February 16, 2023, Covington Alert
The 2023 proxy season is underway for public companies and their investors. Corporate secretaries, lawyers, and executives are actively engaged in the SEC’s shareholder proposal process. Consistent with recent proxy seasons, a significant number of companies are receiving proposals calling for new or enhanced political disclosures. Although these proposals have been around for some time, recent contentious election cycles, debate over hot-button issues, including the Supreme Court’s 2022 decision in Dobbs v. Jackson Women’s Health Organization, and increased investor focus on ESG matters (as well as criticism of such focus) have cast an ever-increasing focus on disclosure of corporate political expenditures.
Effectively responding to shareholder proposals on this issue is essential. Although shareholder proposals are non-binding, proposals that are approved – or that fail but with a substantial level of support – will give rise to an expectation that the company will address the subject matter of the proposal in the months following the annual meeting. A company’s failure to act on a shareholder proposal that is approved or that receives strong support can result in reputational damage to the company and could signal to shareholders and proxy advisory firms that the board is not responsive to a matter of significant shareholder concern. This can give rise to further shareholder proposals and potential votes against some or all of the company’s directors at the next annual meeting. In some circumstances, failure to effectively respond to a shareholder proposal could lead activist investors to threaten or initiate a proxy contest in advance of the next annual meeting.
In recent years, shareholders have submitted hundreds of proposals aimed at encouraging companies to voluntarily disclose more information on their websites with regard to their corporate political spending and processes. In Covington’s 2015 guide on “Responding to Corporate Political Disclosure Initiatives,” we noted that “although some have argued that these efforts are primarily intended to force companies to scale back their lobbying and political activities—not to promote transparency—they continue unabated.” The pace and breadth of these proposals has expanded in the ensuing years, with a significant number of shareholder proposals focused on two topics—political contributions and lobbying expenditures. According to the Center for Political Accountability (“CPA”), its model political disclosure resolution was used 22 times each in the 2021 and 2022 proxy seasons, resulting in six votes in excess of 50 percent in 2021 and two in 2022. We expect, and have begun to see, a similar number of politically-focused shareholder proposals this proxy season. As of December 2022, for example, CPA reported that its shareholder partners have “filed 25 proposals in the 2023 proxy season, with more expected over the coming months.”
Shareholder political disclosure proposals take different forms. As noted, shareholders regularly submit proposals based on the “Model Resolution Information Packet” issued by CPA. The Model Resolution, among other things, requests that companies disclose political contributions, dues and other payments made to trade associations, as well as contributions to nonprofit social welfare organizations operating under section 501(c)(4) of the Internal Revenue Code. Although shareholder proposals based on the Model Resolution continue to proliferate, CPA reported that “overall average shareholder support for CPA’s model resolution decreased to 33.9 percent” during the 2022 proxy season, down “from 48.1 percent in 2021.”
Other corporate political disclosure proposals focus on whether a company’s political activities align with its expressed corporate values. The Sustainable Investments Institute 2022 Proxy Preview report, for example, states that “while still primarily focused on governance and disclosure, [these proposals] increasingly question which issues company-connected money supports,” including climate-related matters, civil rights, and healthcare access. In addition, a number of proposals for the current proxy season request that companies obtain reports from trade associations and other groups engaged in political activity regarding their use of corporate donations and to in turn post such information on the public company’s website.
We have also seen increased focus on shareholder proposals demanding disclosure of the company’s lobbying activities, with some proposals specifically addressing climate-related lobbying. These proposals generally request an annual report disclosing company direct and grassroots lobbying policies and procedures, payments used for direct or indirect lobbying or grassroots advocacy, and information about company membership in organizations that draft model legislation related to climate or environmental issues.
When evaluating corporate political and lobbying disclosure proposals, companies should keep the following considerations in mind:
1. Set the Table
Some public companies have successfully headed off political disclosure proposals by taking steps to increase their CPA-Zicklin Index scores. The CPA-Zicklin Index evaluates public companies on a 70-point matrix based on the information disclosed on the company’s website about the company’s political activities. Last year, for the first time, CPA-Zicklin ranked all companies in the Russell 1000. In the past, lower-ranking companies have been disproportionate targets of shareholder proposals. To reduce the risk of receiving shareholder proposals in the first place, companies can assess their voluntary website corporate political disclosures to identify avenues for increasing their scores. Certain CPA-Zicklin factors may represent “low-hanging fruit” for companies, such as disclosing information about already-public contributions to candidates, Section 527 political organizations, and ballot measure committees as well as with respect to the company’s existing practices for overseeing political expenditures. While no similar ranking system exists for disclosure of corporate lobbying activities, some public companies also voluntarily disclose public information on their websites about lobbying activities, such as links to relevant federal and state lobbying reports.
2. Consider Potential ISS Recommendations
In November 2022, the prominent proxy advisory firm Institutional Shareholder Services (“ISS”) for the first time issued a policy on proposals governing political expenditures and lobbying “congruency,” as summarized in this Covington alert. The policy recommends a “case-by-case vote” on such proposals, considering company policies and existing disclosures, “any incongruencies identified between a company’s direct and indirect political expenditures and its publicly stated values and priorities,” and “recent significant controversies related to the company’s direct and indirect lobbying, political contributions, or political activities.” Companies that have been accused of such incongruencies or that have been party to any such controversies should be especially prepared for shareholder proposals on this topic.
3. Be Wary of Aggressive Demands
For some companies, there may be a temptation to address a shareholder proposal by simply acceding to the activist’s demands. But some demands may impose significant burdens on the corporation. For example, many activists seek information about corporate donations to section 501(c)(4) social welfare organizations. But these contributions are generally not required to be publicly disclosed by applicable laws, and companies may have valid economic reasons for keeping such spending private, including shielding from competitors issue areas in which they are engaged in policy advocacy. Even more far-reaching, CPA’s “Model Code of Conduct for Corporate Political Spending” (the “Model Code”) calls on companies to “require a report from trade associations or other third-party groups receiving company money on how it is being used and the candidates whom the spending promotes.” This parallels a factor on the CPA-Zicklin Index that asks whether the company discloses amounts and recipients of payments “made by trade associations or other tax-exempt organizations of which the company is either a member or donor.” In other words, this factor requires companies to report not only the names of recipients of corporate funds but also to report how outside trade associations and tax-exempt organizations spend their own money. According to the 2022 CPA-Zicklin Index, of the companies that permit at least some political spending, only about five percent receive full credit on this factor. Requiring trade associations to provide such reports for public consumption may cause the trade associations to deny the corporation’s request for membership, interfering with the company’s business objectives.
Companies also have the option of negotiating with the proponent in order to secure the withdrawal of the shareholder proposal. If there are elements of a proposal that a company does not believe it can accommodate, a proponent could be willing to withdraw the proposal in exchange for additional disclosure regarding the company’s political activities and the board’s role in overseeing such activities, as well as for additional disclosure on other topics.
5. Board Oversight
Companies can also address potential concerns regarding political spending by providing disclosure regarding the existing involvement of the board of directors, or a board committee, in overseeing the company’s political spending and lobbying activities. Some company policies, for example, provide that the board or an independent board committee will review the company’s policies regarding political activities and receive regular reports from management regarding the company’s political spending. Disclosures demonstrating the active engagement of the board and describing a company’s existing policies and practices can blunt the impact of a shareholder proposal. In addition to improving a company’s negotiating position with the proponent, enhanced disclosure can provide a basis to argue that a proposal may be excluded from the company’s proxy materials as having been substantially implemented and reduce the level of support for proposals that are included in such materials.
Covington, one of the few law firms with both nationally recognized political law and securities law practices, has extensive cross-disciplinary experience advising public companies on politically oriented shareholder proposals. For assistance in preparing for or responding to such shareholder proposals, please contact any of the authors listed.