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December 22, 2003

Jonathan G. Katz
Securities & Exchange Commission
450 Fifth Street N.W.
Washington, DC 20549-0609

Re:  File No. S7-19-03 Security Holder Director Nominations

Dear Mr. Katz:

The Dark Side of Shareholder Democracy

Advocates of fair corporate elections might wish to reconsider their views after reading the thoughtful and perceptive counterarguments of corporate executives and luminaries from corporate law firms,

For example, Wachtell, Lipton, Rosen & Katz warns that allowing shareholders to vote in fair corporate elections "will have such an adverse impact on public companies as to threaten serious harm to the nation's economic well-being." Wow! We had better think very carefully about whether we can afford to take that risk while our economy is still recovering from the devastating terrorist attacks of September 11, 2001.

Three partners from Jones Day suggest another unintended consequence that advocates of shareholder democracy may not have considered:

Since corporate law is ultimately decided by the state, state legislatures may respond to these rules by amending their laws to prohibit shareholder nominations or otherwise establish obstacles to the shareholder nomination process. The result of such state actions would reduce the existing rights of shareholders to nominate directors and conceivably leave the shareholders with fewer rights than they had before the proposed rules were enacted.

As they say, be careful about what you wish for. Will shareholders win a pyrrhic victory, gaining access to the corporation's proxy statement, only to lose the right to nominate directors? Is Jones Day already gearing up to lobby state legislators to strip away any remaining vestige of shareholder rights?

3M Chairman W. James McNerney, Jr. and others remind us that directors have a sacred duty to nominate only the best candidates for director so stockholders don't have to deal with the nuisance of choosing between alternative nominees. It is probably just a coincidence that the directors almost always determine that the very best candidates are the incumbent directors themselves. In any event, it is understandable that they would be miffed at stockholders that fail to appreciate their selfless devotion to them.

Finally, defenders of the status quo say that a dissident voice in the boardroom will impair the board's ability to function. Curiously, they do not connect board control of the nominee selection process with the sort of groupthink that led the entire Enron board to waive its conflict of interest guidelines and that ultimately cost Enron's stockholders, employees and creditors billions of dollars.

But, enough bashing of "the business community." While admittedly an entertaining exercise, it is too easy. Like former Iraqi Information Minister Muhammed Saeed al-Sahaf's briefings on the war in Iraq, their dire warnings, undisguised contempt for democracy and facile assurances that nothing is broken provide ample comic fodder for puncturing their pathetic self-serving arguments.

The Real Issue: Ensuring Fair Elections

The Commission, on the other hand, is charged with protecting the franchise rights of investors. Yet, its proxy access proposal is so wrongheaded, unprincipled, impotent, and convoluted that it is hard to know how to respond. The following excerpt from the release is illustrative of the Commission's naiveté with respect to the red herrings raised by "the business community":

On the other hand, the business community and many of its legal advisors commented that giving security holders access to company proxy materials could turn every election of directors into a contest, which would be costly and disruptive to companies and could discourage some qualified board candidates from agreeing to appear on a company's slate of nominees. Because the composition of the board of directors is fundamental to a company's corporate governance, the current filing and disclosure requirements applicable to security holders who wish to propose an alternate slate are, in the view of these commenters, more appropriate than including security holder nominees in company proxy materials.

After considering the range of views on this issue, we have determined to propose new rules that would, in certain circumstances, require companies to place security holder nominees for director in company proxy materials. This limited access right, which would not be available where security holders were seeking control of a board of directors or election of a director with a financial relationship to the security holder, would apply only in those instances where criteria suggest that the company has been unresponsive to security holder concerns as they relate to the proxy process. We recognize that there are many concerns regarding the operation of a security holder nomination procedure.

Simply because there is a "range of views" on an issue does not mean that every view is equally valid. It is inevitable that those threatened by democracy will try to articulate an opposing "view." The Commission should be ashamed of itself for being influenced by these bogus "views" and for failing to take a principled stand for the franchise rights of stockholders.

The fundamental issue is simply stated. Directors have the power to manage the business and affairs of the company but they also must be fairly elected by the stockholders. Thus, only a fair election ensures the directors' legitimacy. Unless one adopts a Humpty Dumpty view of elections,1 only morons or incumbent directors and those that hope to obtain financial benefits from them (and perhaps Mr. Saeed al-Sahaf) think corporate elections are fair.

The validity of any "election" is inversely proportional to the extent that an incumbent has an inequitable advantage over a potential challenger. Based on this criterion, most corporate elections are not valid. A meaningful remedy is therefore necessary. Delaware Vice Chancellor Leo Strine recently implicitly acknowledged this:

I happen to believe it is difficult to justify the current election system in its pure form. The idea that the incumbents get to spend money and no one else does all the time is hard to justify and I'm not going to try to justify it.

The standard for a fair corporate election was set forth in Aprahamian v. HBO & Co., 531 A.2d 1204, 1206-07 (Del. Ch. 1987):

The corporate election process, if it is to have any validity, must be conducted with scrupulous fairness and without any advantage being conferred or denied to any candidate or slate of candidates. In the interests of corporate democracy, those in charge of the election machinery of a corporation must be held to the highest standards in providing for and conducting corporate elections.

The fact that most corporate directors have about as much legitimacy to exercise their power as Fidel Castro or Sadaam Hussein apparently does not concern "the business community."2 It does, however, concern Vice Chancellor Strine and it should concern the Commission. Yet, the Commission seems paralyzed and impotent, proposing a cautious minutiae-filled proposal that does precious little to bring legitimacy to the corporate election process. Why not abandon the proposed rule and propose a rule declaring that "the solicitation of proxies by any registered company must be conducted with scrupulous fairness and without any advantage being conferred or denied to any candidate or slate of candidates?"

NYSE Rule 452 and Distorted Voting Results

It pains me to discuss any technical flaws of the proposed rule because I believe the Commission has no authority to establish arbitrary "conditions" or "triggers" before a stockholder can gain access to the corporate proxy card. Particularly offensive are conditions that the Commission would require stockholders but not incumbents to meet. Such a double standard flies in the face of Aprahamian. Nevertheless, one technical flaw is so egregious that it cannot be ignored

The release proposes one trigger event as occurring if at least one of the company's nominees for the board of directors receives "withhold" votes from more than 35% of the votes cast at an annual meeting. Incredibly, nothing in the proposal discusses the effect of NYSE rule 452 or so-called broker discretionary voting. This is inexcusable because the staff's July 15, 2003 Report on the Review of the Proxy Process mentions complaints about the effect of rule 452 on corporate elections:

As is evidenced in the attached Summary of Comments, commenters provided their views on a number of topics that are related to director elections that are not addressed specifically in the body of this staff report. These topics include amending New York Stock Exchange Rule 452, which allows brokers to vote shares where the beneficial owner has not provided voting instructions 10 days prior to a scheduled meeting, and evaluating the impact of proxy advisory services on institutional investor voting. The Division has considered these issues in developing its recommendations and will address such issues, as appropriate, if the Commission directs the Division to draft proposed rules based on the Division's recommendations.

If it is not appropriate to consider the effect of NYSE rule 452 now, it will never be appropriate. Allowing discretionary voting by stockbrokers makes it virtually impossible for the number of "withhold" votes to exceed 35% of the votes cast. In my June 13, 2003 comment letter, I explained how NYSE rule 452 distorts the outcome of stockholder votes. I will try to explain it again in the context of a "just vote no" campaign.

NYSE rule 452 allows all uninstructed proxies for shares held in street name to be voted for the board's nominees. For example, assume all of Corporation XYZ's shares are held in street name and (1) the beneficial holders of 25% of the outstanding shares instruct their brokers to vote for the board's nominees, (2) the beneficial holders of 30% of the shares instruct their brokers to withhold their votes and (3) the beneficial holders of the remaining 45% of the shares don't provide instructions. Then, rule 452 results in the shares beneficially owned by the third group being automatically voted for the board's nominees. The results are then reported as 70% of the votes cast for their election and 30% to "withhold." Without NYSE rule 452, 55% (30/55) of the votes cast would be reported as "withheld."

It would be utterly irresponsible for the Commission to adopt a rule with a "trigger" based upon a stockholder vote without addressing the implications of NYSE rule 452.


A much more significant problem than the technical flaws of the Commission's proposal is that it fails "to give true vitality to the concept of corporate democracy,"3 which was Congress' intent in adopting Section 14 and that the Commission fails to recognize that some its own rules stifle corporate democracy. This is easily demonstrated by comparing the Commission's summary of the proposed rule with its discussion of the purpose of Section 14. First, the summary of the highly conditional proposed rule:

We are proposing new rules that would, under certain circumstances, require companies to include in their proxy materials security holder nominees for election as director. These proposed rules are intended to improve disclosure to security holders to enhance their ability to participate meaningfully in the proxy process for the nomination and election of directors. The proposed rules would not provide security holders with the right to nominate directors where it is prohibited by state law. Instead, the proposed rules are intended to create a mechanism for nominees of long-term security holders, or groups of long-term security holders, with significant holdings to be included in company proxy materials where there are indications that security holders need such access to further an effective proxy process. This mechanism would apply in those instances where evidence suggests that the company has been unresponsive to security holder concerns as they relate to the proxy process. The proposed rules would enable security holders to engage in limited solicitations to form nominating security holder groups and engage in solicitations in support of their nominees without disseminating a proxy statement. The proposed rules also would establish the filing requirements under the Securities Exchange Act of 1934 for nominating security holders.

By contrast, the purpose of any rules adopted pursuant to Section 14 is unambiguous and unconditional:

Section 14(a) of the Exchange Act prohibits any person from soliciting proxies with respect to a Section 12-registered security where that solicitation is in contravention of Commission rules and regulations. Section 14(a) "stemmed from the congressional belief that `fair corporate suffrage is an important right that should attach to every equity security bought on a public exchange.' It was intended to `control the conditions under which proxies may be solicited with a view to preventing the recurrence of abuses which ... [had] frustrated the free exercise of the voting rights of shareholders.'"4 Section 14(a) authorizes the Commission to prescribe proxy solicitation rules that are "necessary or appropriate in the public interest or for the protection of investors."

The objective of each and every rule adopted pursuant to Section 14 is spelled out in footnote No. 48 of the release. It is "to make the proxy device the closest practicable substitute for attendance at the [shareholder] meeting."5 It is impossible to reconcile the proposed rule's tentative and highly conditional approach to stockholder voting with this objective because the proposed rule does nothing to ensure that the vast majority of stockholders that find it impractical to attend the meeting will have a fair opportunity to vote for any bona fide nominee.

In order for the right to vote to have real meaning, stockholders must have a fair opportunity to nominate directors and to vote for any bona fide nominee. Stockholders can nominate directors but stockholders that do not attend the meeting do not have a fair opportunity to vote for any bona fide nominee. The Commission is largely to blame for this because requiring a challenger to issue separate proxy materials at his own expense while ignoring the fact that incumbents do not have to spend one penny to issue their proxy materials establishes an inequitable election system that effectively disenfranchises stockholders.6 This system should be dismantled immediately by repealing rule 14a-12 and rule 14a-8(i)(8) because they are inconsistent with the Commission's mandate to adopt rules that guarantee stockholders full franchise rights. Also, the proposed rule 14a-11 should not be adopted because it leaves the current unfair corporate election system largely intact.

In adopting rules under Section 14, the Commission's mandate has nothing to do with the Sarbanes-Oxley Act, the nomination process itself7, establishing "trigger" events to allow access to a company's proxy card, or determining whether a change of control will result from a fair election of directors or even whether or not a contested election for directors is desirable at any particular company.8 The Commission's sole objective should be to establish conditions for soliciting proxies such that the free exercise of the voting rights of stockholders is not frustrated. To put it another way, the Commission has a responsibility to adopt proxy rules to ensure that every stockholder has a fair opportunity to vote for any bona fide nominee whether or not the stockholder is physically present at the meeting and to rescind any proxy rules that inhibit that opportunity. Unfortunately, the Commission has abdicated its responsibility for more than sixty years.


The plain fact is that many persons are currently sitting in director's chairs who would not be there if the Commission had adopted a rule that ensured that stockholders had a fair opportunity to vote for any bona fide nominee. That was true in 1934 and that will continue to be true whether or not the Commission adopts rule 14a-11 as proposed. As Bob Dylan put it:

Yes, 'n' how many years can some people exist
Before they're allowed to be free?
Yes, 'n' how many times can a man turn his head,
Pretending he just doesn't see?
The answer, my friend, is blowin' in the wind,
The answer is blowin' in the wind.9

I hope the wind reaches 450 Fifth Street in my lifetime. Until then, shame on anyone and everyone at the Commission who is responsible for not acting forcefully to eliminate the continuing disenfranchisement of stockholders and for producing a lame "compromise" proposal!

In its bloated release, the Commission solicits responses to more than two hundred questions, most of which have nothing to do with ensuring that proxies are not utilized so as to frustrate fair corporate elections. I have just one question for the Commission. Who will get fair elections first: Iraqi citizen or American stockholders? American stockholders eagerly await a response.

Very truly yours,

Phillip Goldstein
Kimball & Winthrop, Inc.
General Partner

1 A typical definition of an "election" is "a vote to select the winner of a position or political office." In Through the Looking-Glass by Lewis Carroll, Humpty Dumpty says: "When I use a word it means just what I choose it to mean - neither more nor less." Nowhere in the Commission's massive proposal is an "election" defined, thereby leaving everyone to define it himself. That is hardly a sound basis for soliciting comments.
2 Rick Bayan has defined a "corporation" as "a miniature totalitarian state governed by a hierarchy of unelected officials . . . .", The Cynic's Dictionary © 1994
3 Medical Comm. for Human Rights v. SEC, 432 F.2d 659, 676 (D.C. Cir. 1970), vacated as moot, 404 U.S. 403 (1972)
4 J. I. Case Co. v. Borak, 377 U.S. 426, 431 (1964) (citing H.R. Rep. No. 1383, 73rd Cong., 2d Sess. 13-14)
5 Loss & Seligman, Chapter 6.C.2.b. Securities Regulation (3d ed.)
6 Anatole France (1844-1924) expressed this inequity well: "The law, in its majestic equality, forbids rich and poor alike to sleep under bridges, beg in the streets or steal bread."
7 A possible exception is the nomination/election process for directors of investment companies which is governed by Section 16 of the Investment Company act of 1940: "No person shall serve as a director of a registered investment company unless elected to that office by the holders of the outstanding voting securities of such company, at an annual or a special meeting duly called for that purpose."
8 For this reason, I agree with some opponents of the Commission's proposal that it has no legal authority to establish conditions for requiring the inclusion of nominees of stockholders in the company's proxy materials. However, it is the conditions themselves that are illegal, not the unadorned requirement to include all bona fide nominees in the proxy materials.
9 "Blowin' in the Wind" © 1962 by Bob Dylan