The Securities and Exchange Commission

[thepennyking]

SEC Adopts Disclosure Rules On Nominating Committee Processes And Shareholder Communication With Board


Disclosure Regarding Shareholder Communication with the Board of Directors

On November 19, 2003, the U.S. Securities and Exchange Commission adopted new rules that it believes will "grant security holders greater access to the nomination process and greater ability to exercise their rights and responsibilities as owners of their companies." These new rules are effective for proxy or information statements sent to shareholders after January 1, 2004 and periodic reports filed with the SEC after January 1, 2004, even if filed before a 2004 proxy statement is released.

Disclosure Regarding Nominating Committee Processes

Current SEC rules require each company to disclose in its proxy statement whether it has a standing nominating committee or a committee performing similar functions, and, if the company does not have a nominating committee, the reasons why the board chose not to have such a committee. Under the recently adopted New York Stock Exchange corporate governance listing standards, each NYSE-listed company will be required to have a nominating committee composed entirely of independent directors by the earlier of its first annual meeting after January 15, 2004, or October 31, 2004. Even though Nasdaq decided not to require its listed companies to have a nominating committee, we recommend that all Nasdaq-listed companies also establish a nominating committee composed entirely of independent directors.

The new SEC rule will require additional disclosure in proxy statements of information about the company's director nomination process. Companies must make the following disclosures in each proxy statement covering the election of directors:

If the company does not have a nominating committee, it must disclose the reasons why the board believes it appropriate not to have such a committee and identify each director who participates in considering nominees. For purposes of the new SEC rule, whatever group of directors (including the entire board, if applicable) participates in the selection of nominees is treated as a nominating committee. Thus, all companies must provide the information required by the new SEC rule.
If the nominating committee has a charter, the company must indicate whether a copy is available to shareholders on the company's website. If the charter is available on the company's website, the company also must disclose the website address. If the charter is not available on the company's website, the charter must be included as an appendix to the company's proxy statement at least once every three years. If a current copy of the charter is not available on the company's website and is not included as an appendix to a particular company's proxy statement, the company must identify the prior proxy statement that included the charter. If the nominating committee does not have a charter, the company must so state.

The recently adopted NYSE listing standards require that each listed company adopt a written charter for its nominating committee to define the committee's basic purpose and responsibilities. We recommend that all public companies, whether listed on the NYSE or Nasdaq, adopt a written charter for the nominating committee. Although not required by the new SEC rules, we recommend that the charter be available on each company's website, as well as included as an appendix to the proxy statement at least once every three years.
We suggest that each public company include the information required by the new SEC rules (as discussed below) in its nominating committee's charter. This is particularly true for Nasdaq-listed companies because they are not required to adopt corporate governance guidelines.

The company must disclose whether the members of its nominating committee are independent, as defined in the applicable listing standards.

The NYSE's new listing standards now require that each listed company have a nominating committee composed entirely of independent directors. We recommend that all public companies have nominating committees composed entirely of independent directors.

If a company has a nominating committee but is not NYSE or Nasdaq listed, it must disclose whether the nominating committee members are independent, as defined by the NYSE, Nasdaq, or another national securities exchange of the company's choice, with the chosen definition disclosed in the proxy statement. Thereafter, the company must apply the chosen independence standard consistently from year to year, and the company must use the same standard to determine the independence of its audit committee and nominating committee members.

If the nominating committee has a policy regarding consideration of director candidates recommended by shareholders, the company must disclose the material elements of that policy, the procedure shareholders must follow to submit candidates, and whether the committee will consider directors recommended by shareholders. If the nominating committee does not have a policy, the proxy statement must include a statement of that fact and a statement of the basis for the board's view that it is appropriate for the company not to have such a policy.
We recommend that each company adopt policies covering consideration of any director nominees recommended by shareholders. We suggest including these policies in the nominating committee charter.

The company must describe any minimum qualifications for director that the nominating committee believes must be met by any candidate for director, as well as any specific qualities or skills that the nominating committee believes that one or more directors must possess.

We recommend that each company immediately begin to consider how to articulate the minimum qualifications necessary to serve on the board and those qualities or skills that all directors should possess. Again, we suggest these be included in the nominating committee charter.

The company must describe the nominating committee's process for identifying and evaluating nominees for director, including nominees recommended by shareholders, and any differences in the manner by which shareholder nominees will be evaluated.
We suggest also including this process in the nominating committee charter. We recommend that nominating committees evaluate shareholder candidates by the same process as management or board recommended candidates.

The company must disclose whether any of the following categories of persons or entities recommended each nominee approved by the nominating committee for inclusion in the proxy statement: shareholder, non-management director, chief executive officer, other executive officer, third- party search firm, or other source (which must be specified). This disclosure does not apply to nominees who are executive officers or existing directors standing for re-election.

If the company pays a fee to a third party to identify or evaluate or assist in identifying or evaluating possible nominees, it must disclose the function performed by the third party.

If, by a date not later than 120 days before the first anniversary of the proxy statement for the last annual meeting (or if the date of the current year's annual meeting is more than 30 days before or after the anniversary date of the previous year's meeting, a reasonable time before the company begins to print and mail its proxy statement for the current year), the nominating committee received a nominee from a shareholder (or a group of shareholders) that beneficially owned more than 5 percent of the company's voting common stock for at least one year, the company must disclose:

- the name of the candidate and the shareholder or shareholder group that recommended the candidate; and

- whether the nominating committee chose to nominate the candidate.

Disclosure Regarding Shareholder Communication with the Board of Directors

The SEC also adopted a number of specific disclosure requirements regarding communications by shareholders with the board of directors.1 Under the newly adopted rules, each public company will be required to provide the following disclosures regarding the processes for shareholder communications with its board:

A statement whether the board of directors has a process for shareholders to communicate with the board and, if the company does not, a statement of the basis for the board's view that it is appropriate not to have such a process.
We recommend that all companies establish a process by which the shareholders may send written communications directly to the board of directors, as we think it would be difficult for any public company's board to articulate why it believes such a process is unnecessary.

If the company has a process for shareholders to send communications to the board of directors:

- a description of the manner by which shareholders may send communications to the board and, if applicable, to specified individual directors; and

- if shareholder communications are not sent directly to board members, a description of the company's process for determining which communications will be.

We suggest that companies inform shareholders to direct any communications through the company to a designated independent director, such as the audit committee chair or the lead independent director. We think the process should permit only written communications from shareholders, and each company should decide which types of written communication are allowed (i.e., e-mail and/or letters). We think it unnecessary for management to screen shareholder communications. Instead, we recommend that companies forward all shareholder communications to the board member chosen as the liaison for shareholder communications.

A description of the company's policy, if any, regarding board members' attendance at annual shareholder meetings and identification of the number of board members who attended the prior year's annual shareholder meeting.
We recommend that all companies adopt a policy that requires directors to attend annual meetings absent extenuating circumstances.


ENDNOTES

1 Communications from an officer or director of the company will not be viewed as shareholder communications for purposes of the disclosure requirement. Communications from an employee of the company will be viewed as shareholder communications only if made solely in such employee's capacity as a shareholder. Shareholder proposals submitted under Exchange Act Rule 14a-8 are also not subject to these disclosure requirements.

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