WASHINGTON U.S. regulators seeking to make it easier for shareholders to nominate company directors will face off in court on Thursday against business groups fearful of activist investors and associated costs.
The legal battle is a key test of the policy agenda of Securities and Exchange Commission Chairman Mary Schapiro, who has last year's Dodd-Frank legislation on her side this time as her agency goes before an often skeptical appeals court.
The rule, on hold pending the court's decision, would require a company to include a shareholder candidate in its voting materials as long as the nominating shareholders have held at least 3 percent of the voting power of the company's stock for three years.
The U.S. Chamber of Commerce and the Business Roundtable argue that the rule will be used by minority shareholders to unduly influence the composition of corporate boards and force companies to waste millions of dollars waging proxy battles.
They allege that the SEC has failed to conduct an adequate cost-benefit analysis, a technical but crucial requirement that has seen SEC rules voided in the past.
The business groups also plan to argue that the SEC's rule violates constitutional protection of free speech, because it would force companies to carry the campaign-related speech of others who oppose the company's position.
"Many of us do believe this could be a case that ultimately gets resolved in the Supreme Court," said James Cox, a professor at the Duke University School of Law.
SEC'S TRACK RECORD
The Chamber and Business Roundtable have hired Eugene Scalia, son of U.S. Supreme Court Justice Antonin Scalia, to represent them before the U.S. Court of Appeals for the District of Columbia Circuit.
The SEC twice lost to the Chamber before that appeals court in a case argued by Scalia that challenged a rule requiring independent representation on mutual fund boards in 2005 and 2006.
Then in 2009, a group of insurance companies and marketing groups hired Scalia to take the SEC to task over a rule that would have regulated indexed annuities like securities. The SEC lost that case as well.
In both of those cases, the SEC has run into trouble over federal rule-making procedures requiring a cost-benefit analysis. This includes a requirement for the SEC to consider every rule's impact on competition, efficiency and capital formation.
Now Scalia, with law firm Gibson Dunn & Crutcher, is girding for battle with the SEC over the proxy rule, so named for the voting proxies that companies send out to shareholders.
"This rule is thoroughly, fundamentally flawed," Scalia said in an email. "It should not survive judicial review under the standards this court has applied in past lawsuits challenging SEC rules."
Two of the same judges who issued the indexed annuities opinion in 2009 - Judge Douglas Ginsburg and Chief Judge David Sentelle - will be hearing arguments in the proxy access case on Thursday.
"It's still early. The court hasn't heard oral arguments yet," said Brian Cartwright, a lawyer with Latham & Watkins. "But If I were a betting person, and there was a bookie somewhere prepared to take bets, I would probably bet against the agency here."
DODD-FRANK COULD HELP
Others say the agency has more going for it this time around. In previous cases, there was a perception that the SEC had overstepped its legal authority.
This time, the agency has the blessing of the U.S. Congress via the Dodd-Frank financial reform law.
"Here you do have a new authorization. This is not something that is flying in the face of prior interpretations of the authority Congress granted you," said John Coffee, a professor at Columbia Law School.
SEC Commissioner Luis Aguilar, a Democrat who supports the rule, reiterated his view on Monday that the SEC has adequately studied the impact of proxy access.
When he voted for it, he said, he showed evidence that the SEC had "crossed T's and dotted I's" on its cost-benefit analysis.
(Reporting by Sarah N. Lynch; Editing by Tim Dobbyn)