On July 22, 2011, the United States Court of Appeals for the D.C. Circuit vacated Rule 14a-11, the proxy access rule of the Securities and Exchange Commission which would have allowed shareholders to have their director nominees included in a public company’s proxy materials so long as the shareholders and their nominees satisfied certain conditions. Rule 14a-11 was adopted by the SEC in August 2010 and was scheduled to become effective on November 15, 2010. In response to a petition filed by the Business Roundtable and the U.S. Chamber of Commerce challenging the proxy access rule, the SEC stayed the effectiveness of Rule 14a-11 in October 2010 pending resolution of the proceedings.

The three-judge appeals court panel ruled that the SEC “acted arbitrarily and capriciously” in failing to adequately consider the rule’s effect on “efficiency, competition and capital formation.” In a unanimous decision written by Judge Douglas H. Ginsburg, the court said the following: “Here the commission inconsistently and opportunistically framed the costs and benefits of the rule; failed adequately to quantify the certain costs or to explain why those costs could not be quantified; neglected to support its predictive judgments; contradicted itself; and failed to respond to substantial problems raised by commenters.” The court highlighted the inherent contradiction in the SEC’s cost-benefit analysis: the SEC estimated proxy access would affect a small number of companies when it discussed costs but also predicted that a large number of companies would be affected when it discussed benefits. It has been reported that Roger J. Dennis, dean of the law school at Drexel University in Philadelphia, noted that “[c]ost-benefit analysis is not a science” and by requiring the SEC to have “excruciating detail” on the costs and benefits of a proposal “is a stealth way of telling them that they don’t have the right to regulate it.”

The court also found that the rule is invalid as applied specifically to investment companies. The court declined to address the First Amendment challenge to the rule. The SEC has stated that it is considering its options, but it has not indicated whether it will appeal the decision or try to address the concerns raised by the court and modify the rule. In any event, it seems fairly certain that proxy access will not apply to the 2012 proxy season. It is important to note, however, that the SEC’s rule allowing shareholders to submit proposals for proxy access to their companies, which was adopted at the same time as Rule 14a-11, is unaffected by the court’s decision.