When you point one finger, sometimes three point back at you. The U.S. Securities and Exchange Commission wants to make new rules that will constrain proxy advisers, research firms like Glass Lewis and Institutional Shareholder Services that advise investors how to vote at companies’ annual meetings. Groups representing companies, institutional investors, money managers, and individuals submitted hundreds of letters for and against the proposal during the 60-day comment period, which ended last week. Breakingviews explains how comments on the proposals – and who they came from – make a better case for proxy firms than against them.
WHAT’S THE POINT OF PROXY ADVISERS?
Investing in companies involves a type of difficulty known as an agency problem. If an asset manager or individual owns only a small stake, the effort of analyzing the business and its management in depth isn’t worth it. Instead, shareholders often pay other people to do it: There’s a sea of analysts, prognosticators and commentators that spans Wall Street banks, credit-rating firms, specialist media and independent firms.
Proxy advisers operate somewhere between research teams at investment banks and credit raters, publishing reports that focus on shareholder decisions like votes on mergers, directors, top-executive pay and such – and increasingly on demands from investors for increased disclosure on risks from climate change.
THAT SOUNDS USEFUL
It is. Glass Lewis, ISS and smaller rivals are a good additional check on company management, especially given the agency problem for most investors. An asset manager as big as BlackRock, with $7.4 trillion under management, can afford to do its own analysis, but many can’t.
SO WHAT’S THE PROBLEM?
There are a few, some real and some perceived. Because of their role in the voting process – sometimes recommending investors vote against company management – proxy advisers are seen as a thorn in the side of corporate America. Unsurprisingly, the U.S. Chamber of Commerce, which represents big American companies, came out swinging in its comments to the SEC.
Some of the chamber’s criticisms are fair. Proxy advisers publish a lot. Glass Lewis, for example, put out more than 5,000 reports in 2018 on U.S. issuers, and more than 23,000 in total. They sometimes make mistakes.
Proxy advisers are also conflicted. Some of their paying clients include hedge funds, like those that make up the Council for Investor Rights and Corporate Accountability. That’s a lobbying group for firms like Elliott Management and Pershing Square Capital Management. These noisy investors are often the instigators of the battles proxy advisers are refereeing. There are other potential conflicts in the proxy services the same firms sometimes provide to companies, too.
Less reasonable – especially considering that conflicts and mistakes are also facts of life for Wall Street analysts, credit-rating firms and others providing similar services – is the idea that regulation to limit the proxy advisers’ activity is the answer.
WHAT IS THE SEC PROPOSING TO CHANGE?
One draft rule would force increased disclosure about conflicts. That makes sense.
Another would give companies the right to check and rebut what proxy advisers write before publication. Although that can be dressed up as a way to ensure accuracy, it’s a ham-fisted approach that would also encourage self-censorship and could even make proxy advisers de facto mouthpieces for the companies they cover.
THAT SOUNDS COUNTERPRODUCTIVE
Yes. The current system in which investors have access to a range of published analysis and use it alongside a company’s own disclosures to make their own decisions works fine. After all, just because proxy advisers dole out opinions doesn’t mean others have to take them. And companies already have formal and informal channels to convey their views to investors.
The California Public Employees’ Retirement System – America’s biggest pension manager, with around $400 billion of assets – is one independent group that has vehemently objected to the SEC’s plans. CalPERS wants the regulator to encourage companies to enhance their own disclosures. It reckons scrutiny from proxy advisers helps achieve that goal, and that the proposed rules “go in the opposite direction” by making the process more complicated and expensive.
CalPERS also argues that the SEC is using insufficient data and analysis to bolster its justification for the proposed new rules.
SO WHAT COULD THE SEC DO INSTEAD?
Other issues are more pressing. Proxy voting processes are stuck in the 20th century, if not the 19th. BlackRock, for example, in November urged the regulator to make it easier for retail investors to vote on non-routine items by eliminating rules that make it difficult to contact them. The asset manager, run by Larry Fink, also wants the SEC to help streamline the process to reach shareholders, which today often requires printed materials sent through snail mail.
There are increasing demands from investors, including BlackRock, for companies to assess and disclose risks to their business from a changing climate. Along with other big risks, it’s something the SEC could easily require companies to do – but that isn’t happening either, and an increased onus on proxy advisers in some ways could make this more difficult.
The SEC’s job is to protect investors and keep markets honest. CalPERS and others have a case that partially muzzling proxy advisers would work the other way. Glass Lewis, ISS and the rest are not perfect. But they’re still useful.
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– In November, the Securities and Exchange Commission outlined proposed changes to rules for proxy advisers. The new rules would require that proxy advisers disclose material conflicts of interest, that companies must be given an opportunity to review and provide feedback on proxy voting advice before it is issued, and that proxy voting advice include “a hyperlink or analogous electronic medium” that includes the company’s views on the advice.
– The new rules had a 60-day comment period.