As 2014 winds down and 2015 approaches, proxy advisory firms—and the investment managers who hire them—are finding themselves under increased scrutiny. Staff guidance issued by the Securities and Exchange Commission at the end of June and a working paper published in August by SEC Commissioner Daniel M. Gallagher both indicate that oversight of proxy advisory services will be a significant focus for the SEC during next year’s proxy season. Under the rubric of corporate governance, annual proxy solicitations have become referenda on an ever-widening assortment of corporate, social, and political issues, and, as a result, the influence and power of proxy advisors—and their relative lack of accountability—have become increasingly problematic. The SEC’s recent actions and statements suggest that the tide may be turning. Proxy advisory firms appear to be entering a new era of increasing accountability and potentially decreasing influence, possibly with further, more significant, SEC action to come.
It is time for calendar year-end public companies to focus on the upcoming 2015 proxy and annual reporting season. This post discusses the following key issues for companies to consider in their preparations:
- Pending Dodd-Frank Regulation
- Say-on-Pay and Compensation Disclosure Considerations
- Shareholder Proposals
- Proxy Access
- Compensation Committee Independence Determinations
- Compensation Adviser Independence Assessment
- Compensation Consultant Conflict of Interest Disclosure
- NYSE Quorum Requirement Change
- Director and Officer Questionnaires
- Proxy Advisory Firm and Investment Adviser Matters
- Conflict Minerals
- Management’s Discussion and Analysis
- Proxy Bundling
- Foreign Issuer Preliminary Proxy Statement Relief
- Technology and the Proxy Season
The 2014 proxy season saw significant growth in audit committee transparency. Continuing the trend of the past several years, an increased number of Fortune 100 companies are going beyond the minimum disclosures required.
These disclosures are also more robust—providing valuable perspectives on the activities of audit committees, including their oversight of external auditors.
The recent movement toward increased audit committee transparency has been encouraged by a variety of factors and entities. In addition to the ongoing disclosure effectiveness review by the US Securities and Exchange Commission (SEC) involving a holistic review of the US corporate disclosure regime, audit committee disclosures are receiving significant attention from a variety of stakeholders. These stakeholders include US and non-US regulators, investors, and policy organizations.
In our paper, Influence of Public Opinion on Investor Voting and Proxy Advisors, which was recently made publicly available on SSRN, we address the question of how public opinion influences the proxy voting process. We find strong influence of public opinion on the evolution in both investor voting behavior and proxy advisor recommendations. Therefore, our results suggest that an additional channel through which the public can communicate with corporate management (and potentially influence corporate behavior) is the proxy voting process. We provide new evidence that media coverage can also influence firm behavior through the voting channel. This channel is important because media coverage captures the attention of proxy advisors, institutional investors and individual investors, and is thus reflected in recommendations and votes.
Commissioner Daniel M. Gallagher of the Securities and Exchange Commission (“SEC”) authored a working paper, published last month by the Washington Legal Foundation, regarding the outsized power and influence of proxy advisory firms.  In his paper, Commissioner Gallagher provides his view of the most important aspects of Staff Legal Bulletin No. 20 (“SLB 20”), in which the SEC staff recently “moved toward addressing some of the serious issues” resulting from the emergence of proxy advisory firms as a dominant player in American corporate governance. Notably, Gallagher also offers some critical advice to public companies engaging with proxy advisory firms.
Shareholder voting has undergone a remarkable transformation over the past few decades. Institutional ownership of shares was once negligible; now, it predominates. This is important because individual investors are generally rationally apathetic when it comes to shareholder voting: value potentially gained through voting is outweighed by the burden of determining how to vote and actually casting that vote. By contrast, institutional investors possess economies of scale, and so regularly vote billions of shares each year on thousands of ballot items for the thousands of companies in which they invest.
“Proxy season” is stretching longer and longer with each passing year as the “off season” has become the season to engage with institutional shareholders and to prepare for the next season. With 2014’s annual meetings now largely completed and the 2015 proxy season on the horizon, now seems a good time to review lessons learned and themes from 2014. This Corporate Governance Update addresses some of the developments that shaped the proxy season in 2014 and discusses points worth considering as preparations for the 2015 season begin.
Nearly 40 investor representatives shared with us their key priorities for the 2014 proxy season. We review the developments around these topics over the 2014 proxy season through shareholder proposal submissions, investor voting trends, proxy statement disclosures and behind-the-scenes company-investor engagement.
Key Developments in the 2014 Proxy Season
Activist investors are becoming more active and influential: Nearly 150 campaigns by hedge fund activists were launched in just the first half of this year. Both companies and long-term institutional investors are learning to navigate this changing landscape.
Recently issued SEC staff guidance addresses concerns that have been raised about proxy advisory firms by emphasizing that the investment adviser that retains and pays a proxy advisory firm is uniquely positioned to monitor the proxy advisory firm and is required to actively oversee the firm if it wants to benefit from the firm’s services to discharge its fiduciary duty. As a result of the greater oversight exercised by all of their investment adviser clients, the proxy advisory firms will presumably respond by enhancing their policies, processes and procedures, as well as the transparency of these policies, processes and procedures. In turn, the corporate community may indirectly benefit to some degree.
Over the last few years, Congress and Securities and Exchange Commission (SEC) were put under pressure to seriously consider regulating proxy advisory firms. Financial industry and government leaders have voiced concern that proxy advisory firms exert too much power over corporate governance to operate unregulated. The SEC as well as the Congress have investigated and debated the merits of proxy advisory regulation. The U.S. House of Representatives held a hearing on the matter in June of 2013, and the SEC followed this hearing with a roundtable discussion in December of 2013. On June 30, 2014, the Investment Management and Corporate Finance Divisions of the SEC issued a bulletin outlining the responsibilities of proxy advisors and institutional investors when casting proxy votes. As of yet, no binding regulation has been promulgated, despite repeated calls for it.