SEC Staff Issues Guidance on Investment Adviser Proxy Voting Responsibilities and Use of Proxy Advisory Firms

by K&L Gates LLP

Executive Summary
On June 30, 2014, the staff of the Securities and Exchange Commission’s (the “SEC”) Divisions of Investment Management and Corporation Finance issued Staff Legal Bulletin No. 20, which provides guidance on investment advisers’ responsibilities in voting client proxies and retaining proxy advisory firms. Using a question-and-answer format, the staff legal bulletin appears to expand the oversight responsibilities of investment advisers that retain proxy advisory firms to provide proxy voting recommendations by establishing an ongoing duty to monitor these firms to ensure that they have the capacity and competency to adequately analyze proxy issues. The staff guidance reiterates and builds upon positions that the SEC staff has previously taken in no-action letters that investment advisers retaining a proxy advisory firm should take reasonable steps to verify that the firm is independent and can make proxy voting recommendations in an impartial manner and in the best interests of the investment advisers’ clients.

According to the staff legal bulletin, an investment adviser that has retained a proxy advisory firm should “adopt and implement policies and procedures that are reasonably designed to provide sufficient ongoing oversight” of the proxy advisory firm. In the SEC staff’s view, sufficient oversight would include “ascertaining whether the proxy advisory firm has the capacity and competency to adequately analyze proxy issues.” More specifically, such oversight could include:

  • Assessing the adequacy and quality of the proxy advisory firm’s staffing and personnel; and
  • Assessing whether the proxy advisory firm has robust policies and procedures that enable it to make proxy voting recommendations based on current and accurate information and to identify and address conflicts of interest relating to its voting recommendations.

These specific oversight responsibilities are not mentioned in Rule 206(4)-6 of the Investment Advisers Act of 1940, as amended (the “Advisers Act”), in the adopting release for the rule or in prior staff no-action letters, and the public and the investment advisory industry were not provided with the ability to provide input through the formal notice-and-comment process. In addition, to provide sufficient oversight, the SEC staff states that the investment adviser’s own proxy voting policies and procedures should be reasonably designed to identify and address the proxy advisory firm’s conflicts on an ongoing basis as they arise, and not just at the time of the adviser’s initial assessment.

The SEC staff expects that investment advisers will make any necessary changes to their proxy voting systems and processes in response to the guidance “promptly, but in any event in advance of next year’s proxy season.”

The staff legal bulletin also addresses proxy advisory firms’ compliance with certain exemptive rules under the Securities Exchange Act of 1934 (the “Exchange Act”) that would permit such firms to avoid the disclosure and filing requirements of the federal proxy rules. The SEC staff states that a firm seeking to rely on one such exemptive rule has the affirmative duty to disclose the nature of any material conflict of interest to its clients and that “boilerplate” disclosure will not suffice.

Rule 206(4)-6 under the Advisers Act was adopted in 2003 to address an investment adviser’s fiduciary duties of loyalty and care to its clients when the adviser has the authority to vote client proxies (the “Proxy Rule”). Under the Proxy Rule, it is a fraudulent, deceptive, or manipulative act, practice, or course of business for an investment adviser to exercise voting authority with respect to client securities, unless, among other things, the investment adviser has adopted and implemented written policies and procedures that are reasonably designed to ensure that the adviser votes proxies in the best interest of its clients. The adopting release for the Proxy Rule emphasizes that the policies and procedures that an investment adviser adopts must address how the adviser resolves any conflicts of interest that could arise in voting client proxies. [1] In this regard, the adopting release states that an adviser could demonstrate that a vote is not the product of a conflict by adopting a policy to base its proxy voting upon the recommendations of an independent third party, such as a proxy advisory firm. [2] Subsequent no-action relief from the SEC staff has supported the position that an investment adviser’s reliance upon such recommendations may adequately address its fiduciary duty under the Proxy Rule to resolve material conflicts of interest in voting proxies on behalf of its clients. [3]

In the decade since the Proxy Rule was adopted, many investment companies and institutional investors have become significant shareholders of public companies. To manage the costly and time-consuming process of reviewing proxy solicitation materials and conducting the necessary research to make voting decisions, many investment advisers with the authority to vote client proxies have come to rely upon the assistance of third-party proxy advisory firms. Critics have argued that this practice has resulted in a relatively small number of proxy advisory firms with the potential to exercise considerable influence over the outcome of proxies by providing recommendations upon which investment advisers rely.

In recent years, certain SEC Commissioners have voiced concerns over the reliance of investment advisers on proxy advisory firms for recommendations on how to vote proxies on behalf of clients. [4] In particular, Commissioner Daniel M. Gallagher has noted that relying on a proxy advisory firm’s recommendations may result in an investment adviser “blindly casting” votes in accordance with the recommendations of the proxy advisory firm which may not take into consideration a fund’s investment objectives or policies, and he has called into question the quality of the research, the transparency, and the accountability of proxy advisory firms. [5] Commissioner Gallagher has also questioned whether an investment adviser that adopts a policy to rely on the voting recommendations of a third party without taking any other measures to avoid conflicts of interest is in compliance with the Proxy Rule. [6] In this regard, Commissioner Michael S. Piwowar has observed that an investment adviser that engages a proxy advisory firm essentially “shifts” its fiduciary duties under the Proxy Rule to the firm, which may face conflicts of interest of its own. [7] The staff legal bulletin attempts to address these concerns, in a form of indirect regulation, by expanding investment advisers’ duties under the Proxy Rule to include the ongoing oversight of proxy advisory firms’ capacity, competency and impartiality. In addition, the staff legal bulletin discusses the exemptions from the disclosure and filing requirements under the Exchange Act that proxy advisory firms rely upon and the firms’ obligations to disclose certain conflicts to their clients.

Investment Adviser Oversight of Proxy Voting
Summarized below are the SEC staff’s views, as set forth in the staff legal bulletin, regarding the responsibilities of investment advisers that have the authority to vote client proxies, including those investment advisers that rely on recommendations from third parties:

Voting Client Proxies. While many advisory clients, including investment companies, fully delegate to their investment advisers the authority to vote proxies, the SEC staff clarifies that clients and investment advisers have flexibility in determining the extent to which investment advisers assume and exercise this authority. In this regard, the SEC staff provides examples that illustrate the different proxy voting arrangements that an investment adviser and its client may enter into, including instances where a client may direct an investment adviser to follow the recommendations of company management or vote in favor of all proposals made by a particular shareholder proponent, absent a contrary client instruction or a determination by the adviser that the proposal should be voted differently if, for example, it would further the investment strategy the adviser is pursuing on the client’s behalf. Alternatively, an investment adviser and its client may agree that the investment adviser will abstain from voting any proxies at all or focus only on certain proposals based on the client’s preferences. In none of these examples does the SEC staff state that an investment adviser may refrain from voting a proxy without the agreement of the client.

Selection of Proxy Advisory Firms. The SEC staff believes that when investment advisers decide to select or continue to retain a proxy advisory firm, they should evaluate the “capacity and competency” of the firm to analyze proxy issues adequately. The SEC staff counsels investment advisers to consider, among other things, the adequacy of the firm’s staff and the “robustness” of the firm’s policies regarding managing conflicts of interest and ensuring the accuracy of information upon which the firm’s voting recommendations are based.

Oversight of Proxy Advisory Firms and Conflicts. The staff legal bulletin builds on investment advisers’ compliance obligations under the Proxy Rule by requiring them to adopt written policies and procedures to address the ongoing oversight of proxy advisory firms and the conflicts of interest that these firms may face. According to the SEC staff, an investment adviser that relies on a proxy advisory firm must have policies and procedures in place to ensure that the firm votes — and continues to vote — in the best interest of the adviser’s clients. Similarly, the staff legal bulletin counsels that investment advisers should establish and implement measures reasonably designed to identify and address a proxy advisory firm’s conflicts of interest. The SEC staff notes that an investment adviser’s initial assessment of a proxy advisory firm’s conflicts of interest alone is not sufficient to ensure that conflicts of interest do not exist. Rather, the SEC staff suggests that an investment adviser has an ongoing duty to monitor conflicts that may arise as a result of changes to a proxy advisory firm’s business or internal policies. The SEC staff notes that an investment adviser could fulfill this duty by, among other things, requiring the proxy advisory firm to provide updates on business changes or changes to its conflict policies and procedures.

Evaluating Voting Recommendations. The SEC staff suggests that an investment adviser evaluate a proxy advisory firm’s voting recommendations on an ongoing basis to ensure that such recommendations are based on an accurate analysis of relevant information. If an investment adviser determines that a proxy advisory firm’s recommendation was based on a material factual error, the SEC staff states that the investment adviser should investigate the error and evaluate whether the firm is taking steps to mitigate making such errors in the future.

Proxy Advisory Firm Guidance
The staff legal bulletin also addresses the applicability of Exchange Act exemptive rules to proxy advisory firms and the firms’ obligations to disclose to clients information about potential conflicts of interest that they may encounter in making voting recommendations. 

Exemptions from Proxy Solicitation Rules. The Exchange Act provides that entities that engage in a proxy “solicitation” are subject to the filing and disclosure requirements under the federal proxy rules. However, proxy advisory firms typically rely on two rules under the Exchange Act that exempt their activities from the definition of a “solicitation.” The staff legal bulletin clarifies that the exemption under Exchange Act Rule 14a-2(b)(1), which exempts from the definition of a solicitation "any person whether or not a shareholder, who conducts a solicitation but does not seek proxy voting authority or furnish shareholders with a form of consent, authorization, abstention, or revocation, and does not act on behalf of any such person," is not available to proxy advisory firms that execute proxies or submit voting instructions for a client based on pre-established guidelines and policies. However, the SEC staff notes that a proxy advisory firm may rely on the exemption in Exchange Act Rule 14a-2(b)(1) if it merely distributes reports containing recommendations to a client, provided that it does not solicit the power to act as a proxy to the client and complies with the other requirements of the exemption. 

The staff legal bulletin also notes that proxy advisory firms may rely on the exemption under Exchange Act Rule 14a-2(b)(3), which exempts entities that provide proxy voting advice to persons with whom they have a business relationship, subject to certain conditions. This exemption is available if, among other things, a proxy advisory firm gives advice in the ordinary course of business; discloses to its clients any significant relationship with the soliciting company or any of its affiliates, or a security holder proponent of the matter on which advice is given, as well as any material interests of the proxy advisory firm in such matter; receives no special commission or remuneration for furnishing the advice from any person other than the recipient of the advice and others who receive similar advice; and does not furnish the advice on behalf of any person soliciting proxies for or on behalf of a participant in a contested election. 

Disclosure Requirements under Exchange Act Rule 14a-2(b)(3). The SEC staff discusses a proxy advisory firm’s obligation, under Rule 14a-2(b)(3), to disclose to its clients any significant relationship with a soliciting company or shareholder proponent or material interest in a matter that is the subject of a voting recommendation. If, for example, a proxy advisory firm provides consulting services to a company on a proposal or provides a voting recommendation to its clients on a proposal sponsored by another client, the SEC staff states that the proxy advisory firm would need to assess whether its relationship with the company or security holder is significant or whether it otherwise has any material interest in the matter that is subject to the recommendation. If the proxy advisory firm determines, based on the facts and circumstances, that it has a significant relationship or a material interest that requires disclosure under Rule 14a-2(b)(3), the firm has the affirmative duty to disclose the nature and scope of such a relationship, the steps taken to mitigate the conflict, and the necessary information to allow a client to assess the objectivity of a voting recommendation. The SEC staff notes that generalized “boilerplate” disclosure will not satisfy the rule’s conditions. A proxy advisory firm is not, however, required to make this disclosure public.

[1] See Proxy Voting by Investment Advisers, Exchange Act Release No. IA-2106, 68 Fed. Reg. 6585-01 (Feb. 7, 2003) (Final Rule).

[2] Id.

[3] See Institutional Shareholder Services, Inc., SEC No Action Letter, 2004 WL 2093360 (Sept. 15, 2004) and Egan-Jones Proxy Services, SEC No Action Letter, 2004 WL 1201240 (May 27, 2004).

[4] See Daniel M. Gallagher, Commissioner, U.S. Securities & Exchange Commission, Remarks at the Society of Corporate Secretaries & Governance Professionals (July 11, 2013) (available on SEC website) [hereinafter “Gallagher Remarks”] and Michael S. Piwowar, Commissioner, U.S. Securities & Exchange Commission, Speech before U.S. Chamber of Commerce: Advancing and Defending the SEC’s Core Mission (Jan. 27, 2014) (available on SEC website) [hereinafter “Piwowar Speech”]. See also Michael S. Piwowar, Commissioner, U.S. Securities and Exchange Commission, Opening Statement at the Proxy Advisory Services Roundtable (Dec. 5, 2013) (available on SEC website) (noting that in July 2010, the Commission sought public comment on the role of proxy advisory firms within a broad concept release on the proxy system (see Concept Release on the U.S. Proxy System, Exchange Act Rel. No. 62495, 75 FR 42982 (Jul. 22, 2010)) and noting that a public comment file was opened in conjunction with the Roundtable to inform the SEC’s future decision-making regarding possible reforms). However, because the SEC did not formally propose the specific oversight responsibilities set forth in the staff guidance, some may view the SEC staff guidance in the bulletin as rule-making without an opportunity for public notice and comment.

[5] Gallagher Remarks. See also Daniel M. Gallagher, Commissioner, U.S. Securities and Exchange Commission, Remarks at Georgetown University’s Center for Financial Markets and Policy Event (Oct. 30, 2013) (available on SEC website).

[6] Gallagher Remarks.

[7] Piwowar Speech.


DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

© K&L Gates LLP | Attorney Advertising

Written by:

K&L Gates LLP

K&L Gates LLP on:

Readers' Choice 2017
Reporters on Deadline

"My best business intelligence, in one easy email…"

Your first step to building a free, personalized, morning email brief covering pertinent authors and topics on JD Supra:
Sign up using*

Already signed up? Log in here

*By using the service, you signify your acceptance of JD Supra's Privacy Policy.
Custom Email Digest
Privacy Policy (Updated: October 8, 2015):

JD Supra provides users with access to its legal industry publishing services (the "Service") through its website (the "Website") as well as through other sources. Our policies with regard to data collection and use of personal information of users of the Service, regardless of the manner in which users access the Service, and visitors to the Website are set forth in this statement ("Policy"). By using the Service, you signify your acceptance of this Policy.

Information Collection and Use by JD Supra

JD Supra collects users' names, companies, titles, e-mail address and industry. JD Supra also tracks the pages that users visit, logs IP addresses and aggregates non-personally identifiable user data and browser type. This data is gathered using cookies and other technologies.

The information and data collected is used to authenticate users and to send notifications relating to the Service, including email alerts to which users have subscribed; to manage the Service and Website, to improve the Service and to customize the user's experience. This information is also provided to the authors of the content to give them insight into their readership and help them to improve their content, so that it is most useful for our users.

JD Supra does not sell, rent or otherwise provide your details to third parties, other than to the authors of the content on JD Supra.

If you prefer not to enable cookies, you may change your browser settings to disable cookies; however, please note that rejecting cookies while visiting the Website may result in certain parts of the Website not operating correctly or as efficiently as if cookies were allowed.

Email Choice/Opt-out

Users who opt in to receive emails may choose to no longer receive e-mail updates and newsletters by selecting the "opt-out of future email" option in the email they receive from JD Supra or in their JD Supra account management screen.


JD Supra takes reasonable precautions to insure that user information is kept private. We restrict access to user information to those individuals who reasonably need access to perform their job functions, such as our third party email service, customer service personnel and technical staff. However, please note that no method of transmitting or storing data is completely secure and we cannot guarantee the security of user information. Unauthorized entry or use, hardware or software failure, and other factors may compromise the security of user information at any time.

If you have reason to believe that your interaction with us is no longer secure, you must immediately notify us of the problem by contacting us at In the unlikely event that we believe that the security of your user information in our possession or control may have been compromised, we may seek to notify you of that development and, if so, will endeavor to do so as promptly as practicable under the circumstances.

Sharing and Disclosure of Information JD Supra Collects

Except as otherwise described in this privacy statement, JD Supra will not disclose personal information to any third party unless we believe that disclosure is necessary to: (1) comply with applicable laws; (2) respond to governmental inquiries or requests; (3) comply with valid legal process; (4) protect the rights, privacy, safety or property of JD Supra, users of the Service, Website visitors or the public; (5) permit us to pursue available remedies or limit the damages that we may sustain; and (6) enforce our Terms & Conditions of Use.

In the event there is a change in the corporate structure of JD Supra such as, but not limited to, merger, consolidation, sale, liquidation or transfer of substantial assets, JD Supra may, in its sole discretion, transfer, sell or assign information collected on and through the Service to one or more affiliated or unaffiliated third parties.

Links to Other Websites

This Website and the Service may contain links to other websites. The operator of such other websites may collect information about you, including through cookies or other technologies. If you are using the Service through the Website and link to another site, you will leave the Website and this Policy will not apply to your use of and activity on those other sites. We encourage you to read the legal notices posted on those sites, including their privacy policies. We shall have no responsibility or liability for your visitation to, and the data collection and use practices of, such other sites. This Policy applies solely to the information collected in connection with your use of this Website and does not apply to any practices conducted offline or in connection with any other websites.

Changes in Our Privacy Policy

We reserve the right to change this Policy at any time. Please refer to the date at the top of this page to determine when this Policy was last revised. Any changes to our privacy policy will become effective upon posting of the revised policy on the Website. By continuing to use the Service or Website following such changes, you will be deemed to have agreed to such changes. If you do not agree with the terms of this Policy, as it may be amended from time to time, in whole or part, please do not continue using the Service or the Website.

Contacting JD Supra

If you have any questions about this privacy statement, the practices of this site, your dealings with this Web site, or if you would like to change any of the information you have provided to us, please contact us at:

- hide
*With LinkedIn, you don't need to create a separate login to manage your free JD Supra account, and we can make suggestions based on your needs and interests. We will not post anything on LinkedIn in your name. Or, sign up using your email address.