September 11, 2008
Bebchuk v. Electronic Arts
Posted by Gordon Smith

Bebchuk v. Electronic Arts is potentially another important case relating to the SEC's Rule 14a-8 and, thus, the role of shareholders in corporate governance. The case revolves around a shareholder proposal submitted to EA by Harvard law professor Lucian Bebchuk, which reads in part:

Stockholders of Electronic Arts, Incorporated recommend that the Board of Directors, to the extent consistent with its fiduciary duties, submit to a stockholder vote an amendment to the Corporation’s Certificate of Incorporation or the Corporation’s Bylaws that states that the Corporation (1) shall, to the extent permitted by law, submit to a vote of the stockholders at an annual meeting any Qualified Proposal to amend the Corporation’s Bylaws; (2) shall, to the extent permitted by law, include any such Qualified Proposal in the Corporation’s notice of an annual meeting of the stockholders delivered to stockholders; and (3) shall, to the extent permitted by law, allow stockholders to vote with respect to any such Qualified Proposal on the Corporation’s proxy card for an annual meeting of stockholders.

Generally speaking, a "Qualified Proposal" is any proposal to amend the bylaws of the company that is submitted by shareholders owning at least 5% of the company's outstanding shares, as long as the proposal is "a proper action for stockholders under state law and does not deal with a matter relating to the Corporation's ordinary business operations."

So what's the problem?

According to EA and the US Chamber of Commerce (in an amicus brief), any charter or bylaw provision that looks like the one described in the Bebchuk proposal would "circumvent Rule 14a-8 by requiring companies to include in their proxy materials shareholder proposals that fail to satisfy the requirements that Rule 14a-8 and the other SEC proxy rules establish for investor protection." (That's from the Chamber's brief.) As a result, EA wants to exclude Lucian's proposal from its proxy ballot.

Jeff Gordon has a nice post describing the amici brief that he drafted (and I signed) arguing in favor of inclusion of Lucian's proposal. Part of the brief addresses the argument that Rule 14a-8 preempts state law on the issue of access to the issuer’s proxy statement. Preemption doesn't seem like a serious argument to me, so I won't write any more about that here.

The more interesting claim is that the proposed charter or bylaw provisions "if adopted, could one day, after a sequence of steps which may or may not occur, lead to the inclusion of a bylaw related to director nomination or election." (That's from Jeff's post.) The response to this "indirect consequences" argument is that it would expand greatly the power of companies to exclude shareholder proposals. This is bad if you think shareholders have the potential to play an important role in the corporate governance system.

Larry Ribstein rightly perceives this as a federalism issue -- a turf war of sorts between the SEC and the states (Delaware). Larry makes the following proposal:

Bottom line: revise 14a-8 so that it just requires disclosure of agenda items permitted by state law. That would eliminate the ambiguity that gives rise to this case.

Larry's proposed revision of Rule 14a-8 is aimed at getting the SEC out of the business of interpreting novel questions state corporate law, and that would be a nice result. If shareholders want more control over the governance of their firm, why would the SEC have any interest in inhibiting the shareholders? Yes, gadfly shareholders can impose costs on firms, but we have developed various procedural protections to address those sorts of proposals. Serious governance proposals deserve to be heard and debated among shareholders, and the SEC should try to facilitate that outcome.

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