The D.C. Circuit Court of Appeals delivered a "judicial smackdown" in overturning the SEC's new proxy access rule that would have given unions greater power to add candidates to corporate boards.  In doing so, the court peppered its order with phrases and explanations that effectively raised some embarrassing questions about the competence of the Commission's s lawyers - and the political motivations of its leadership.  For instance:  "Unutterably mindless." 

N.B.  This story is based principally on a Wall Street Journal editorial, which may explain some of the anti-SEC bias.

The controversy centers around how public companies communicate with shareholders and nominate new board members.  Typically, companies pick their own board nominees and send a packet of information about them, along with ballots, to shareholders through so-called proxy statements. If a shareholder wants to nominate his own board candidate, he has to pay to distribute another proxy statement.

The Wall Street Journal continued its account of how and why the rule evolved, and chided the SEC for its efforts - and so, any biased expressions in the section below those of the Journal's Editors. 

Proponents of the Rule.   Shareholder-rights activists and labor unions have long argued that companies, not shareholders, should pay for these additional proxy statements, a change that would give union-backed state pension funds and others an extraordinary amount of leverage over corporate boards. The mere threat of nominating a pro-union candidate would force boards to weigh the cost of fighting that candidate through a proxy and PR campaign, or give in to the demand.

Dodd-Frank empowered the SEC to make good on this union dream, and SEC chief Mary Schapiro "promptly pushed through a rule ..."  With its passage, "the concept of one shareholder, one vote was summarily discarded."  So was the idea of giving companies the option to adopt proxy access.  The Business Roundtable and U.S. Chamber of Commerce petitioned to have the SEC mandate invalidated. [emphasis provided by C-I.] 

Judicial Panel Countered SEC Arguments.   On Friday a three-member panel sided unanimously with plaintiffs because the SEC didn't "determine the likely economic consequences" of the rule and its effect on "efficiency, competition and capital formation" - all of which it must do by law. That's the fourth time in recent years that court has rejected SEC rules on similar grounds.

The SEC claimed proxy access would reduce costs for shareholders but didn't quantify those benefits and ignored the costs to companies that decided to fight a proxy board member nominee. Writing for the panel, Judge Douglas H. Ginsburg noted that if a board didn't like an outside nominee, its fiduciary duties would "compel" the board to fight back.

The judge also scored the SEC for ignoring how union and state pension funds might use the rule as "leverage to gain concessions, such as additional benefits for unionized employees, unrelated to shareholder value."  The SEC claimed shareholders with a 3% stake in a company had a long-term interest and presumably wouldn't want to diminish shareholder value. Really? Anyone remember how the mammoth California pension fund Calpers browbeat grocer Safeway for union interests?

The SEC estimated proxy access would affect a small number of companies when it discussed costs, but it missed the inherent contradiction by also predicting that a large number of companies would be affected when it discussed benefits. The agency also ignored whether proxy ballots would replace traditional ballots, making it impossible to know "whether the rule would facilitate enough election contests to be of net benefit."

Friday's court decision doesn't invalidate the right of the SEC to pursue proxy access, as it may again try to do. But at the very least it means the SEC will have to do a far more rigorous economic impact test of its rules in the future. That's a victory for shareholders, companies and, not least, corporate governance.   [WS Journal, 7/25/11]   Also, see today's RULE News story, "SEC Rule Struck Down by Court."