SEC Proxy Guidance Questioned by Investor Groups

Following SEC guidance regarding investment advisers’ proxy voting obligations issued in August of this year, and rule changes proposed by the SEC consistent with that guidance a few weeks later, investor organizations, including the Council of Institutional Investors (CII), and Institutional Shareholder Services (ISS), have taken actions to challenge the guidance and he rule proposals.

In August, the SEC voted 3 to 2 to issue the new guidance and to include potential rule amendments in its regulatory agenda. In general terms, the SEC’s interpretations are designed to make all proxy voting recommendations by a proxy adviser a “solicitation” under the federal proxy rules and subject to the Securities Exchange Act of 1934 (the “Exchange Act”) and Rule 14a-9.

In a letter to the SEC in October, CII questioned the wisdom of the guidance and urged the SEC not to adopt proposed rule changes over concerns that both the guidance and the rules would weaken corporate oversight by investors and make it more difficult to replace or oppose existing management.  CII claimed that both the guidance and the proposed rulemaking would increase costs, add regulatory burdens, increase litigation, and otherwise make it more expensive and difficult for investors to retain the benefits offered by proxy advisory firms.  CII said in its letter that the guidance and proposed rule changes not driven by investor protection because there is no “call from the investment community” or regulatory intervention on the issue of proxy voting.  Rather, CII contends that SEC made the announcement and proposals because of pressure from issuers who believe that proxy advisors are too often influential in successful corporate voting campaigns.  The letter indicated that CII’s position was supported by the Comptroller for New York City and the CEO of the California Public Employee’s Retirement System, among other major institutional investors.

Of chief concern to the CII is the rule’s requirement that proxy advisory firms adopt policies and procedures to prevent conflicts of interest to ensure that voting advice received by clients of such firms is not based on incorrect, incomplete or otherwise false information. CII sees that requirement as tilting the playing field in favor of registrants.

In late October ISS sued the SEC in federal court to prevent the adoption of the rule proposals announced in August. A few weeks later the SEC proposed amendments to the Securities Exchange Act of 1934 that provide exemptions from the filing and information requirements of the proxy rules as long as certain conditions are met, namely: (1) material conflicts of interest included in proxy voting advice must be disclosed: (2) registrants and other soliciting persons must be provided an opportunity to review and provide feedback on the proxy voting advice before it is issued; and (3) upon request, the proxy adviser must provide an “improved means” by which investors can learn more information regarding the registrant’s views on the advice.

This legal challenge continues, and further challenges are likely. One of the main concerns of proxy voting firms and those who advocate on their behalf is that the new regulations will drive up the cost of distributing advice and will open the door for registrants to unreasonably interfere in the advice process through the feedback requirement. The advisers will have to weigh carefully such input, decide close questions regarding the accuracy of their characterization and other facts, and then remain accountable for errors, whether or not such errors were immaterial or were made in good faith. Most critics, including CII and ISS, claim the feedback mechanism disadvantages activist shareholders by giving registrants the ability to “echo” the information contained in their own proxies in the proxies of proxy advisers.


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