Court Ruling May Shift the Contours of Shareholder Proposal Litigation Under Rule 14a-8
The Situation: Late last year, a shareholder sued NorthWestern Corporation ("NWE") to compel the company to include a climate-change related proposal in its 2020 proxy materials after NWE had notified the staff of the Securities and Exchange Commission ("SEC") that it intended to exclude the proposal under SEC Rule 14a-8.
The Result: The shareholder and NWE each filed for summary judgment, and this week the U.S. District Court for the District of Montana ruled in NWE's favor, concluding that the proposal could be excluded. The Court determined that under the Auer doctrine it should defer to the SEC's formal releases, but that informal SEC staff interpretations, such as Staff Legal Bulletins and no-action letters, were entitled to "consideration," not "persuasive weight." Drawing on the Third Circuit's analysis in Trinity Wall Street, a decision that the SEC staff had disavowed in a prior Staff Legal Bulletin, the Court held that the proposal could be excluded under the "ordinary business" exclusion of SEC Rule 14a-8.
Looking Ahead: The ruling may impact shareholder proposal litigation in two ways. First, the decision's approach to Auer deference may breathe renewed life into certain Rule 14a-8 exclusions that were previously interpreted narrowly by informal SEC staff pronouncements. Second, the Court's reliance on Trinity Wall Street reinforces the Third Circuit's issuer-friendly analysis of the "ordinary business" exclusion.
NWE is a public utility company that provides electricity and natural gas to customers in Nebraska, Montana, and South Dakota. In September 2019, Thomas Tosdal, a shareholder of NWE, submitted a proposal for inclusion in NWE's 2020 proxy materials. In relevant part, the proposal requested that NWE plan to cease generating coal-based electricity from a plant in Montana and replace that electricity with noncarbon emitting electricity by the end of 2025. The proposal also requested that NWE share its plan with shareholders no later than NWE's 2021 annual meeting.
After reviewing the proposal, NWE requested "no action" relief from the SEC staff on the basis that the proposal was excludable under Rule 14a-8(i)(3) as contrary to SEC proxy rules and under Rule 14a-8(i)(7)—the "ordinary business" exclusion. Tosdal submitted a letter to the SEC opposing this request. A day later, he sued NWE in the federal district court for the District of Montana to compel NWE to include the proposal in its proxy materials being prepared for its 2020 annual meeting—an action rarely taken by shareholders whose proposals are subject to pending no-action review. According to longstanding policy, the SEC staff declined to state a view on the no-action request once Tosdal had filed his suit.
The Court expedited briefing of the parties' motions for summary judgment. In its motion, NWE relied on the Rule 14a-8(i)(7) "ordinary business" exclusion as a basis to omit the proposal from its 2020 proxy materials. The parties contested the amount of deference the Court should give to the existing formal and informal SEC guidance on Rule 14a-8(i)(7). Under the U.S. Supreme Court's 1997 decision in Auer v. Robbins, courts generally defer to an agency's construction of its own regulation "when interpreting [a] regulation involves a choice between (or among) more than one reasonable reading." Kisor v. Wilkie, 139 S. Ct. 2400 (2019). Although Tosdal argued that the "ordinary business" exclusion was unambiguous—and therefore Auer deference was inapplicable—both parties also emphasized interpretations of the "ordinary business" exclusion in SEC guidance favoring their position.
On February 25, 2020, Chief Judge Dana L. Christensen of the District of Montana granted summary judgment in favor of NWE. As a threshold matter, Judge Christensen addressed whether to apply Auer deference to the SEC's interpretations of the "ordinary business" exclusion. Recently, in Kisor, a five-member majority of the Supreme Court affirmed the Auer doctrine while emphasizing the limits on when it applies. Under Kisor, Auer deference is appropriate only when (i) a regulation is "genuinely ambiguous," (ii) the agency's interpretation of the regulation is "reasonable," and (iii) the court independently determines that the "character and context" of the agency interpretation entitles it to controlling weight.
Judge Christensen applied the framework established in Kisor. First, the Court determined that the ordinary business exclusion was "genuinely ambiguous" and that the text, structure, history, and purpose of the regulation did not lend themselves to only one reasonable interpretation. Next, the Court independently evaluated the weight of the various SEC authorities the parties had cited. The Court concluded that the SEC's formal releases, which had been adopted after notice and comment, were entitled to deference but informal SEC staff pronouncements, such as Staff Legal Bulletins and no-action letters, were entitled only to "consideration"—not "persuasive weight." Judge Christensen therefore relied on certain SEC formal releases and federal case law, including the majority's approach in Trinity Wall Street, despite the SEC staff's disavowal of that approach in Staff Legal Bulletin 14H.
On the merits, the Court determined that Tosdal's proposal was "too entwined with the fundamentals of the daily activities of a public utility running its business" and would "shape how [NWE] goes about resource planning," which "lies at the core of [its] ordinary business operations." NWE had already committed to reduce the carbon intensity of its electric generation; Tosdal's proposal sought to dictate when and how the company would accomplish its goal. Thus, the Proposal did not "transcend" NWE's day-to-day business, even though it raised significant policy issues (precisely the analysis that the SEC had disavowed in Staff Legal Bulletin 14H, in which it stated that proposals focusing on significant policy issues necessarily "transcend day-to-day business matters"). The Court concluded that "[f]or a policy issue to transcend [NWE's] ordinary business operations, it must focus on something larger than shutting down a specific plant by a specific target date."
Three Key Takeaways
- The case charts the procedural course for shareholder proposal litigation that takes place outside of the SEC no-action letter process. Shareholder proposal litigation is frequently resolved on a highly compressed timeline, underscoring the importance of including litigation counsel in internal company discussions regarding shareholder proposals.
- Informal SEC staff pronouncements, such as Staff Legal Bulletins and no-action letters, may not be accorded even "persuasive" weight in determining the application of Rule 14a-8 exclusions in shareholder litigation. This development creates room for issuers to advance arguments based on the text, original purpose, history, and other attributes of Rule 14a-8's exclusions.
- The decision potentially expands the application of the "ordinary business" exclusion by providing further federal court precedent that even a proposal focused on a "significant policy issue" can be excluded under Rule 14a-8(i)(7) if an issuer shows that it is overly entwined with the basic activities of the company's business.
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