Annual meeting season is in full swing on both sides of the Atlantic. This year, a new player is being dragged onstage to perform alongside traditional characters such as the generously-paid-off former executive and the lone campaigning investor. The proxy adviser’s moment is here.
Proxy firms’ reluctant move from their behind-the-scenes role has two causes.
In the US, it stems from reaction to the first annual meetings to be subject to advisory “say on pay” votes. As shareholders have persuaded some companies to change pay policies and voted against the remuneration reports of a handful who were not listening hard enough, attention has shifted to the firms such as ISS and Glass Lewis & Co which advise institutional investors how to vote.
The Securities and Exchange Commission is in the early stages of considering new rules.
In Europe, meanwhile, regulators have started looking at proxy firms because institutional shareholders are becoming more dependent on them. This reliance comes as investors must respond to criticism that they were too dozy during the financial crisis, while managing widely diversified portfolios: Norges Bank Investment Management, the Norwegian state fund manager, has holdings in more than 8,000 companies, for example.
So this month’s EU green paper on corporate governance asked whether proxy firms should be more transparent (hard to see that getting a resounding No) and if they should face greater regulation. AMF, the French stock market regulator, has weighed in too.
The two central concerns are that proxy advisers lack transparency and that they are subject to conflicts of interest. I would add a vaguer worry – that firms may sometimes get in the way of constructive discussion between companies and investors since they necessarily have their own agendas to pursue.
So far, proxy firms’ responses to the concerns have had their awkward aspects.
Take the idea that the fuss about proxy advisers is overblown because the firms merely offer recommendations and do not decide how investors should vote.
Fine. Sometimes an advisory firm does end up on the losing side of a poll. Depending on where you look, estimates of how a recommendation can affect a decision range from 6 per cent of votes to over 30 per cent.
Yet this “we’re not so influential after all” line sits uneasily alongside a business model based on providing shareholders with advice they think is worth buying. It would be an unusual investor that consistently disregarded recommendations but was content still to pay for them. And where a firm sells customised advice that reflects a particular investor’s values then that – surely – is very likely to be heeded.
Then there is the question of conflicts. Proxy firms that choose to run a corporate advice business can argue that companies have asked them for this service and it makes no commercial sense to provide it for free. That sounds fair enough. They may also say it is a good way to raise standards. Perhaps. As for the potential for conflict, they use firewalls to ensure that those who make recommendations to investors do not know which companies are corporate clients and so cannot be influenced by that knowledge.
But this approach leaves firms with a tough line to sell. It means arguing that the best way to manage potential conflicts is not to be transparent to the market in general, since this would destroy the firewalls that are the bulwark against such conflicts. Good luck with that one.
It boils down to this. Proxy firms are an inevitable – and often valuable – part of enabling shareholders to reach decisions about the companies they own. The trends that have fed their growing influence show no signs of going into reverse any time soon. So even if proxy advisers believe questions about their role come with ulterior motives, answers are still needed.
Clearer regulation would be a good start. About half the current proxy firms in the US are registered with the SEC as investment advisers. Pirc, one of the UK’s bigger shareholder advisory firms, is registered with the Financial Services Authority. Yet in neither market is the oversight comprehensive and clear.
Compulsory registration would provide a basis for minimum standards on, for example, publishing how voting policies are decided. Beyond a registration requirement, greater disclosure is a more promising avenue than new restrictions on business. If companies and investors can see what a proxy firm is doing, they can make up their own minds about the value of that activity and can argue their opinions.
This is not a case of causing damage by letting daylight in upon magic. Instead, it is about ensuring the spotlight falls as it should on a leading figure in the ongoing drama that is the corporate-investor relationship.
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