voting policies, and not only on general and abstract principles. At any rate, the circumstances under which boards of directors should be able to overcome shareholders’ ability to submit proposals to the agenda of the general meeting are very limited at best, and shouldn’t serve as an excuse to give directors a blank check when it comes to assessing the admissibility of shareholder proposals. Their power to do so should be strictly delineated and its exercise tightly supervised by competent courts and administrative agencies. Much progress still needs to be made on this front in some jurisdictions, such as France where issuers such as Vinci and TotalEnergies recently refused shareholders the right to submit proposals requiring these companies’ boards of directors to account for the global warming targets set by the Paris Agreement.
Sophie Vermeille is a Partner at Vermeille & Co and the Founder of Droit & Croissance.
Paul Oudin is an Associate at Vermeille & Co, a DPhil Candidate at the University of Oxford and a Member of Droit & Croissance.
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