Truce sorely wanted on proxy proposal championed by SEC

Stakeholders on both sides of the SEC's proxy-proposal debate are hopeful a compromise will be reached on one of the package's most contentious parts, though questions persist about how that compromise will work.

For months, the business community has been on the opposing side of institutional investors, money managers and proxy advisory firms regarding a major piece in the SEC's proposed proxy package. In November, the agency voted to put forth proposed rules that would, among other things, allow companies the opportunity to review and make revisions to proxy recommendation before they're sent to clients.

Supporters of the proposal say it would allow companies to correct errors in reports before votes are cast, while those in opposition think it's a solution in search of a problem and would hurt the independence of proxy recommendations.

Eleazer Klein, New York-based partner at Schulte Roth & Zabel LLP and co-chairman of its global shareholder activism group, said he hasn't seen any material mistakes in a proxy recommendation over his career. "Many times I don't agree with the analysis; that doesn't mean it's a mistake," he said.

Now, industry stakeholders are expecting the SEC to remove the pre-review section from its proposal and instead move forward with a contemporaneous review and "speed bump" concept.

SEC Commissioner Elad L. Roisman, who is leading the commis- sion's proxy efforts, said in a March 10 speech that based on feedback outlining concerns of pre-review, he's open "to considering other ways to accomplish the policy goals of improving the total mix of information available to the marketplace and enhancing fairness and transparency in the voting process," according to a copy of the speech at the Council of Institutional Investors conference in Washington posted on the SEC's website.

Mr. Roisman mentioned an idea to offer a contemporaneous review period for companies, wherein a proxy adviser would send its report to the issuer at the same time it distributes the report to its clients and then notify its clients if the issuer raises objections to the report within a short time period.

He floated the idea of a speed bump, which he described as a time period during which the proxy voting advice business would have to disable any automatic submission features. A speed bump is thought of as a way to address "robo-voting," where a proxy advisory firm casts a vote on behalf of a client based on the firm's recommendation.

The SEC declined to provide additional comment.

"We are encouraged that the commission seems to have moved away from the proposal to grant companies pre-review of independent proxy advice, which would have resulted in operational issues for proxy advisers and their clients," said Nichol Garzon-Mitchell, senior vice president and general counsel at proxy advisory firm Glass, Lewis & Co., in a statement. "Nonetheless, we remain concerned about some of the alternatives the SEC may be considering in its attempt to regulate how shareholders receive advice and exercise their voting rights."

Glass Lewis and Institutional Shareholder Services Inc. control about 97% of the proxy advisory market. ISS declined to comment.

Keith F. Higgins, Boston-based chairman of the securities and governance practice at Ropes & Gray LLP and former director of corporation finance at the SEC, referred to the speed bump idea as a "Solomonic solution."

"It gives issuers an opportunity before votes are cast to get their information out to their shareholders to be able to counter what they believe are the faulty arguments in a proxy advisory firm report, while on the other hand it satisfies the concern that some users of proxy advisory firms and the firms themselves have about the independence of the research done," he said.

The speed bump is a "step back to something more normal," Mr. Klein said. "If I had to accept that something is going to happen, which unfortunately I think I do, then this is an improvement over where we were."

The SEC has taken a very diligent and thoughtful approach over the past 10 years in reconsidering the rules governing proxy advisory firms, said Erik Rust, Washington-based director of the U.S. Chamber of Commerce's Center for Capital Markets Competitiveness. "The proposed rule as well as recent statements from Commissioner Roisman reflect ... careful consideration and will lead to more accurate and complete information available to investors."

The chamber and other business groups like the National Association of Manufacturers have been staunch supporters of the SEC's proposal.

Gail Bernstein, general counsel at the Investment Adviser Association in Washington, said the speed bump and contemporaneous review is a reasonable compromise collectively, but she doesn't want the SEC to "interfere" with proxy voting platform technology.

"We think that the time frame is already so compressed for advisers to get their voting done that putting … an additional layer of time constraint and burden on advisers would be problematic," she said of the speed bump.

Amy Borrus, deputy director of the Council of Institutional Investors in Washington, echoed similar sentiments. "As a compromise, the speed bump idea sounds promising," she said in an email. "But we don't understand how it would work. There isn't much information about it in the SEC rule proposal. It would be helpful for the SEC to re-propose the idea and seek comment. That would allow market participants to have a better idea of how a speed bump might work and ferret out potential concerns."

Added Ms. Bernstein: "We think that this would be a very material change and that more study would be needed on what it would mean. It would be very necessary for the SEC to go out and solicit public input again."

Following a call with Mr. Roisman after his CII speech, which was noted in an SEC memorandum, hedge fund firm Elliot Management Corp. submitted another comment letter on March 30 in which it detailed concerns about the speed bump and contemporaneous review ideas.

If the SEC does move forward with the speed bump, it should initiate a separate rule-making process, the firm said. "This approach would also clarify that it is actually an SEC proposal in contrast to, as you pointed out to us, simply the idea of one commissioner," Elliott Management said. "Many may not view your speech as a proposal on which to comment, particularly while their attention is understandably focused on the ongoing COVID-19 crisis."

Proponents of the SEC's proxy proposal say another formal rule proposal and comment period is not needed for the speed bump because its central ideas are included in the original SEC proposal.

Glass Lewis disagrees. "The mechanics of the proxy voting process are extremely complex, time-sensitive and critical to our corporate governance system," Ms. Garzon-Mitchell said. "Making any changes to the process, without careful consideration, could result in significant adverse consequences for investors and the public interest. If the commission believes further regulation is justified, we strongly encourage that its reasons and the details of the proposed new approach be exposed and vetted through public comment."

With respect to contemporaneous review, Elliott Management also brought up First Amendment concerns. "The requirement that proxy advisory firms must notify their clients of an issuer's objections to the content of the report is a form of compelled speech and is prohibited by the First Amendment," the hedge fund said in its most recent comment letter.

In sifting through thousands of comment letters on the original proposal, the SEC is trying to figure out what a good public policy would look like, Mr. Higgins said.