The message from one top proxy adviser to the Securities and Exchange Commission is clear: Don’t give in to demands from Corporate America that will weaken support for investors.
Institutional Shareholder Services is hoping that argument proves persuasive as critics of such firms grow increasingly optimistic that the agency is preparing to tighten its oversight.
In the run-up to a pivotal SEC roundtable on Thursday, the U.S. Chamber of Commerce and the National Association of Manufacturers launched a six-figure ad campaign targeting ISS and competitor Glass Lewis, which provide voting recommendations for shareholders on issues ranging from executive pay to diversity requirements.
Outside advocacy groups, like the Main Street Investor Coalition, are amplifying those efforts, while lawmakers are separately pushing legislation that would mandate new scrutiny. A bipartisan group of senators on Wednesday introduced a bill that would, among other things, require the SEC to periodically examine the proxy advisory firms for potential conflicts of interest.
Critics also charge that ISS and Glass Lewis are too secretive in their operations and often publish voting recommendations that contain inaccurate information. Large investment firms like BlackRock and Vanguard as well as pension funds — which hold substantial sway given the large amounts of stock they own – sometimes follow those suggestions blindly, a phenomenon commonly referred to as “robo-voting,” opponents say.
ISS, however, is standing firm. Its general counsel, Steven Friedman, said the company is “looking forward to having a robust discussion” on Thursday to address misconceptions.
In the following Q&A with the Washington Examiner, lightly edited for length and clarity, Friedman said he believes any changes to the current system are unnecessary. He declined to say whether the company believes the SEC has the authority to impose new operating requirements independently from Congress or if ISS would challenge such regulations in court.
Q: Earlier this year, the SEC withdrew guidance to ISS and competitor Egan-Jones Proxy Service outlining when investors can rely on voting recommendations from the firms. What is the significance of that action, and does it impact your operations?
A: They withdrew those letters because they felt they had become a little bit of a lightning rod and therefore were perhaps clouding or potentially could cloud the discussion we are hoping to have. The duties of investment advisers with respect to those service providers like proxy advisory firms is quite clear. The withdrawal of those letters did not and does not impact how our clients use us and conduct diligence on us.
Q: Why do you think proposed changes, like requiring the firm to increase communications with companies on pending vote recommendations, are unnecessary?
A: What gets lost in the debate is we do have processes today and, obviously, accuracy in our reports is fundamental; it’s a critical objective of ours, and it’s certainly what is required of us by our clients. We take steps in the process of conducting the research to try to ensure accuracy in our work product, and then we also have mechanisms today to take in feedback after those reports are issued, and if there are errors, to address them. The extent of the errors is certainly over-sized and out-stated. At the same time, where that does happen, we already have mechanisms in place.
Q: What is the rebuttal to companies that argue it is difficult to address any perceived errors in the reports?
A: We think a federally mandated right or obligation to preview the reports with the companies is both unprecedented and, we think, inappropriate. There is sufficient time. If there was an error that was discovered after the fact, there is certainly ample time to address that and ample time for client votes to be processed accordingly, to the extent that anything necessitates a change in the client voting intention.
Q: Does ISS rejects the notion that any sort of robo-voting takes place after the firm issues a recommendation?
A: That’s a recently made-up term that mischaracterizes how we work with our clients and how our clients use our services.
Q: How does it mischaracterize it?
A: It’s this pejorative term that’s been thrown out there to try to miscast how our clients are using our services. The reality is our clients have choice, really, throughout the spectrum of the process, ranging from a decision to engage a proxy advisory firm in the first place, the decision of which proxy advisory firm to engage with if they decide to do so …and the policy frameworks that you decide to use. The views that are being reflected in the vote recommendations are reflective of the choices they have already made in terms of that policy decision. In terms of the mechanics of the voting, the client always has the right to certainly override a vote recommendation. Really up until the day of the meeting, or in some cases the night before a meeting, all shareholders have an ability to change or alter their vote. Throughout that continuum, there’s a lot of choice involved, a lot of ownership taken on by the clients.
Q: Does ISS support any changes to the current process?
A: We believe the existing framework works. We’ve been a registered investment adviser for decades and we think that’s an appropriate regulatory framework. We do think it would be appropriate to expand that framework to all the players in the industry and make sure everyone is operating on an equal playing field. We don’t think change is necessary or warranted but, certainly, we are always open to what may be put out there and be mindful and compliant with our obligations.
Q: Do you believe that the SEC has the authority to act independently from Congress on this issue?
A: The SEC has the ability to level the playing field as it relates to registration of the firms that are in the industry. I’m unable to comment or foresee what else might be done and whether that’s within their [authority] or not.
Q: The firm is opposed to the legislation that passed the House to require proxy firms to register with the SEC. Is the agency able to implement such a requirement without congressional approval?
A: I don’t think ISS wants to take a position on that.
Q: Can you respond to critics who say it’s inappropriate for proxy advisory firms to operate a separate consulting business in addition to issuing voting recommendations?
A: Like many — or most, even — commercial businesses, there is always the potential for conflict in how they run the business. We embrace it in the sense that we take steps to manage and mitigate that potential conflict of interest and believe we do it very effectively.
Q: As your influence increases, does there need to be a re-evaluation of those conflict-of-interest policies?
A: We are constantly and regularly looking at our policies to make sure we are doing the right thing. That is irrespective of anything going on.
Q: Has the firm ever uncovered any conflict of interests?
A: No, we have not seen any instance where the research or the conclusions have been compromised.
Q: Is there any discussion of voluntarily changing any of your policies in the face of what the SEC is doing?
A: We are always looking to evolve our policies and procedures to better our business.
