Markets Wired

Good morning.  This is an open meeting of the U.S. Securities and Exchange Commission, under the Government in the Sunshine Act.

Today we have two items on the agenda.  These items are part of the Commission’s ongoing work to enhance the accuracy, transparency and effectiveness of our proxy voting system.  They reflect the considerable experience of our staff.  In 2018, almost 5,700 proxy materials were filed with the Commission, and the staff in the Division of Corporation Finance received more than 250 no-action requests relating to shareholder proposals. 

Today’s proposals are both rooted in key principles of our securities law.  First, materiality.  The proposals are designed to ensure investors receive the material information that would be expected to affect their investment decisions (including voting decisions).[1]  Second, facilitating constructive, information-rich engagement among shareholders and issuers in a manner that benefits all shareholders and our public capital markets more generally.[2]    

Today’s proposals also are rooted in two essential aspects of effective regulation—modernization and retrospective review.  In today’s proposals, we have examples of why modernization of regulation, including to adjust for market developments and advances in technology, is critical.  Twenty years ago, the business of providing proxy voting advice was virtually non-existent.  Today, there are thousands of investment advisers managing trillions of dollars in assets for our retail investors, and many of these investment advisers contract with businesses to provide proxy voting advice, which is subject to our proxy rules.  Several of these proxy voting advice businesses are large and multi-faceted.[3]  Their services to investment advisers, and their effect on shareholder engagement and our capital markets more generally, are comparable to the services of other significant third-party market participants on whom shareholders rely, including auditors, rating agencies and research analysts.[4]  

These market developments require our attention. 

Similarly, in the area of shareholder proposals, the resubmission requirements—how much support a shareholder proposal needs to be included in the next year’s proxy—and other procedural requirements have not been updated for decades.[5]  Resubmission thresholds were last amended in 1954—65 years ago.  In that time, our markets have changed dramatically.  For example, the retail / institutional shareholder split has flipped from 90% retail / 10% institutional in 1950, to 20% retail / 80% institutional in 2017.[6]  In addition, communications technology, including, importantly, the ability to engage with companies (including at the board level), other shareholders and other parties, has moved from print and three-day (maybe a week) mail to instant communications with broad, costless dissemination and instant access and contact.  Much of this is the result of advances in technology, but some is attributable to the Commission’s work to foster and improve shareholder engagement, for example Regulation FD.     

Modernization and retrospective review of the Commission’s rules in these areas of our shareholder engagement ecosystem are clearly overdue.  The Treasury Department, in its 2017 report on our capital markets, reached the same conclusion.[7]  Our proposals apply our commitment to craft rules designed to ensure all investors receive a common mix of information that is (1) accurate and (2) includes the information that would reasonably be expected to affect an investment decision.

Now, before we discuss today’s first proposal with specificity, I will provide some context.  I note that today’s actions (1) are proposals—we welcome and encourage comment, analysis, including analysis supported by data, and direct engagement, and (2) are one more step in our ongoing effort to modernize the proxy process.            

I will briefly summarize those efforts.  Last fall, following initiatives that go back decades, SEC staff hosted a roundtable that brought together investors, issuers and other market participants who raised many issues in this area.  While I heard a wide range of views, it was clear to me that there was significant interest in modernizing the proxy process.  As a result of the roundtable, we received almost 300 unique comment letters and helpful suggestions to improve our proxy voting system.  Some of the letters that struck me the most came from long-term Main Street investors, including an Army veteran[8] and a Marine veteran,[9] a police officer,[10] a retired teacher,[11] a public servant,[12] a single Mom,[13] a couple of retirees who saved for retirement,[14] all of whom expressed concerns about the current proxy process.  

A common theme in their letters was the concern that their financial investments—including their retirement funds—were being steered by third parties to promote individual agendas, rather than to further their primary goals of being able to have enough money to lessen the fear of “running out” in retirement or to leave money to their children and grandchildren.  These letters are a helpful reminder that the issues the Commission grapples with in this area are not a matter of (1) shareholders versus companies or (2) businesses that provide proxy voting advice versus companies.  These are false dichotomies.  We must recognize that there is a myriad of investor interests and preferences.  Many of these interests overlap substantially, such as the thirst for information material to an investment decision.  But there are many others that do not and may be in direct conflict, such as a desire for a company to sell or buy a particular business or undertake a particular study or course of action.  Understanding and responding to these interests, including both common and conflicting interests, in a fair and efficient manner is an import function of corporate governance and our proxy rules are intended to facilitate that function.  Accordingly, our proxy process, in its components and as a whole, necessarily reflect the need for a rich exchange of information and the need to balance the interests of proponents of shareholder proposals with the interests of their fellow shareholders. 

On August 21, 2019, the Commission took the first action to address these suggestions when it provided guidance to assist investment advisers in fulfilling their proxy voting responsibilities.[15]  The Commission’s guidance focuses on the responsibilities of investment advisers in the context of proxy voting on behalf of clients and clarifies how an investment adviser’s fiduciary duty under the Advisers Act applies in that context, including if the investment adviser engages a proxy voting advice business. 

In summary, the Commission’s guidance noted, among other things, that:

1. where an investment adviser has assumed the authority to vote on behalf of its client, the investment adviser must make voting determinations consistent with its fiduciary duty; and
2. the extent to which an investment adviser takes on proxy voting responsibilities, if at all, may be shaped by agreement, provided that there is full and fair disclosure and informed consent.

Importantly, the guidance did not limit how investment advisers and their clients may agree to use the services of businesses that provide proxy voting advice.  The guidance focuses on disclosure and includes principles fundamental to informed consent.  For example, to the extent the investment adviser engages a proxy voting advice business, the full and fair disclosure of facts and circumstances of that engagement should capture information that would be material to the client in choosing the investment adviser.      

In addition to this guidance, the Commission issued an interpretation that the proxy voting advice provided by these businesses generally constitutes a “solicitation” under the federal proxy rules and provided related guidance about the application of the proxy antifraud rule to proxy voting advice.[16] 

The Commission staff—and many others—have been considering today’s issues since at least 2010.  It is time to move from debate in the abstract to constructive engagement on actionable proposals.  We make that transition today. 

Our work in this space will continue.  Following today’s proposals, I expect the Commission to address “proxy plumbing” and “universal proxy.”  Yes, I believe the “proxy plumbing” and the proxy card also are in need of modernization and retrospective review and have instructed the staff to prepare recommendations in these areas.  So, more to come.

Proxy Voting Advice — Enhancing Transparency, Improving Disclosures of Material Conflicts, and Increasing Confidence in the Proxy Process

The first item in our agenda today is a continuation of that work and, at its core, is focused on improving the accuracy and transparency of the disclosure provided to investment advisers and, in turn, their clients regarding the facts and circumstances of the engagement of the proxy voting advice business.  More specifically, the proposal would facilitate and enhance the quality of disclosure about material conflicts of interest.  This proposed requirement is consistent with a key principle of our disclosure based regulatory system—conflicts that would be material to an investment decision should be disclosed.[17]  The proposal also would provide an opportunity for a brief period of review and feedback through which registrants will be able to identify any factual errors or methodological weaknesses in the proxy voting advice and proxy voting advice businesses would have an opportunity to amend and supplement their reports to the extent they believed necessary, if at all. 

I am proud of the staff’s thoughtful approach to this proposal and, in particular, that it takes into account the timing constraints during the busy proxy season.  For example, we expect that registrants that would like to take full advantage of the proposed review process would, in the majority of cases, need to file their proxy materials earlier than they do today.  Proxy materials filed earlier mean more time for the analysis done by the businesses providing the proxy voting advice, more opportunity for engagement, and better disclosure for investors.  Significantly, registrants that file their proxy materials less than 25 days before the annual or special meeting would not be able to take advantage of the review process.  In these cases, there would be no required change to the issuer engagement process used by businesses that provide proxy voting advice. 

I would like to thank Commissioner Roisman for his leadership as we consider these improvements to the proxy voting system.  In light of his efforts on the two items that we will consider today, I will turn it over to Commissioner Roisman to provide his opening remarks.  I’ll then ask Bill Hinman, our Director of the Division of Corporation Finance, and S.P. Kothari, our Chief Economist and Director of the Division of Economic and Risk Analysis, for the staff’s presentation of the first recommendation.  Following the staff’s presentations, I’ll ask Commissioner Jackson, Commissioner Peirce and Commissioner Lee for any remarks, and then I’ll provide some closing thoughts.

Before I turn it over to Commissioner Roisman, I would like to thank and acknowledge the following members of the staff that contributed to this effort:

• From the Division of Corporation Finance: Bill Hinman, Michele Anderson, Ted Yu, Luna Bloom, Daniel Greenspan, and Rob Cowan.
• From the Division of Economic and Risk Analysis: S.P. Kothari, Narahari Phatak, Vlad Ivanov, Xanthi Gkougkousi, and Dan Deli.
• From the Office of General Counsel: Bryant Morris, Dorothy McCuaig, Jacob Loshin, and Shaz Niazi.
• From the Division of Investment Management: Paul Cellupica, Tara Varghese, Holly Hunter-Ceci, David Bartels, and Adam Bolter.

So without further ado:  Commissioner Roisman. 

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Shareholder Proposals — Modernizing Resubmission Requirements and Facilitating Shareholder Engagement

As I said earlier, the first item in our agenda is intended to enhance the accuracy and transparency in our proxy system.  The second item in our agenda is directed at modernizing and enhancing the efficiency of one key component of our proxy system. 

Rule 14a-8 allows shareholders to have their proposals included in the company’s proxy statement and to be considered and voted on by shareholders with little cost to the shareholder proponent.  This is a significant benefit for the shareholder proponent; without this accommodation, that shareholder would need to conduct a separate proxy solicitation in compliance with the federal proxy rules that would be costly for the proponent.  The rule was intended to facilitate meaningful engagement between companies and proposing shareholders, for the benefit of all shareholders.  It was not, however, intended to empower a few shareholders to repeatedly impose the direct and indirect costs of pursuing a proposal that has garnered very little support, costs that are borne by all shareholders.  It is a uniquely American, tailored mechanism for shareholder-company engagement on matters of import to shareholders.  Many other important markets do not have a mechanism with such wide access.[18]  It is not however, intended to be a forum for debate of issues that are not, at least at the time, of import to a very substantial majority of shareholders. 

The shareholder proposal rule and, in particular, its resubmission thresholds is ripe for modernization and retrospective review, as it has been several decades since its last significant revision.  In today’s world of (1) ubiquitous communications, (2) businesses that provide proxy voting advice, and (3) a high ratio of institutional holdings, the ability of a proposing shareholder to engage with registrants and make their views known to their fellow shareholders has changed significantly.  If a shareholder cannot get more than 1 in 20—or 5%—of its fellow shareholders to support its proposal in the first year, or more than 1 in 4 shareholders after three years of proxy inclusion, it should be required to take a time out.  Said another way, if after three attempts at a proposal within a 5 year period, 75% of your fellow shareholders still do not support your proposal, you should take a time out.  Keep in mind that “time out” does not mean that the shareholder proposal cannot come up again in the future or cannot be made at a different registrant.  And, the “time out” does not apply to all proposals that fail year after year.  A proposal that fails by a wide margin year after year, can be resubmitted year after year, so long as at least 25% of shareholders support the proposal and it is potentially on a path toward more meaningful shareholder support.     

Similarly, it is clear to me that a system in which five individuals accounted for 78% of all the proposals submitted by individual shareholders[19] would benefit from greater alignment of interest between the proposing shareholders and the other shareholders—who hold more than 99% of the shares.  Yes, you heard that right, five individuals accounted for 78% of all the proposals submitted by individual shareholders.

Today’s proposed amendments have been carefully crafted to more appropriately balance the benefits and burdens to all shareholders, while, importantly, retaining the ability of small, medium- and long-term shareholders to continue to enter and engage in the shareholder proposal process.  For example, today’s proposal would not impact the ability of long-term shareholders to submit a proposal as the recommendation does not seek to increase the $2,000 dollar submission threshold for shareholders who have held their shares for more than three years.  For those shareholders with shorter-term holdings, the proposed amendments would be tiered to appropriately tailor the dollar thresholds.    

The proposal would also encourage proponent-issuer engagement at an early stage of the process.  Finally, I want to make it clear that the shareholder proposal rule never has been, nor would it be under the proposed amendments, a way to regulate the merits of any shareholder proposal topic. 

Before I turn it over to Commissioner Roisman, I would like to thank and acknowledge the following members of the staff that contributed to this effort:

• From the Division of Corporation Finance: Bill Hinman, David Fredrickson, Tamara Brightwell, Matt McNair, Luna Bloom, Daniel Greenspan, and Lisa Kohl.
• From the Division of Economic and Risk Analysis: S.P. Kothari, Hari Phatak, Xanthi Gkougkousi, Olga Itenberg, Andrew Glickman, Vlad Ivanov, Wei Liu, and Andy Kim.
• From the Office of General Counsel: Bryant Morris, Jacob Loshin, Dorothy McCuaig, Omid Harraf, and Shaz Niazi.
• From the Division of Investment Management: David Bartels and Raymond Be.

Now I will turn it over to Commissioner Roisman to provide his opening remarks.