Disclosure Regarding Nominating Committee Functions and Communications Between Security Holders and Boards of Directors; Republication
Federal RegisterDec 11, 2003
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Text
Part IV
Securities and Exchange Commission
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17 CFR Parts 228, 229, 240 et al.
Disclosure Regarding Nominating Committee Functions and Communications
Between Security Holders and Boards of Directors; Final Rule;
Republication
Federal Register / Vol. 68, No. 238 / Thursday, December 11, 2003 /
Rules and Regulations
[[Page 69204]]
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SECURITIES AND EXCHANGE COMMISSION
17 CFR Parts 228, 229, 240, 249, 270 and 274
[Release Nos. 33-8340; 34-48825; IC-26262; File No. S7-14-03]
RIN 3235-AI90
Disclosure Regarding Nominating Committee Functions and
Communications Between Security Holders and Boards of Directors;
Republication
Editorial Note: Federal Register Rule document 03-29723 was
originally published at page 66991 in the issue of Friday, November
28, 2003. In that publication text was left out. The corrected
document is republished below in its entirety.
AGENCY: Securities and Exchange Commission.
ACTION: Final rule.
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SUMMARY: We are adopting new disclosure requirements and amendments to
existing disclosure requirements to enhance the transparency of the
operations of boards of directors. Specifically, we are adopting
enhancements to existing disclosure requirements regarding the
operations of board nominating committees and a new disclosure
requirement concerning the means, if any, by which security holders may
communicate with directors. These rules require disclosure but do not
mandate any particular action by a company or its board of directors;
rather, the new disclosure requirements are intended to make more
transparent to security holders the operation of the boards of
directors of the companies in which they invest.
DATES: Effective Date: January 1, 2004.
Compliance Dates: Registrants must comply with these disclosure
requirements in proxy or information statements that are first sent or
given to security holders on or after January 1, 2004, and in Forms 10-
Q, 10-QSB, 10-K, 10-KSB, and N-CSR for the first reporting period
ending after January 1, 2004. Registrants may comply voluntarily with
these disclosure requirements before the compliance date.
Comments: Comments regarding the ``collection of information''
requirements, within the meaning of the Paperwork Reduction Act of
1995, of Regulations S-B and S-K, and Forms 10-Q, 10-QSB, 10-K, 10-KSB,
and N-CSR should be received by January 1, 2004.
ADDRESSES: To help us process and review your comments more
efficiently, comments should be sent by one method--U.S. mail or
electronic mail--only. Comments should be submitted in triplicate to
Jonathan G. Katz, Secretary, U.S. Securities and Exchange Commission,
450 Fifth Street, NW., Washington, DC 20549-0609. Comments also may be
submitted electronically at the following e-mail address: [email protected]. All comment letters should refer to File No. S7-14-
03. This number should be included in the subject line if sent via
electronic mail. Electronically submitted comment letters will be
posted on the Commission's Internet Web site (http://www.sec.gov). We
do not edit personal information, such as names or electronic mail
addresses, from electronic submissions. You should submit only
information that you wish to make available publicly.
FOR FURTHER INFORMATION CONTACT: Lillian C. Brown, at (202) 942-2920,
Andrew Thorpe, at (202) 942-2910, or Andrew Brady, at (202) 942-2900,
in the Division of Corporation Finance, or with respect to investment
companies, Christian L. Broadbent, at (202) 942-0721, in the Division
of Investment Management, U.S. Securities and Exchange Commission, 450
Fifth Street, NW., Washington DC 20549.
SUPPLEMENTARY INFORMATION: We are adopting amendments to Item 401\1\ of
Regulation S-B \2\ and Item 401\3\ of Regulation S-K \4\ under the
Securities Act of 1933,\5\ Items 7 and 22 of Schedule 14A \6\ under the
Securities Exchange Act of 1934,\7\ Rule 30a-2\8\ under the Investment
Company Act of 1940,\9\ Forms 10-Q \10\ and 10-QSB \11\ under the
Exchange Act, and Form N-CSR \12\ under the Exchange Act and the
Investment Company Act. Although we are not adopting amendments to
Schedule 14C \13\ under the Exchange Act, the amendments will affect
the disclosure provided in Schedule 14C, as Schedule 14C requires
disclosure of some items of Schedule 14A. Similarly, although we are
not adopting amendments to Forms 10-K \14\ and 10-KSB \15\ under the
Exchange Act, the amendments to Item 401 of Regulations S-B and S-K
will affect the disclosure under Forms 10-K and 10-KSB, as those forms
require disclosure of the information required by Item 401 of
Regulations S-K and S-B.
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\1\ 17 CFR 228.401.
\2\ 17 CFR 228.10 et seq.
\3\ 17 CFR 229.401.
\4\ 17 CFR 229.10 et seq.
\5\ 15 U.S.C. 77a et seq.
\6\ 17 CFR 240.14a-101.
\7\ 15 U.S.C. 78a et seq.
\8\ 17 CFR 270.30a-2.
\9\ 15 U.S.C. 80a-1 et seq.
\10\ 17 CFR 249.308a.
\11\ 17 CFR 249.308b.
\12\ 17 CFR 249.331 and 17 CFR 274.128.
\13\ 17 CFR 240.14c-101.
\14\ 17 CFR 249.310.
\15\ 17 CFR 249.310b.
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I. Background
On August 8, 2003, we proposed new disclosure standards intended to
increase the transparency of nominating committee functions and the
processes by which security holders may communicate with boards of
directors of the companies in which they invest.\16\ The disclosure
standards that we adopt today are, in most respects, those proposed on
August 8, 2003. Overall, most commenters supported new disclosure
standards relating to nominating committee functions and security
holder communications with directors;\17\ however, as noted below, we
received a number of comments and suggestions with regard to specific
components of the proposed disclosure standards.\18\ We have revised
some elements of the proposed disclosure standards in response to these
comments and suggestions.
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\16\ See Release No. 34-48301 (August 8, 2003) [68 FR 48724].
Comments received in response to the proposals, as well as a summary
of these comments (``Summary of Comments'') may be found in File No.
S7-14-03 and on our Web site at http://www.sec.gov.
\17\ See Summary of Comments--File No. S7-14-03.
\18\ See id.
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The requirements we proposed on August 8, 2003,\19\ and are
adopting today, follow in many respects the recommendations made by the
Division of Corporation Finance in a report provided to the Commission
on July 15, 2003.\20\ This report resulted from our April 14, 2003
directive to the Division to review the proxy rules relating to the
election of corporate directors.\21\ In preparing the report and
developing its recommendations, the Division considered the input of
members of the investing, business, legal, and academic
[[Page 69205]]
communities.\22\ The majority of these commenters supported our
decision to direct the review and, reflecting concern over corporate
director accountability and recent corporate scandals, generally urged
us to adopt rules that would grant security holders greater access to
the nomination process and greater ability to exercise their rights and
responsibilities as owners of their companies.\23\ Many of the comments
received in connection with the Division's review evidenced a growing
concern among security holders that they lack sufficient input into
decisions made by the boards of directors of the companies in which
they invest.\24\ Two particular areas of concern related to the
nomination of candidates for election as director and the ability of
security holders to communicate effectively with members of boards of
directors.\25\ We seek to address these concerns with the new
disclosure standards we are adopting today.
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\19\ See Release No. 34-48301 (August 8, 2003).
\20\ The Division also recommended that we propose amendments to
the proxy rules regarding the inclusion in company proxy materials
of security holder nominees for election as directors. Our proposals
regarding this issue were included in a separate release. See
Release No. 34-48626 (October 14, 2003) [68 FR 60784]. As such, this
adopting release does not address that issue directly. The
Division's Staff Report to the Commission, detailing the results of
its review of the proxy process related to the nomination and
election of directors, can be found on our Web site at http://www.sec.gov. Staff Report: Review of the Proxy Process Regarding the
Nomination and Election of Directors, Division of Corporation
Finance (July 15, 2003).
\21\ See Press Release No. 2003-46 (April 14, 2003).
\22\ On May 1, 2003, we solicited public views on the Division's
review of the proxy rules relating to the nomination and election of
directors. See Release No. 34-47778 (May 1, 2003) [68 FR 24530]. In
addition to receiving written comments, the Division spoke with a
number of interested parties representing security holders, the
business community, and the legal community. Each of the comment
letters received, memoranda documenting the Division's meetings, and
a summary of the comments (``Summary of Comments'') may be found in
File No. S7-10-03 and on our Web site, http://www.sec.gov. Summary
of Comments in Response to the Commission's Solicitation of Public
Views Regarding Possible Changes to the Proxy Rules (July 15, 2003).
\23\ See Summary of Comments--File No. S7-10-03.
\24\ See id.
\25\ See id.
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II. New Disclosure Requirements
A. Disclosure Regarding Nominating Committee Processes
1. Discussion
We are adopting new proxy statement disclosure requirements that
will provide greater transparency regarding the nominating committee
and the nomination process.\26\ This enhanced disclosure is intended to
provide security holders with additional, specific information upon
which to evaluate the boards of directors and nominating committees of
the companies in which they invest. Further, we intend that increased
transparency of the nomination process will make that process more
understandable to security holders. In particular, we are adopting a
number of specific and detailed disclosure requirements because we
believe that disclosure in response to each of these requirements will
assist security holders in understanding each of the processes and
policies of nominating committees and boards of directors regarding the
nomination of candidates for director.
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\26\ Prior to the effectiveness of these amendments, companies
must disclose whether they have a nominating committee and, if so,
whether that committee considers nominees recommended by security
holders and how any such recommendations may be submitted. See
Paragraphs (d)(1) and (d)(2) of Item 7 of Exchange Act Schedule 14A.
See also Release No. 34-15384 (December 6, 1978) [43 FR 58522], in
which the Commission adopted these disclosure standards. In the 1978
release proposing these disclosure requirements, the Commission
stated generally its belief that the new disclosure requirements
would facilitate improved accountability and, more specifically,
that:
[I]nformation relating to nominating committees would be
important to security holders because a nominating committee can,
over time, have a significant impact on the composition of the board
and also can improve the director selection process by increasing
the range of candidates under consideration and intensifying the
scrutiny given to their qualifications. Additionally, the Commission
believes that the institution of nominating committees can represent
a significant step in increasing security holder participation in
the corporate electoral process, a subject which the Commission will
consider further in connection with its continuing proxy rule re-
examination.
Release No. 34-14970 (July 18, 1978) [43 FR 31945].
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Detailed disclosure regarding nomination processes will provide
security holders with important information regarding the management
and oversight of the companies in which they invest. The specific
disclosure requirements we are adopting today will cause companies to
provide security holders with that information. We believe that
specific, detailed disclosure requirements are necessary and
appropriate to assure that investors are provided with disclosure that
presents the desired degree of clarity and transparency. In the absence
of these specific disclosure requirements, we believe that disclosure
could be at a level of generality that would not be sufficiently useful
to security holders.
Each of the requirements we are adopting today furthers the goal of
providing the transparency that is necessary for security holders to
understand the nomination process. For example, the rules we are
adopting requiring disclosure of the following matters are necessary to
give security holders a more complete overview of the nomination
process for directors of the companies in which they invest:
[sbull] A company's determination whether to have a nominating
committee;
[sbull] The nominating committee's charter, if any;
[sbull] The nominating committee's processes for identifying and
evaluating candidates; and
[sbull] The minimum qualifications for a nominating committee-
recommended nominee and any qualities and skills that the nominating
committee believes are necessary or desirable for board members to
possess.
In addition, as noted in the proposing release,\27\ we believe that
information as to whether nominating committee members are independent
within the requirements of listing standards applicable to a company is
meaningful to security holders in evaluating the nomination process of
a company, how that process works, and the seriousness with which the
nomination process is considered by a company. Further, information
regarding the persons who recommended each nominee and disclosure as to
whether there are third parties that receive compensation related to
identifying and evaluating candidates will provide important
information as to the process followed by a company.
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\27\ See Release No. 34-48301 (August 8, 2003).
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The ability to participate in the nomination process is an
important matter for security holders.\28\ Accordingly, we believe that
it is important for security holders to understand the specific
application of the nomination processes to candidates put forward by
security holders. Disclosure as to whether and how they may participate
in a company's nomination process, and the manner in which their
candidates are evaluated, including differences between how their
candidates and how other candidates are evaluated, therefore,
represents important information for security holders. Finally, an
additional, specific disclosure requirement regarding the treatment of
candidates put forward by large security holders or groups of security
holders that have a long-term investment interest is appropriate, as it
will provide investors with information that is useful in assessing the
actions of the nominating committee.
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\28\ See Release No. 34-14970 (July 18, 1978). See also Summary
of Comments `` File No. S7-10-03 and Summary of Comments `` File No.
S7-14-03.
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2. Disclosure Requirements
The amendments we are adopting today will expand the current proxy
statement disclosure regarding a company's nominating or similar
committee to include:
[sbull] A statement as to whether the company has a standing
nominating committee or a committee performing similar functions \29\
and, if the company
[[Page 69206]]
does not have a standing nominating committee or committee performing
similar functions, a statement of the basis for the view of the board
of directors that it is appropriate for the company not to have such a
committee and identification of each director who participates in the
consideration of director nominees;\30\
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\29\ As noted earlier in this release, this disclosure currently
is required under Paragraph (d)(1) of Item 7 of Exchange Act
Schedule 14A.
\30\ See new Paragraph (d)(2)(i) of Item 7 of Exchange Act
Schedule 14A.
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[sbull] The following information regarding the company's director
nomination process:\31\
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\31\ For the remainder of our discussion of this disclosure
requirement, the term ``nominating committee'' refers to a
nominating committee or similar committee or group of directors
fulfilling the role of a nominating committee. That group may
comprise the full board. See the Instruction to new Paragraph
(d)(2)(ii) of Item 7 of Exchange Act Schedule 14A. If the company
has a standing nominating committee or a committee fulfilling the
role of a nominating committee, Item 7(d)(1) of Exchange Act
Schedule 14A requires identification of the members of that
committee. If the company does not have such a standing committee,
new Paragraph (d)(2)(i) of Item 7 of Exchange Act Schedule 14A will
require identification of each director who participates in the
consideration of director nominees.
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[sbull] If the nominating committee has a charter, disclosure of
whether a current copy of the charter is available to security holders
on the company's Web site. If the nominating committee has a charter
and a current copy of the charter is available to security holders on
the company's Web site, disclosure of the company's Web site address.
If the nominating committee has a charter and a current copy of the
charter is not available to security holders on the company's Web site,
inclusion of a copy of the charter as an appendix to the company's
proxy statement at least once every three fiscal years. If a current
copy of the charter is not available to security holders on the
company's Web site, and is not included as an appendix to the company's
proxy statement, identification of the prior fiscal year in which the
charter was so included in satisfaction of the requirement;\32\
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\32\ See new Paragraph (d)(2)(ii)(A) of Item 7 of Exchange Act
Schedule 14A.
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[sbull] If the nominating committee does not have a charter, a
statement of that fact;\33\
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\33\ See new Paragraph (d)(2)(ii)(B) of Item 7 of Exchange Act
Schedule 14A.
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[sbull] If the company is a listed issuer \34\ whose securities are
listed on a national securities exchange registered pursuant to section
6(a) of the Exchange Act \35\ or in an automated inter-dealer quotation
system of a national securities association registered pursuant to
section 15A(a) of the Exchange Act \36\ that has independence
requirements for nominating committee members, disclosure as to whether
the members of the nominating committee are independent, as
independence for nominating committee members is defined in the listing
standards applicable to the listed issuer;\37\
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\34\ As defined in Exchange Act Rule 10A-3 [17 CFR 240.10A-3].
\35\ 15 U.S.C. 78f(a).
\36\ 15 U.S.C. 78o-3(a).
\37\ See new Paragraph (d)(2)(ii)(C) of Item 7 of Exchange Act
Schedule 14A.
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[sbull] If the company is not a listed issuer,\38\ disclosure as to
whether each of the members of the nominating committee is independent.
In determining whether a member is independent, the company must use a
definition of independence of a national securities exchange registered
pursuant to section 6(a) of the Exchange Act or a national securities
association registered pursuant to section 15A(a) of the Exchange Act
that has been approved by the Commission (as that definition may be
modified or supplemented), and state which definition it used. Whatever
definition the company chooses, it must apply that definition
consistently to all members of the nominating committee and use the
independence standards of the same national securities exchange or
national securities association for purposes of nominating committee
disclosure under this requirement and audit committee disclosure
required under Item 7(d)(3)(iv) of Exchange Act Schedule 14A;\39\
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\38\ As defined in Exchange Act Rule 10A-3.
\39\ See new Paragraph (d)(2)(ii)(D) of Item 7 of Exchange Act
Schedule 14A.
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[sbull] If the nominating committee has a policy with regard to the
consideration of any director candidates recommended by security
holders, a description of the material elements of that policy, which
shall include, but need not be limited to, a statement as to whether
the committee will consider director candidates recommended by security
holders;\40\
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\40\ See new Paragraph (d)(2)(ii)(E) of Item 7 of Exchange Act
Schedule 14A. As adopted, this disclosure requirement specifies that
the company's description of the material elements of its policy
with regard to consideration of security holder candidates ``need
not'' be limited to a statement as to whether the nominating
committee will consider security holder-recommended candidates. This
revision was made in response to a commenter's concern that the
proposed requirement (that the disclosure ``shall not'' be limited
to a statement as to whether the committee will consider security
holder recommended candidates) implied that a company could not
merely have a policy of considering security holder recommended
candidates, but instead was required to put in place a more detailed
policy with respect to consideration of such candidates. See
Committee on Federal Regulation of Securities of the American Bar
Association's section of Business Law (``ABA'').
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[sbull] If the nominating committee does not have a policy with
regard to the consideration of any director candidates recommended by
security holders, a statement of that fact and a statement of the basis
for the view of the board of directors that it is appropriate for the
company not to have such a policy;\41\
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\41\ See new Paragraph (d)(2)(ii)(F) of Item 7 of Exchange Act
Schedule 14A.
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[sbull] If the nominating committee will consider candidates
recommended by security holders, a description of the procedures to be
followed by security holders in submitting such recommendations;\42\
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\42\ Prior to the effectiveness of these amendments, this
disclosure is required under Paragraph (d)(2) of Item 7 of Exchange
Act Schedule 14A. As a result of the amendments to Item 7 of
Exchange Act Schedule 14A that we are adopting today, this
requirement will be moved to new Paragraph (d)(2)(ii)(G) of Item 7
of Exchange Act Schedule 14A. In addition, we are adopting a new
requirement in Regulations S-B and S-K, and a new reference to that
requirement in Exchange Act Forms 10-Q and 10-QSB, that will require
companies to disclose any material changes to the procedures that
were previously disclosed pursuant to this item. See new Paragraph
(b) of Item 5 of Part II to Exchange Act Forms 10-Q and 10-QSB, new
Paragraph (g) of Item 401 of Exchange Act Regulation S-B, and new
Paragraph (j) of Item 401 of Exchange Act Regulation S-K. In those
instances where a material change is implemented during the last
quarter of a company's fiscal year, companies will be required to
include disclosure of such change in their Exchange Act Form 10-K or
10-KSB. See Item 10 of Part III of Exchange Act Form 10-K, Item 9 of
Part III of Exchange Act Form 10-KSB, new Paragraph (g) of Item 401
of Exchange Act Regulation S-B, and new Paragraph (j) of Item 401 of
Exchange Act Regulation S-K.
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[sbull] A description of any specific, minimum qualifications that
the nominating committee believes must be met by a nominating
committee-recommended nominee for a position on the company's board of
directors, and a description of any specific qualities or skills that
the nominating committee believes are necessary for one or more of the
company's directors to possess;\43\
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\43\ See new Paragraph (d)(2)(ii)(H) of Item 7 of Exchange Act
Schedule 14A.
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[sbull] A description of the nominating committee's process for
identifying and evaluating nominees for director, including nominees
recommended by security holders, and any differences in the manner in
which the nominating committee evaluates nominees for director based on
whether the nominee is recommended by a security holder;\44\
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\44\ See new Paragraph (d)(2)(ii)(I) of Item 7 of Exchange Act
Schedule 14A.
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[sbull] With regard to each nominee approved by the nominating
committee for inclusion on the company's proxy card (other than
nominees who are executive officers or who are directors standing for
re-election), a statement as to which one or more of the following
categories of persons or entities recommended that nominee: security
holder, non-management director, chief executive officer, other
executive
[[Page 69207]]
officer, third-party search firm, or other, specified source;\45\
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\45\ See new Paragraph (d)(2)(ii)(J) of Item 7 of Exchange Act
Schedule 14A.
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[sbull] If the company pays a fee to any third party or parties to
identify or evaluate or assist in identifying or evaluating potential
nominees, disclosure of the function performed by each such third
party;\46\ and
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\46\ See new Paragraph (d)(2)(ii)(K) of Item 7 of Exchange Act
Schedule 14A.
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[sbull] If the company's nominating committee received, by a date
not later than the 120th calendar day before the date of the company's
proxy statement released to security holders in connection with the
previous year's annual meeting, a recommended nominee from a security
holder that beneficially owned more than 5% of the company's voting
common stock for at least one year as of the date the recommendation
was made, or from a group of security holders that beneficially owned,
in the aggregate, more than 5% of the company's voting common
stock,\47\ with each of the securities used to calculate that ownership
held for at least one year as of the date the recommendation was
made,\48\ identification of the candidate and the security holder or
security holder group that recommended the candidate and disclosure as
to whether the nominating committee chose to nominate the candidate,
provided, however, that no such identification or disclosure is
required without the written consent of both the security holder or
security holder group and the candidate to be so identified.\49\
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\47\ Our use of a more than 5% beneficial ownership threshold to
trigger this additional disclosure obligation means that
recommendations generally will be made by security holders or groups
that have a reporting obligation under Exchange Act Regulation 13D
[17 CFR 240.13d-240.13d-102]. Recommending security holders, like
other beneficial owners, will continue to report on Exchange Act
Schedule 13G [17 CFR 240.13d-102] or Exchange Act Schedule 13D [17
CFR 240.13d-101] based on their purpose or effect in acquiring or
holding the company's securities. That determination is not intended
to be affected by our adoption of this new disclosure obligation. In
addition, we anticipate that security holders may communicate with
each other in an effort to aggregate more than 5% of a company's
securities before submitting a recommended candidate to a company's
nominating committee. The determination as to what communications
may be deemed solicitations, either subject to or exempt from the
proxy rules, is based on facts and circumstances and is not intended
to be affected by our adoption of this new disclosure obligation.
\48\ Similar to the method used in Exchange Act Rule 14a-8 [17
CFR 240.14a-8] with regard to security holder proponents, the
percentage of securities held by a recommending security holder, as
well as the holding period of those securities may be determined by
the company, on its own, if the security holder is the registered
holder of the securities. If not, the security holder can submit one
of the following to the company to evidence the required ownership
and holding period:
(1) a written statement from the ``record'' holder of the
securities (usually a broker or bank) verifying that, at the time
the security holder made the recommendation, he or she had held the
required securities for at least one year; or
(2) if the security holder has filed a Schedule 13D, Schedule
13G, Form 3 [17 CFR 249.103], Form 4 [17 CFR 249.104], and/or Form 5
[17 CFR 249.105], or amendments to those documents or updated forms,
reflecting ownership of the securities as of or before the date of
the recommendation, a copy of the schedule and/or form, and any
subsequent amendments reporting a change in ownership level, as well
as a written statement that the security holder continuously held
the required securities for the one-year period as of the date of
the recommendation.
See Instruction 3 to new Paragraph (d)(2)(ii)(L) of Item 7 of
Item 7 of Exchange Act Schedule 14A.
\49\ See new Paragraph (d)(2)(ii)(L) of Item 7 of Exchange Act
Schedule 14A.
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3. Comments Regarding, and Revisions to, the Proposed Disclosure
Requirements
In response to our request for comment on the proposed nominating
committee disclosure requirements, a majority of commenters who
supported the proposed rules believed that increased disclosure about
nominating committee processes would be effective in increasing
security holder understanding of the nomination process,\50\ board
accountability,\51\ board responsiveness,\52\ and a company's corporate
governance policies.\53\ With regard to the particular components of
the proposed disclosure standards, commenters provided more specific
input, which we considered carefully in revising certain of the
disclosure standards that we are adopting today.
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\50\ See, e.g., American Federation of State, County, and
Municipal Employees (``AFSCME''); Council of Institutional Investors
(``CII''); Creative Investment Research, Inc. (``CIR''); Andrew
Randall; Pennsylvania State Employees' Retirement System (``SERS'').
\51\ See, e.g., J.A. Glynn & Co. (``J.A. Glynn''); Robert
Schneeweiss.
\52\ See, e.g., CII; CIR.
\53\ See, e.g., American Community Bankers (``ACB''); California
Public Employees' Retirement System (``CalPERS''); CIR; United
Brotherhood of Carpenters and Joiners of America (``UBC'').
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a. Nominating Committee Charter
Commenters generally were of the view that summary disclosure of
the material terms of the nominating committee's charter within a
company's proxy statement was unnecessary and would lead to excessively
lengthy proxy statements.\54\ These commenters suggested that it would
be adequate to identify where the charter could be found, provide the
charter to security holders upon request, and/or attach the charter to
the proxy statement once every three years (as is the case for audit
committee charters).\55\
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\54\ See, e.g., The Business Roundtable (``BRT''); Foley &
Lardner (``Foley''); Independent Community Bankers Association
(``ICBA''); International Paper Company (``Int'l Paper''); Jenkens &
Gilchrist (``Jenkens''); McGuireWoods LLP (``McGuireWoods'');
Committee on Securities Regulation of the Business Section of the
New York State Bar Association (``NYSBAR''); Sullivan & Cromwell,
LLP (``Sullivan''); Wells Fargo & Company (``Wells Fargo'').
\55\ See, e.g., ICBA; Int'l Paper; McGuireWoods; NYSBAR.
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The disclosure standard that we are adopting today does not include
the proposed requirement that companies describe the material terms of
the nominating committee charter. Companies will, instead, be required
to disclose whether a current copy of the charter is available to
security holders on the company's Web site. Where a company does not
make the charter available on its Web site, the company would be
required to include a copy of the charter as an appendix to its proxy
statement at least once every three fiscal years and, in those proxy
statements that do not include the charter as an appendix, the company
would be required to identify in which of the prior years the charter
was so included. We believe that this disclosure standard will provide
security holders with the information regarding a company's nominating
committee that was sought in the proposal, without unduly burdening
companies.
b. Independence of Nominating Committee Members
In response to the proposed disclosure requirement that listed
issuers disclose any instance during the prior fiscal year in which any
member of the nominating committee did not satisfy the definition of
independence included in the listing standards to which the company is
subject, a number of commenters suggested that we revise or delete this
requirement.\56\ At least one of these commenters believed that
independence determinations are interpretive matters and that board
members could be unaware of developments that would impact
independence.\57\ Another commenter suggested that we revise the
disclosure requirement to conform to the recently adopted provision
that requires companies to state whether members of their audit
committees are independent, as defined in applicable listing
standards.\58\ We believe that it is appropriate to use an approach
consistent with the audit committee disclosure standards. Accordingly,
the disclosure standard we are adopting
[[Page 69208]]
will require companies to disclose whether each member of the
nominating committee is independent, as independence for nominating
committee members is defined in the listing standards applicable to the
listed issuer.
---------------------------------------------------------------------------
\56\ See, e.g., ABA; Sullivan.
\57\ See ABA.
\58\ See Sullivan. This disclosure requirement is set forth in
Paragraph (d)(3)(iv) of Item 7 of Exchange Act Schedule 14A.
---------------------------------------------------------------------------
c. Qualifications and Skills of Candidates and Overall Board
Composition
Commenters provided input with regard to the proposed requirement
that companies describe the qualifications, qualities, skills, and
overall composition that companies are seeking with regard to board
membership. In this regard, some commenters noted that nominating
committees' selection processes do not tend to be precise, and that the
characteristics a nominating committee looks for may change as the
composition of the board changes.\59\ In consideration of these
comments, the disclosure requirements we are adopting today do not
include the proposed requirement that companies describe ``any specific
standards for the overall structure and composition of the company's
board of directors.''\60\ We are adopting the remaining disclosure
items substantially as proposed, as we believe that they will provide
valuable information to security holders regarding the nomination
process, without resulting in boilerplate disclosures.
---------------------------------------------------------------------------
\59\ See, e.g., Foley; Jenkens; McGuireWoods; NYSBAR; Wells
Fargo.
\60\ Release No. 34-48301 (August 8, 2003).
---------------------------------------------------------------------------
Many commenters that supported the disclosure requirements
suggested that we expand the requirements to require companies to
disclose the extent to which they take into consideration diversity, in
particular race and gender, in nominating candidates.\61\ We have not
included such a requirement in the standards we are adopting today, as
we believe this particular consideration, as well as other
considerations made by a company, will likely be addressed adequately
by the new disclosure item requiring companies to disclose their
criteria for considering board candidates. Further, we do not view it
as appropriate to identify any specific criteria that a company must
address in describing the qualities it looks for in board candidates.
---------------------------------------------------------------------------
\61\ See, e.g., Boston Common Asset Management (``Boston'');
Calvert Group Ltd. (``Calvert''); Christian Brothers Investment
Services (``CBIS''); Nathan Cummings Foundation (``Cummings'');
Domini Social Investments LLC (``Domini''); ISIS Asset Management
(``ISIS''); J.A. Glynn; James McRitchie, Editor, CorpGov.net and
PERSWatch.net, Letter dated September 13, 2003 (``McRitchie2'');
Mehri & Skalet PLLC (``Mehri &Skalet''); Denise L. Nappier,
Connecticut State Treasurer (``Nappier''); Social Investment Forum
Ltd. (``SIF''); Socially Responsible Investment Coalition
(``SRIC''); William C. Thompson, Jr., Controller of the City of New
York (``Thompson''); The General Board of Pension and Health
Benefits of the United Methodist Church (``UMC''); Walden Asset
Management (``Walden''). See also Jesse Smith Noyes Foundation
(``Noyes''). We also received a number of letters that are
substantially similar in content that supported additional
disclosure describing board consideration of diversity. See Letter
Type A (``Letter A''); Letter Type B (``Letter B'').
---------------------------------------------------------------------------
d. Sources of Nominees
Some of the most extensive comment, particularly from the business
and legal communities, arose from the proposal to require companies to
identify the source of all director nominees, other than incumbent
directors and executive officers.\62\ Generally speaking, these
commenters were of the view that, as proposed, the required disclosure
would be difficult to make in a clear and accurate manner because there
are multiple ``sources'' for most nominees.\63\ In addition, these
commenters objected to naming the specific source on the basis that
this disclosure could have a ``chilling effect on the search
process,''\64\ would be immaterial,\65\ and could imply that a nominee
was unqualified to serve on the board based solely on the position held
by the individual (e.g., the chief executive officer) who originally
recommended the nominee.\66\ While some commenters recommended that we
delete this provision, others recommended that we instead require
disclosure of the general category of persons who recommended the
nominee (e.g., management or security holders).\67\ Another commenter
recommended that we, instead, require companies to disclose whether
nominees are independent from the company and, in the case of nominees
proposed by security holders, from the recommending security
holders.\68\
---------------------------------------------------------------------------
\62\ See, e.g., ABA; BRT; Intel Corporation (``Intel''); Leggett
& Platt Inc. (``Leggett''); NYSBAR; Valero Energy Corporation
(``Valero''); Wells Fargo.
\63\ See id.
\64\ American Society of Corporate Secretaries. See also,
American Corporate Counsel Association (``ACCA''); Valero.
\65\ See, e.g., BRT.
\66\ See Sullivan.
\67\ See Boston; Intel; Walden.
\68\ See ABA.
---------------------------------------------------------------------------
We continue to believe that information regarding the sources of
company nominees is important for security holders; however, we have
revised the disclosure standard to require companies to identify the
category or categories of persons or entities that recommended each
nominee. In this regard, we have retained the requirement that
companies specifically note those instances where a nominee was
recommended by the chief executive officer of the company. In providing
the required disclosure, companies should consider what category of
person initially recommended, or otherwise brought to the attention of
the nominating committee, each candidate. In disclosing the category of
persons or entities that initially recommended a candidate to the
nominating committee, companies should ensure that they identify also
any person or entity that caused a particular candidate to be
recommended. For example, if the chief executive officer asks a third
party to evaluate a potential candidate, and that third party
ultimately recommends the candidate to the nominating committee, both
the chief executive officer and the third party should be identified as
recommending parties in the company's disclosure. We have provided for
disclosure of more than one type of source for a nominee to address the
possibility of multiple sources.
e. Additional Disclosure Regarding Nominees of Large, Long-Term
Security Holders
The additional disclosure requirement with regard to nominees
recommended by large, long-term security holders elicited a great deal
of comment from most categories of commenters. Generally, commenters
from the business and legal communities recommended either deleting the
disclosure requirement related to security holder recommendations
altogether or increasing the beneficial ownership requirement to 5% or
10% and/or increasing the holding period to two or more years.\69\ With
regard to the 5% and 10% recommendations, at least one commenter noted
that those recommending security holders would be required to report
their beneficial ownership under Exchange Act Regulation 13D.\70\
---------------------------------------------------------------------------
\69\ See, e.g., ACB; ACCA; Compass Bancshares, Inc.
(``Compass''); Foley; ICBA; Intel; Int'l Paper; Jenkens; Leggett;
NYSBAR; Sullivan; Wells Fargo.
\70\ See Sullivan.
---------------------------------------------------------------------------
Some of the reasons given by commenters for deleting the
requirement were:
[sbull] The requirement would give special status to larger
security holders; \71\
---------------------------------------------------------------------------
\71\ See id.
---------------------------------------------------------------------------
[sbull] 3% security holders could use the disclosure requirement
for their own ``special interests''; \72\
---------------------------------------------------------------------------
\72\ Id. See also ABA.
---------------------------------------------------------------------------
[sbull] There could be more than one triggering nomination, thus
resulting in complex and confusing disclosure; \73\
---------------------------------------------------------------------------
\73\ See ABA.
---------------------------------------------------------------------------
[[Page 69209]]
[sbull] The requirement would create a bias to accept marginal
director candidates; \74\
---------------------------------------------------------------------------
\74\ See Sullivan.
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[sbull] The requirements, specifically those regarding giving the
reasons for rejecting nominees, would ``chill'' nominating committee
discussions; \75\
---------------------------------------------------------------------------
\75\ See, e.g., id.
---------------------------------------------------------------------------
[sbull] The disclosure would not be material to security holders;
\76\ and
---------------------------------------------------------------------------
\76\ See id.
---------------------------------------------------------------------------
[sbull] The disclosure would raise privacy issues for the
nominating security holder and candidate.\77\
---------------------------------------------------------------------------
\77\ See id.
---------------------------------------------------------------------------
Conversely, this disclosure item also received strong support from
security holders, many of whom recommended that we use a lower
ownership percentage trigger or a trigger no more stringent than that
proposed.\78\
---------------------------------------------------------------------------
\78\ See, e.g., American Federation of Labor and Congress of
Industrial Organizations (``AFL-CIO''); CII; International
Brotherhood of Teamsters (``IBT''); ISIS; McRitchie2; Nappier; SERS;
Trillium Asset Management (``Trillium''); UBC. See also AFSCME;
Association of the Bar of the City of New York's Special Committee
on Mergers, Acquisitions and Corporate Control Contests
(``NYCBAR'').
---------------------------------------------------------------------------
With regard to the requirement that the reasons for not nominating
a candidate be given, many commenters believed that this requirement
would be difficult to satisfy, as:
[sbull] Nominating committee determinations are not always precise
in nature;
[sbull] The disclosure would expose candidates to ridicule; and/or
[sbull] The disclosure would be an invasion of privacy for all
parties involved in the process, including the nominating committee
members, whose deliberations would be made public as a result of the
disclosure requirement.\79\
---------------------------------------------------------------------------
\79\ See, e.g., ABA; BRT; Foley; Jenkens; NYSBAR; Sullivan;
Valero.
---------------------------------------------------------------------------
Some commenters also expressed the view that this requirement would
expose the company and nominating committee members to risk of
litigation and would allow security holders to ``second guess'' the
nominating committee's determinations.\80\ On the other hand, some
commenters were of the view that we should retain the proposed
disclosure standard and expand it to require companies to disclose the
identity of rejected candidates, provided that the candidates consent
to be so identified.\81\
---------------------------------------------------------------------------
\80\ See, e.g., Compass; Foley; Jenkens.
\81\ See CII; CIR; Cummings; SERS.
---------------------------------------------------------------------------
After considering the comments, we continue to believe that
disclosure of director recommendations made by large, long-term
security holders would provide valuable information that would enable
security holders to better understand the nomination process. We have
re-evaluated the 3% threshold to trigger the additional disclosure
requirement, however, and have determined that ownership of more than
5% is a more appropriate threshold at which to require companies to
provide additional disclosure.\82\ In this regard, we agree with
commenters that a more than 5% ownership threshold has a significant
advantage over a lesser ownership threshold, in that recommending
security holders would be subject to the beneficial ownership reporting
requirements of Exchange Act Regulation 13D. We anticipate that a more
than 5% ownership threshold will, in many cases, simplify the process
by which a company and the recommending security holder determine that
the recommending security holder satisfies the ownership threshold to
trigger the additional disclosure requirement and, where a security
holder or group has reported its beneficial ownership prior to making a
recommendation, will help to ensure that the company and its security
holders have basic information about the recommending security holder.
This will benefit the company by providing the nominating committee
with additional information regarding the recommending security holder
and, possibly, the recommended candidate. Further, security holders
will benefit through having additional information upon which they can
evaluate the nominating committee's response to the security holder
recommendation.\83\
---------------------------------------------------------------------------
\82\ On October 14, 2003, we proposed new rules regarding the
inclusion of security holder nominees for director in company proxy
materials. See Release No. 34-48626 (October 14, 2003). The issue of
the appropriate ownership threshold, if any, for any such inclusion
of security holder nominees for director is a separate issue from
the appropriate ownership threshold for the disclosure we are
adopting today and is not addressed in this release.
\83\ In this regard, information available to our Office of
Economic Analysis indicates that, of the companies listed on the New
York Stock Exchange, Nasdaq Stock Market and American Stock Exchange
as of December 31, 2002, 57% had at least one institutional security
holder that beneficially owned 5% of the common equity or similar
securities and 1.4% had five or more such security holders. This
information was derived from filings on Exchange Act Form 13-F [17
CFR 249.325] that indicated that the filing security holder had held
its securities for at least one year.
---------------------------------------------------------------------------
In addition, the new disclosure standard will require that
companies make the specified disclosures, including identifying both
the nominating security holder or security holder group and candidate,
only in those instances where both parties have provided to the company
their consent to be identified and, where the security holder or group
members are not registered holders, the security holder or group
members have provided proof of the required ownership and holding
period to the company. A security holder or group that seeks to require
a company to provide disclosure related to a recommendation would
provide their written consent and proof of ownership to the company at
the time of the recommendation. The company would not be obligated to
request such materials where a security holder or group does not
otherwise provide their consent and proof of ownership.\84\
---------------------------------------------------------------------------
\84\ See Instruction 4 to new Paragraph (d)(2)(ii)(L) of Item 7
of Exchange Act Schedule 14A.
---------------------------------------------------------------------------
In consideration of the concerns expressed by commenters, including
those with regard to boilerplate disclosure and privacy issues, the
disclosure standard that we are adopting today does not include the
proposed requirement that companies disclose the specific reasons for
not nominating a candidate. The requirement will, however, require that
companies identify the candidate in addition to the recommending
security holder or group. While not required, a company could, of
course, choose to explain why it did not nominate one or all of the
security holder-recommended candidates.
We also have added language to the disclosure requirement to
clarify the date by which a security holder must submit a recommended
nominee in order to trigger the additional disclosure requirement by
the company--a security holder's recommendation would have to be
received by a company's nominating committee by a date not later than
the 120th calendar day before the date the company's proxy statement
was released to security holders in connection with the previous year's
annual meeting.\85\ We have added a new instruction clarifying that,
where a company has changed its meeting date by more than 30 days, a
security holder must make its recommendation by a date that is a
reasonable time before the company begins to print and mail its proxy
statement in order to trigger the additional disclosures.\86\
---------------------------------------------------------------------------
\85\ As is currently required in Exchange Act Rule 14a-8, this
date would be calculated by determining the release date disclosed
in the previous year's proxy statement, increasing the year by one,
and counting back 120 calendar days.
\86\ See Instruction 2 to new Paragraph (d)(2)(ii)(L) of Item 7
of Exchange Act Schedule 14A. The new instruction is modeled after
the approach used with regard to Exchange Act Rule 14a-8 security
holder proposals, as set forth in Exchange Act Rule 14a-8(e)(2) [17
CFR 240.14a-8(e)(2)].
---------------------------------------------------------------------------
In addition, we have added a new instruction that responds to
commenters' suggestion that we address how the percentage of securities
owned by a nominating security holder would
[[Page 69210]]
be calculated.\87\ In this regard we have clarified that the percentage
of securities held by a recommending security holder may be determined
by reference to the company's most recently filed quarterly or annual
report (or any subsequent current report), unless the party relying on
such report knows or has reason to believe that the information
included in the report is inaccurate.\88\
---------------------------------------------------------------------------
\87\ See, e.g., ABA.
\88\ See Instruction 1 to new Paragraph (d)(2)(ii)(L) of Item 7
of Exchange Act Schedule 14A. The new instruction is modeled after
Exchange Act Rule 13d-1(j) [17 CFR 240.13d-1(j)], which specifies on
what basis beneficial holders may calculate the percentage of
subject securities they hold for purposes of Exchange Act Regulation
13D.
---------------------------------------------------------------------------
4. Interaction of the Disclosure Requirements With Recently Revised
Market Listing Standards
The New York Stock Exchange and the Nasdaq Stock Market have
adopted revised listing standards that, among other requirements,
require listed companies to have independent nominating committees.\89\
While these listing standard changes demonstrate the importance of the
nomination process and the nominating committee, and represent a
strengthening of the role and independence of the nominating committee,
they do not require nominating committees to consider security holder
nominees or companies to make the disclosures described in this
release. The disclosure requirements we are adopting today will provide
useful information to security holders regarding the nomination
process, the manner of evaluating nominees, and the extent to which the
boards of directors of the companies in which they invest have a
process for considering, and do in fact consider, security holder
recommendations. Accordingly, the disclosure requirements we are
adopting today will operate in conjunction with the revised listing
standards regarding nominating committees.
---------------------------------------------------------------------------
\89\ See Release No. 34-48745 (November 4, 2003) [68 FR 64154].
While the NYSE standards include a requirement that listed companies
have an independent nominating committee (NYSE section 303A(4)(a)),
the Nasdaq standards provide that the nomination of directors may,
alternatively, be determined by a majority of the independent
directors (NASD Rule 4350(c)). In discussing the NYSE and Nasdaq
standards, our references to independent nominating committees
encompass this alternative under the Nasdaq standards.
---------------------------------------------------------------------------
A number of commenters from the business and legal communities
recommended that we delay adoption of the proposed disclosure standards
in order to allow the new listing standards regarding nominating
committees to take effect.\90\ We agree with these commenters that the
new listing standards represent a significant strengthening of the
nomination process; however, we believe that the disclosure standards
that we adopt today are a necessary complement to those listing
standards and, accordingly, do not believe such a delay is necessary or
appropriate.
---------------------------------------------------------------------------
\90\ See, e.g., ABA; ACB; ACCA; BRT; CSX Corporation; Foley;
ICBA; Jenkens; Valero.
---------------------------------------------------------------------------
B. Disclosure Regarding the Ability of Security Holders To Communicate
With Boards of Directors
1. Discussion
We are adopting new disclosure standards with regard to security
holder communications with board members. These disclosure standards
are intended to improve the transparency of board operations, as well
as security holder understanding of the companies in which they
invest.\91\
---------------------------------------------------------------------------
\91\ In Exchange Act Release No. 34-48745 (November 4, 2003),
the Commission approved a new NYSE listing standard that addresses
security holder communications with board members. This standard
provides that: ``In order that interested parties may be able to
make their concerns known to non-management directors, a company
must disclose a method for such parties to communicate directly and
confidentially with the presiding director [of the non-management
directors] or with non-management directors as a group.'' See NYSE
Section 303A(3). This method could be analogous to the method in the
NYSE listing standards required by Exchange Act Rule 10A-3 regarding
audit committees. See Commentary to NYSE Section 303A(3). Exchange
Act Rule 10A-3(b)(2) requires listing standards relating to audit
committees to require that ``[e]ach audit committee * * * establish
procedures for the receipt, retention and treatment of complaints
regarding accounting, internal accounting controls or auditing
matters, including procedures for the confidential, anonymous
submission by employees of the issuer of concerns regarding
questionable accounting or auditing matters.''
---------------------------------------------------------------------------
In response to our May 1, 2003 solicitation of input into the proxy
process review by the Division of Corporation Finance, representatives
of the business community commented that disclosure regarding the means
by which security holders may communicate directly with the board of
directors would address issues of accountability and responsiveness
without extensive disruption or costs.\92\ Comments from investors and
investor advocacy groups also indicated the view that this disclosure
would be helpful;\93\ however, these commenters also noted that
disclosure alone would not address all issues related to accountability
and responsiveness.\94\
---------------------------------------------------------------------------
\92\ See Summary of Comments--File No. S7-10-03.
\93\ See id.
\94\ See id.
---------------------------------------------------------------------------
We received similar comment with regard to the proposed disclosure
requirements, with no clear consensus as to whether the proposed rules
would be an effective means to improve board accountability, board
responsiveness, and corporate governance policies.\95\ Some commenters
believed the disclosure would be useful to security holders, including
one commenter who expressed the view that the proposed disclosure would
provide security holders with important information that provides an
understanding of a company's process for communications with the
board.\96\ Conversely, other commenters did not believe that the
proposed rules would be an effective means to improve board
accountability, board responsiveness, and corporate governance policies
and expressed the view that the disclosure would not be useful to
security holders.\97\ Overall, we continue to believe that the
disclosure will provide security holders with useful information about
their ability to communicate with board members. Accordingly, we are
adopting, substantially as proposed, the disclosure standards related
to security holder communications with board members.
---------------------------------------------------------------------------
\95\ See Summary of Comments--File No. S7-14-03.
\96\ See CIR.
\97\ See, e.g., ABA; BRT; Les Greenberg, Chairman, Committee of
Concerned Shareholders, Letter dated August 9, 2003 (``CCS1'');
Valero.
---------------------------------------------------------------------------
2. Disclosure Requirements
We are adopting a number of specific and detailed disclosure
requirements regarding communications by security holders with boards
of directors because we believe that these requirements will provide
security holders with a better understanding of the manner in which
security holders can engage in these communications. In particular, we
believe that the disclosure requirements, including whether a board has
a process by which security holders can communicate with it, are
necessary to give security holders a better picture of a critical
component of the board's interaction with security holders. Detailed
disclosure regarding that process at a company, if it exists, will be
important to security holders in evaluating the nature and quality of
the communications process. Further, we believe that the level of
specificity in the new disclosure standards will discourage boilerplate
disclosure.
Companies will be required to provide the following disclosure with
regard to their processes for security holder communications with board
members:
[sbull] A statement as to whether or not the company's board of
directors provides a process for security holders to send
communications to the board of directors and, if the company does not
[[Page 69211]]
have such a process for security holders to send communications to the
board of directors, a statement of the basis for the view of the board
of directors that it is appropriate for the company not to have such a
process; \98\
---------------------------------------------------------------------------
\98\ See new Paragraph (h)(1) of Item 7 of Exchange Act Schedule
14A.
---------------------------------------------------------------------------
[sbull] If the company has a process for security holders to send
communications to the board of directors:
[sbull] a description of the manner in which security holders can
send communications to the board and, if applicable, to specified
individual directors; \99\ and
---------------------------------------------------------------------------
\99\ See new Paragraph (h)(2)(i) of Item 7 of Exchange Act
Schedule 14A.
---------------------------------------------------------------------------
[sbull] If all security holder communications are not sent directly
to board members, a description of the company's process for
determining which communications will be relayed to board members;
\100\ and
---------------------------------------------------------------------------
\100\ See new Paragraph (h)(2)(ii) of Item 7 of Exchange Act
Schedule 14A.
---------------------------------------------------------------------------
[sbull] A description of the company's policy, if any, with regard
to board members' attendance at annual meetings and a statement of the
number of board members who attended the prior year's annual
meeting.\101\
---------------------------------------------------------------------------
\101\ See new Paragraph (h)(3) of Item 7 of Exchange Act
Schedule 14A.
---------------------------------------------------------------------------
3. Comments Regarding, and Revisions to, the Proposed Disclosure
Requirements
a. Scope of the Disclosure Requirement
We received a number of comments suggesting that we clarify the
application of the disclosure requirements to communications with the
board by officers, directors, employees, and agents of the company who
also own company securities.\102\ We do not believe that all
communications from officers, directors, employees, and agents of the
company are the types of communications that the disclosure standards
should capture. We have, therefore, added a general instruction to the
new disclosure requirements clarifying that:
---------------------------------------------------------------------------
\102\ See, e.g., Wells Fargo.
---------------------------------------------------------------------------
[sbull] Communications from an officer or director of the company
will not be viewed as security holder communications for purposes of
the disclosure requirement; \103\ and
---------------------------------------------------------------------------
\103\ See Instruction 1 to new Paragraph (h) of Item 7 of
Exchange Act Schedule 14A.
---------------------------------------------------------------------------
[sbull] Communications from an employee or agent of the company
will be viewed as security holder communications for purposes of the
disclosure requirement only if those communications are made solely in
such employee's or agent's capacity as a security holder.\104\
---------------------------------------------------------------------------
\104\ See id.
---------------------------------------------------------------------------
In response to our request for comment as to whether the new
disclosure standard should apply to communications made in connection
with security holder proposals submitted pursuant to Exchange Act Rule
14a-8, one commenter suggested that it would be ``inappropriate'' to
exclude Exchange Act Rule 14a-8 proposals from the new disclosure
standard; \105\ however, other commenters suggested that Exchange Act
Rule 14a-8 communications should be expressly excluded.\106\ In
particular, one commenter noted that, ``[b]oth the security holder
proponent and the company are subject to specific, detailed
requirements, conditions and deadlines, including regulation of the
content of statements about the proposal * * * There is no need to
impose another disclosure requirement on this process.'' \107\ We agree
that the current disclosure requirements with regard to security holder
proposals are adequate to inform security holders of how they may
communicate with boards via that mechanism. Accordingly, we have
expressly excluded security holder proposals submitted pursuant to
Exchange Act Rule 14a-8, and communications made in connection with
such proposals, from the definition of ``security holder
communications'' for purposes of the new disclosure standard.\108\
---------------------------------------------------------------------------
\105\ AFSCME.
\106\ See NYSBAR; Valero.
\107\ NYSBAR.
\108\ See Instruction 2 to new Paragraph (h) of Item 7 of
Exchange Act Schedule 14A.
---------------------------------------------------------------------------
b. Process for Communicating With Board Members
We proposed a standard that would have required companies to
identify those directors to whom security holders could send
communications. Commenters noted that they did not believe that it
would be appropriate to include such a requirement on the basis that
named directors could then be targeted for inappropriate correspondence
and that some companies may not include specified recipients of
security holder communications in their communications procedures.\109\
---------------------------------------------------------------------------
\109\ See NYSBAR.
---------------------------------------------------------------------------
In consideration of these concerns, we have revised the disclosure
requirement to specify that companies should describe how security
holders can send communications to the board and, if applicable, to
specified individual directors.\110\ We also have added a new
instruction providing that, in lieu of describing in the proxy
statement the manner in which security holders may communicate with
board members, the manner in which the company determines those
communications that will be forwarded to board members, the company's
policy regarding director attendance at annual meetings, and the number
of directors who attended the prior year's annual meeting, such
information may instead be placed on the company's Web site, provided
that the company discloses in its proxy statement the Web site address
where such information may be found.\111\
---------------------------------------------------------------------------
\110\ See new Paragraph (h)(2)(i) of Item 7 of Exchange Act
Schedule 14A.
\111\ See the Instruction to new Paragraphs (h)(2) and (h)(3) of
Item 7 of Exchange Act Schedule 14A.
---------------------------------------------------------------------------
Commenters also expressed concern about the proposed disclosure
item related to companies' policies with regard to ``filtering''
communications.\112\ Some commenters suggested that extensive
disclosure of a company's process for determining which communications
are forwarded to board members would imply that a company was
improperly blocking communications from security holders.\113\ Such a
filtering process is necessary, in the opinion of these commenters,
because many security holder communications are related to company
products and services, are solicitations, or otherwise relate to
improper or irrelevant topics.\114\ At least one commenter posited that
the proposed disclosure item does not relate directly to company
processes to facilitate communications with directors and should be
deleted as unnecessary.\115\ Another commenter suggested that we revise
the disclosure requirement to clarify that purely ministerial
activities, such as organizing and collating security holder
communications, need not be disclosed.\116\ Other commenters noted
that, should we retain the disclosure requirement, we should not expand
it to include the identity of the party that is responsible for
filtering communications.\117\
---------------------------------------------------------------------------
\112\ See, e.g., ABA; BRT; Intel; NYSBAR; Sullivan.
\113\ See Sullivan. See also ABA.
\114\ See, e.g., Wells Fargo.
\115\ See ABA.
\116\ See Sullivan.
\117\ See, e.g., NYSBAR; Wells Fargo.
---------------------------------------------------------------------------
In consideration of these comments, the disclosure item we are
adopting today does not include the requirement that companies identify
the department or other group within the company that is responsible
for determining which communications are forwarded to
[[Page 69212]]
directors. We also have added an instruction to clarify that a
company's process for collecting and organizing security holder
communications, as well as similar or related activities, need not be
disclosed, provided that the company's process is approved by a
majority of the independent directors.\118\
---------------------------------------------------------------------------
\118\ See the Instruction to new Paragraph (h)(2)(ii) of Item 7
of Exchange Act Schedule 14A.
---------------------------------------------------------------------------
c. Material Actions Taken by the Board of Directors as a Result of
Security Holder Communications
Many commenters expressed concern with regard to the proposal that
would have required companies to describe any material action taken by
the board of directors during the preceding fiscal year as a result of
security holder communications.\119\ Most of these commenters suggested
deleting this disclosure requirement on the basis that it would be too
difficult to tie board actions to specific security holder
recommendations.\120\ One commenter suggested that the disclosure
requirement was too vague and companies would be unsure as to what
actions must be disclosed.\121\ In consideration of these concerns, the
disclosure requirements we are adopting today do not include the
proposed requirement related to material actions taken in response to
security holder communications.
---------------------------------------------------------------------------
\119\ See, e.g., ABA; ACB; ACCA; Warren J. Archer (``Archer'');
BRT; DKW Law Group; Domini; Foley; Intel; Int'l Paper; Jenkens;
NYCBAR; NYSBAR.
\120\ See, e.g., ABA; BRT; Domini; Foley; Intel; Int'l Paper;
Jenkens; NYCBAR; NYSBAR.
\121\ See NYSBAR.
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d. Director Attendance at Annual Meetings
In the proposing release, we asked whether there were alternative
ways to achieve our objectives. We further solicited comment on whether
we should provide guidance to companies or otherwise address
appropriate procedures for companies to implement with regard to
security holder communications with board members. We also noted that
the term ``communications'' was meant to be broadly construed. Several
commenters suggested that we require companies to disclose whether they
have a policy regarding attendance by directors at annual meetings and
provide information about annual meeting attendance by directors.\122\
We believe that such a disclosure requirement would further our broad
objective to provide investors with information about a company's
communications policies and general responsiveness to investors'
concerns.
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\122\ See Amalgamated Bank and its Long View Funds
(``Amalgamated''); Boston; CBIS; CII; Granary Foundation
(``Granary''); Letter B; Maine Retirement System; McRitchie2; SERS;
SIF; Walden. See also Connie Hansen.
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Directors' attendance at annual meetings can provide investors with
an opportunity to communicate with directors about issues affecting the
company. We are adopting a requirement that companies disclose their
policy with regard to director attendance at annual meetings and the
number of directors who attend the annual meetings, as that disclosure
will give security holders a more complete picture of a company's
policies related to opportunities for communicating with directors.
C. Related Disclosure in Quarterly and Annual Reports
In response to our request for comment regarding whether material
changes to a company's process for security holders to submit nominees
for election as director to the company should be disclosed in periodic
or current reports, a number of commenters indicated the need to
provide security holders with more current information regarding that
process.\123\ These commenters expressed the concern that the
procedures described in a company's proxy statement could change during
the course of a fiscal year, and the absence of information regarding
those changes could impair significantly security holders'
opportunities to submit recommended nominees.\124\ In response to these
comments, we are adopting new disclosure standards that will require
companies to report any material changes to the procedures for security
holder nominations in the Exchange Act Form 10-Q, 10-QSB, 10-K, or 10-
KSB filed for the period in which the material change occurs.\125\ We
also are including an instruction clarifying that, for purposes of this
disclosure obligation, adoption of procedures by which security holders
may recommend nominees to a company's board of directors, where the
company previously disclosed that it did not have in place such
procedures, will constitute a material change.\126\
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\123\ See, e.g., AFL-CIO; AFSCME; Amalgamated; CalPERS; CII;
CIR; Cummings; IBT; Int'l Paper; McRitchie2; SERS; SIF; Smith;
Trillium; UBC.
\124\ See id.
\125\ See new Paragraph (b) of Item 5 of Part II to Exchange Act
Forms 10-Q and 10-QSB, new Paragraph (g) of Item 401 of Exchange Act
Regulation S-B, and new Paragraph (j) of Exchange Act Regulation S-
K. In those instances where a material change is implemented during
the last quarter of a company's fiscal year, companies will be
required to include disclosure of the change in their Exchange Act
Form 10-K or 10-KSB. See Item 10 of Part III of Exchange Act Form
10-K, Item 9 of Part III of Exchange Act Form 10-KSB, new Paragraph
(g) of Item 401 of Exchange Act Regulation S-B, and new Paragraph
(j) of Item 401 of Exchange Act Regulation S-K.
\126\ See Instruction 2 to new Paragraph (g) of Item 401 of
Exchange Act Regulation S-B and new Paragraph (j) of Item 401 of
Exchange Act Regulation S-K.
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D. Investment Companies
The new disclosure requirements regarding board nominating
committees and security holders' communications with members of boards
will apply to proxy statements of investment companies.\127\ Investment
companies currently are required to comply with Exchange Act Schedule
14A when soliciting proxies, including proxies relating to the election
of directors.\128\ Item 22(b)(14)(iv) of Exchange Act Schedule 14A
requires investment companies to disclose the same information about
nominating committees that currently is required for operating
companies by Item 7(d)(2).\129\ As with operating companies, the
enhanced transparency provided by the amendments is intended to provide
security holders with additional, specific information upon which to
evaluate the boards of directors and nominating committees of the
investment companies in which they invest. Commenters generally
supported the application of the proposed
[[Page 69213]]
disclosure requirements to investment companies.\130\
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\127\ See Paragraphs (e) of Item 7 and (b) of Item 22 of
Exchange Act Schedule 14A. The disclosure requirements will apply to
business development companies as well as investment companies
registered under the Investment Company Act of 1940 (``Investment
Company Act),'' except where otherwise noted. Business development
companies are a category of closed-end investment company that are
not registered under the Investment Company Act, but are subject to
certain provisions of that Act. See sections 2(a)(48) and 54-65 of
the Investment Company Act [15 U.S.C. 80a-2(a)(48) and 80a-53 - 64].
\128\ See Investment Company Act Rule 20a-1 [17 CFR 270.20a-1]
(requiring investment companies to comply with Regulation 14A [17
CFR 240.14a-1--240.14a-101]), Schedule 14A, and all other rules and
regulations adopted pursuant to section 14(a) of the Exchange Act
[15 U.S.C. 78n] that would be applicable to a proxy solicitation if
it were made in respect of a security registered pursuant to section
12 of the Exchange Act [15 U.S.C. 78l]).
\129\ Investment companies are subject to Items 7 and 22(b) of
Exchange Act Schedule 14A when soliciting proxies regarding the
election of directors. Currently, in lieu of the disclosure required
by Paragraphs (a)-(d)(2) of Item 7, investment companies must
provide the information required by Paragraph (b) of Item 22. See
Paragraph (e) of Item 7. We are amending Paragraph (e) of Item 7 to
apply the disclosure requirements regarding nominating committees in
Paragraph (d)(2) of Item 7 to investment companies, and deleting the
current disclosure requirement regarding nominating committees in
Paragraph (b)(14)(iv) of Item 22 as duplicative.
\130\ See, e.g., ABA; AFL-CIO; Investment Company Institute
(``ICI'').
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The rules that we are adopting will require disclosure as to
whether or not the members of an investment company's nominating
committee are ``interested persons'' of the company as defined in
section 2(a)(19) of the Investment Company Act,\131\ rather than
independent under the listing standards of a national securities
exchange or national securities association, as in the case of
operating companies.\132\ We are requiring disclosure with respect to
the section 2(a)(19) test for investment companies because that test is
tailored to capture the broad range of affiliations with investment
advisers, principal underwriters, and others that are relevant to
``independence'' in the case of investment companies. Commenters
generally supported the use of this test for independence in the case
of investment companies.\133\ Similarly, with respect to the
instruction that states that in describing a company's process for
determining which communications will be relayed to board members,
collecting and organizing security holder communications need not be
disclosed provided that the company's process is approved by a majority
of the independent directors, we are specifying in the case of
investment companies that the approval required is of a majority of the
directors who are not ``interested persons'' under section
2(a)(19).\134\
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\131\ 15 U.S.C 80a-2(a)(19).
\132\ New Paragraph (b)(14)(ii) of Item 22 of Exchange Act
Schedule 14A.
\133\ See, e.g., ABA; ICI.
\134\ See the Instruction to new Paragraph (h)(2)(ii) of Item 7
of Exchange Act Schedule 14A.
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As with operating companies, investment companies will be required
to state which one or more of certain categories of persons or entities
recommended each nominee who is approved by the nominating committee
for inclusion on the company's proxy card.\135\ However, in recognition
of the fact that investment companies are generally externally managed
by an investment adviser, the categories will include the following:
security holder, director, chief executive officer, other executive
officer, or employee of the investment company's investment adviser,
principal underwriter, or any affiliated person of the investment
adviser or principal underwriter. With respect to the disclosure
requirement regarding nominees recommended by large, long-term security
holders, we are adopting an instruction clarifying that, for a
registered investment company, the percentage of securities held by a
recommending security holder may be determined by reference to the
company's most recent report on Form N-CSR.\136\
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\135\ See new Paragraph (d)(2)(ii)(J) of Item 7 of Exchange Act
Schedule 14A.
\136\ See Instruction 1 to new Paragraph (d)(2)(ii)(L) of Item 7
of Exchange Act Schedule 14A. In the case of business development
companies, which are not required to file reports on Form N-CSR, the
percentage of securities would be determined by reference to the
company's reports on Exchange Act Forms 10-K and 10-Q.
---------------------------------------------------------------------------
Finally, as with operating companies, we are requiring a registered
investment company to provide disclosure regarding material changes to
the procedures for security holder nominations of directors. This
information will be provided in Form N-CSR.\137\
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\137\ See new Item 9 of Form N-CSR. We are renumbering current
Items 9 and 10 as Items 10 and 11, and are adopting a conforming
change to Rule 30a-2 under the Investment Company Act to reflect the
renumbering of Item 10. Because business development companies file
reports on Forms 10-K and 10-Q rather than Form N-CSR, they would
provide the required disclosure on these forms.
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III. Paperwork Reduction Act
A. Background
The amendments to Exchange Act Schedule 14A contain ``collection of
information'' requirements within the meaning of the Paperwork
Reduction Act of 1995.\138\ We published a notice requesting comment on
the collection of information requirements in the proposing release,
and we submitted these requirements to the Office of Management and
Budget for review in accordance with the PRA.\139\ The titles for the
collections of information are:
---------------------------------------------------------------------------
\138\ 44 U.S.C. 3501 et seq.
\139\ 44 U.S.C. 3507(d) and 5 CFR 1320.11.
---------------------------------------------------------------------------
(1) ``Proxy Statements--Regulation 14A (Commission Rules 14a-1
through 14a-15 and Schedule 14A)'' (OMB Control No. 3235-0059);
(2) ``Information Statements--Regulation 14C (Commission Rules 14c-
1 through 14c-7 and Schedule 14C)'' \140\ (OMB Control No. 3235-0057);
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\140\ Exchange Act Schedule 14C requires disclosure of some
items of Exchange Act Schedule 14A. Therefore, while we are not
amending the text of Exchange Act Schedule 14C, the amendments to
Exchange Act Schedule 14A must also be reflected in the PRA burdens
for Exchange Act Schedule 14C.
---------------------------------------------------------------------------
(3) ``Rule 20a-1 under the Investment Company Act of 1940,
Solicitations of Proxies, Consents and Authorizations'' (OMB Control
No. 3235-0158); \141\
---------------------------------------------------------------------------
\141\ Investment Company Act Rule 20a-1 requires registered
investment companies to comply with Exchange Act Regulation 14A or
14C, as applicable. Therefore, the annual responses to Investment
Company Act Rule 20a-1 reflect the number of proxy and information
statements that are filed by registered investment companies.
---------------------------------------------------------------------------
(4) ``Form 10-K'' (OMB Control No. 3235-0063);
(5) ``Form 10-KSB'' (OMB Control No. 3235-0420);
(6) ``Form 10-Q'' (OMB Control No. 3235-0070);
(7) ``Form 10-QSB'' (OMB Control No. 3235-0416);
(8) ``Regulation S-K'' (OMB Control No. 3235-0071);
(9) ``Regulation S-B'' (OMB Control No. 3235-0417); and
(10) ``Form N-CSR'' (OMB Control No. 3235-0570).\142\
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\142\ The changes to the collections of information entitled
``Regulation S-B'' and ``Regulation S-K'' are reflected in our
estimates for Forms 10-Q, 10-QSB, 10-K and 10-KSB. Therefore, we are
not changing the burden estimates for those titles.
---------------------------------------------------------------------------
These regulations, forms and schedules were adopted pursuant to the
Securities Act, Exchange Act and Investment Company Act and set forth
the disclosure requirements for annual and quarterly reports and proxy
and information statements filed by companies to ensure that investors
are informed.\143\ The hours and costs associated with preparing,
filing, and sending these forms and schedules constitute reporting and
cost burdens imposed by each collection of information. An agency may
not conduct or sponsor, and a person is not required to respond to, a
collection of information unless it displays a currently valid control
number.
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\143\ The proxy rules apply to domestic companies with equity
securities registered under section 12 of the Exchange Act and to
investment companies registered under the Investment Company Act.
There is a discrepancy between the number of annual reports by
reporting companies and the number of proxy and information
statements filed with the Commission in any given year. This is
because some companies are subject to reporting requirements by
virtue of section 15(d) of the Exchange Act [15 U.S.C. 78o], and
therefore are not covered by the proxy rules. In addition, companies
that are not listed on a national securities exchange or the Nasdaq
Stock Market may not hold annual meetings and therefore would not be
required to file a proxy or information statement.
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B. Summary of Amendments
Under the amendments, we are expanding the disclosure that
currently is required in company proxy or information statements
regarding the activities of a company's nominating committee. The new
disclosure requirements also will require disclosure in proxy or
information statements regarding the policies and procedures regarding
security holder communications with boards of directors. We are
adopting new requirements for disclosure of company policies with
regard to board members' attendance at annual meetings and the number
of board members who attended the prior year's annual meeting, as well
[[Page 69214]]
as disclosure in periodic reports of any material changes to company
procedures for security holder nominations. Compliance with the
disclosure requirements will be mandatory. There will be no mandatory
retention period for the information disclosed, and responses to the
disclosure requirements will not be kept confidential.
C. Responses to Request for Comments
We requested comment on the PRA analysis contained in the proposing
release. While we received only two comment letters specifically
addressing our PRA analysis, we received several comment letters
responding to the proposals in general.\144\ Although we are adopting
the disclosure amendments substantially as proposed, we have made some
additions and subtractions to the disclosure requirements in the final
rules that will have the net effect of reducing the amount of required
disclosures. In response to comments, we are adding a requirement for
companies to provide updates in periodic reports regarding material
changes to the procedures for security holder nominations. We also are
adding a requirement for companies to describe in proxy and information
statements their policies regarding director attendance at annual
meetings and the number of directors who attended the prior year's
annual meeting. After considering the comments, we are not adopting
certain of the proposed disclosure requirements. For example, the
amendments will not require companies to describe:
---------------------------------------------------------------------------
\144\ See discussion of comments in Part II of this release and
Summary of Comments--S7-14-03.
---------------------------------------------------------------------------
[sbull] The material terms of their nominating committee charters;
[sbull] Any specific standards for the overall structure and
composition of the board of directors;
[sbull] The specific reasons for the nominating committee's
determination not to include a security holder candidate as a nominee;
and
[sbull] Any material action taken by the board of directors as a
result of communications from security holders.
The majority of commenters did not comment on the hours and cost
burdens for companies that will result from the amendments; however, we
received two comment letters that specifically addressed the paperwork
burdens in the proposing release.\145\ One commenter noted that given
the number of unlisted companies, it is difficult to estimate the
compliance burden.\146\ One commenter believed that the proposing
release underestimated the disclosure burden for the proposed rules,
and that the burden could be as high as 12 hours for the first year and
4 hours for following years.\147\
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\145\ See ABA; Stoecklein Law Group (``Stoecklein'').
\146\ See ABA.
\147\ See Stoecklein. Using those numbers as inputs into our
model, the annual incremental disclosure burden over a three-year
time period would be an average of 5 hours per schedule.
Accordingly, using the commenter's assumptions, the annual
incremental paperwork burden for all companies to prepare the
disclosure would be approximately 32,595 hours of company personnel
time and a cost of approximately $3,259,500 for the services of
outside professionals.
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The actual paperwork burden for some companies could be 5 hours per
schedule; however, in devising the estimates we considered a number of
factors. For example, large companies may incur a greater paperwork
burden than small companies, the pre-existing disclosure requirements
may enable companies to streamline the collection of information
necessary for the new disclosure, and the amendments contain more
simplified disclosure requirements from the proposals, which will lower
the paperwork burden. After considering these factors, we do not
believe that 5 hours per schedule is an accurate burden estimate.
However, after considering the comments indicating that we may have
underestimated slightly the burden, we are not reducing our burden
estimates for proxy and information statements, even though the
amendments will reduce the amount of disclosure from that which would
have been required by the proposals.
D. Paperwork Burden Estimates
As a result of the changes described above, the reporting and cost
burden estimates for the collections of information have changed. While
we are not changing the paperwork burden estimates for proxy and
information statements, we are adding collection of information
requirements in periodic reports under the Exchange Act.
1. Proxy and Information Statements
For purposes of the PRA, we estimated the annual incremental
paperwork burden for proxy and information statements under the new
disclosure requirements to be approximately 19,557 hours of company
personnel time and a cost of approximately $1,955,700 for the services
of outside professionals.\148\ That estimate included the time and the
cost of preparing disclosure that has been appropriately reviewed by
executive officers, the disclosure committee, in-house counsel, outside
counsel, and members of the board of directors.\149\ Because the
current rules already require a company to collect and disclose
information about the composition, functions, policies and procedures
of its nominating committee, we factored the pre-existing burdens into
our estimates for the new disclosure requirements.
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\148\ For convenience, the estimated PRA hour burdens have been
rounded to the nearest whole number.
\149\ In connection with other recent rulemakings, we have had
discussions with several private law firms to estimate an hourly
rate of $300 as the cost of outside professionals that assist
companies in preparing these disclosures.
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We derived the paperwork burden estimates by estimating the total
amount of time it will take a company to prepare and review the
disclosure. We estimated that, over a three-year time period, the
annual incremental disclosure burden will be an average of 3 hours per
schedule. This estimate was based on two assumptions:
[sbull] Companies spend a greater amount of time preparing the
disclosure in year one and will become more efficient in preparing the
disclosure over the following two years; \150\ and
---------------------------------------------------------------------------
\150\ We estimated that it will take 6 hours to prepare the
disclosure in year one, 3.13 hours in year two, and 2.03 hours in
year three.
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[sbull] Not all proxy and information statements involve action to
be taken with respect to the election of directors, and therefore will
not require companies to provide the disclosure.\151\
---------------------------------------------------------------------------
\151\ We estimate that 20% of all proxy and information
statements do not include disclosure about directors, and therefore
would not include the disclosure required by the amendments. This
estimate is based on the proportion of preliminary proxy statements
to definitive proxy statements filed in our 2002 fiscal year (2,555/
8,692=29%), which has been adjusted downward by 9% to reflect the
fact that some preliminary proxy statements contain disclosure about
directors. This estimate is based on the rationale that preliminary
proxy statements are less likely to contain disclosure about
directors because registrants do not file preliminary proxy
statements for security holder meetings where the matters to be
acted upon involve only the election of directors or other specified
matters. See Exchange Act Rule 14a-6 [17 CFR 240.14a-6].
---------------------------------------------------------------------------
This estimate represents the average burden for all companies, both
large and small, that are subject to the proxy rules. We expect that
the disclosure burden could be greater for larger companies and lower
for smaller companies. Table 1, below, illustrates the incremental
annual compliance burden of the collection of information in hours and
in cost for proxy and information statements under the Exchange Act and
Investment Company Act.
[[Page 69215]]
Table 1: Calculation of Incremental PRA Burden Estimates
--------------------------------------------------------------------------------------------------------------------------------------------------------
Annual Incremental Incremental 75% company 25% professional $300 prof. cost
responses hours/form burden -----------------------------------------------------------
-----------------------------------------------
(A) (B) (C)=(A) x (B) (D)=(C) x 0.75 (E)=(C) x 0.25 (F)=(E) x $300
--------------------------------------------------------------------------------------------------------------------------------------------------------
SCH 14A...................................... 7,188 3.00 21,564.00 16,173 5,391.00 $1,617,300.00
SCH 14C...................................... 446 3.00 1,338.00 1,004 334.50 100,350.00
Rule 20a-1................................... 1,058 3.00 3,174.00 2,381 793.50 238,050.00
Total.................................... 8,692 .............. ................ 19,557 .................. 1,955,700.00
--------------------------------------------------------------------------------------------------------------------------------------------------------
2. Periodic Reports
For purposes of the PRA, we estimate the annual incremental
paperwork burden for Exchange Act periodic reports under the new
disclosure requirements to be approximately 1,311 hours of company
personnel time and a cost of approximately $131,100 for the services of
outside professionals. We estimate that, over a three-year time period,
the annual incremental disclosure burden would be an average of 0.01
hours per Form 10-K and Form 10-KSB, 0.04 hours per Form 10-Q and Form
10-QSB, and 0.03 hours per Form N-CSR.\152\ This estimate was based on
the following two assumptions:
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\152\ For example, the average burden per form for Form 10-K is
calculated as follows: [(8,484 Form 10-Ks x 5% frequency of
disclosure x 0.25 hours)/8,484 Form 10-Ks] = .01. The calculation
for Form 10-Q is as follows: [(23,743 Form 10-Qs x 15% frequency of
disclosure x 0.25 hours)/23,743 Form 10-Qs] = .04. The calculation
for Form N-CSR is as follows: [(7,400 Form N-CSRs x 10% frequency of
disclosure x 0.25 hours)/7,400 Form N-CSRs] = .03. The discrepancy
in quotients is due to the fact that operating companies report on a
quarterly basis, while registered management investment companies
report on a semi-annual basis.
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[sbull] Each year, 20% of reporting companies will change
materially the procedures by which security holders may recommend
nominees to the board of directors; \153\ and
---------------------------------------------------------------------------
\153\ Under our assumptions, 5% of operating companies will
provide the disclosure each quarter (for a total of 20%), while 10%
of registered management investment companies will provide the
information semi-annually (for a total of 20%).
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[sbull] It will take .25 hours to prepare the disclosure regarding
material changes to security holder nomination procedures.
Table 2, below, illustrates the incremental annual compliance
burden of the collection of information in hours and in cost for
periodic reports under the Exchange Act and Investment Company Act.
Table 2: Calculation of Incremental PRA Burden Estimates
--------------------------------------------------------------------------------------------------------------------------------------------------------
Annual Incremental Incremental 75% company 25% professional $300 prof. cost
responses hours/form burden -----------------------------------------------------------
-----------------------------------------------
(A) (B) (C)=(A) x (B) (D)=(C) x 0.75 (E)=(C) x 0.25 (F)=(E) x $300
--------------------------------------------------------------------------------------------------------------------------------------------------------
10-K......................................... 8,484 0.01 84.84 64 21.21 $6,000.00
10-KSB....................................... 3,820 0.01 38.20 29 9.55 3,000.00
10-Q......................................... 23,743 0.04 949.72 712 237.43 71,000.00
10-QSB....................................... 11,299 0.04 451.96 339 112.99 34,000.00
N-CSR........................................ 7,400 0.03 222.00 167 55.50 17,000.00
Total.................................... ........... .............. ................ 1,311 .................. $131,000.00
--------------------------------------------------------------------------------------------------------------------------------------------------------
E. Request for Comment
We request comment in order to (a) evaluate whether the collections
of information are necessary for the proper performance of our
functions, including whether the information will have practical
utility, (b) evaluate the accuracy of our estimate of the burden of the
collections of information, (c) determine whether there are ways to
enhance the quality, utility, and clarity of the information to be
collected, and (d) evaluate whether there are ways to minimize the
burden of the collections of information on those who respond,
including through the use of automated collection techniques or other
forms of information technology.\154\
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\154\ Comments are requested pursuant to 44 U.S.C.
3506(c)(2)(B).
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Any member of the public may direct to us any comments concerning
the accuracy of this burden estimate and any suggestions for reducing
this burden. Persons who desire to submit comments on the collection of
information requirements should direct their comments to the OMB,
Attention: Desk Officer for the Securities and Exchange Commission,
Office of Information and Regulatory Affairs, Washington, DC 20503, and
send a copy of the comments to Jonathan G. Katz, Secretary, Securities
and Exchange Commission, 450 Fifth Street, NW., Washington, DC 20549,
with reference to File No. S7-14-03. Requests for materials submitted
to the OMB by us with regard to this collection of information should
be in writing, refer to File No. S7-14-03, and be submitted to the
Securities and Exchange Commission, Office of Filings and Information
Services, Branch of Records Management, 450 Fifth Street, NW.,
Washington, DC 20549. Because the OMB is required to make a decision
concerning the collections of information between 30 and 60 days after
publication, your comments are best assured of having their full effect
if the OMB receives them within 30 days of publication.
IV. Cost-Benefit Analysis
A. Background
On August 8, 2003 we proposed new disclosure requirements intended
to increase the transparency of nominating committee functions and the
processes by which security holders may communicate with boards of
directors of the companies in which they invest.\155\ These proposals
followed substantially the recommendations made by the Division of
Corporation Finance in a staff report dated July 15, 2003.\156\ In
[[Page 69216]]
preparing this report and developing its recommendations, the Division
considered the input of members of the investing, business, legal, and
academic communities.\157\
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\155\ See Release No. 34-48301 (August 8, 2003).
\156\ See Staff Report: Review of the Proxy Process Regarding
the Nomination and Election of Directors, Division of Corporation
Finance (July 15, 2003). The Division's Staff Report, detailing the
results of its review of the proxy process related to the nomination
and election of directors, can be found on our Web site at http://www.sec.gov.
\157\ On May 1, 2003, the Commission solicited public views on
the Division's review of the proxy rules relating to the nomination
and election of directors. See Release No. 34-47778 (May 1, 2003).
In addition to receiving written comments, the Division spoke with a
number of interested parties representing security holders, the
business community, and the legal community. Each of the comment
letters received, memoranda documenting the Division's meetings, and
a summary of the comments are included on the Commission's Web site,
http://www.sec.gov, in comment file number S7-10-03. Summary of
Comments in Response to the Commission's Solicitation of Public
Views Regarding Possible Changes to the Proxy Rules (July 15, 2003).
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The Commission is adopting the amendments substantially as
proposed. The disclosures are designed to build upon existing
disclosure requirements to elicit a more detailed discussion of the
policies, procedures, and activities of nominating committees as well
as the means by which security holders can communicate with boards of
directors. We recognize that the amendments will create costs and
benefits to the economy. We are sensitive to the costs and benefits
imposed by our rules, and we have identified certain costs and benefits
of the amendments.
B. Benefits
The primary benefit of the amendments will be to assist security
holders in better understanding the policies and procedures that
companies maintain to nominate directors and to enable security holders
to communicate with directors. In the proposing release, we requested
comment on the potential benefits of the proposed rules and have
considered the responses. Two commenters in support of the proposals
indicated that the rules would provide useful information with little
cost.\158\ Other commenters believed that the proposed rules would
provide little or no benefit.\159\ Commenters also suggested that the
proposed rules would not provide meaningful disclosure \160\ or that
the disclosure would be boilerplate.\161\
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\158\ See AFL-CIO; IBT.
\159\ See, e.g., CCS1; Eliot Cohen; Phillip Goldstein,
Opportunity Partners L.P., Kimball & Winthrop, Inc. (``Goldstein'');
James McRitchie, Editor, CorpGov.net and PERSWatch.net, Letter dated
August 17, 2003 (``McRitchie1'').
\160\ See, e.g., J. Robert Brown, Jr., Professor, University of
Denver College of Law (``Brown''); BRT; CCS1; Goldstein; Stoecklein.
\161\ See, e.g., ACB; Brown; Granary; Letter B; McRitchie1;
Nappier; Stoecklein; Valero.
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To address the commenters' concerns, the amendments are drafted in
a manner designed to avoid boilerplate and to elicit meaningful
disclosure. The more precise disclosure requirements will promote more
transparent disclosure among a cross-section of public companies
because they will have greater certainty as to the required disclosure.
In addition, increasing the amount and quality of information available
to investors concerning board policies and procedures also may improve
investor confidence because investors may be able to identify the
degree to which companies are responsive to security holder concerns.
One commenter noted that the proposed disclosure would provide
potential investors and potential directors with the ability to compare
companies before they choose to invest or agree to be considered for
directorship.\162\ By providing greater transparency of board policies,
we anticipate that the new requirements will allow investors to make
more informed choices when deciding how to invest.
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\162\ See Eleanor Bloxham, President, The Value Alliance and
Corporate Governance Alliance.
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To the extent that security holders would prefer to invest in
companies with boards that maintain policies and procedures that
provide greater security holder oversight, companies may have
incentives to adopt more meaningful policies and procedures regarding
director nominations and security holder communications. The amendments
also may encourage companies to consider their existing policies in
relation to policies adopted by other companies and could facilitate
competition among companies to adopt policies that reduce costs to
security holders. For example, if security holder board nominees are
given adequate consideration through the nomination process, a security
holder may choose to submit its candidate to the nominating committee
rather than incur the expense of soliciting proxies to support the
nominee. Moreover, disclosure of the manner in which security holders
can send communications to the board may encourage a less costly
communications process for providing recommendations to the board than
the current process embodied in Exchange Act Rule 14a-8.
C. Costs
The amendments will impose new disclosure requirements on companies
subject to the proxy rules.\163\ The new requirements are designed to
build upon existing disclosure requirements regarding the composition,
functions, policies, and procedures of company nominating committees.
Thus, the task of complying with the new disclosure requirements could
be performed by the same person or group of persons responsible for
compliance under the current rules. One commenter believed that the
costs would be different on a company-by-company basis and that the
disclosure requirements would not result in substantial additional
costs for companies that already disclose and have a security holder
communications process.\164\ For companies that do not have a system in
place, the commenter believed that the proposal would burden company
resources by requiring a person to administer the communications
system.\165\ One commenter believed that both the cost of submitting
candidates to the nominating committee and the probable benefits are
minimal.\166\ This commenter noted that, even if a nominating committee
were composed entirely of independent directors, it would not likely
nominate a candidate recommended by security holders.\167\
---------------------------------------------------------------------------
\163\ The proxy rules apply to domestic companies with equity
securities registered under section 12 of the Exchange Act and to
investment companies registered under the Investment Company Act.
\164\ See ABA.
\165\ See id.
\166\ See Robert C. Pozen.
\167\ See id.
---------------------------------------------------------------------------
For purposes of the PRA, we estimate the annual incremental
paperwork burden for all companies to prepare the new disclosure to be
approximately 20,868 hours of company personnel time (2.4 hours per
company),\168\ which translates into an estimated cost of $1,774,000
($204 per company).\169\ We also estimate a cost of approximately
$2,086,700 for the services of outside professionals ($240 per
company).\170\ The figures above include the estimated burdens for
investment companies. For investment companies, we estimate the
incremental burden to be 2,548 hours of company personnel time (2.4
hours per company),\171\ which translates into an estimated cost of
$216,580 ($204 per company). We also estimate a cost for investment
companies of approximately $255,050 for the services of outside
professionals ($240 per company).\172\
[[Page 69217]]
On balance, we believe these estimates are reasonable.
---------------------------------------------------------------------------
\168\ 20,868 hours/ 8,692 companies = 2.4 hours per company.
\169\ We estimate the average hourly cost of in-house personnel
to be $85. This cost estimate is based on data obtained from The SIA
Report on Management and Professional Earnings in the Securities
Industry (October 2001).
\170\ $2,086,700/8,692 companies = $240 per company. In
connection with other recent rulemakings, we have had discussions
with several private law firms to estimate an hourly rate of $300 as
the cost of outside professionals that assist companies in preparing
these disclosures.
\171\ 2,548 hours/1,058 companies = 2.4 hours per company.
\172\ $255,050/1,058 companies = $240 per company.
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To the extent that the new disclosures influence corporate
behavior, however, the costs would extend beyond a disclosure burden.
For example, companies may incur additional costs in instituting more
responsive policies and procedures regarding director nominations and
security holder communications. We have not included these costs in our
analysis of the additional disclosure requirement, but have sought
comment regarding such costs and related matters. After considering the
comments, which are summarized below, we continue to believe that the
amendments provide useful information to investors. The amendments do
not require a company to adopt any particular policies and procedures.
To the extent that a company voluntarily incurs the expense of adopting
more responsive board policies, we believe that those costs are
justified by the benefits of such policies.
In response to our request for comment, one commenter noted that
the initial cost of implementing and maintaining procedures would be
high.\173\ This commenter identified the indirect cost of the increase
in the amount of time that must be spent monitoring corporate
activities, which may detract from effective management of the
company.\174\ The commenter identified costs such as legal fees
associated with structuring and reviewing policies, the cost of
management time related to structuring policies, fees paid to
accountants for managerial and financial statement creation and review,
opportunity costs related to missed business opportunities, and other
costs.\175\
---------------------------------------------------------------------------
\173\ See CIR.
\174\ See id.
\175\ See id.
---------------------------------------------------------------------------
One commenter believed that the rules could be ``extremely costly,
time-consuming and potentially disruptive. ''\176\ This commenter
explained that the rules could increase significantly the number of
communications that are sent to board members and the more corporate
directors must divide their time, the less effectively they will
discharge their competing functions.\177\ Two commenters believed that
the disclosure requirements would increase the burden on boards and
discourage service.\178\
---------------------------------------------------------------------------
\176\ See Foley.
\177\ See id.
\178\ See CIR; Foley.
---------------------------------------------------------------------------
D. Small Business Issuers
Although the new rules apply to small business issuers, we do not
anticipate any disproportionate impact on small business issuers. Like
other issuers, small business issuers should incur relatively minor
compliance costs to fulfill their disclosure obligations, and should
find it unnecessary to hire extra personnel. Several commenters
supported requiring small companies to provide the disclosure.\179\
---------------------------------------------------------------------------
\179\ See CalPERS; CII; Granary; Letter B; McRitchie2; SERS;
SIF; Trillium.
---------------------------------------------------------------------------
Other commenters recommended granting outright relief to small
businesses or deferring application of the rules to small businesses
until the Commission evaluates the impact of the rules.\180\ One
commenter suggested that small companies that have established
procedures could comply voluntarily.\181\ These commenters sought
relief for small businesses for several reasons. One commenter
recommended that we not apply the rules to small businesses because it
will ``waste the money of small publicly held companies, create
confusion * * * and provide no useful service to security holders.
''\182\ This commenter noted that there does not appear to be a
significant number of instances where major security holders of small
publicly held companies were unable to communicate with boards of
directors, particularly because major security holders are in
management and/or on the board.\183\ Further, this commenter was of the
view that, because major unaffiliated security holders potentially can
impact the trading price of small business securities, management and
the board ``take the views of major unaffiliated security holders very
seriously. ''\184\ This commenter also noted that the board and
security holders will not agree on every aspect of running the company
and it is not clear why small businesses need to set up a procedure for
every communication with security holders.\185\
---------------------------------------------------------------------------
\180\ See ABA; Archer; Foley; Stoecklein.
\181\ See ABA.
\182\ See Archer.
\183\ See id.
\184\ See id.
\185\ See id.
---------------------------------------------------------------------------
One commenter noted that increasing the incremental cost to small
businesses by a certain number of hours and assuming that the staff is
available already is flawed.\186\ One commenter believed that the
benefits of increased disclosure would not outweigh a small business
issuer's need to reduce expenses.\187\ This commenter noted that, as
regulatory requirements increase, small businesses will have to hire
additional staff or reduce the number of hours spent managing the
company.\188\
---------------------------------------------------------------------------
\186\ See id.
\187\ See Stoecklein.
\188\ See id.
---------------------------------------------------------------------------
After reviewing these comments, we are convinced that issues
relating to corporate accountability and security holder rights affect
small companies as much as they affect large companies. The concerns
raised by the commenters addressed primarily the cost of establishing
and maintaining new board policies and procedures--not the cost of the
disclosure required by the amendments. A small business issuer is not
required to adopt new policies and procedures under the amendments.
Thus, we do not believe that applying the rules to small business
issuers would be inconsistent with the policies underlying the small
business issuer disclosure system.
V. Consideration of Burden on Competition and Promotion of Efficiency,
Competition, and Capital Formation
Section 23(a)(2) of the Exchange Act \189\ requires us, when
adopting rules under the Exchange Act, to consider the impact that any
new rule would have on competition. In addition, section 23(a)(2)
prohibits us from adopting any rule that would impose a burden on
competition not necessary or appropriate in furtherance of the purposes
of the Exchange Act. The amendments are intended to make information
about the functions of a company's nominating committee of the board of
directors, as well as the ability of security holders to communicate
with the board of directors, more transparent to investors. We
anticipate that the new rules will provide increased information upon
which to evaluate the functioning of boards of directors and make
investment decisions. The rules may affect competition because they
will allow companies to consider their existing policies in relation to
policies adopted by other companies. As a result, companies may compete
to adopt policies that effectively balance security holder and director
interests and, therefore, attract investors.
---------------------------------------------------------------------------
\189\ 15 U.S.C. 78w(a)(2).
---------------------------------------------------------------------------
We have identified one possible area where the rules could
potentially place a burden on competition. The new disclosure will
enable investors to compare companies' policies and procedures for
director nominations and communications with directors. To the
[[Page 69218]]
extent that investors may place a premium on a company that provides
security holders with favorable director nomination and communication
procedures, a company will be at a disadvantage to other companies that
maintain more favorable procedures.
Section 2(b) of the Securities Act,\190\ section 3(f) of the
Exchange Act \191\ and section 2(c) of the Investment Company Act \192\
require us, when engaging in rulemaking that requires us to consider or
determine whether an action is necessary or appropriate in the public
interest, to consider, in addition to the protection of investors,
whether the action will promote efficiency, competition, and capital
formation. We believe the disclosure will make information about the
operation of a company's director nomination process more transparent.
In addition, disclosure regarding the means by which security holders
may communicate directly with a company's board of directors may
increase security holder involvement in the companies in which they
invest. As a result, we believe that investors may be able to evaluate
a company's board of directors more effectively and make more informed
investment decisions. We believe that, as a consequence of these
developments, there may be some positive impact on the efficiency of
markets and capital formation. The possibility of these effects, their
magnitude if they were to occur, and the extent to which they will be
offset by the costs of the new rules, are difficult to quantify.
---------------------------------------------------------------------------
\190\ 15 U.S.C. 77b(b).
\191\ 15 U.S.C. 78c(f).
\192\ 15 U.S.C. 80a-2(c).
---------------------------------------------------------------------------
We requested comment on these matters in the proposing release. We
received no comments in response to these requests.
VI. Final Regulatory Flexibility Analysis
This Final Regulatory Flexibility Analysis has been prepared in
accordance with the Regulatory Flexibility Act.\193\ This FRFA involves
amendments to Items 7 and 22 of Exchange Act Schedule 14A, Item 5 of
Exchange Act Forms 10-Q and 10-QSB, Form N-CSR, and Item 401 of
Regulations S-B and S-K. The amendments will expand the disclosure that
currently is required in company filings regarding the functions of a
company's nominating committee. In addition, the amendments will
require disclosure regarding the policies and procedures regarding
security holder communications with boards of directors. An Initial
Regulatory Flexibility Analysis was prepared in accordance with the
Regulatory Flexibility Act \194\ in conjunction with the proposing
release. The proposing release included the IRFA and solicited comments
on it.
---------------------------------------------------------------------------
\193\ 5 U.S.C. 601.
\194\ 5 U.S.C. 603.
---------------------------------------------------------------------------
A. Need for the Amendments
The amendments are designed to address the growing concern among
security holders over the accountability of corporate directors and the
lack of sufficient security holder input into decisions made by the
boards of directors of the companies in which they invest. Currently,
companies must state whether they have a nominating committee and, if
so, must identify the members of the nominating committee, state the
number of committee meetings held, and briefly describe the functions
performed by such committees.\195\ In addition, if a company has a
nominating or similar committee, it must state whether the committee
considers nominees recommended by security holders and, if so, must
describe how security holders may submit recommended nominees.\196\ The
amendments are designed to build upon existing disclosure requirements
to elicit a more detailed discussion of the policies and procedures of
nominating committees as well as the means by which security holders
can communicate with boards of directors.
---------------------------------------------------------------------------
\195\ See Paragraph (d)(1) of Item 7 of Exchange Act Schedule
14A.
\196\ See Paragraph (d)(2) of Item 7 of Exchange Act Schedule
14A, prior to adoption of these amendments.
---------------------------------------------------------------------------
The amended disclosure requirements are designed to enhance
transparency of the policies of boards of directors, with the goal of
providing security holders a better understanding of the functions and
activities of the boards of the companies in which they invest. For
example, the amendments relating to nominating committees will require
disclosure about the source of director candidates and the level of
scrutiny accorded to each candidate. The amendments relating to
security holder communications with directors may strengthen the
association among security holders and directors by providing security
holders with a better understanding of the means by which they may
communicate with board members. For example, the amended disclosure
will inform security holders of the manner in which to send
communications to the board. Moreover, the amendments aim to enable
investors to better evaluate a company's responsiveness to security
holder issues and inquiries by illuminating the degree of director
involvement with security holder concerns.
B. Significant Issues Raised by Public Comment
The Initial Regulatory Flexibility Analysis appeared in the
proposing release. We requested comment on any aspect of the IRFA,
including the number of small entities that would be affected by the
proposals, the nature of the impact, how to quantify the number of
small entities that would be affected, and how to quantify the impact
of the proposals. While we did not receive any comments that responded
directly to the IRFA, we did receive comments addressing the impact on
small business issuers. Several commenters supported requiring small
companies to provide the disclosure.\197\ In that regard, commenters
stated, ``enhanced disclosure would be of great value to all types of
investors.''\198\ Other commenters recommended granting outright relief
to small businesses or deferring application of the rules to small
businesses until the Commission evaluates the impact of the rules.\199\
One commenter suggested that small companies that have established
procedures could comply voluntarily.\200\
---------------------------------------------------------------------------
\197\ See CalPERS; CII; Granary; Letter B; McRitchie2; SERS;
SIF; Trillium.
\198\ See Letter B; McRitchie2.
\199\ See ABA; Archer; Foley; Stoecklein.
\200\ See ABA.
---------------------------------------------------------------------------
Those commenters who sought relief for small businesses did so for
several reasons. One commenter recommended that we not apply the rules
to small businesses because it will ``waste the money of small publicly
held companies, create confusion * * * and provide no useful service to
security holders.''\201\ This commenter noted that there does not
appear to be a significant number of instances where major security
holders of small publicly held companies were unable to communicate
with boards of directors, particularly because major security holders
are in management and/or on the board.\202\ Further, this commenter was
of the view that, because major unaffiliated security holders
potentially can impact the trading price of small business securities,
management and the board ``take the views of major unaffiliated
security holders very seriously.''\203\ This commenter also noted that
the board and security holders will not agree on every aspect of
running the company and it is not clear why small businesses
[[Page 69219]]
need to set up a procedure for every communication with security
holders.\204\
---------------------------------------------------------------------------
\201\ See Archer.
\202\ See id.
\203\ See id.
\204\ See id.
---------------------------------------------------------------------------
One commenter noted that increasing the incremental cost to small
businesses by a certain number of hours and assuming that the staff is
available already is flawed.\205\ One commenter believed that the
benefits of increased disclosure would not outweigh a small business
issuer's need to reduce expenses.\206\ This commenter noted that, as
regulatory requirements increase, small businesses will have to hire
additional staff or reduce the number of hours spent managing the
company.\207\
---------------------------------------------------------------------------
\205\ See id.
\206\ See Stoecklein.
\207\ See id.
---------------------------------------------------------------------------
After reviewing these comments, we are convinced that issues
relating to corporate accountability and security holder rights affect
small companies as much as they affect large companies. The concerns
raised by the commenters addressed primarily the cost of establishing
and maintaining new board policies and procedures `` not the cost of
the disclosure required by the amendments. A small business issuer is
not required to adopt new policies and procedures under the amendments.
Thus, we do not believe that applying the rules to small business
issuers would be inconsistent with the policies underlying the small
business issuer disclosure system. Like other issuers, small business
issuers should incur relatively minor compliance costs to fulfill their
disclosure obligations, and should find it unnecessary to hire extra
personnel. To the extent small businesses decide to adopt such
policies, they are likely to do so because they believe the benefits
justify the costs.
C. Small Entities Subject to the Amendments
The amendments will affect companies that are small entities.
Exchange Act Rule 0-10(a) \208\ defines a company, other than an
investment company, to be a ``small business'' or ``small
organization'' for purposes of the Regulatory Flexibility Act if it had
total assets of $5 million or less on the last day of its most recent
fiscal year. An investment company is considered to be a ``small
business'' if it, together with other investment companies in the same
group of related investment companies, has net assets of $50 million or
less as of the end of its most recent fiscal year.\209\ As discussed
below, we believe that the amendments will affect approximately 805, or
32%, of the small entities that are operating companies. We believe
that the amendments also will affect approximately 50 of the small
entities that are investment companies.
---------------------------------------------------------------------------
\208\ 17 CFR 240.0-10(a).
\209\ Id.
---------------------------------------------------------------------------
The Commission received 8,692 separate proxy and information
statements in its 2002 fiscal year. We estimate that 6,954, or 80%, of
those filings involved the election of directors, and therefore will be
affected by the new disclosure requirements.\210\ Furthermore, we
estimate that 5,257 companies are ``listed issuers'' (as defined in
Exchange Act Rule 10A-3) that are subject to the proxy rules.\211\
Because the relevant listing standards of national securities exchanges
and Nasdaq require that listed issuers hold annual meetings, and state
law provides for the election of directors at annual meetings, we
estimate that at least 5,257 proxy and information statements involve
elections of directors.\212\ Of these proxy and information statements,
less than 225 relate to operating companies and less than 25 relate to
investment companies that constitute ``small entities.'' \213\
Therefore, we deduced that 1,697 proxy and information statements
relate to the election of directors for companies that are not ``listed
issuers.''\214\ We estimate that approximately 580 of the proxy and
information statements for operating companies that are not ``listed
issuers'' will be filed by small entities affected by the new
rules.\215\ We also estimate that approximately 25 of the proxy and
information statements for investment companies that are not ``listed
issuers'' will be filed by small entities affected by the new
disclosure requirements. Therefore, we estimate that the amendments
will, in total, affect approximately 855 small entities.\216\
---------------------------------------------------------------------------
\210\ We estimate that 20% of all proxy and information
statements do not include disclosure about directors, and therefore
would not include the disclosure required by the amendments. This
estimate is based on the proportion of preliminary proxy statements
to definitive proxy statements filed in our 2002 fiscal year (2,555/
8,692=29%), which has been adjusted downward by 9% to reflect the
fact that some preliminary proxy statements contain disclosure about
directors. This estimate is based on the rationale that preliminary
proxy statements are less likely to contain disclosure about
directors because registrants do not file preliminary proxy
statements for security holder meetings where the matters to be
acted upon involve only the election of directors or other specified
matters. See Exchange Act Rule 14a-6.
\211\ We derived this estimate from the database provided by the
Center for Research in Securities Prices at the University of
Chicago, the Standard & Poors Research Insight Compustat Database
(``Compustat''), and SEC Form 1392.
\212\ See, e.g., Rule 302.00 of NYSE listing standards and Rule
4350(e) of Nasdaq listing standards.
\213\ Data obtained from Compustat indicates that there are less
than 225 listed operating companies that are small entities.
Information compiled by the Commission staff indicates that there
are less than 25 listed investment companies that are small
entities.
\214\ 6,536-5,257=1,697.
\215\ This estimate is based on the proportion of small entities
that are reporting companies (2,500) to the total domestic companies
quoted on the OTCBB or the Pink Sheets (7,317). We derived the
latter figure from individuals within the organization called http://www.pinksheets.com and from the OTCBB Web site at http://www.otcbb.com.
\216\ The calculation for the total number of small entities is
as follows: 225 listed operating companies + 25 listed investment
companies + 580 non-listed operating companies + 25 non-listed
investment companies = 855.
---------------------------------------------------------------------------
We requested comment on the number of small entities that would be
impacted by our proposals, including any available empirical data. We
received no responses to this request.
D. Reporting, Recordkeeping, and Other Compliance Requirements
The amendments are expected to result in some additional costs to
comply with the disclosure requirements. Because the current rules
already require a company to collect and disclose information about the
composition, functions, policies and procedures of its nominating
committee, the disclosure should not impose significant new costs for
the collection of information. Thus, the task of complying with the
nominating committee disclosure could be performed by the same person
or group of persons responsible for compliance under the current rules
at a minimal incremental cost. Moreover, if a small entity were to
maintain a process for security holders to send communications to its
board of directors, company personnel would be aware of such procedures
and the disclosure burden also would be minimal. If a small entity does
not maintain such a process, then the disclosure will consist of a
statement that the board does not have a communications process and a
statement of the specific basis for the view of the board of directors
that it is appropriate for the company not to have such a
communications process.
To the extent that the new rules influence corporate behavior,
however, the costs will extend beyond a disclosure burden. For example,
companies may incur additional costs in instituting more responsive
policies and procedures regarding director nominations and security
holder communications. The new disclosure
[[Page 69220]]
requirements, however, do not mandate any specific procedures.
For purposes of the PRA, we estimated that it will take an average
of approximately 3 hours per year for companies, large and small, to
comply with the new disclosure requirements. We estimated that 75% of
the compliance burden will be carried by the company internally and
that 25% of the compliance burden will be carried by outside
professionals retained by the company. Thus, we estimate the annual
incremental paperwork burden for a company subject to the proxy rules
will be 2.4 hours per company, which translates into an estimated cost
of $204 per company,\217\ and a cost of approximately $240 per company
for the services of outside professionals.\218\ A cost of $444 per
small entity may not, however, constitute a significant economic
impact. That conclusion is based on our analysis of 1,245 small
entities available on the Compustat database. We found that the average
revenue of those small entities is $2.07 million per company.
Therefore, on average, the estimated $444 compliance expense will
constitute approximately .02% of a small entity's revenues, based on
the Compustat data.
---------------------------------------------------------------------------
\217\ We estimate the average hourly cost of in-house personnel
to be $85. This cost estimate is based on data obtained from The SIA
Report on Management and Professional Earnings in the Securities
Industry (October 2001).
\218\ In connection with other recent rulemakings, we have had
discussions with several private law firms to estimate an hourly
rate of $300 as the cost of outside professionals that assist
companies in preparing these disclosures.
---------------------------------------------------------------------------
E. Agency Action To Minimize Effect on Small Entities
The Regulatory Flexibility Act directs the Commission to consider
significant alternatives that would accomplish the stated objective,
while minimizing any significant adverse impact on small entities. In
connection with the proposals, we considered the following
alternatives:
(a) The establishment of differing compliance or reporting
requirements or timetables that take into account the resources
available to small entities;
(b) The clarification, consolidation, or simplification of
disclosure for small entities;
(c) The use of performance rather than design standards; and
(d) An exemption for small entities from coverage under the
proposals.
The Commission has considered a variety of reforms to achieve its
regulatory objectives. As one possible approach, we considered
requiring companies to include the security holder's proxy card and
materials in the company mailing. Alternatively, we considered amending
or reinterpreting Exchange Act Rule 14a-8(i)(8) \219\ to allow security
holder proposals requesting access to the company's proxy card for the
purpose of making nominations. We believe that the current disclosure
requirements are the most cost-effective approach to address specific
concerns related to small entities because the proposals build on
existing disclosure requirements.
---------------------------------------------------------------------------
\219\ 17 CFR 240.14a-8(i)(8).
---------------------------------------------------------------------------
We have drafted the new disclosure rules to require clear and
straightforward disclosure of a company's policies and procedures
regarding the nomination of directors and security holder
communications. Separate disclosure requirements for small entities
would not yield the disclosure that we believe to be necessary to
achieve our objectives. In addition, the informational needs of
investors in small entities are typically as great as the needs of
investors in larger companies. Therefore, it did not seem appropriate
to develop separate requirements for small entities involving
clarification, consolidation, or simplification of the disclosure.
We have used design rather than performance standards in connection
with the new requirements for two reasons. First, based on our past
experience, we believe the disclosure will be more useful to investors
if there are enumerated informational requirements. The mandated
disclosures may be likely to result in a more focused and comprehensive
discussion. Second, more precise disclosure requirements will promote
more consistent disclosure among a cross-section of public companies
because they will have greater certainty as to the required disclosure.
In addition, more precise disclosure requirements will improve our
ability to enforce the rules. Therefore, adding to the disclosure
requirements in existing proxy and information statements appears to be
the most effective method of eliciting the disclosure.
VII. Statutory Basis and Text of Amendments
The amendments are being adopted pursuant to sections 2,\220\
6,\221\ 7,\222\ 10,\223\ and 19 \224\ of the Securities Act, sections
3(b),\225\ 12, 13,\226\ 14, 15, 23(a)\227\ and 36 \228\ of the Exchange
Act, as amended, and sections 8,\229\ 20(a),\230\ 30,\231\ 31,\232\ and
38 \233\ of the Investment Company Act, as amended.
---------------------------------------------------------------------------
\220\ 15 U.S.C. 77b.
\221\ 15 U.S.C. 77f.
\222\ 15 U.S.C. 77g.
\223\ 15 U.S.C. 77j.
\224\ 15 U.S.C. 77s.
\225\ 15 U.S.C. 78c(b).
\226\ 15 U.S.C. 78m.
\227\ 15 U.S.C. 78w(a).
\228\ 15 U.S.C. 78mm.
\229\ 15 U.S.C. 80a-8.
\230\ 15 U.S.C. 80a-20(a).
\231\ 15 U.S.C. 80a-29.
\232\ 15 U.S.C. 80a-30.
\233\ 15 U.S.C. 80a-37.
---------------------------------------------------------------------------
List of Subjects
17 CFR Parts 228, 229, 240 and 249
Reporting and recordkeeping requirements, Securities.
17 CFR Parts 270 and 274
Investment companies, Reporting and recordkeeping requirements,
Securities.
Text of the Amendments
0
In accordance with the foregoing, the Securities and Exchange
Commission amends Title 17, chapter II of the Code of Federal
Regulations as follows:
PART 228--INTEGRATED DISCLOSURE SYSTEM FOR SMALL BUSINESS ISSUERS
0
1. The general authority citation for Part 228 is revised to read as
follows:
Authority: 15 U.S.C. 77e, 77f, 77g, 77h, 77j, 77k, 77s, 77z-2,
77z-3, 77aa(25), 77aa(26), 77ddd, 77eee, 77ggg, 77hhh, 77jjj, 77nnn,
77sss, 78l, 78m, 78n, 78o, 78u-5, 78w, 78ll, 78mm, 80a-8, 80a-29,
80a-30, 80a-37, 80b-11, and 7201 et seq.; and 18 U.S.C. 1350.
* * * * *
0
2. Amend Sec. 228.401 by adding paragraph (g) to read as follows:
Sec. 228.401 (Item 401) Directors, Executive Officers, Promoters and
Control Persons.
* * * * *
(g) Describe any material changes to the procedures by which
security holders may recommend nominees to the registrant's board of
directors, where those changes were implemented after the registrant
last provided disclosure in response to the requirements of Item
7(d)(2)(ii)(G) of Schedule 14A (Sec. 240.14a-101), or this Item.
Instructions to paragraph (g) of Item 401:
1. The disclosure required in paragraph (g) need only be
provided in a registrant's quarterly or annual reports.
2. For purposes of paragraph (g), adoption of procedures by
which security holders may recommend nominees to the registrant's
board of directors, where the registrant's most recent disclosure in
response to the requirements of Item 7(d)(2)(ii)(G) of Schedule 14A
(Sec. 240.14a-101), or this Item, indicated that the registrant did
not have in place such procedures, will constitute a material
change.
[[Page 69221]]
PART 229--STANDARD INSTRUCTIONS FOR FILING FORMS UNDER SECURITIES
ACT OF 1933, SECURITIES EXCHANGE ACT OF 1934 AND ENERGY POLICY AND
CONVERVATIONS ACT OF 1975--REGULATION S-K
0
3. The general authority citation for Part 229 is revised to read as
follows:
Authority: 15 U.S.C. 77e, 77f, 77g, 77h, 77j, 77k, 77s, 77z-2,
77z-3, 77aa(25), 77aa(26), 77ddd, 77eee, 77ggg, 77hhh, 77iii, 77jjj,
77nnn, 77sss, 78c, 78i, 78j, 78l, 78m, 78n, 78o, 78u-5, 78w, 78ll,
78mm, 79e, 79j, 79n, 79t, 80a-8, 80a-9, 80a-20, 80a-29, 80a-30, 80a-
31(c), 80a-37, 80a-38(a), 80a-39, 80b-11, and 7201 et seq.; and 18
U.S.C. 1350, unless otherwise noted.
* * * * *
0
4. Amend Sec. 229.401 by adding paragraph (j) to read as follows:
Sec. 229.401 (Item 401) Directors, executive officers, promoters and
control persons.
* * * * *
(j) Describe any material changes to the procedures by which
security holders may recommend nominees to the registrant's board of
directors, where those changes were implemented after the registrant
last provided disclosure in response to the requirements of Item
7(d)(2)(ii)(G) of Schedule 14A (Sec. 240.14a-101), or this Item.
Instructions to paragraph (j) of Item 401:
1. The disclosure required in paragraph (j) need only be
provided in a registrant's quarterly or annual reports.
2. For purposes of paragraph (j), adoption of procedures by
which security holders may recommend nominees to the registrant's
board of directors, where the registrant's most recent disclosure in
response to the requirements of Item 7(d)(2)(ii)(G) of Schedule 14A
(Sec. 240.14a-101), or this Item, indicated that the registrant did
not have in place such procedures, will constitute a material
change.
PART 240--GENERAL RULES AND REGULATIONS, SECURITIES EXCHANGE ACT OF
1934
0
5. The general authority citation for part 240 is revised to read as
follows:
Authority: 15 U.S.C. 77c, 77d, 77g, 77j, 77s, 77z-2, 77z-3,
77eee, 77ggg, 77nnn, 77sss, 77ttt, 78c, 78d, 78e, 78f, 78g, 78i,
78j, 78j-1, 78k, 78k-1, 78l, 78m, 78n, 78o, 78p, 78q, 78s, 78u-5,
78w, 78x, 78ll, 78mm, 79q, 79t, 80a-20, 80a-23, 80a-29, 80a-37, 80b-
3, 80b-4, 80b-11, and 7201 et seq.; and 18 U.S.C. 1350, unless
otherwise noted.
* * * * *
0
6. Amend Sec. 240.14a-101 by:
0
a. Revising paragraph (d)(2) of Item 7;
0
b. Revising the reference ``paragraphs (a) through (d)(2)'' in
paragraph (e) of Item 7 to read ``paragraphs (a) through (d)(1) and
(d)(2)(ii)(D)'';
0
c. Adding paragraph (h) to Item 7;
0
d. Revising the reference ``paragraphs (d)(3), (f) and (g)'' in the
introductory text of paragraph (b) of Item 22 to read ``paragraphs
(d)(2) (other than (d)(2)(ii)(D)), (d)(3), (f), (g), and (h)'';
0
e. Revising the last sentence of the introductory text of paragraph
(b)(14) of Item 22;
0
f. Revising paragraph (b)(14)(ii) of Item 22;
0
g. Removing the semi-colon and ``and'' from the end of paragraph
(b)(14)(iii) of Item 22 and in their place adding a period;
0
h. Removing paragraph (b)(14)(iv) of Item 22; and
0
i. Adding an Instruction directly after paragraph (b)(14)(iii) of Item
22.
The additions and revisions read as follows:
Sec. 240.14a-101 Schedule 14A. Information required in proxy
statement.
Schedule 14A Information
* * * * *
Item 7. Directors and executive officers.
* * * * *
(d)(1) * * *
(2)(i) If the registrant does not have a standing nominating
committee or committee performing similar functions, state the basis
for the view of the board of directors that it is appropriate for
the registrant not to have such a committee and identify each
director who participates in the consideration of director nominees;
(ii) Provide the following information regarding the
registrant's director nomination process:
(A) If the nominating committee has a charter, disclose whether
a current copy of the charter is available to security holders on
the registrant's Web site. If the nominating committee has a charter
and a current copy of the charter is available to security holders
on the registrant's Web site, provide the registrant's Web site
address. If the nominating committee has a charter and a current
copy of the charter is not available to security holders on the
registrant's Web site, include a copy of the charter as an appendix
to the registrant's proxy statement at least once every three fiscal
years. If a current copy of the charter is not available to security
holders on the registrant's Web site, and is not included as an
appendix to the registrant's proxy statement, identify in which of
the prior fiscal years the charter was so included in satisfaction
of this requirement;
(B) If the nominating committee does not have a charter, state
that fact;
(C) If the registrant is a listed issuer (as defined in Sec.
240.10A-3) whose securities are listed on a national securities
exchange registered pursuant to section 6(a) of the Act (15 U.S.C.
78f(a)) or in an automated inter-dealer quotation system of a
national securities association registered pursuant to section
15A(a) of the Act (15 U.S.C. 78o-3(a)) that has independence
requirements for nominating committee members, disclose whether the
members of the nominating committee are independent, as independence
for nominating committee members is defined in the listing standards
applicable to the listed issuer;
(D) If the registrant is not a listed issuer (as defined in
Sec. 240.10A-3), disclose whether each of the members of the
nominating committee is independent. In determining whether a member
is independent, the registrant must use a definition of independence
of a national securities exchange registered pursuant to section
6(a) of the Act (15 U.S.C. 78f(a)) or a national securities
association registered pursuant to section 15A(a) of the Act (15
U.S.C. 78o-3(a)) that has been approved by the Commission (as that
definition may be modified or supplemented), and state which
definition it used. Whatever definition the registrant chooses, it
must apply that definition consistently to all members of the
nominating committee and use the independence standards of the same
national securities exchange or national securities association for
purposes of nominating committee disclosure under this requirement
and audit committee disclosure required under paragraph (d)(3)(iv)
of Item 7 of Schedule 14A (Sec. 240.14a-101);
(E) If the nominating committee has a policy with regard to the
consideration of any director candidates recommended by security
holders, provide a description of the material elements of that
policy, which shall include, but need not be limited to, a statement
as to whether the committee will consider director candidates
recommended by security holders;
(F) If the nominating committee does not have a policy with
regard to the consideration of any director candidates recommended
by security holders, state that fact and state the basis for the
view of the board of directors that it is appropriate for the
registrant not to have such a policy;
(G) If the nominating committee will consider candidates
recommended by security holders, describe the procedures to be
followed by security holders in submitting such recommendations;
(H) Describe any specific, minimum qualifications that the
nominating committee believes must be met by a nominating committee-
recommended nominee for a position on the registrant's board of
directors, and describe any specific qualities or skills that the
nominating committee believes are necessary for one or more of the
registrant's directors to possess;
(I) Describe the nominating committee's process for identifying
and evaluating nominees for director, including nominees recommended
by security holders, and any differences in the manner in which the
nominating committee evaluates nominees for director based on
whether the nominee is recommended by a security holder;
(J) With regard to each nominee approved by the nominating
committee for inclusion on the registrant's proxy card (other than
nominees who are executive officers or who are directors standing
for re-election), state which one or more of the following
categories of persons or entities recommended that nominee: security
holder,
[[Page 69222]]
non-management director, chief executive officer, other executive
officer, third-party search firm, or other, specified source. With
regard to each such nominee approved by a nominating committee of an
investment company, state which one or more of the following
additional categories of persons or entities recommended that
nominee: security holder, director, chief executive officer, other
executive officer, or employee of the investment company's
investment adviser, principal underwriter, or any affiliated person
of the investment adviser or principal underwriter;
(K) If the registrant pays a fee to any third party or parties
to identify or evaluate or assist in identifying or evaluating
potential nominees, disclose the function performed by each such
third party; and
(L) If the registrant's nominating committee received, by a date
not later than the 120th calendar day before the date of the
registrant's proxy statement released to security holders in
connection with the previous year's annual meeting, a recommended
nominee from a security holder that beneficially owned more than 5%
of the registrant's voting common stock for at least one year as of
the date the recommendation was made, or from a group of security
holders that beneficially owned, in the aggregate, more than 5% of
the registrant's voting common stock, with each of the securities
used to calculate that ownership held for at least one year as of
the date the recommendation was made, identify the candidate and the
security holder or security holder group that recommended the
candidate and disclose whether the nominating committee chose to
nominate the candidate, provided, however, that no such
identification or disclosure is required without the written consent
of both the security holder or security holder group and the
candidate to be so identified.
Instructions to paragraph (d)(2)(ii)(L):
1. For purposes of Item 7(d)(2)(ii)(L), the percentage of
securities held by a nominating security holder may be determined
using information set forth in the registrant's most recent
quarterly or annual report, and any current report subsequent
thereto, filed with the Commission pursuant to this Act (or, in the
case of a registrant that is an investment company registered under
the Investment Company Act of 1940, the registrant's most recent
report on Form N-CSR
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