This week, a divided Securities and Exchange Commission voted 3-2 along party lines to issue Commission-level guidance reaffirming that proxy advisory firm voting recommendations are subject to federal proxy solicitation rules while also detailing the implications on the fiduciary duties of institutions which use proxy advisory firm services.
Republican Commissioner Elad Roisman opened the meeting, calling it an “important first step.” He noted that SEC action on the exemption to the proxy solicitation rules relied on by proxy advisory firms as well as shareholder resubmission thresholds would come in "the near future". Without the exemption, proxy advisory firms would be subject to the more rigorous requirements that apply to issuers who solicit proxy votes. The day’s agenda included:
Clarification of Fiduciary Voting Responsibilities of Investment Advisors. The 24-page Q&A-formatted guidance set out several recommendations which institutional investors and advisors could undertake to ensure they are upholding their fiduciary responsibilities under the Investment Advisors Act. Steps to ensure the duty is fulfilled include ensuring proxy advisory firms have adequate resources to conduct effective and correct proxy research, provide sufficient disclosures on underlying methodologies forming the basis for recommendations, and disclose all conflicts of interest.
Interestingly with respect to the conflict disclosure, echoing the Center’s comments to the SEC, the guidance states that the disclosures need to be “context-specific, non-boilerplate” of actual and potential conflicts including the “amount of compensation paid to the [proxy advisory firm]” by the other party to the conflict. Investors are advised to also consider the accessibility and transparency of the conflict disclosures, for example whether they are available online.
Proxy Advisory Firm Voting Advice is a Proxy Solicitation. The SEC’s second set of guidance reaffirmed that the voting advice provided by proxy advisory firms generally is subject to the federal proxy solicitation rules. During the meeting, Commissioner Roisman pointedly noted the guidance did not impact the exemption from the proxy solicitation rules which proxy advisory firms currently rely on.
The guidance does, however, make certain that the voting recommendations provided by ISS and Glass Lewis are covered by the rules. In doing so, the guidance quotes the Center’s November 2018 comments in making the point that proxy advisory firms advertise their services (which serves as a "solicitation") nd the proximity of the voting advice to the annual meeting enhances the potential for reliance. This guidance is a necessary step if the SEC, as predicted by Roisman, takes up changes to the proxy advisory firm exemptions to the proxy solicitation rules because they need to be subject to the solicitation rules in the first place to qualify for the exemption.
Anti-Fraud Provisions Apply to Proxy Advisory Firm Recommendations. The second part of the second guidance affirms that the anti-fraud provisions of the federal proxy solicitation rules apply to proxy advisory firm recommendations, whether or not the solicitation is exempt from the federal proxy rules. The guidance sets out several recommendations for proxy advisory firms to avoid proxy fraud liability, including:
- Disclosure of the methodology for formulating voting advice where the omission would render the advice misleading;
- The extent the voting advice is obtained from a source other than a company’s public disclosures and the extent those sources are used; and
- Conflict of interest disclosures;
Use of Commission-Level guidance carries significant weight, angering SEC Democrats. Democratic Commissioners Robert Jackson and Allison Lee dissented from the changes, with Jackson decrying the potential impact the actions could have on proxy advisory firm competition. Lee expressed her deep dissatisfaction with the use of Commission-level guidance which she characterized as having the force of law without the notice and comment requirements of the Administrative Procedures Act. Both sets of guidance issued during the meeting will be effective for the upcoming proxy season.
ISS, for its part, released a statement expressing strong concerns that the guidance would increase costs of services and interfere with the ability to provide timely service in the midst of proxy season. Glass Lewis has not responded to requests for comment on the guidance from media outlets.