As we enter the 2019 proxy season, we want to bring your attention to a few topics that are likely to play a prominent role in the coming months.[1] In this article, we discuss some of the significant policy changes adopted by ISS and Glass Lewis applicable to the 2019 proxy season and the SEC’s continued focus on non-GAAP measures.
1. ISS PROXY VOTING POLICY UPDATES
ISS has updated its proxy voting policies for shareholder meetings held after February 1, 2019. The following is a summary of the significant policy changes:
A. Board Composition—Gender Diversity
For the 2019 proxy season, ISS will not issue an adverse vote recommendation due to lack of gender diversity. It will, however, highlight the lack of gender diversity in its report. For companies in the Russell 3000 or S&P 1500 indices, effective for meetings on or after February 1, 2020, ISS intends to recommend a vote against or withhold from the chair of the nominating committee (or other directors on a case-by-case basis) at companies with no women on the company’s board.
B. Board Accountability—Management Proposals (New)
ISS took note of the use of board-sponsored proposals to ratify existing charter or bylaw provisions during the 2018 proxy season. In particular, ISS noted that several companies “obtained no-action relief to exclude shareholder proposals to adopt or amend the right of shareholders to call a special meeting by seeking ratification of their current provision. Notably, none of these ratification proposals made material changes to the provisions that enhanced shareholders’ rights to call special meetings.”
In response, ISS has adopted a new policy to recommend a vote against/withhold from individual directors, members of the governance committee, or the full board where boards ask shareholders to ratify existing charter or bylaw provisions considering certain enumerated factors.
C. Shareholder Rights—Management Proposals to Ratify Existing Charter or Bylaw Provisions (New)
Under this new policy, ISS will generally recommend a vote against management proposals to ratify provisions of the company’s existing charter or bylaws, unless these governance provisions align with best practice. In addition, in certain instances, ISS could also recommend a vote against/withhold from individual directors, members of the governance committee, or the full board, in certain instances.
Action Items:
- In light of the new gender diversity emphasis, companies without any female board members may wish to include a firm commitment, as stated in the proxy statement, to appoint at least one female to the board in the near term.
- For a company that has included a shareholder proposal or management proposal in its proxy statement, consider expanding disclosure in its next proxy statement regarding the outreach efforts by the board to shareholders in the wake of the vote and the level of implementation of that proposal.
2. GLASS LEWIS
In late October 2018, Glass Lewis published its updated U.S. policy guidelines and 2019 shareholder initiatives policy guidelines. The following is a summary of some significant changes to the guidelines that are in effect for annual meetings held after February 1, 2019, except as noted below.
A. Board Gender Diversity
For meetings held after January 1, 2019, Glass Lewis will generally recommend voting against the nominating committee chair of a board that has no female members. Glass Lewis may extend this recommendation to vote against other nominating committee members depending upon several factors, including the size of the company, the industry in which the company operates, and the governance profile of the company. This policy does not necessarily apply to companies outside the Russell 3000 index or those that have provided a robust explanation for not having any female board members.
B. Conflicting and Excluded Proposals
Glass Lewis has updated its policy related to “conflicting” management proposals, and in those instances where a special meeting shareholder proposal is excluded as a result of “conflicting” management proposals, it will take a case-by-case approach, taking into account the following issues: (1) the threshold proposed by the shareholder resolution; (2) the threshold proposed or established by management and the attendant rationale for the threshold; (3) whether management’s proposal is seeking to ratify an existing special meeting right or adopt a bylaw that would establish a special meeting right; and (4) the company’s overall governance profile, including its overall responsiveness to and engagement with shareholders. Glass Lewis noted that it generally favors a 10–15 percent special meeting right and will generally recommend voting for management or shareholder proposals that fall within this range.
With respect to conflicting proposals, Glass Lewis will generally recommend in favor of the lower special meeting right and will recommend voting against the proposal with the higher threshold. In addition, where there are conflicting management and shareholder proposals, and a company has not established a special meeting right, Glass Lewis may recommend that shareholders vote in favor of the shareholder proposal and that they abstain from a management-proposed bylaw amendment seeking to establish a special meeting right.
Glass Lewis also noted that, in certain, very limited circumstances where the exclusion of a shareholder proposal is “detrimental to shareholders,” it may recommend against members of the governance committee.
C. Environmental and Social Risk Oversight
Glass Lewis states that “an inattention to material environmental and social issues can present direct legal, financial, regulatory and reputational risks that could serve to harm shareholder interests,” and that these issues should be carefully monitored and managed by companies, including ensuring that there is an “appropriate oversight structure in place to ensure that they are mitigating attendant risks and capitalizing on related opportunities to the best extent possible.” The key is to have appropriate board-level oversight of material risks to a company’s operations.
In certain instances where “a company has not properly managed or mitigated environmental or social risks to the detriment of shareholder value, or when such mismanagement has threatened shareholder value, Glass Lewis may consider recommending that shareholders vote against members of the board who are responsible for oversight of environmental and social risks.” In instances where there is no explicit board oversight on these issues, Glass Lewis states that it may recommend that shareholders vote against member of the audit committee.
Action Items:
- A company that finds itself without any female board members should provide a sufficient rationale for not having any female board members. Issues addressed in explaining the rationale could include a disclosed timetable for addressing the lack of diversity on the board and any notable restrictions in place regarding the board’s composition, such as director nomination agreements with significant investors.
- A company that qualifies as a Smaller Reporting Companies (SRC) under the new SEC guidelines should consider retaining the full CD&A disclosure, rather than taking advantage of the reduced disclosure requirements available to a SRC.
3. NON-GAAP MEASURES—EQUAL OR GREATER PROMINENCE
On December 26, 2018, the SEC settled charges with a public company that its disclosure gave undue prominence to non-GAAP financial measures included in two earnings releases in violation of section 13(a) of the Exchange Act and Rule 13a-11 thereunder. Although not admitting the factual basis of the charges, the public company agreed to cease and desist from future violations and agreed to pay a civil penalty of $100,000.
Action Items:
- Issuers should review their use of non-GAAP financial measures in SEC filings and earnings releases in light of the May 2016 CD&Is and the SEC’s recent action. Issuers should pay particular attention to ensuring that they present GAAP measures with “equal or greater prominence” whenever they present non-GAAP measures.
- The SEC will measure for “equal or greater prominence” within each particular section of the relevant filing or release. If a headline mentions a non-GAAP measure, then that headline should also mention the comparable GAAP measure. If a group of bullet-pointed highlights mentions a non-GAAP measure, then the bullets should also mention the comparable GAAP measure. Providing the comparable GAAP measure later in a filing or release (or in a footnote) is not sufficient.
- Practically, even though “equal or greater prominence” is the standard used in Regulation S-K, issuers should aim for GAAP measures to have greater prominence than any non-GAAP measures. This means using the comparable GAAP measure first, and before any comparable non-GAAP measure, and highlighting the GAAP measure to a greater degree than the non-GAAP measure. Issuers should also carefully review the use of any non-GAAP measures that indicate an improving picture of the issuer’s finances, where the comparable GAAP measure would indicate the opposite.
- Although the SEC has been willing to allow issuers to correct their disclosures in future filings, this action indicates that the SEC believes that it has provided issuers with enough advance notice of its position on undue prominence of non-GAAP measures, and that the grace period it provided for compliance may be coming to an end.
The 2019 proxy season is well underway, and the topics noted above are a few items that are expected to generate some interesting headlines.
[1] This article is based on a series of Proxy Season client alerts we published in early 2019. The full series is available here <https://www.dlapiper.com/en/us/insights/publicationseries/2019-proxy-season-hot-topics/>.
