Proxy Advisory Firms Need Greater Regulatory Oversight

March 21, 2018

As the U.S. Congress considers regulatory changes across the financial services industry, they have developed important provisions to improve the oversight and transparency of proxy advisory firms in light of the growing influence of these firms and the direct impact their work has on investors. Members of the House Financial Services Committee have expressed concern about not only conflicts of interest, but also “numerous instances whereby the two largest proxy-advisory firms (ISS and Glass Lewis) have issued vote recommendations to shareholders that include errors, misstatements of fact and incomplete analysis” according to Committee Chairman Jeb Hensarling. According to the National Investor Relations Institute, ISS and Glass Lewis control approximately 97 percent of the U.S. market for proxy advisory services, thereby giving them “substantial influence over the corporate governance practices of public companies.”

In December, members of the U.S. House of Representatives passed the Corporate Governance Reform and Transparency Act of 2017, a bill outlining additional regulations for the proxy advisory firms “to improve the quality of proxy advisory firms for the protection of investors and the U.S. economy, and in the public interest by fostering accountability, transparency, responsiveness, and competition in the proxy advisory firm industry.” The legislation includes several important measures that will help to regulate the proxy advisory industry and check its power:

  1. SEC Registration: Proxy advisory firms must register with the SEC to ensure that the firm has both adequate resources to effectively evaluate a company and make recommendations and clearly outlined methodologies for consistently conducting its research and making recommendations. Registration would then enable the SEC to censure, suspend, limit or even revoke the license of a proxy advisory firm if it was acting contrary to the interest of investors or the public.
  2. Mitigation of Conflicts of Interest: Firms must develop, maintain and enforce clear policies to “address and manage conflicts of interest.” Through the bill, the SEC is also given the authority to regulate conflicts like providing consulting services to an issuer.
  3. Ombudsman: Proxy firms must add on an employee whose sole responsibility is oversight of the firm’s practices– to field and resolve complaints about the accuracy of voting information used by the advisory firm to make its recommendations.

So why does this matter?

This outsize influence has gone largely unchecked until now, despite concerns about a lack of transparency around these firms’ methodologies, their use of inaccurate information and the conflicts of interest identified by a number of companies, academics and government officials, including the GAO and Rep. Duffy, who drafted the legislation passed by the House. The fate of this bill, however, is still uncertain in the Senate, so it’s important for average American investors to understand and advocate for these invaluable protections and increased oversight of the industry.

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