Majority Voting in Director Elections

Majority voting for the election of directors has been transformed from a fringe concept to the prevailing election standard among large public companies in the brief span of three years, as demonstrated by the November 2007 edition of the Study of Majority Voting in Director Elections (available at http://www.ngelaw.com/). Statistics and examples drawn from the Study underscore that majority voting has become a relatively mature, as well as widespread, movement:

• Sixty-six percent of the companies in the S&P 500, and over 57% of the companies in the Fortune 500 have adopted a form of majority voting, notwithstanding robust merger and acquisition activity in the first half of 2007, which resulted in many companies with majority vote provisions being taken private. By way of contrast, when the Study was initially published in February 2006, only 16% of the companies in the S&P 500 were known to have adopted a form of majority voting;
• Majority voting is not found at large cap companies alone. Consistent with other governance trends that have trickled down to the broader market, such as declassifying boards, majority voting has been adopted by mid-cap, small cap and some micro-cap companies.
• Majority voting provisions are appearing in a variety of contexts:

• States have been responding to the majority vote movement through legislation that enables boards and/or stockholders to provide for forms of majority voting and/or permit contingent, irrevocable director resignations from nominees who fail to receive a majority vote. States that have addressed majority voting include California, Delaware, Nevada, North Dakota, Ohio, Utah, Virginia and Washington. States that permit such contingent, irrevocable resignations include Delaware, Maine, Texas, Utah, Virginia and Washington, and legislation to permit such resignations was introduced in Oklahoma; and
• Average support levels for majority vote stockholder proposals have risen from 12% in 2004 to in excess of 50% in 2007, according to ISS.

Notwithstanding concern over the manner in which majority voting might be used by hedge funds, unions and other activists, in 2007 only one director received a majority against vote at a company with majority voting. Mae Jemison, an incumbent director at Gen-Probe, Incorporated, received a majority against vote based upon her failure to attend at least 75% of board meetings. After consulting with ISS, the board declined to accept her resignation, with the understanding that the attendance issue would be addressed. Ms. Jemison subsequently stepped down. Additionally, companies including Alaska Air Group, Inc., General Motors Corporation, Motorola, Inc. and Tandy Brands Accessories, Inc. weathered actual or threatened proxy contests in 2007 with majority voting provisions that provided for plurality voting to apply in the event of a contested election. Dissatisfied stockholders also targeted specific directors at companies with majority voting, including certain directors at CVS Caremark Corporation, International Paper Company, Verizon Communications Inc. and Yahoo! Inc. None of the targeted directors received a majority against/withhold vote. Nonetheless, the relevant directors and boards appear to have examined the voting results closely, with certain targeted directors at CVS Caremark Corporation and the CEO at Yahoo! Inc. subsequently resigning.

The Activist Origins of Majority Voting

Majority voting emerged as a potential alternative for activists demanding greater director accountability following the failure of the Securities and Exchange Commission's 2003 proxy access initiative. That proposal would have provided access to management's proxy statement to large, long-term holders under specified circumstances. Activists turned to state law and began a campaign to change the director election standard from a plurality, under which being slated as a director nominee guarantees election if the election is not contested, to a majority vote. Ironically, the push for proxy access is continuing as the 2008 proxy season approaches, and the two movements are not mutually exclusive.

Activists, primarily led by the United Brotherhood of Carpenters and Joiners of America ('UBCJA'), began to use the stockholder proposal mechanics of the proxy rules to advance the majority vote movement. Twelve non-binding proposals were floated in 2004, and received modest 12% support. However, momentum shifted in 2005 when 89 proposals were filed, largely as a result of a coordinated campaign by the UBCJA and other building trades. Of the 62 proposals that proceeded to a vote, ISS reported average support of 44%, with 17 proposals passing. More than 150 proposals were filed for the 2006 proxy season, and of the 94 that proceeded to a stockholder vote, average support was 48%, according to ISS. The research conducted for the Study also found that at least 36 stockholder proposals and two management proposals advocating majority voting passed in 2006. The 2007 proxy season marked another turning point. More than 70 of 150 stockholder majority vote proposals were withdrawn, per ISS, primarily because targeted companies agreed to adopt a majority vote bylaw (or, to the extent required by applicable state law or a company's existing organizational documents, seek stockholder approval of a charter amendment), rather than have such proposals proceed to a stockholder vote. In that regard, research for the Study identified 44 management proposals and 46 stockholder proposals concerning majority voting in 2007 proxy statements, in marked contrast to 2006, when there were only two management proposals. Moreover, the Study found that at least 17 stockholder proposals and 39 management proposals to implement or facilitate the adoption of majority voting passed in 2007.

Types of Provisions

As companies began responding to the majority vote movement in 2005, they generally adopted policies providing that a director elected under a plurality election standard will a tender a resignation for consideration, but not necessarily acceptance by the board, if he or she receives more votes 'withheld' or 'against' than 'for' election. However, stockholder activists found such policies inadequate since they do not change the legal standard for electing directors to a majority and are largely discretionary. Intel Corporation changed the emerging status quo in January 2006 when it adopted a true majority vote bylaw, acceptable to activists, which included a resignation policy addressing the status of holdover directors (meaning incumbent directors who have not been reelected by the requisite vote, but who remain in office under state law until their successors are elected). That language provided that holdover directors would tender their resignations for consideration in largely the same manner as under a majority vote policy. Figure 1 below highlights the increase in majority vote bylaws (including a limited number of Plurality-Plus Bylaws, which are functionally majority vote policies in the form of a bylaw, and charter provisions) after Intel, as well as the correlation between the approach of proxy season and the rate at which companies have adopted majority vote provisions.

Since the Study was initially published, the relative percentage of companies with policies has continued to decline, while the percentage of companies with majority vote bylaws (or charter provisions) has steadily increased. Of the 534 companies listed in the Study as having taken definitive action, 42% adopted policies, 30% adopted bylaws (and/or charter provisions), and 28% adopted both. The comparable percentages in February 2006 were 79%, 16% and 5%, emphasizing the shift away from policies and toward binding majority vote bylaw (and charter) provisions (Figure 2, below). Examined from a different perspective, of such 534 companies, 47% retained a plurality election standard, but added a discretionary policy addressing the status of nominees who receive a majority withhold/against vote, while 53% adopted a true majority election standard. The comparable percentages were 80% and 20% in February 2006, again highlighting that true majority vote bylaws (and charter provisions) are increasingly becoming the standard (Figure 3, below). Moreover, the Study found that for each of the S&P 500 and Fortune 500, companies with true majority vote provisions outnumber those with majority vote policies or Plurality-Plus Bylaws by a ratio of 2:1. The Oct. 25, 2007 decision of Pfizer Inc., the first company with a majority vote policy, to adopt a true majority vote bylaw also underscored this shift.

As majority voting has evolved, companies have attempted to address potential enforceability issues raised by provisions requiring directors to tender a resignation, including the practical issue of the director who simply refuses to resign. Arguably, mandating the tender of a resignation following a majority withhold or against vote constitutes director removal, and under the laws of Delaware and most other states, only stockholders possess the power to remove directors. Beginning in September 2006, a generation of provisions began to appear, as exemplified by the resignation provisions in the majority vote bylaw of General Motors Corporation, requiring that a nominee submit an irrevocable resignation, contingent upon receiving a majority withhold or against vote, as a condition to being nominated.

Intel responded to some of these legal and practical concerns when it amended its majority vote bylaw in January 2007 to move the resignation policy for holdover directors into its governance guidelines. Those guidelines now provide that director nominees must annually submit a contingent resignation. Likely in response to the potential argument under Delaware law that a director's power to act on a matter may only be circumscribed by the company's charter, Intel also deleted the provision in its majority vote bylaw mandating that a director receiving a majority against vote recuse himself or herself from all deliberations relating to such tendered resignation.

Another recent development is illustrated by the majority vote bylaws adopted by companies including Bank of America Corporation, The Boeing Company and Verizon Communications Inc. Those companies voluntarily added provisions to their majority vote bylaws indicating that such provisions may not be amended without stockholder approval. One of the most recent trends in majority voting has been the appearance of bylaws which limit the terms of holdover directors or those who were elected by a plurality, but failed to garner a majority vote, to 90 days. These bylaws reflect legislation in California (Cisco Systems, Inc., Pacific Gas and Electric Company, PG&E Corporation and Quest Software, Inc.), Utah (Union Pacific Corporation and Zions Bancorporation) and Washington (Microsoft Corporation, Nordstrom, Inc. and Weyerhaeuser Company) which specifically permit such shortened terms.

Contested Elections

Ninety-two percent of the policies and 92% of the bylaws (and charter provisions) identified in the Study contain a carve-out for contested elections, providing that directors will be elected by a plurality vote in such situations. A majority vote bylaw without such a carve-out effectively creates a takeover deterrent, since the holdover rule will keep incumbents in office if no candidates receive majority support. In that regard, a 2007 management majority vote charter amendment proposal at Schering-Plough Corporation, which did not include a carve-out for contested elections, was defeated. That proposal was the only management proposal concerning majority voting known to have failed in 2007. Additionally, 2006 amendments to the Model Business Corporation Act, and amendments to the corporation codes in California, North Dakota, Utah and Washington, create cut-offs for determining whether, in the contest of majority voting, an election is contested.

Acceptance of Tendered Resignations

Most director resignation policies, whether or not limited to incumbents and whether included in a bylaw or a separate document, give directors broad discretion in considering what factors to take into account when determining whether to accept a tendered resignation. However, General Electric Company started a trend when it adopted a policy, and then a Plurality-Plus Bylaw, providing that a tendered resignation would be accepted 'absent a compelling reason.' The Goldman Sachs Group, Inc. employed a somewhat looser standard by providing that a tendered resignation will be accepted absent a 'significant reason,' while R.R. Donnelley & Sons Company adopted a broader standard providing that a resignation will be accepted unless the board determines that the best interests of the company and its stockholders would not be served by doing so. Taking a stronger tack, Exelon Corporation adopted a Plurality-Plus Bylaw providing that a resignation will automatically be accepted if it is tendered by a candidate who is not an incumbent, and HNI Corporation adopted a policy simply providing that a director who does not receive the requisite vote will resign. Citigroup Inc. and Del Monte Foods Company adopted another variant providing that resignations will become effective after a specified period unless the board affirmatively takes other action.

Following adoption of a majority vote charter amendment in April 2007, General Electric Company eliminated the 'compelling reason' language from its majority vote provisions. Similarly, JPMorgan Chase & Co. eliminated compelling reason language when it adopted a true majority vote bylaw in July 2007.

The Shifting Balance of Power

The impact of the majority vote movement is being magnified by concurrent forces, including: 1) the successful on-going movements to declassify boards, thereby forcing all directors to stand for election annually, and to eliminate other takeover deterrents, such as poison pills and supermajority stockholder approval requirements; 2) the New York Stock Exchange's proposed elimination of the provision in the broker-vote rule (Rule 452), which generally allows brokers to vote uninstructed client shares in favor of management's slate in uncontested elections; 3) the SEC's recently adopted electronic proxy rules which largely allow proxy materials to be distributed through the Internet (thus enhancing the ability of a dissident to commence a proxy fight or to target selected directors through a 'vote no' campaign); 4) the influence of proxy advisory firms such as ISS; 5) the potential impact of 'empty voting' (in which voting control is separated from economic ownership) and over-voting (in which more shares are voted than are entitled to vote); 6) pressure on mutual funds concerning their voting records; and 7) the increased power of stockholder activists. These forces are shifting power toward stockholders and leading to increased levels of engagement between boards and stockholders.

No major disruptions have been caused to date during the relatively brief history of majority. However, few companies have weathered proxy seasons in a down market with majority voting in place. The vital question that will only be answered over time is how the increased stockholder power represented by majority voting and the other forces cited above will be used, and whether it will be used for the benefit of all stockholders.

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Claudia H. Allen is a partner in, and chair of, the Corporate Governance Practice Group of the Chicago-based law firm Neal, Gerber & Eisenberg LLP. She may be contacted at [email protected] or 312-269-8406. Web site: http://www.ngelaw.com/.

Majority voting for the election of directors has been transformed from a fringe concept to the prevailing election standard among large public companies in the brief span of three years, as demonstrated by the November 2007 edition of the Study of Majority Voting in Director Elections (available at http://www.ngelaw.com/). Statistics and examples drawn from the Study underscore that majority voting has become a relatively mature, as well as widespread, movement:

• Sixty-six percent of the companies in the S&P 500, and over 57% of the companies in the Fortune 500 have adopted a form of majority voting, notwithstanding robust merger and acquisition activity in the first half of 2007, which resulted in many companies with majority vote provisions being taken private. By way of contrast, when the Study was initially published in February 2006, only 16% of the companies in the S&P 500 were known to have adopted a form of majority voting;
• Majority voting is not found at large cap companies alone. Consistent with other governance trends that have trickled down to the broader market, such as declassifying boards, majority voting has been adopted by mid-cap, small cap and some micro-cap companies.
• Majority voting provisions are appearing in a variety of contexts:

• States have been responding to the majority vote movement through legislation that enables boards and/or stockholders to provide for forms of majority voting and/or permit contingent, irrevocable director resignations from nominees who fail to receive a majority vote. States that have addressed majority voting include California, Delaware, Nevada, North Dakota, Ohio, Utah, Virginia and Washington. States that permit such contingent, irrevocable resignations include Delaware, Maine, Texas, Utah, Virginia and Washington, and legislation to permit such resignations was introduced in Oklahoma; and
• Average support levels for majority vote stockholder proposals have risen from 12% in 2004 to in excess of 50% in 2007, according to ISS.

Notwithstanding concern over the manner in which majority voting might be used by hedge funds, unions and other activists, in 2007 only one director received a majority against vote at a company with majority voting. Mae Jemison, an incumbent director at Gen-Probe, Incorporated, received a majority against vote based upon her failure to attend at least 75% of board meetings. After consulting with ISS, the board declined to accept her resignation, with the understanding that the attendance issue would be addressed. Ms. Jemison subsequently stepped down. Additionally, companies including Alaska Air Group, Inc., General Motors Corporation, Motorola, Inc. and Tandy Brands Accessories, Inc. weathered actual or threatened proxy contests in 2007 with majority voting provisions that provided for plurality voting to apply in the event of a contested election. Dissatisfied stockholders also targeted specific directors at companies with majority voting, including certain directors at CVS Caremark Corporation, International Paper Company, Verizon Communications Inc. and Yahoo! Inc. None of the targeted directors received a majority against/withhold vote. Nonetheless, the relevant directors and boards appear to have examined the voting results closely, with certain targeted directors at CVS Caremark Corporation and the CEO at Yahoo! Inc. subsequently resigning.

The Activist Origins of Majority Voting

Majority voting emerged as a potential alternative for activists demanding greater director accountability following the failure of the Securities and Exchange Commission's 2003 proxy access initiative. That proposal would have provided access to management's proxy statement to large, long-term holders under specified circumstances. Activists turned to state law and began a campaign to change the director election standard from a plurality, under which being slated as a director nominee guarantees election if the election is not contested, to a majority vote. Ironically, the push for proxy access is continuing as the 2008 proxy season approaches, and the two movements are not mutually exclusive.

Activists, primarily led by the United Brotherhood of Carpenters and Joiners of America ('UBCJA'), began to use the stockholder proposal mechanics of the proxy rules to advance the majority vote movement. Twelve non-binding proposals were floated in 2004, and received modest 12% support. However, momentum shifted in 2005 when 89 proposals were filed, largely as a result of a coordinated campaign by the UBCJA and other building trades. Of the 62 proposals that proceeded to a vote, ISS reported average support of 44%, with 17 proposals passing. More than 150 proposals were filed for the 2006 proxy season, and of the 94 that proceeded to a stockholder vote, average support was 48%, according to ISS. The research conducted for the Study also found that at least 36 stockholder proposals and two management proposals advocating majority voting passed in 2006. The 2007 proxy season marked another turning point. More than 70 of 150 stockholder majority vote proposals were withdrawn, per ISS, primarily because targeted companies agreed to adopt a majority vote bylaw (or, to the extent required by applicable state law or a company's existing organizational documents, seek stockholder approval of a charter amendment), rather than have such proposals proceed to a stockholder vote. In that regard, research for the Study identified 44 management proposals and 46 stockholder proposals concerning majority voting in 2007 proxy statements, in marked contrast to 2006, when there were only two management proposals. Moreover, the Study found that at least 17 stockholder proposals and 39 management proposals to implement or facilitate the adoption of majority voting passed in 2007.

Types of Provisions

As companies began responding to the majority vote movement in 2005, they generally adopted policies providing that a director elected under a plurality election standard will a tender a resignation for consideration, but not necessarily acceptance by the board, if he or she receives more votes 'withheld' or 'against' than 'for' election. However, stockholder activists found such policies inadequate since they do not change the legal standard for electing directors to a majority and are largely discretionary. Intel Corporation changed the emerging status quo in January 2006 when it adopted a true majority vote bylaw, acceptable to activists, which included a resignation policy addressing the status of holdover directors (meaning incumbent directors who have not been reelected by the requisite vote, but who remain in office under state law until their successors are elected). That language provided that holdover directors would tender their resignations for consideration in largely the same manner as under a majority vote policy. Figure 1 below highlights the increase in majority vote bylaws (including a limited number of Plurality-Plus Bylaws, which are functionally majority vote policies in the form of a bylaw, and charter provisions) after Intel, as well as the correlation between the approach of proxy season and the rate at which companies have adopted majority vote provisions.

Since the Study was initially published, the relative percentage of companies with policies has continued to decline, while the percentage of companies with majority vote bylaws (or charter provisions) has steadily increased. Of the 534 companies listed in the Study as having taken definitive action, 42% adopted policies, 30% adopted bylaws (and/or charter provisions), and 28% adopted both. The comparable percentages in February 2006 were 79%, 16% and 5%, emphasizing the shift away from policies and toward binding majority vote bylaw (and charter) provisions (Figure 2, below). Examined from a different perspective, of such 534 companies, 47% retained a plurality election standard, but added a discretionary policy addressing the status of nominees who receive a majority withhold/against vote, while 53% adopted a true majority election standard. The comparable percentages were 80% and 20% in February 2006, again highlighting that true majority vote bylaws (and charter provisions) are increasingly becoming the standard (Figure 3, below). Moreover, the Study found that for each of the S&P 500 and Fortune 500, companies with true majority vote provisions outnumber those with majority vote policies or Plurality-Plus Bylaws by a ratio of 2:1. The Oct. 25, 2007 decision of Pfizer Inc., the first company with a majority vote policy, to adopt a true majority vote bylaw also underscored this shift.

As majority voting has evolved, companies have attempted to address potential enforceability issues raised by provisions requiring directors to tender a resignation, including the practical issue of the director who simply refuses to resign. Arguably, mandating the tender of a resignation following a majority withhold or against vote constitutes director removal, and under the laws of Delaware and most other states, only stockholders possess the power to remove directors. Beginning in September 2006, a generation of provisions began to appear, as exemplified by the resignation provisions in the majority vote bylaw of General Motors Corporation, requiring that a nominee submit an irrevocable resignation, contingent upon receiving a majority withhold or against vote, as a condition to being nominated.

Intel responded to some of these legal and practical concerns when it amended its majority vote bylaw in January 2007 to move the resignation policy for holdover directors into its governance guidelines. Those guidelines now provide that director nominees must annually submit a contingent resignation. Likely in response to the potential argument under Delaware law that a director's power to act on a matter may only be circumscribed by the company's charter, Intel also deleted the provision in its majority vote bylaw mandating that a director receiving a majority against vote recuse himself or herself from all deliberations relating to such tendered resignation.

Another recent development is illustrated by the majority vote bylaws adopted by companies including Bank of America Corporation, The Boeing Company and Verizon Communications Inc. Those companies voluntarily added provisions to their majority vote bylaws indicating that such provisions may not be amended without stockholder approval. One of the most recent trends in majority voting has been the appearance of bylaws which limit the terms of holdover directors or those who were elected by a plurality, but failed to garner a majority vote, to 90 days. These bylaws reflect legislation in California (Cisco Systems, Inc., Pacific Gas and Electric Company, PG&E Corporation and Quest Software, Inc.), Utah (Union Pacific Corporation and Zions Bancorporation) and Washington (Microsoft Corporation, Nordstrom, Inc. and Weyerhaeuser Company) which specifically permit such shortened terms.

Contested Elections

Ninety-two percent of the policies and 92% of the bylaws (and charter provisions) identified in the Study contain a carve-out for contested elections, providing that directors will be elected by a plurality vote in such situations. A majority vote bylaw without such a carve-out effectively creates a takeover deterrent, since the holdover rule will keep incumbents in office if no candidates receive majority support. In that regard, a 2007 management majority vote charter amendment proposal at Schering-Plough Corporation, which did not include a carve-out for contested elections, was defeated. That proposal was the only management proposal concerning majority voting known to have failed in 2007. Additionally, 2006 amendments to the Model Business Corporation Act, and amendments to the corporation codes in California, North Dakota, Utah and Washington, create cut-offs for determining whether, in the contest of majority voting, an election is contested.

Acceptance of Tendered Resignations

Most director resignation policies, whether or not limited to incumbents and whether included in a bylaw or a separate document, give directors broad discretion in considering what factors to take into account when determining whether to accept a tendered resignation. However, General Electric Company started a trend when it adopted a policy, and then a Plurality-Plus Bylaw, providing that a tendered resignation would be accepted 'absent a compelling reason.' The Goldman Sachs Group, Inc. employed a somewhat looser standard by providing that a tendered resignation will be accepted absent a 'significant reason,' while R.R. Donnelley & Sons Company adopted a broader standard providing that a resignation will be accepted unless the board determines that the best interests of the company and its stockholders would not be served by doing so. Taking a stronger tack, Exelon Corporation adopted a Plurality-Plus Bylaw providing that a resignation will automatically be accepted if it is tendered by a candidate who is not an incumbent, and HNI Corporation adopted a policy simply providing that a director who does not receive the requisite vote will resign. Citigroup Inc. and Del Monte Foods Company adopted another variant providing that resignations will become effective after a specified period unless the board affirmatively takes other action.

Following adoption of a majority vote charter amendment in April 2007, General Electric Company eliminated the 'compelling reason' language from its majority vote provisions. Similarly, JPMorgan Chase & Co. eliminated compelling reason language when it adopted a true majority vote bylaw in July 2007.

The Shifting Balance of Power

The impact of the majority vote movement is being magnified by concurrent forces, including: 1) the successful on-going movements to declassify boards, thereby forcing all directors to stand for election annually, and to eliminate other takeover deterrents, such as poison pills and supermajority stockholder approval requirements; 2) the New York Stock Exchange's proposed elimination of the provision in the broker-vote rule (Rule 452), which generally allows brokers to vote uninstructed client shares in favor of management's slate in uncontested elections; 3) the SEC's recently adopted electronic proxy rules which largely allow proxy materials to be distributed through the Internet (thus enhancing the ability of a dissident to commence a proxy fight or to target selected directors through a 'vote no' campaign); 4) the influence of proxy advisory firms such as ISS; 5) the potential impact of 'empty voting' (in which voting control is separated from economic ownership) and over-voting (in which more shares are voted than are entitled to vote); 6) pressure on mutual funds concerning their voting records; and 7) the increased power of stockholder activists. These forces are shifting power toward stockholders and leading to increased levels of engagement between boards and stockholders.

No major disruptions have been caused to date during the relatively brief history of majority. However, few companies have weathered proxy seasons in a down market with majority voting in place. The vital question that will only be answered over time is how the increased stockholder power represented by majority voting and the other forces cited above will be used, and whether it will be used for the benefit of all stockholders.

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Claudia H. Allen is a partner in, and chair of, the Corporate Governance Practice Group of the Chicago-based law firm Neal, Gerber & Eisenberg LLP. She may be contacted at [email protected] or 312-269-8406. Web site: http://www.ngelaw.com/.