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Dec 11, 2018

NYC comptroller wary of proxy adviser rule changes

Debate continues at congressional hearing

A senior New York official has raised concerns about potential rule changes that could curb the role and position of proxy advisers, amid growing indications that regulatory actions may be coming.

Michael Garland, assistant comptroller for corporate governance and responsible investment in the Office of New York City Comptroller Scott Stringer, told senators last week that the office opposes any additional SEC actions that would compromise the independence of research, reduce the amount of time the office has to review research aimed at voting at AGMs, or impose additional compliance costs on proxy advisers that the office, as a client, would ultimately bear.

Garland was appearing at a December 6 hearing before the US Senate Committee on Banking, Housing and Urban Affairs looking at proxy advisers, the proxy process and related rules. Stringer represents New York City pension funds that collectively have more than $200 billion in assets under management and a track record of activism on corporate governance and sustainability matters.

‘While proxy advisory firms have been the subject of vocal criticism, I find it remarkable the impetus for onerous regulation of those firms is coming from those who are the subject of the analysis – particularly board members, corporate executives and their lobbying organizations – rather than from the institutional investors that pay for the research services,’ Garland stated in his prepared testimony.

‘To the extent that there are concerns on the quality of proxy advisory firm research, that is our problem as investor clients. Many of those who are the subject of the proxy analysis do not like to be criticized and receive negative vote recommendations, so they are reportedly lobbying aggressively and inappropriately to insert themselves between the proxy advisers and the clients of those advisers.’

One criticism of proxy advisers is that they wield outsized influence over voting. But Garland stated that although ISS recommended voting against say-on-pay proposals at 12.3 percent of Russell 3000 companies in 2018 (through November 1), only 2.4 percent of Russell 3000 companies received less than majority shareowner support on their say-on-pay proposals.

‘Like other institutional investors with custom policies, we use the research we receive from both of our proxy advisers as a critical input into how we apply our own guidelines,’ Garland argued. ‘The specific proxy voting recommendations from the proxy advisers are entirely irrelevant to our process. In fact… there is little correlation between their recommendations and our votes on executive pay, perhaps the most sensitive and contentious issue from the issuers’ perspective.’

As an example of the office’s independence, Garland said, its funds voted against say on pay at 25.4 percent of their US portfolio companies for the year ending June 30, 2018, despite ISS having recommended against say-on-pay at only 16.7 percent of those same companies. 

‘We recognize our responsibility to vote proxies with diligence and integrity, and in the best long-term interests of our participants and beneficiaries,’ he said. ‘We do not want company management interposed between us and our research service providers, and this is even more true if it involves additional cost and delay, giving us less time for our due diligence on each proxy vote.’

Elsewhere in his testimony, Garland argued that critics of shareowner proposal rights ‘are seeking to remedy problems that do not exist.’ For example, some critics claim that such proposals are deterring companies from going public. ‘This claim is highly implausible,’ Garland stated. ‘Proposals generally are non-binding, and the average Russell 3000 company can expect to receive a proposal once every 7.7 years. Most proposals go to larger, established companies.

‘The notion seems to be that a company would forgo the benefits of efficient public equity markets to avoid the possibility that, sometime in the next decade or so, a shareowner might submit a non-binding proposal to (for example) ask for improved disclosures around climate risk. This claim, too, is simply not plausible.’ 

Garland also described SEC Rule 14a-8, which governs the shareowner proposal process, as ‘largely effective, and… based on sound analysis of costs and benefits.’

In a speech made the same day, SEC chair Jay Clayton said the agency should ‘act to improve’ the proxy solicitation and voting process, the shareholder proposal process and the role of proxy advisers.

Clayton has asked SEC officials to develop recommendations in these areas for the commission to consider. ‘It is clear to me that these issues will not improve on their own with time, and I intend to move forward with the staff recommendations,’ he said. The agency recently hosted a full-day event on these topics.

‘For proxy advisory firms, I believe there is growing agreement that some changes are warranted. For example, there should be greater clarity regarding the division of labor, responsibility and authority between proxy advisers and the investment advisers they serve,’ he said in prepared remarks. ‘We also need clarity regarding the analytical and decision-making processes advisers employ, including the extent to which those analytics are company or industry-specific.’

Other issues that should be considered by the SEC include ‘the framework for addressing conflicts of interests at proxy advisory firms’ and ‘ensuring investors have effective access to issuer responses to information in certain reports from proxy advisory firms,’ Clayton said. Proxy advisers deny that they present conflict-of-interest problems and defend their preparation of reports and handling of information.

Clayton also said the agency should consider reviewing the ownership and resubmission thresholds for shareholder proposals to be mindful of changes that have taken place since the rules were set. One issue to consider, he said, is the interests of the long-term retail investors who invest directly in public companies and indirectly through mutual funds and other products.

‘With these long-term retail investors in mind, we also should consider whether there are factors, in addition to the amount invested and the length of time shares are held, that reasonably demonstrate that the proposing shareholder’s interests are aligned with those of a company’s long-term investors,’ Clayton stated.

Meanwhile, a bi-partisan bill was recently introduced to the Senate banking committee that would require proxy advisers to register as investment advisers under the Investment Advisers Act of 1940. ISS is currently a registered investment adviser, but Glass Lewis is not. The Senate bill has a narrower focus than the Corporate Governance Reform and Transparency Act, which has progressed through the House of Representatives.

Ben Maiden

Ben Maiden is the editor-at-large of Governance Intelligence, an IR Media publication, having joined the company in December 2016. He is based in New York. Ben was previously managing editor of Compliance Reporter, covering regulatory and compliance...