In recent years, the Securities and Exchange Commission (SEC) has sought to address controversy regarding the proxy voting system and the influence of proxy advisory firms such as Glass, Lewis & Co. and Institutional Shareholder Services Inc. (Proxy Advisors). Certain market participants and issuers have voiced concern that voting advice disseminated by Proxy Advisors can be flawed or omit material information, and that companies have not been given an adequate opportunity to review the advice, or to engage with Proxy Advisors prior to its dissemination.
In 2010, the SEC issued a concept release that sought public comment about, among other things, the role and legal status of Proxy Advisors within the U.S. proxy system. In 2013, the SEC held a Staff Roundtable on Proxy Advisory Services. In November 2018, the SEC held a Staff Roundtable on the Proxy Process, which included discussions regarding proxy voting mechanics and technology, shareholder proposals, and Proxy Advisors. In September 2019, the SEC published guidance to clarify an investment adviser’s fiduciary obligations with respect to proxy voting and the reliance by investment advisers on Proxy Advisors.1
In November 2019, the SEC ultimately proposed amendments (the Proposed Amendments) to certain of its rules governing proxy solicitations.2 The Proposed Amendments sought to formalize the SEC’s view that the term “solicitation” includes any Proxy Advisor voting recommendations, which subjects such recommendations to the filing and information requirements of the proxy rules, absent an exemption. Proxy Advisors have historically relied upon the exemptions (the Exemptions) contained in Rules 14a-2(b)(1) and (b)(3) to avoid these filing and information requirements.
The Proposed Amendments, as drafted, also conditioned the availability of the Exemptions on:
- the Proxy Advisor making specified disclosures about conflicts of interest, and
- the Proxy Advisor’s compliance with an issuer review and feedback process regarding the Proxy Advisor’s advice.3
The final rule amendments
On July 22, 2020, the SEC voted 3-to-1 to adopt final amendments (the Final Amendments) that track the Proposed Amendments in certain respects, but differ in others.4 According to the SEC, “the [Final] Amendments are designed to ensure that clients of proxy voting advice businesses have reasonable and timely access to more transparent, accurate and complete information on which to make voting decisions, without imposing undue costs or delays that could negatively impact the timely provision of proxy voting advice.”5 Highlights include:
- Defining proxy advice as solicitation. The Final Amendments, consistent with the Proposed Amendments, make proxy voting advice subject to the proxy solicitation rules. Specifically, the SEC amended the definition of “solicitation” in Rule 14a-1(l) “to codify its longstanding view that proxy voting advice generally constitutes a solicitation within the meaning of Section 14(a) of the Exchange Act.”6 A new paragraph describes when proxy advice involves a solicitation subject to the proxy rules, and another new paragraph codifies the SEC’s view that furnishing proxy voting advice “only in response to an unprompted request shall not be deemed to be a solicitation.”7
- Conflicts of interest disclosure. Also consistent with the Proposed Amendments, new Rule 14a-2(b)(9)(i) conditions the availability of the Exemptions on the Proxy Advisor providing specified conflicts of interest disclosure in their proxy voting advice or in an electronic medium used to deliver the proxy voting advice.
- Principles-based policies. In a departure from the Proposed Amendments, Rule 14a-2(b)(9)(ii), rather than requiring a review and feedback process as a condition to the availability of the Exemptions, only requires that Proxy Advisors adopt principles-based policies to make proxy voting advice available to the subject companies no later than the time it is disseminated to the Proxy Advisor’s clients, and to notify clients of company responses. Each of these requirements may be satisfied by meeting the requirements of a non-exclusive safe harbor, as set forth below:
- Policies to make proxy voting advice available. To rely on the Exemptions, the Proxy Advisor must ensure that registrants that are the subject of proxy voting advice have such advice made available to them at or prior to the time when such advice is disseminated to the Proxy Advisor’s clients.
- A proxy voting advice business will be deemed to satisfy this requirement if its written policies and procedures are reasonably designed to provide registrants with a copy of its proxy voting advice, at no charge, no later than the time it is disseminated to the business’s clients. The safe harbor also specifies that such policies and procedures may include conditions requiring registrants to (i) file their definitive proxy statement at least 40 calendar days before the security holder meeting and (ii) expressly acknowledge that they will only use the proxy voting advice for their internal purposes and/or in connection with the solicitation and will not publish or otherwise share the proxy voting advice except with the registrant’s employees or advisers.
- Policies to notify clients of company responses. To rely on the Exemptions, the Proxy Advisor must provide its clients with a mechanism by which they can reasonably be expected to become aware of any written statements regarding its proxy voting advice by registrants who are the subject of such advice, in a timely manner before the security holder meeting.
- A proxy voting advice business will be deemed to satisfy this requirement if its written policies and procedures are reasonably designed to provide notice on its electronic client platform or through email or other electronic means that the registrant has filed, or has informed the proxy voting advice business that it intends to file, additional soliciting materials setting forth the registrant’s statement regarding the advice (and include an active hyperlink to those materials on EDGAR when available).
The SEC also voted to publish new supplemental guidance to assist investment advisers in assessing how to consider the additional information that may become more readily available to them as a result of the Final Amendments.8
The new supplemental guidance first addresses circumstances in which the investment adviser utilizes a Proxy Advisor’s electronic vote management system that “pre-populates” the adviser’s ballots with suggested voting recommendations or for voting execution services. In light of the Final Amendments, and consistent with an investment adviser’s overarching obligation to adopt policies and procedures that are reasonably designed to ensure that is exercises voting authority in its client’s best interest, the new supplemental guidance states that an investment adviser should consider whether its policies and procedures address circumstances where the investment adviser has become aware that an issuer intends to file or has filed additional soliciting materials with the SEC after the investment adviser has received the Proxy Advisor’s voting recommendation but before the submission deadline. In such cases, the new supplemental guidance states that an investment adviser would likely need to consider the information prior to exercising voting authority to demonstrate that it is voting in its client’s best interest. In addition, the supplemental guidance provides that because the timing of pre-population and automated voting may result in Proxy Advisors possessing non-public information regarding how an investment adviser intends to vote a client’s securities, the investment adviser should consider reviewing its agreements with any Proxy Advisor to determine whether the agreements would permit the Proxy Advisor to utilize this information in a manner that would not be in the best interest of the investment adviser’s client.
In addition, the new supplemental guidance reminds firms that although an investment adviser is permitted to agree with a client on the scope of the investment adviser’s authority and responsibilities to vote proxies (which may address, among other things, parameters around the method of voting execution), the adviser must provide full and fair disclosure so the client can provide informed consent to such agreement. Furthermore, the new supplemental guidance also notes the general obligation of an investment adviser to make full and fair disclosure to its clients of all material facts relating to the advisory relationship, the need for sufficiently specific disclosure to obtain informed client consent, an investment adviser’s obligation to describe to clients its voting policies and procedures. Taking into consideration the Final Amendments, as well as these general concepts, the new supplementary guidance provides that an investment adviser that uses automated voting should consider disclosing to clients: (1) the extent of and under what circumstances it uses automated voting; and (2) how its policies and procedures address situations where it becomes aware that an issuer intends to file or has filed additional soliciting materials with the SEC regarding a matter to be voted upon.
The amendments will become effective 60 days after publication in the Federal Register, but affected Proxy Advisors will not be required to comply with the Rule 14a-2(b)(9) amendments until December 1, 2021. The supplemental guidance for investment advisers will be effective upon publication in the Federal Register.
Companies that hold annual shareholders meetings, or that may hold special shareholder meetings, including registered investment companies and business development companies, should be aware of the new requirements applicable to the Proxy Advisors that may disseminate influential advice on their company proposals.
While we believe that such companies would have benefitted from a requirement to provide the opportunity to engage with Proxy Advisors prior to the dissemination of the Proxy Advisors’ recommendations, those companies should nevertheless be aware that, on a going-forward basis, they will enjoy two new benefits: first, they will receive notice of a Proxy Advisor’s recommendation simultaneously (or potentially prior to) the Proxy Advisor’s clients, and second, Company responses will be automatically distributed to Proxy Advisor clients through the Proxy Advisor’s own platform. As such, companies that may become the subject of Proxy Advisor advice should consult with experienced counsel to analyze how best to approach both Proxy Advisors and how best to prepare responses to Proxy Advisor recommendations.
An investment adviser that utilizes the services and recommendations of a Proxy Advisor may wish to consider whether its disclosures and policies and procedures adequately address pre-populated voting, automated voting, and the receipt of additional information from issuers after a vote is pre-populated but before the voting deadline. Any such consideration must keep in mind an adviser’s overarching obligations to act in the best interests of clients and provide full and fair disclosure regarding its use of Proxy Advisors.
1 For more information on the guidance related to reliance by investment advisers on Proxy Advisors, see our client alert here: https://us.eversheds-sutherland.com/mobile/NewsCommentary/Legal-Alerts/224115/Legal-Alert-SEC-issues-guidance-regarding-the-proxy-voting-responsibilities-of-investment-advisers.
2 SEC Release No. 34-87457, Proposed Rule: Amendments to Exemptions from the Proxy Rules for Proxy Voting Advice (Nov. 5, 2019), https://us.eversheds-sutherland.com/portalresource/34-87457.pdf.
3 More specifically, the proposal required, as a condition to reliance on the Exemptions, that the Proxy Advisor provide companies (and certain other soliciting persons) with at least two opportunities to review and provide feedback on the advice before dissemination to the Proxy Advisor’s clients. This condition was replaced with a less onerous requirement in the adopted rule amendments, as described below.
4 SEC Release No. 34-89372, Final Rule: Exemptions from the Proxy Rules for Proxy Voting Advice (July 22, 2020), https://us.eversheds-sutherland.com/portalresource/34-89372.pdf.
5 “SEC Adopts Rule Amendments to Provide Investors Using Proxy Voting Advice More Transparent, Accurate and Complete Information; SEC Issues Supplemental Guidance Concerning Proxy Voting Responsibilities of Investment Advisers” (July 22, 2020), https://www.sec.gov/news/press-release/2020-161#:~:text=The%20Securities%20and%20Exchange%20Commission,which%20to%20make%20voting%20decisions.
8 SEC Release No. IA-5547, “Supplement to Commission Guidance Regarding Proxy Voting Responsibilities of Investment Advisers” (July 22, 2020), https://us.eversheds-sutherland.com/portalresource/ia-5547.pdf. The new guidance supplements prior guidance that the SEC provided to investment advisers regarding their responsibilities relating to voting proxies and the utilization of Proxy Advisors. See SEC Release No. IA-5325, “Commission Guidance Regarding Proxy Voting Responsibilities of Investment Advisers” (Aug. 21, 2019), 84 FR 47420 (Sept. 10, 2019).