Reimbursing Proxy Solicitation Expenses

Reimbursement For Incumbents Rarely Denied

Proxy contests are governed by a mix of federal regulation, state law, and corporate charter and bylaw provisions. These rules regulate issues such as the type of information that must be disclosed in proxy statements, revocability of proxies, access by shareholders to corporate information, and the allocation of expenses in proxy contests.[1]

Federal, State, and Corporate Regulations

Most expenditures incurred on behalf of incumbents in a proxy contest are paid directly by the company. Reimbursement is generally limited to those expenses deemed reasonable and necessary to inform shareholders. Practically speaking, reimbursement is almost never denied by these limitations; thus, incumbent directors are free to authorize the company to pay the entire cost of their proxy campaign. For example, in one lawsuit that in part challenged a company's solicitation costs, "the court found nothing wrong with the incumbents' employing two proxy solicitation firms, one consultant, one public relations firm, and 150 corporate employees who made telephone calls to shareholders 'on their own time.'"[2]

Dissidents Reimbursed For Proxy Solicitation Expenses

By contrast, in most cases dissidents are reimbursed only for proxy solicitation expenses if they gain control of the company. In successful proxy contests, new management will often seek shareholder approval for the use of company funds to reimburse themselves for the costs of solicitation. The courts have supported such actions finding that successful dissident groups benefited the company by ridding it of incompetent or dishonest management.

Bias In Reimbursement System

Sometimes the dissidents will submit a shareholder proposal seeking reimbursement of their solicitation expenses in cases when they have gained only partial representation. Reimbursement of the dissidents is typically permitted when the board and a majority of shareholders approve.

Intermediate Level of Compensation

Clearly, a policy of providing incumbent nominees with full reimbursement and dissident nominees who fail to gain board seats with no reimbursement is biased. Such a system of reimbursement may discourage qualified candidates from initiating proxy contests. This is because the dissident group would bear all costs associated with waging a proxy contest, but share proportionately with other shareholders in any added value resulting from a successful proxy fight.

Should Dissidents Be Fully Reimbursed in Proxy Contests?

Empirical evidence suggests that the most advantageous solution for shareholders is an intermediate level of compensation, for both incumbents and dissidents.[3] Of course, when a proposal for reimbursement is submitted by the dissidents in either a successful or unsuccessful proxy contest, shareholders are usually asked to vote for or against repaying the entire cost of the solicitation.

Factors To Consider When Voting On Reimbursement Proposals

If dissident groups are fully reimbursed for all of their solicitation expenses, shareholders will likely pay for a larger number of solicitation attempts, including some fights of no value to the company. In turn, this could lead to excessive spending on proxy campaigns as shareholders with even small investments in the target company would have nothing to lose from initiating a proxy battle.

Review a number of factors when determining how to vote on reimbursement proposals, including the proxy statement itself, which must-under SEC proxy rules-divulge:

• Identity of persons who will pay solicitation expenses,

• Estimated total cost of solicitation,

• Total expenditures to date,

• Fees to be paid to proxy solicitation firms, and

• Terms of a proxy contest settlement, when applicable.

Other Factors To Consider When Voting On Reimbursement Proposals

In cases when the parties in a proxy contest are seeking reimbursement after the vote, also review the percentage of votes captured by the dissidents and management, the issues involved and the expected benefits resulting from the proxy contest. Additionally, look at the total amount requested in efforts to estimate a reasonable cost for lawyer fees, professional solicitors, investment bankers, travel costs, mailing, and printing.

In cases where ISS supports the dissident position, believing it to be in the best interests of shareholders, we would also support the reimbursement of expenses.