Every proxy season, there are a few quintessential stories. A leading contender in the most recent season was the showdown between the board and management of Research In Motion Ltd. (TSX:RIM) and a small institutional shareholder, Northwest & Ethical Investments LP (NEI).
For those who missed it, back in February, Northwest put forth a proposal calling for RIM to undo a decision made last December to install co-CEOs Mike Lazaridis and Jim Balsillie as co-chairs of the board as well. The proposal, which reflects a consensus view in governance circles about the separation of the two roles, picked up steam in the form of larger institutional support as RIM’s July annual meeting drew near. That culminated with the backing of proxy voting advisory giants Institutional Shareholder Services Inc. (ISS) and Glass, Lewis & Co. RIM’s share price, already under pressure due to the tablet wars and a few key staff defections, sagged further still. Seeking to turn the tide and avoid a potentially embarrassing and disruptive vote in favour of the proposal at its AGM, RIM offered to strike a committee of independent directors to study the situation. NEI responded by dropping its proposal. RIM still took some lumps for its handling of the situation, but the AGM went ahead with very little drama.
Now, quite clearly not every listed company is RIM, and not every company has co-CEOs and co-chairs. But the moral is the same for most public issuers: things have a way of popping up unexpectedly as you gear up for an AGM; ignore shareholders at your peril. Better to work with them on issues of legitimate interest and concern, and be clear and exhaustive in your disclosures. Do that, and your company stands a much better chance of ensuring that the AGM agenda remains your agenda and not that of a disgruntled shareholder or opportunistic activist.
Why are we talking about this now when, for most companies, proxy season is only a few months in the mirror? Because next year’s proxy season is coming up faster than you think. And while not every issuer faces the same challenges as it prepares for proxy season, each should obey the Boy Scout motto and prepare for a range of possibilities.
This won’t be news to everyone. Certainly you’d expect companies that faced adversity during the last round have been working on fiscal 2011’s proxy process and disclosure ever since. And many other larger or forward-thinking issuers are also busy drawing up a plan of attack. On the other hand, experts say many issuers won’t begin preparing proxy circulars before the fiscal year is up. And that could be a mistake. Because not only are there potential surprises lurking, but the rules of the game are rapidly and consistently changing. To stay onside requires being open to the views of others, and aware of changes from regulators, on issues such as executive compensation, say-on-pay, majority voting, board review and renewal, corporate social responsibility, environmental risks and liabilities and so forth. What passed as good preparation and proper disclosure even just a few years ago no longer flies.
What did or didn’t happen last year is still a good place to start, however, according to governance consultant and former corporate secretary Sylvia Groves. In fact, Calgary-based Groves says that when she was a corporate secretary, she used to carry an annotated copy of the proxy all year. It quickly grew dog-eared and marked up with suggestions, ideas and things to avoid next time around.
In the same vein, Groves suggests corporate secretaries and others working on the proxy process mine last year’s AGM transcript and vote results for clues about their investors. “Withhold” votes are especially telling—it’s the tool of choice for shareholders to voice their displeasure. Look at how votes for directors played out in recent years: If votes for an entire board have dropped—even just by 4% or 5%—it’s often a sign that shareholders aren’t happy with the way the company is performing. A decline in votes for specific directors, meanwhile, may indicate more specific problems with the committees they sit on. Best to figure this out before the season rears its head.
There are ways to mitigate the misery of unexpected vote results. Start by figuring out who your biggest shareholders are, both institutional and retail. “The corporate secretary should make really good friends with the IR department,” Groves says. Take it a step further by enlisting a proxy solicitor firm early in the game (instead of right before you do the mail-out). The firms will be able to provide indicators to watch, as issues tend to be industry-specific. They can also provide insight into how some of your institutional investors plan to vote.
But don’t rely too heavily on outside advice. ISS is often criticized because it throws a wrench or two into governance gears. It allows its members to draft individualized voting guidelines, which makes it harder to understand who’s voting how. ISS’s recommendation is not a guaranteed victor, and the custom issuer guidelines aren’t necessarily public. And then there’s always the risk that, regardless of how they voted, issuers will “hide behind the skirt of ISS,” says Brad Allen, senior vice-president of Laurel Hill Advisory Group. “Especially if it’s a contentious issue.”
And then there’s just the plain and simple fact that people aren’t always honest. This was stressed by Eric Rosenfeld, president and CEO of activist investor Crescendo Partners, when he spoke at a conference this summer, organized by Lexpert and proxy and governance consultants Phoenix Advisory Partners, for directors and executives wanting to learn what it takes to win shareholder votes in proxy solicitation battles. “I’ve seen too many cases where early on, people talking to the CEO/ board don’t speak the truth about what’s going on,” said Rosenfeld. “Do you think everyone who told the politician that they’ll vote for him actually vote for the sucker?”
What issues are going to be top of mind in the upcoming year? All the usual suspects, says Laurel Hill’s Allen: “Disclosure, disclosure, disclosure.” One of the predominant themes in the recent proxy season was a clampdown on compensation, Allen says, with shareholders withholding votes on compensation committees or boards—and he expects more of the same for next year. There’s also been more pressure on boards to replace individual members or entire slates, another trend he predicts will continue into the new season.
“Every board member is going to be looked at under the microscope,” agrees Chris Makuch, vice-president, national sales and marketing at Georgeson Canada. “That’s the bigger challenge.” The shift has forced corporate secretaries and board members to become hyper-aware of who’s sitting on the board, including how often they show up to meetings and how many other boards they sit on. Directors should be careful about spreading themselves too thin, and mindful of their relationship with management—they shouldn’t be afraid to push back by providing insight, direction and support for other board members.
Makuch doesn’t see many board members failing to win appointments, or having to resign, however. If anything, limiting how many boards a director can sit on will create opportunities that allow a lot of new people to become board members. And heightened scrutiny, Makuch says, will “enhance and improve the people that sit on boards.”
Of Canada’s more than 3,000 public companies, less than 150 have adopted majority voting. Allen chocks this up to a number of reasons. “Some boards are lazy—if no one is yelling at you, why be proactive? Some know they have dead wood and are trying to protect them—especially if it’s the chair.”
One thing that’s always brewing before and during proxy season is the possibility of shareholder activism.
“Shareholders feel more empowered than ever before, and they have avenues to express those views,” says lawyer Sheldon Freeman, a partner at Goodmans in Toronto. You’re potentially a target if your balance sheet boasts a lot of cash or an attractive property portfolio. When shareholder returns are flat or down across the board, opportunistic people start sniffing around. Remember: shareholder activists have had time to think about their strategy. So should you. “The first calls [when a proposal hits the table] are always to the lawyer, the financial adviser, the board members—but not the communications director,” says lawyer Daniella Dimitrov, a director at Aldridge Minerals who has lots of board, counsel and corporate secretary experience. “Yet they’re just as important as the legal and financial reps, and should be at the table.”
Last season, corporate Canada saw activists drive everything from simple shareholder proposals to complete overhauls of a board’s strategic direction. “Issuers continue to be remarkably unprepared for shareholder activists,” says Walied Soliman, a partner at Norton Rose.
“There’s always a sense of disbelief when we get a call from an issuer that’s become the subject of an attack.”
Proxy advisory firms such as Phoenix, Georgeson, Laurel Hill and Kingsdale Shareholder Services Inc., will comb through an issuer’s proxy circular and identify anything that shareholders or lawyers might use against it.“When you disclose that you paid a consultant X to do Y, you have to justify that in the context of what is happening in the company,” says Riyaz Lalani, chief operating officer at Kingsdale. “It sounds obvious, but it’s not. Uncomfortable questions have come from innocent disclosures.” Shareholder disclosure is often too sales-oriented, too complicated, and too selective in terms of the issues it addresses. Keep the message simple and use plain language. Don’t make your shareholder work too hard to understand.
It’s not just about what you put into the proxy, either—what you leave out can be even more telling. Be transparent about your decisions. Build a narrative using plain language and clearly present the messages you know people are looking for. One of the first things shareholders look for is CEO compensation—make sure that somewhere in the first couple of pages there are details about where they can find that. Nobody reads the proxy circular from cover to cover. Bury information in a footnote on page 93, and people aren’t going to find it, and, even worse, if it comes to light, they’ll assume you’re trying to hide something.
At the institutional level, where advisers are reading hundreds of circulars, it pays to stand out with a straightforward message. “Even if you say, ‘Our compensation committee has talked about say-on-pay, but we don’t think we’re ready to do it—and this is why,’ it’s a lot better than saying nothing at all,” Groves says. Whether or not you agree with them, shareholders want to know their voices are being heard. If you’re silent about an issue, they tend to assume the worst. Follow Warren Buffett’s lead: in your letter to shareholders, highlight the bad along with the good, and explain what you’re going to do about it. Ideally, your shareholders vote thoughtfully based on the information they have, and your company is all the stronger for it. Realistically, almost all of them will wait to vote until the week before the AGM, sending boards and management into a mad scramble. But you’re going to be prepared this time, right?
Dealing with activists
Every shareholder is worthy of your engagement, but activist shareholders and proxy solicitation battles take special care and handling. Here are some points to keep in mind.
1. Be open to hearing your shareholders on smaller grievances—making modest concessions costs less time and money and goes a long way to building strong ties with your investors.
2. Highly invested shareholders are extremely knowledgeable and should be cultivated as a resource. Says one proxy expert: “Directors have an obligation to create long-term value, but boards ignore short-term investors at their peril.”
3. Most activists won’t launch a battle unless they’re pretty certain they’re going to win. At that point, an issuer’s best defence is to make significant accommodations—and then be prepared to spend lots of time winning back trust.
4. Never rule out making a deal. In the end, at least half of most proxy contests end in some kind of negotiated settlement.
5. Remember the elephant in the room. The influence of proxy advisory giant ISS varies from company to company, but always be aware of anything you’re doing that it might not endorse.
The No. 1 key to a good proxy circular and a successful annual meeting is good disclosure. Shareholders and regulators demand it. Issuers should embrace it. Here are a few essential tips.
1. Your writing should be clear, the objectives strategic. The days of hiring a junior lawyer to rehash last year’s circular are over.
2. Go beyond the basics. The legal requirements of corporate governance are meant to be a framework. The more detailed the disclosure, the harder it pushes the rest of the industry to step up.
3. Sweat the details. A company might say that, “revenue went from x to y because sales have gone up,” but often neglect to explain what it has done to make sales increase.
4. Typically, benefit and pension plans can be difficult to explain and understand. This disclosure should include a discussion as to how their allotment and size align with your corporate strategy.
5. The status quo—disclosure written in lawyer and HR jargon—is hard to step away from. It takes more judgment and thought and confidence to move to disclosure that is more effective in communicating the message.