Interactive “social networking” is a growing phenomenon, as the success of MySpace, Facebook, YouTube and similar Internet sites suggests. Such social networking sites allow geographically dispersed individuals who share common interests to locate and interact with breathtaking speed and ease.
Earlier this year, the Securities and Exchange Commission, recognizing the power of this new mode of communication, issued final rules intended to promote social networking by and among publicly traded companies and their shareholders.
At present, a public company routinely communicates directly and specifically with its shareholders only once a year when, in advance of a public company’s annual meeting of shareholders, it distributes a proxy statement soliciting shareholder votes in support of one or more management proposals. These proposals typically relate to the election of directors, appointment of the company’s independent auditors and approval of company compensation arrangements.
Companies also solicit proxies of their shareholders from time to time when shareholder approval is required in connection with a specific transaction — a merger or major equity issuance, for example. The proxy rules permit shareholders to solicit the votes of their fellow shareholders in support of proposals not supported by management and, in certain circumstances, require management to include shareholder proposals in the company’s proxy statement.
While shareholders are certainly free to communicate directly by telephone, e-mail or otherwise with management and (to the extent they can be identified) their fellow shareholders, the traditional mode of shareholder/company communication is the paper-based proxy process, which is formal, expensive, infrequent, and characterized by long lead times.
Although shareholder interactive chatrooms have existed for years, most corporations have been reluctant to sponsor, host or participate in such chatrooms due to fears of legal exposure under the U.S. federal securities laws.
One concern has been that statements made by a public company in a chatroom might constitute “solicitations” of proxies. The federal securities laws define “solicitation” more broadly than the simple straightforward request that the shareholder execute a proxy. The term includes, for example, any communication “reasonably calculated” under the circumstances to result in the procurement of a proxy.
If a communication constitutes a solicitation, it becomes subject to filing and disclosure requirements of the federal securities laws, thereby subjecting the public company to potential liability for failure to satisfy the proxy rules.
Public companies have also been worried that if they host or maintain a shareholder chatroom, they might be held responsible for misleading statements made by other forum participants.
On February 25, 2008, new SEC rules went into effect intended to remove legal ambiguity surrounding these two specific areas of legal concern.
The new SEC rules establish an exemption from most proxy rules for any solicitation made in an “electronic shareholder forum” more than 60 days prior to a company’s annual or special meeting, provided that the solicitation does not seek the power to act as a proxy for a shareholder and does not furnish or otherwise request a form of proxy revocation, abstention, consent or authorization. If the company announces the meeting less than 60 days before the meeting date, the exemption applies to solicitations made two days or less following the company’s announcement.
The new rules also provide that no shareholder or public company shall be liable under the federal securities laws by reason of establishing, maintaining or operating an electronic shareholder forum, for any statement provided by another person to the electronic shareholder forum.
More generally, the new rules express the SEC’s clear recognition of the potential of social networking to enhance the quality of communications by and among shareholders and public companies. The SEC release accompanying the new rules notes with encouragement, for example, that electronic shareholder forums provide public companies with a means to more precisely and cost-effectively gauge shareholder sentiment on an ongoing basis and across a wide variety of topics.
This SEC rulemaking initiative is an exciting development for public companies seeking fresh and more technologically efficient ways to keep in touch with shareholders.
However, while the new SEC rules reduce legal ambiguity around two of the larger issues that have inhibited the use of shareholder forums, public companies must continue to exercise care in the design, launch and operation of electronic shareholder forums.
Nothing in the new rules “prevents or alters application of the federal securities laws or other applicable federal or state securities laws to the person or persons that provide statements or information to an electronic shareholder forum.” Accordingly, for example,
- public companies must make certain that their statements on an electronic shareholder forum satisfy the requirements of Regulation FD, which prohibits selective disclosure of a public company’s material non-public information;
- prohibitions on fraud remain in place and continue to apply to statements made on an electronic shareholder forum;
- if a public company is attempting to raise equity capital
- a) in a public offering, a public company’s statements in a shareholders electronic forum could be deemed to be information that “conditions the market” for the securities offering and, therefore, technically constitutes an “offer” of securities (offers of securities being generally prohibited prior to the filing of a registration statement); or
b) in a private placement, public company statements in a shareholder electronic forum could constitute a “general solicitation” preventing the company from selling the company’s securities under a private placement exemption; and
- communications among shareholders in an electronic shareholder forum may result in the formation of a “group” for purposes of the federal securities laws, triggering requirements to make certain securities laws filings.
Moreover, certain federal securities law requirements may impact the design of the electronic shareholder forum. For example, the solicitation exemption set forth by the new rules only applies to solicitations made not less than a certain number of days prior to a shareholder meeting. Given this, how are stored posts to be handled?
To avoid the argument that a post made more than 60 days prior to a shareholder meeting fails to qualify under the exemption because it is available within such period, perhaps the electronic forum should be designed to “go dark” during the relevant exemption period.
The bottom line is that a public company should consult with securities law counsel in the design and operation of its electronic shareholder forum. If thoughtfully structured and operated, a public company’s electronic shareholder forum could provide an exciting addition to its investor relations program. Promotion of social networking by, with and among shareholders could well provide a public company, particularly one operating in a fast-moving technology field, with an innovative and cutting-edge way of distinguishing itself from its peers and competitors.
Brendan J. Radigan is a partner in the business law department of Edwards Angell Palmer & Dodge. He regularly advises technology companies on mergers and acquisitions and other transactions, as well as on securities and business law issues.