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The Proverbial Sausage was Being Made by the Securities and Exchange Commission

Proxy voting

The proverbial sausage was being made by the Securities and Exchange Commission (SEC) last week. 

The SEC held one of its regular open meeting in which it considered two rules.

The open meeting is part of a larger process which include comment periods and other steps before an SEC rule is finalized. 

There were two rules for consideration at the last open meeting, and they both had to do with proxy voting. 

The first rule was entitled: “Exemptions from the Proxy Rules for Proxy Voting Advice.”

The SEC noted in its agenda, “The Commission will consider whether to adopt proxy rule amendments to provide investors who use proxy voting advice with more transparent, accurate, and complete information on which to make voting decisions, without imposing undue costs or delays.”

Proxy voting has taken on more significance because more and more people are invested through intermediaries like mutual funds, exchange-traded funds, pensions, etc.

“The majority of our main street investors participate in our public markets through intermediaries, most commonly through ownership of mutual funds and exchange-traded funds.” Jay Clayton, SEC Chair, said in his opening statement during the meeting. “Institutional investors, including the funds that hold these retail investments, own approximately seventy-two percent of the domestic stock market value. 

“Proxy voting in the interest of those retail investors is important to fund performance and retail investor welfare. Many of the institutions that managed retail investor money retain proxy voting advice businesses, or services relating to both the substance of voting decisions and the process of voting, including automated voting. These businesses are uniquely situated to influence proxy voting decisions.”

Clayton is not alone in his concern over proxy voting businesses. 

In 2019, the Senate Banking Committee held a hearing entitled, “The Application of Environmental, Social, and Governance Principles in Investing and the Role of Asset Managers, Proxy Advisors, and Other Intermediaries.”

One witness was James Copland from the Manhattan Institute. 

In his written statement, he talked about how proxy voting companies have risen from obscurity to have outweighed power. 

“Proxy advisory firms can serve to amplify such special-interest advocacy. To manage their proxy voting, institutional investors rely heavily on a pair of proxy advisory firms, Institutional Shareholder Services, or ISS, which is today owned by private-equity firm Genstar Capital;18 and Glass, Lewis & Co., a subsidiary of the Ontario Teachers’ Pension Plan Board.” Copland wrote. Together, these two proxy advisors control approximately 97% of the market for proxy advisory services, with ISS alone having about a 61% share. By its own estimation, ISS annually helps approximately 2,000 clients execute nearly 10.2 million ballots representing more than 4.2 trillion shares. 

“As summarized in a 2018 report, I co-authored with Stanford’s David Larcker and Brian Tayan, a substantial body of empirical evidence shows that proxy advisory firms’ recommendations influence institutional investor voting and that publicly traded companies are influenced by proxy advisor guidelines. A 2012 analysis I co-authored showed that an ISS recommendation ‘for’ a given shareholder proposal, controlling for other factors, was associated with a 15- percentage-point increase in the shareholder vote for any given proposal. As Leo Strine, a former chancellor on the Delaware Court of Chancery, observed: ‘Powerful CEOs come on bended knee to Rockville, Maryland, where ISS resides, to persuade the managers of ISS of the merits of their views about issues.’”

An SEC staffer explained some of the details of the proposed rule in the open meeting. 

“Command Exchange Act rule 1481L codified the Commission’s view that proxy voting advice generally constitutes a solicitation within the meaning of Section 14A of the Exchange Act.” The staffer stated. “The amendments would also revise the Exchange Act rules 1482 B1 and B3, which provide exemptions from certain of the proxy rules information and filing requirements.

“Part of the amendment, in order to be eligible for these exemptions, proxy voting advice businesses must satisfy the following conditions of the new rule 1482B9, under new rule 1482B9-1, proxy voting advice businesses must provide a specified conflict of interest disclosures in their proxy voting advice, or in an electronic medium.”

The staffer noted that exempt firms also must, “adopt and publicly disclose written policies and procedures reasonably designed to ensure that A) firms that are the subject of proxy voting advice have such advice made available to them at or around the time such advice is disseminated to proxy advice business’s clients and  B) proxy voting advice business provides its clients with the methods in which they can reasonably be expected to become aware of any written statements regarding its proxy voting advice.”