The Williams Companies, Inc.’s Pill Adoption Offers Insight on Proxy Advisor Views
By Lawrence S. Elbaum, Jeffery B. Floyd, John A. Kupiec and Patrick Gadson of Vinson & Elkins, L.L.P.[i]
“Will Institutional Shareholder Services (“ISS”) and Glass Lewis recommend against us if we adopt a poison pill?” This is among the most common questions directors ask outside advisors as boards across corporate America ponder whether a shareholder rights plan (a/k/a “poison pill”) is a prudent measure for their companies to adopt during extreme market volatility amidst the COVID-19 pandemic.
Last Friday, ISS issued a report in connection with the late April annual meeting of shareholders of The Williams Companies, Inc. (“Williams”) that provided the most critical insight into the question thus far in the 2020 proxy season. In its report, ISS recommended that shareholders vote against Williams’ board chair and cautioned the rest of the board because, in the view of ISS, a rights plan recently adopted by Williams due to market volatility contained a “highly restrictive” 5% trigger that could negatively affect the market for Williams’ shares when the economy recovers. The ISS report made this negative recommendation even though the Williams rights plan’s other features, such as its one-year duration, appeared to comply with ISS’s publicly available policies on rights plans. On Tuesday, Glass Lewis issued a report that did not recommend against Williams, noting, however, that Glass Lewis would monitor this issue going forward.
Equally notable in the ISS report on Williams was an overview of a number of other recent rights plans adopted primarily due to market volatility, with 10% to 20% triggers, that appear to pass muster with ISS at this time. Public companies, however, should not assume that their companies’ market volatility rights plans will receive ISS, Glass Lewis and shareholder support simply because other companies have adopted similar pills in recent months. Well-advised boards, therefore, should:
- work closely with their advisors to carefully evaluate the potential threats facing their companies that may justify adoption of a rights plan (Glass Lewis has noted the importance of this in their reprint);
- thoroughly benchmark the proposed rights plan’s terms against applicable ISS and Glass Lewis policies (which are publicly available here[ii] and here) as well as those of sizable institutional shareholders, the vast majority of which also have publicly available policies about rights plans (e.g., BlackRock and Vanguard policies available here and here);
- discuss and obtain legal and financial advice as to the specific terms of the proposed rights plan in light of the potential threat identified; and
- engage with major shareholders to hear their feedback and to reinforce companies’ shareholder-value-preservation rationales after the rights plan is adopted.
Recent Statistics and a Primer on Rights Plans
Since January, nearly three dozen public companies of all sizes and across virtually all industries have acted to adopt rights plans as stock prices have plunged due to COVID-19 and related macro-economic headwinds.[iii] The majority of these rights plans were adopted by public company boards in March.[iv] Companies have justified these prophylactic actions by citing market volatility and uncertainty, resulting in severe disparities between stock price and the board of directors’ view of intrinsic value, and concerns that certain investors may take advantage of artificially depressed stock prices and/or volatility to buy control or control-like stakes without paying sufficient premiums to all shareholders.
Rights plans are designed to preserve the board’s negotiating leverage for the benefit of stockholders in the face of identified threats, including opportunistic acquirors buying outsized stakes in a company quickly and without any limit, and to deter the potential destabilization to boards and businesses that can occur as a result. They set a threshold (usually 10% to 20% of the outstanding stock)[v] beyond which shareholders generally cannot acquire additional stock in the company without triggering substantial dilution to the acquiror’s position unless the acquiror has board permission to do so. Rights plans do not legally prevent board takeovers or changes of control. Nor do they relieve boards of their fiduciary duties in responding to transaction proposals from shareholders or strategic investors, or otherwise seeking to maximize value for stockholders. They do, however, provide boards with breathing room to make fully informed judgments in determining how to respond to a particular threat in the best interest of all shareholders.
The Delaware courts have consistently held that boards generally have the power to adopt rights plans without running afoul of their fiduciary obligations. When examining rights plans, the Delaware courts typically review them with enhanced scrutiny under the so-called Unocal standard, which applies to defensive measures taken by a board, based on decades of case law developed on this topic. When courts review board actions with enhanced scrutiny, the protections of the highly deferential business judgment rule are not available for the board’s actions until the directors have established both: (i) reasonable grounds for believing a threat to the operation or policies of the corporation exist; and (ii) the defensive measure was reasonable in relation to the threat. Boards would be well served to assume that this standard of review would apply to the decision to adopt a market volatility rights plan.
ISS and Glass Lewis Split Recommendations for Williams
On April 6, ISS issued a recommendation that shareholders of Williams vote against Williams’ board chair, as well as a qualified recommendation of “cautionary support” for the remaining Williams directors. ISS specifically linked its recommendation to the unilateral adoption of a market volatility based rights plan with a 5% ownership trigger, which is unusually low for a rights plan to respond to a threat of this type (even though it is common for rights plans designed to protect net operating loss tax assets). ISS also noted other governance concerns – for example, that the board of Williams may lack accountability to shareholders due to the fact that shareholders cannot amend Williams’ bylaws by majority vote. The ISS report also reviewed – and appeared to approve in passing – a number of rights plans recently adopted by other companies designed to protect against the threat presented by market volatility. Like the rights plan in Williams, these other companies adopted plans with one-year durations, consistent with ISS policy, but used less restrictive ownership triggers in the 10% to 20% range (with the exception of several recent rights plans to protect NOL carryforwards with 4.95% triggers, as noted above).
For its part, Glass Lewis issued a report on Williams’ annual meeting on Tuesday recommending that shareholders vote in favor of the entire board. In its report, Glass Lewis opined that shareholders should not withhold votes from any board members over the rights plan at this time, noting it was encouraged by the plan’s limited duration as well as by the Company’s disclosure regarding the need for such a plan at this time and its communication with shareholders. Glass Lewis noted, however, that it would continue to monitor this issue.
The unfavorable recommendation against the chairman of Williams and the caution against the rest of Williams’ board serves as a clear reminder that ISS will not be giving boards across corporate America a “free pass” this proxy season to adopt rights plans that impose unusually aggressive restraints on shareholders. While Glass Lewis did not recommend against or caution the Williams board, and it is possible that Williams can avoid a sizable negative vote outcome against its board at its upcoming annual meeting, the stigma of the ISS recommendation could endure for at least several proxy seasons. This is why Boards should work closely with advisors to properly tailor proposed rights plans to suit the particular threat they are facing at the time of adoption in accordance with applicable law, and ensure full vetting of the rights plan’s features against ISS and Glass Lewis policies as well as those of institutional shareholders.
Comprising approximately 30 attorneys, V&E’s Shareholder Activism practice, based in New York, leverages the firm’s top-tier public company, M&A, corporate governance and litigation practices, to effectively represent companies facing shareholder activism. V&E’s Shareholder Activism practice has led all the league tables for company defense over the past four years (FactSet, Thomson Reuters, Refinitiv and Activist Insight), based on number of campaigns defended, and recently received the top ranking in Bloomberg’s inaugural activism defense league tables issued in January.
Lawrence S. Elbaum, email@example.com, 212.237.0084
Jeffery B. Floyd, firstname.lastname@example.org, 713.758.2194
John A. Kupiec, email@example.com, 212.237.0033
Patrick Gadson, firstname.lastname@example.org, 212.237.0198
[i] The authors would also like to thank Brett F. Peace, Anita Balasubramanian, Julie Bontems and Nina A. Bhatia of Vinson & Elkins, L.L.P. for their significant contributions in preparing this article.
[ii] On April 8, 2020, ISS issued guidance on, among other matters affecting boards and shareholders of public companies, the impacts of the COVID-19 pandemic as it relates to the adoption of poison pills. In its report, ISS states that it will consider pills with a less than one-year term on a case-by-case basis, considering the disclosed rationale for adopting the plan and other relevant factors. In addition, ISS notes that it will closely assess the triggers for short-term plans adopted without a shareholder vote. The guidance is available here.
[iii] 34 rights plans have been announced since January 1, 2020 to date according to Deal Point Data.
[iv] 22 of the 34 rights plans announced since January 1, 2020 were announced during March according to Deal Point Data.
[v] While most rights plan thresholds are set between 10% to 20%, where a company seeks to prevent valuable net operating losses (“NOLs”) from substantial impairment, boards will set thresholds at approximately 4.95% in order for the company to avoid triggering a “change of control” under Sec. 382 of the Internal Revenue Code and potentially losing the NOL carryforwards in whole or in part.