The U.S. Securities and Exchange Commission recently announced a new interpretation of its rules that would allow a company’s shareholders to vote on a much broader range of social policy proposals at the company’s annual meeting. Yet the SEC staff left the crucial question unanswered: How do we decide whether a social policy is “economically relevant” to a company’s business?
Shareholder actions on environmental, social and governmental issues are certainly gaining steam. Over the past year, for example, we have seen a successful campaign by Engine No. 1 to fill two board seats at ExxonMobil
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with directors more sensitive to climate risk, $60 trillion in assets line up behind the Climate Action 100+ initiative, and a majority of shareholders support resolutions on diversity and inclusion issues at Microsoft
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Advocacy organizations including Ceres and As You Sow increasingly see shareholder proposals as useful tools to stimulate discussion about the impact of ESG policies on public companies. In the U.S., platforms including Troop.org, Arnie, and TulipShare are coordinating retail investor campaigns. In Europe, shareholders are going further with proposals to evaluate the effects of company conduct on broader society, such as the goal of achieving carbon neutrality – what is called double materiality.
In the U.S., a public company may exclude some shareholder proposals from the annual proxy statement if it can persuade the SEC that they fall within the ordinary business of a company, or do not have economic relevance to that company. During the Trump administration, the SEC took a relatively restrictive stance, allowing companies to exclude many proposals on these grounds. In November 2021 the SEC promulgated a staff legal bulletin that reversed these restrictions, substantially narrowing the grounds on which companies may exclude shareholder proposals
In assessing shareholder proposals on social policies, the SEC effectively deleted the ordinary business exclusion from its rule book. According to the recent bulletin, SEC staff will “no longer focus on determining the nexus between a policy issue and the company.” Instead, SEC staff will look at “whether the proposal raises issues with a broad societal impact, such that they transcend the ordinary business of the company.”
In analyzing the economic relevance of shareholder proposals on social policies, the SEC relied on a 1985 court case to make clear that these proposals may not be excluded simply because their economic impact on a company’s business accounts for less than 5% of its total assets or less than 5% of its earnings. Thus, the excludability of most shareholder proposals on social policy will depend upon whether they are economically relevant to the company’s business on a qualitative basis. Unfortunately, the SEC has provided little guidance on how to apply a qualitative approach to economic relevance.
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We agree that shareholders should be able to vote on any social policy proposal with a material economic impact on a company, even if that impact is not easily quantifiable. We would define economic impact on a company to include its future revenues, costs, productivity or access to capital. For example, a shareholder proposal might ask a company to develop stronger procedures for dealing with complaints of sexual harassment. Such procedures are economically significant to a company’s ability to recruit and retain talent, although the impact of such procedures may be hard to quantify in terms of its assets or earnings.
On the other hand, some shareholder proposals on social policy would not meet even a qualitative test of economic relevance to a company’s business. Consider a shareholder proposal calling for protective policies on animal rights by a company that does not use animals in any of its processes. Since the protection of animals is a significant social policy, that proposal would not be excludable under the ordinary business exception. But the proposal should be excludable because it does not have a material economic impact on this company’s business, on either a quantitative or qualitative basis.
Moreover, we believe the SEC should make clear that the economic relevance of a social policy will be evaluated in terms of its impact on a public company, as distinct from a company’s effects on the broader society. Although some shareholder activists may want to vote on proposals in this latter category, that would be a major change to the SEC’s proxy rules. For that reason, the SEC should not adopt the European concept of double materiality for shareholder proposals without a clear legislative mandate.
“ Allow shareholders to vote on a broad range of social policies, while permitting companies to exclude resolutions with a limited economic impact on their business.”
Under our approach to economic relevance, most companies will still have to include shareholder proposals dealing with climate risk. For example, since the level of carbon emissions by most industrial companies will likely have a material economic impact on their business, their shareholders would be able to vote on resolutions calling for disclosures of their carbon emissions. But the carbon emissions of a small professional services firm, for example, may have little economic impact on the firm.
Similarly, political spending by large corporations is likely to be connected to legislative or regulatory issues of economic importance to these corporations. Therefore, resolutions calling for disclosure of such political expenditures would probably be legitimate subjects for shareholder resolutions.
By contrast, consider a shareholder proposal calling on a company to oppose voting rights legislation in the U.S. state of Georgia. Shareholders of a company with significant employment and business operations in the state (e.g., Delta Airlines or Coca-Cola) should be allowed to vote on such a proposal. But that proposal should be excludable by companies with few employees in Georgia.
Voting on resolutions can be a constructive mechanism for shareholders to make known their views on social policies to corporate directors and executives. However, having effectively deleted the ordinary business exclusion for social policy proposals, the SEC staff should make sure that such proposals are likely to have a material economic impact on the business of the relevant company, even if such impact cannot be easily quantified. Such an approach would allow shareholders to vote on a broad range of social policies, while permitting companies to exclude resolutions with a limited economic impact on their business.
Robert Pozen is a senior lecturer at MIT Sloan School of Management and a former president of Fidelity Investments. Jason Jay is a senior lecturer at MIT Sloan School of Management and director of the MIT Sloan Sustainability Initiative.
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