Checklist: Shareholder Proposals – Rule 14a-8(i)(1) Improper Under State Law
1. Text of Rule 14a-8(i)(1): Improper under state law – If the proposal is not a proper subject for action by shareholders under the laws of the jurisdiction of the company’s organization.
Note to paragraph (i)(1): Depending on the subject matter, some proposals are not considered proper under state law if they would be binding on the company if approved by shareholders. In our experience, most proposals that are cast as
recommendations or requests that the board of directors take specified action are proper under state law. Accordingly, we will assume that a proposal drafted as a recommendation or suggestion is proper unless the company demonstrates
2. Purpose of the Exclusion: This exclusion allows a company to exclude a proposal whose subject isn’t a proper one for shareholder action. It’s intended to allow the omission of proposals that under the corporate law of the company’s state of incorporation:
− May be initiated only by the board of directors;
− Are committed to board discretion; or
− Otherwise ignore the statutory role of directors by proposing direct adoption of an action.
3. Legal Opinion Required: Under Rule 14a-8(j)(2)(iii), a company must provide a supporting opinion of counsel to rely on the improper subject basis for exclusion. The legal opinion must contain three essential elements. First, it must clearly be an opinion and must contain language to that effect (e.g., “opines” or similar language). Second, the opinion must fully address the law that the proposal allegedly violates. Third, the opinion can’t contain excessive cautionary language that limits its scope or effect.
4. “Mandatory” vs. “Precatory” Proposals: In most cases, a proposal that mandates a particular act won’t be proper under applicable state law. However, a company still has to point to a particular state law when raising the exclusion – it can’t merely note that the proposal is a mandate. On the other hand, in almost all instances, a proposal recommending the same action (a “precatory” proposal) likely will be considered proper. As a result, it’s customary for proponents to frame their proposals as non-binding.
5. Opportunity to Cure: If a company raises the issue in its no-action request, the Staff normally allows proponents an opportunity to recast their mandatory proposals as precatory to avoid omission under this exclusion. As a result, companies usually briefly raise the issue but focus their efforts on other bases for omission.
6. Laws That Provide Specific Power to the Board: Companies most commonly argue that proposals are excludable under (i)(1) because state law gives control over the management of a company to the board – absent a contrary provision in a company’s corporate governance documents. Each state has corporate law provisions that state that the board has day-to-day management authority and that shareholders cannot mandate that the board take specific action unless another state law gives such power to shareholders and overrides the grant of authority to the
Based on these laws, the Staff almost uniformly finds that precatory proposals aren’t inconsistent with state laws delegating power over the company’s management to the board. However, in rare circumstances, even if a proponent casts a proposal as precatory, it isn’t enough to prevent omission of a proposal.
7. Don’t Rely Solely On This Exclusion: Although the laws of most states provide that the business and affairs of a company are to be managed by the board of directors, there doesn’t appear to be much state case law to provide further
clarification. Accordingly, a company’s burden normally isn’t easy to satisfy and other bases for exclusion should be raised if possible.
Once the more obvious issue regarding the form of the proposal (i.e., mandatory vs. precatory) has been addressed, potential arguments under other bases for exclusion may involve:
− Rule 14a-8(i)(2), since a proposal that isn’t a proper subject for shareholder action would violate state law. However, the improper subject exclusion is narrower than (i)(2) because (i)(2) encompasses violations of federal and foreign laws in addition to state laws;
− Rule 14a-8(i)(6), since a company doesn’t have the power to effectuate a proposal if it isn’t a proper subject for shareholder action; and
− Rule 14a-8(i)(7), because if a proposal isn’t a proper subject for shareholder action, it may involve the company’s ordinary business operations.
8. Mandatory Bylaw Proposals: A number of proponents have submitted proposals mandating the adoption of bylaws that would require management to take certain action. Mandatory bylaw proposals create legal tension because the relevant and potentially applicable statutory provisions can be read to conflict, making it unclear whether such proposals are permissible under state law. The majority of states permit shareholders to initiate and approve bylaw amendments directly without board approval. On the other hand, the laws of most states provide that the business and affairs of a company are to be managed by the board of directors.
The SEC Staff normally allows proponents to include mandatory bylaw proposals that aren’t inconsistent with the law or with the company’s corporate governance documents. However, in many cases, while there may not be a direct conflict between a bylaw and state law, there still is an issue regarding whether the proposal’s purpose conflicts with the purpose of the law or with the company’s corporate governance documents. Since the Staff generally is reluctant to interfere with shareholders’ rights to initiate bylaw amendments based on arguments that aren’t supported by case precedent, if a proposal’s bylaw isn’t inconsistent with a specific provision of the state law or the company’s charter, exclusion may not be permitted.
9. Approach to Mandatory Bylaws: The key to dealing with resolutions framed as mandatory by law amendments under this exclusion is the ability of the company to demonstrate that under the applicable state corporate law either:
− Shareholders don’t have the power to initiate bylaw amendments either because of applicable provisions of law or the company’s charter; or
− The provisions of the bylaw provision are in conflict with specific provisions of the law or the company’s charter.