On July 22, 2020, the Securities and Exchange Commission (the "SEC") amended its existing rules that exempt proxy advisors, such as Institutional Shareholder Services Inc. ("ISS") and Glass, Lewis & Co., LLC ("Glass Lewis"), from the information and filing requirements of the federal proxy rules. The SEC explained in a press release that the amended rules are "intended to ensure that clients of proxy voting advice businesses receive more transparent, accurate and complete information on which to make voting decisions, without imposing undue costs or delays that could adversely affect the timely provision of proxy voting advice." The SEC notes that these amendments codify its "longstanding view that proxy voting advice generally constitutes a solicitation under the proxy rules and make clear that the failure to disclose material information about proxy voting advice may constitute a potential violation of the antifraud provision of the proxy rules." During the SEC's open meeting to adopt the amendments, Chairman Jay Clayton stated that the amended rules "will help ensure that the interests of Main Street investors and the obligations of those who vote on their behalf will not only be better aligned, but [that] better decisions will be made."
The amendments will be effective 60 days after publication in the Federal Register. However, proxy advisors subject to the final rules are not required to comply with the Rule 14a-2(b)(9) amendments until December 1, 2021. Please see below for a brief summary of the SEC's amended rules affecting proxy advisors.
Rule 14a-1(l)
The definitions of "solicit" and "solicitation" in Rule 14a-1(l) have been amended to provide that "proxy voting advice"[1] generally constitutes a "solicitation" within the meaning of Section 14(a) of the Securities Exchange Act of 1934. However, a new paragraph has been added to Rule 14a-1(l) stating that "proxy voting advice" provided by a person that furnishes such advice only in response to an unprompted request will not be deemed to be a solicitation.
Rules 14a-2(b)(1) and 14a-2(b)(3)
Pursuant to amendments to Rules 14a-2(b)(1) and (b)(3), in order to continue to be exempt from the information and filing requirements of the proxy rules, a proxy advisor must (1) disclose specified conflicts of interest[2] in its proxy voting advice or in an electronic medium used to deliver the advice and (2) adopt and publicly disclose written policies and procedures reasonably designed to ensure that (a) a registrant that is the subject of proxy voting advice has such advice made available to it at or prior to the time when such advice is disseminated to the proxy advisor's clients and (b) the proxy advisor provides its clients with a mechanism by which its clients may reasonably be expected to become aware of any written statements regarding the advisor's proxy voting advice by a registrant that is the subject of such advice in a timely manner before the registrant's annual meeting. Timing of the proxy advisor's disclosure in these two regards will be important in realizing the intended benefits of these new requirements, especially because the more time that the registrant has before the meeting to correct or explain any proxy advisor negative statements, the better.[3]
The amended rules include the following non-exclusive safe harbor provisions
- A proxy advisor will be deemed to have satisfied the requirements set forth in clause (2)(a)[4] in the paragraph above if its written policies and procedures are reasonably designed to provide registrants with a copy of its proxy advice, at no charge, no later than the time it is disseminated to the proxy advisor's clients. Such policies may include conditions requiring a registrant to (i) file its definitive proxy statement at least 40 calendar days before its annual meeting and (ii) expressly acknowledge that the registrant "will only use the copy of the proxy voting advice for its internal purposes and/or in connection with its solicitation and such copy will not be published or otherwise shared except with the registrant's employees or advisors."[5] (Italics added.
- A proxy advisor will be deemed to have satisfied the requirements set forth in clause (2)(b)[6] above if its policies and procedures are reasonably designed to provide notice on its electronic client platform or through e-mail or other electronic means that the registrant has filed, or has informed the proxy advisor that it intends to file, additional soliciting materials setting forth the registrant's statement regarding the proxy advisor's advice. Proxy advisors may send their clients an active hyperlink to those materials on EDGAR when available.
The amendments to Rules 14a-2(b)(1) and (b)(3) do not go as far as the SEC's earlier proposed rule, which would have required proxy advisors to provide reports to the company before, but not simultaneously with, the distribution of the report to clients, which would have given the company an opportunity to identify errors or weaknesses and bring them to the attention of the proxy advisor before it released its report to its clients. Nevertheless, we believe that the amendments will make a meaningful difference in proxy solicitations. Now that companies will have access to proxy voting advice at or before the time that shareholders receive the advice, companies will be able to more effectively respond to the arguments made by proxy advisors. As a result, companies will have a better opportunity to convince shareholders that the proxy voting advice may not be in the company's (or the shareholders') best interests.
As noted in the first bullet above, one of the conditions to permitting a proxy voting advice business to be deemed to satisfy the requirement in Rule 14a-2(b)(9)(ii)(A) (i.e., that "[r]egistrants that are the subject of the proxy voting advice have such advice made available to them at or prior to the time when such advice is disseminated to the proxy voting advice business's clients") is that "[t]he registrant has acknowledged that it will only use the copy of the proxy voting advice for its internal purposes and/or in connection with the solicitation and such copy will not be published or otherwise shared except with the registrant's employees or advisers." (Italics added.) The impact of this provision is unclear as it is difficult to understand the SEC's distinction between a "copy" of the proxy voting advice and the advice itself. Based on the words of the provision, we interpret it to mean that a registrant is permitted to refer in its proxy materials to the substance of proxy voting advice and any stated reasons for such advice (and may comment on the advice or any underlying reasons) but may not distribute a "copy" of the report containing the advice other than to employees and advisors (which includes proxy solicitors).[7]
In addition, it appears that proxy advisors are still not required to send to their clients directly a company's response to their proxy voting advice. Instead, a proxy advisor may be able to satisfy the existing rule, as amended, by notifying its clients that a response has been made. This is unfortunate because, if the rules required proxy advisors to communicate to their clients a company's response to the proxy voting advice verbatim, it would ensure that shareholders receive all of the relevant information about the company simultaneously, thereby making it easier for shareholders to weigh the proxy voting advice against a company's response to such advice. Although a proxy advisor may comply with the rules by sending its clients a hyperlink to the company's additional solicitation materials setting forth the registrant's statement regarding the proxy advisor's advice, this requirement does not fully resolve the issue. As the SEC notes, the "efficacy of [company] responses [through additional proxy materials] may be limited, particularly given the high incidence of voting that takes place very shortly after a proxy [advisor]'s voting advice is released to clients and before such supplemental proxy materials can be filed."[8]
The amended rules summarized above will most certainly lead to litigation, especially claims surrounding the "materiality" of the information required to be disclosed by proxy advisors to comply with Rules 14a-2(b)(1) and 14a-2(b)(3).[9] We anticipate that proxy advisors will read this rule narrowly in order to disclose the least amount of information about their conflicts of interest as possible.
Rule 14a-9
Rule 14a-9 has been amended to include examples of the failure to disclose certain material information in proxy voting advice that could, depending on the facts and circumstances, be considered misleading, including a proxy advisor's failure to disclose information about its methodology, sources of information or conflicts of interest.
Suggestions
In light of these amendments, companies may want to consider taking the following actions, among others:
First, a company should consider preparing responses to potential proxy voting advice ahead of the proxy season. ISS and Glass Lewis both publish their proxy voting guidelines late in the calendar year. Many of these guidelines are clear on what will draw a negative vote recommendation, whether on the election of directors or other matters, thus enabling a company to anticipate problem areas and prepare responses accordingly. A company may then supplement and adjust those draft responses as appropriate if needed.
Second, a company should pay close attention to any material conflicts of interest disclosed by proxy advisors. These conflicts of interest should be emphasized in any response to proxy voting advice.
Third, a company should note whether proxy advisors have disclosed their sources and methodology. As discussed above, in certain circumstances, failure to disclose such information could be considered misleading. We predict that in many cases there will be disagreement over the most appropriate sources and methodology.
Fourth, proxy solicitors are often good sources of information and intelligence about the willingness of proxy advisors to modify their positions or statements on a particular matter and also about the extent to which various institutional shareholders follow ISS's or Glass Lewis's vote recommendations or their own internal voting guidelines.
Fifth, a company should carefully monitor the voting guidelines of its top institutional shareholders, which, like the proxy advisors' voting guidelines, often change from one proxy season to another.
Sixth, a company should consider notifying each proxy advisor covering the company that the company intends to file a response to the proxy advisor's report, which then will require the proxy advisor to notify its clients that the issuer has filed or intends to file a response to the report.
Finally, as always, a company and its counsel should carefully review the proxy voting advice for errors or omissions and not hesitate to raise them.
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As always, our colleagues and we are available at any time to discuss these or other matters.
[1] The SEC provides that, for purposes of the announcement of these amendments, "proxy voting advice" means "the voting recommendations provided by proxy [advisors] on specific matters presented at a registrant's shareholder meeting, or for which written consents or authorizations from shareholders are sought in lieu of a meeting, and the analysis and research underlying the voting recommendations that are delivered to the proxy [advisor]'s clients through any means, such as in a standalone written report or multiple reports, an integrated electronic voting platform established by the proxy [advisor], or any combination thereof." Exemptions from the Proxy Rules for Proxy Voting Advice, 17 CFR Part 240 Release No. 34-89372 (July 22, 2020), available at https://www.sec.gov/rules/final/2020/34-89372.pdf.
[2] The SEC states that such disclosures relate to: (1) any material interests, direct or indirect, of the proxy advisor (or its affiliates) in the matter or parties concerning which it is providing the advice; (2) any material transaction or relationship between the proxy advisor (or its affiliates) and (a) the company (or any of the company's affiliates), (b) another soliciting person (or its affiliates), or (c) a shareholder proponent (or its affiliates), in connection with the matter covered by the proxy voting advice; (3) any other information regarding the interest, transaction or relationship of the proxy advisor (or its affiliates) that is material to assessing the objectivity of the proxy voting advice in light of the circumstances of the particular interest, transaction or relationship; and (4) any policies and procedures used to identify, as well as the steps taken to address, any such material conflicts of interest arising from such interest, transaction or relationship.
[3] In its Guidance accompanying the release of the amendments, the SEC reiterates its expectations that (1) an issuer will learn the proxy advisor's recommendations in sufficient time to permit the issuer to communicate to shareholders any additional information material to a voting decision and (2) such additional information will be made known to the issuer's shareholders "in a timely manner[.]" Supplement to Commission Guidance Regarding Proxy Voting Responsibilities of Investment Advisors, 17 CFR Part 276 Release No. IA-5547 (July 22, 2020), available at https://www.sec.gov/rules/policy/2020/ia-5547.pdf.
[4] Clause (2)(a) in the preceding paragraph above corresponds to Rule 14a-2(b)(9)(ii)(A).
[5] The SEC indicates that the requirement for a company to make such an acknowledgement was included in order to avoid having companies and proxy advisors negotiate unnecessary confidentiality agreements related to the proxy voting advice. In this regard, the SEC states that "we believe that negotiating a formal confidentiality agreement may not be necessary in all circumstances. We therefore believe it is appropriate to make clear that a proxy [advisor] may receive assurances from a registrant regarding the use of proxy voting advice through less prescriptive means." Exemptions from the Proxy Rules for Proxy Voting Advice, 17 CFR Part 240 Release No. 34-89372 (July 22, 2020), available at https://www.sec.gov/rules/final/2020/34-89372.pdf.
[6] Clause (2)(b) above corresponds to Rule 14a-2(b)(9)(ii)(B).
[7] See Exemptions from the Proxy Rules for Proxy Voting Advice, 17 CFR Part 240 Release No. 34-89372 (July 22, 2020) n.364, available at https://www.sec.gov/rules/final/2020/34-89372.pdf.
[8] Exemptions from the Proxy Rules for Proxy Voting Advice, 17 CFR Part 240 Release No. 34-89372 (July 22, 2020), available at https://www.sec.gov/rules/final/2020/34-89372.pdf.
[9] In October, 2019, ISS filed suit against the SEC in the U.S. District Court for the District of Columbia challenging the SEC's position that proxy voting advice should be considered a "solicitation" under the securities laws. That litigation is still pending. In January, 2020, ISS and the SEC agreed to pause the litigation pending the final outcome of SEC final rulemaking. See Tom Zanki, Battle Over SEC's Proxy Regs May Not Be Finished, Law360 (July 28, 2020, 8:27 AM), https://www.law360.com/assetmanagement/articles/1295453?utm_source=shared-articles&utm_medium=email&utm_campaign=shared-articles.
This memorandum is provided for information purposes only and is not intended to provide legal advice. Such advice may be provided only after engagement for advice and analysis of specific facts and circumstances and consideration of issues that may not be addressed in this document.