“Proxy Voting Is Broken and Needs to Change.”
That eye-catching headline appeared in a recent article in Barron’s detailing what it called “the most expensive and contentious proxy battle in U.S. history” — namely, the weeks-long proxy struggle between Proctor & Gamble and activist investor Trian Fund Management that lasted several weeks.
Whether the voting process is actually broken is perhaps up for debate. But there’s no question that it’s damaged and needs repairing. It also needs a thorough discussion with all the key players, which is exactly what’s about to happen.
On July 30, 2018, the SEC announced that it will hold a roundtable on the proxy process to “hear from investors, issuers and other market participants about whether the SEC’s proxy rules should be refined.” The roundtable, expected to be held in November, is meant to address several issues, including the voting process, retail shareholder participation and the role of proxy advisory firms.
This SEC roundtable offers a welcome opportunity to discuss these issues, many of which are very important to our clients. We recently commented on some of these issues in our formal submission to the SEC, and wanted to reiterate our key points in this article on two specific points — decreasing retail shareholder participation in proxy matters, and the related increase in the use and influence of proxy advisory firms in those same matters.
Proxies — the evolution
But first, a little context.
The SEC’s roundtable is timely for everyone in capital markets, particularly when you think of the evolution of proxies. For instance, many companies are evolving their proxies from a pure SEC-compliance focus to more of an investor-focused communications piece, while still meeting regulatory disclosure requirements.
This evolution is underpinned by increased and direct engagement between companies and their major investors on a range of topics, such as:
- Board gender and other forms of diversity.
- How the board skills mix is appropriate for the company’s strategy.
- Executive compensation, pay for performance alignment and how pay supports the business strategy.
- And, increasingly, corporate social responsibility and company sustainability and potential climate change risk.
Our clients tell us there are several drivers to this change.
“In experiencing increased shareholder activism, they feel a desire to tell their best corporate governance and board story,” says Ronald Schneider, DFIN’s director of Corporate Governance Services. “They feel similar pressures between ‘Say on Pay,’ and a need to tell their best compensation story. Plus, they don’t want to be seen as 'communications laggards’ relative to their peers.”
Two key issues
DFIN is the largest EDGAR Filing Agent to the SEC, offering public and private corporations software and service to help them streamline reporting to the SEC and deliver high-quality disclosure to the markets. We provide over one-third of U.S. public companies with comprehensive services including proxy messaging strategy, creative design services, editorial and drafting assistance, collaborative drafting tools, SEC filing, printing, distribution, web hosting and annual meeting services.
From that perspective, we feel the two issues mentioned above — retail participation and proxy advisory firms — are of vital importance for our clients.
1. Decreasing retail shareholder participation
Companies recognize that retail investor voting participation can provide a base of support that can help blunt or offset negative votes from institutional and other investors. DFIN works with many clients to help them inform their retail investors — showing those investors that proxy information is available and actionable.
However, retail voting participation is reported to be declining over the past decade, and it is quite low overall. In announcing their roundtable, the SEC said that “[i]n the 2017 proxy season, retail shareholders voted approximately 29 percent of their shares, while institutional investors voted approximately 91 percent of their shares.”
In our view, this troubling situation stems from two factors.
Firstly, collecting the diffused retail vote is less cost-effective than securing voting from more concentrated professional holdings. Secondly, this decline is highly correlated both in time and degree with a shift to Notice & Access from traditional “full set” mailings.
There is a range of reasons for this correlation. But, simply put, once an investor receives a “notice of internet availability” they must then take additional steps in order to access the proxy materials and vote. This two-step process adds time and a certain frustration to the proxy voting process for retail investors, causing many of them to simply not bother.
By contrast, the traditional postage delivery approach meant investors received their proxy card (or, for street name investors, their “vote instruction form”) directly, with this initial mailing along with the very detailed proxy itself.
Hard copies, in other words, have a real value in terms of voting.
Our experience suggests that retail investors tend to broadly support management in exercising their proxy votes. So, diminishing the voting and thus the influence of retail investors by forcing them go through a two-stage voting process actually reduces the level of support that this group often contributes to management and their strategic direction.
However, it is clear that companies have to make decisions balancing cost, desired level of retail voting participation, significance of particular proxy proposals and their approval requirements. Where they believe the retail voting component is particularly important, companies can “stratify” the distribution on any level — often sending notices to smaller investors and full sets to larger investors — or send full sets to all.
“The mailing and distribution strategy should be in sync with the solicitation strategy, so companies achieve the optimal balance of voting support and potential cost savings, and this balance may change from year-to-year,” says Schneider.
2. Increasing influence of proxy advisory firms
Falling retail investor participation opens the door to increased influence by proxy advisory firms. Many firms are concerned about the impacts and influences of these unregulated proxy advisors.
Many smaller or mid-size institutional investors with limited internal resources use proxy advisory firms for their vote recommendations, and the former may follow the recommendations of the latter. In that sense, proxy advisory firms hold significant sway over the proxy voting of these investors.
That’s not the situation, however, with larger investors, such as Blackrock, Vanguard, State Street Global and many others. They have their own (often substantial) internal resources to consider proxies. And while they read reports from proxy advisory firms, they are less susceptible to the influence of those firms.
Yet in both cases — for the small and medium-sized investors and the large ones — investors are less likely to reflexively follow negative proxy advisor recommendations when provided with proxies that are well organized and easily navigated, and which provide clear, compelling information that ties their actions to the company’s business strategy and efforts to grow shareholder value.
In short, not just the “what,” but the “why.”
Many firms provide their investors with coherent, compelling and digestible information to help them make thoughtful, company-specific voting decisions. This approach is a win-win for companies and investors alike.
In our experience, providing clearly articulated proxy disclosures is an effective tool to diminish the impact of negative proxy advisor recommendations. Motivated by this desire, many firms provide their investors with coherent, compelling and digestible information to help them (i.e., the investors) make thoughtful, company-specific voting decisions. This approach is a win-win for companies and investors alike.
DFIN’s proxy solutions
Our proxy tools help clients increase the share of retail voter participation and reduce the impact of advisory firms. For example, our Guide to Effective Proxies is a searchable catalog of proxy disclosures from our extensive and diverse client base. It catalogs several topics and features of proxies, highlighting some best practices in proxy disclosures on issues such as board performance, governance, compensation and gender equity.
“By using this Guide, companies can create more compelling proxy disclosures, and thus increase the efficacy of their proxy processes,” says Schneider.