CVS Caremark election puts focus on broker voting rules

By Rachel Beck
Published July 7th 2007 in The Providence Journal

Activist shareholders of Woonsocket-based CVS Caremark Corp. can finally claim victory in a controversial vote on the board of directors that revealed so much of what the militants consider wrong with today’s corporate elections.

At issue is how shareholder votes get tallied for proxy proposals and director elections. Investors want only their actual votes to count, while companies often include votes from brokers for clients who may not have given voting instructions.

Those votes tend to favor companies — like it did for CVS’ tally of votes for directors at its May 9 annual meeting. That enraged shareholders such as CalPERS, the big pension fund for California state workers, plus the state treasurer of North Carolina and a union-backed investment group, who all said this way of voting has to stop.

The immediate target of their wrath was director Roger Headrick, who they claimed didn’t keep their best interests in mind when serving as lead independent director at Caremark during takeover talks with CVS.

As evidence, they cited the big money and job protections offered to Caremark leaders as part of the deal, while the company refused to negotiate with rival pharmacy benefits manager Express Scripts Inc., which had offered a higher selling price in a hostile bid. CVS eventually raised its offer and finally bought Caremark in March for about $26.5 billion.

Headrick won reelection at the annual meeting, receiving 606 million votes, or 57.2 percent of the total vote, by the company’s count. But activists claimed the contest was swung by an estimated 264 million votes cast by brokers, who the dissenters say largely supported the company. Take that amount out of the total, they said, and his win falls under the majority threshold of 44 percent.

The company said it does not know how many broker uninstructed votes were cast for or against a given director, according to spokeswoman Carolyn Castel.

On Monday night, CVS announced that Headrick had chosen to retire from the board. The company declined to elaborate further on his departure.

Whatever the reason, shareholder groups say it gives them momentum to press regulators to strip the voting power of brokers in what they allege is “legalized ballot stuffing” in corporate elections. They are targeting cases where brokers have the discretion to vote as they like because their clients — those who own the actual shares — haven’t told them how to vote.

This issue has become more pronounced with the recent adoption by many companies of “majority vote” policies, which requires director candidates to receive a majority of yes votes to be elected.

“This case was Exhibit A for why the voting process needs to be reviewed,” said Bill Patterson, who was part of the fight against Headrick as the executive director of CtW Investment Group, an arm of Change to Win, a coalition of labor unions. “We should not be seating directors when they don’t receive a majority vote.”

But the full-court press by labor unions, pension funds and other institutional investors will only get this issue so far. Like in the case of CVS, they can create a publicity nightmare for companies, but it is up to regulators to officially alter how voting is done.

The U.S. Securities and Exchange Commission plans to propose new rules this summer on shareholder rights in corporate proxy voting. Chairman Christopher Cox said at a congressional hearing in June that the broker vote issue will be considered.

Already, the New York Stock Exchange has proposed blocking brokers from voting in director elections, but that requires the approval of the SEC before it can be implemented. The SEC has delayed issuing a decision on the proposal.

Those fighting such change argue that smaller companies may be unable to meet quorum requirements without the broker votes. Also of concern is whether retail investors even know they are entitled to vote in corporate elections if they have bought stock through brokers.

A proposed solution may be to allow proportional voting, where the broker uses the voting instructions given by other retail investors as a proxy to determine how to vote with shares that have no instructions. Or investors could give general voting instructions when they buy a stock with a broker.

Brokers have the “fiduciary responsibility to act in the best interest of their clients, and the general belief is that is not happening much of the time,” said Patrick McGurn, senior vice president and special counsel at the proxy advisory firm Institutional Shareholder Services.

That’s exactly the view of many shareholders at CVS. They eventually got their way, but others might not unless the rules shift in their favor.