A recent call to end the practice of broker-dealers voting in director elections promises to rekindle a long-running debate about the mechanics of proxy voting and shareholder communications practices.
As Compliance Week reported last week, a special committee impaneled by the New York Stock Exchange to examine proxy voting issues has published six recommendations, including a ban on allowing broker-dealers to vote in director elections when their shareholder customers are silent. The committee, the NYSE Proxy Working Group, advised that NYSE Rule 452—also called the broker-vote rule or the 10-day rule—be amended to make director elections a “non-routine” matter.
Rule 452 currently allows broker-dealers to vote on certain “routine” proposals if the beneficial owner of the stock doesn’t provide voting instructions at least 10 days before a scheduled meeting. Critics say the practice essentially amounts to ballot stuffing since broker-dealers typically vote with management in director elections, and say that beneficial owners who don’t provide instructions should simply be left not to participate.
The NYSE board of directors has already endorsed the Proxy Working Group’s proposal. NYSE- and Nasdaq-listed companies now have until June 30 to comment. After that, the board will either send the recommendations back to the Proxy Working Group for further review or submit a rulemaking proposal to the Securities and Exchange Commission.
The Proxy Working Group’s chairman, Larry Sonsini, did not respond to requests for comment. But while the 33-page report focuses mainly on broker-dealer votes in elections, experts say the issue is inextricably tied to shareholder communications, proxy voting and majority voting.
Wilcox
“The 10-day rule sits at the crossroads of related issues such as majority voting in director elections and proxy system reform,” says John Wilcox, head of corporate governance at TIAA-CREF. “The consequences of changes to the 10-day rule may be affected by how these issues are ultimately dealt with.”
Wilcox says the pension fund giant strongly supports the Proxy Working Group’s conclusion that discretionary broker voting should not be permitted. “We think elimination of discretionary broker votes will reduce investor concerns about the fairness of the director election process,” he says.
Other institutional investors also welcomed the move, but added that they would like to see the NYSE eliminate broker voting altogether.
The recommendation is a “welcome, positive first step that restores the integrity of the voting for directors,” says Amy Borrus, deputy director for the Council of Institutional Investors. But CII would still like to see the rule abolished, and has urged the NYSE to do so.
The Proxy Working Group says it stopped short of eliminating Rule 452 in its entirety because it “continues to have an important role in the proxy process today,” particularly in allowing issuers to achieve a quorum for regular meetings.
The group also said in its other recommendations that the NYSE should develop an investor education effort on proxy voting, and support efforts to improve communications between issuers and beneficial owners. It also called for continuing evaluation of the need for broker-dealer voting, and for an independent analysis of Rule 465, which sets the fees paid for transmitting proxy materials.
“We don’t object to broker votes being included for quorum purposes, but we don’t think they should count toward the passage or failure of any ballot items,” Borrus says. “In today’s governance environment, no ballot item submitted for share owner approval is so routine that brokers should be able to vote on it without instructions from beneficial owners.”
Richson
Cynthia Richson, corporate governance officer for Ohio Public Employees Retirement System, a member of CII, echoed Borrus’ sentiment. “It’s a good step and an important reform, but it doesn’t go far enough,” she says. “They should eliminate broker votes altogether.”
Taking A Larger View
Cary Klafter, corporate secretary for Intel Corp. and chairman of the public company affairs committee of the Society of Corporate Secretaries and Governance Professionals, has a somewhat different view on the recommendations. He warns that the proposals “will create significant change in the entire proxy voting system that, done in isolation, won’t take into account all the other factors swirling around stockholder communications and proxy voting.”
Klafter
Klafter says changing Rule 452 alone, without considering proxy voting issues as a whole, “would create a substantial imbalance in the overall system which is inappropriate.” His groups would rather see the SEC initiate a “broad-ranging review of the entire stockholder communications and voting process” from NYSE rules to the SEC’s plans for e-proxies to Rules 13D, F and G of the Securities and Exchange Act of 1934, which govern share ownership.
EXCERPT
Below is an excerpt from the NYSE Proxy Working Group's report on the broker vote rule.
The obstacles that issuers face in communicating with objecting beneficial owners and directly soliciting votes from both OBOs and non-objecting beneficial owners are extremely relevant in considering the impact of Rule 452. For example, if the NYSE were to completely eliminate broker discretionary voting, the need for easier (and cheaper) access to shareholders becomes paramount to most issuers, especially small to mid-size issuers who would presumably have the most difficulty convincing shareholders of the need to vote in director elections. This is discussed in detail below in the section entitled “Alternatives to the Current Rules Governing Broker Discretionary Voting Considered by the Proxy Working Group – Abolishing Broker Discretionary Voting.” These issuers would need a greater ability to solicit shareholder votes in order to have shareholders vote on a matter that had long been considered “routine.” The current system based on communication through ADP would mean that the costs to issuers from this additional solicitation activity could be significant, and would also potentially be difficult given that issuers would not have direct access to shareholders.
Even under a modified scenario whereby broker discretionary voting is eliminated except for the purpose of establishing a quorum15 issuers seeking approval of certain matters requiring the majority of outstanding shares to vote (and not just votes cast) may need to be significantly more proactive to solicit shareholder votes.
Even without any changes to Rule 452, certain groups, including the Business Roundtable, an association of chief executive officers of leading U.S. corporations with a combined workforce of more than 10 million employees, have petitioned the SEC to allow issuers to communicate directly with their beneficial owners using recent technological advances. The Business Roundtable petition urges the SEC to “require brokers and banks to provide companies with contact information for all beneficial owners and permit the direct mailing of all communications (including proxy materials) to beneficial owners.”
The petition also encourages “the Commission to require brokers and banks to execute omnibus proxies on behalf of beneficial owners, thereby allowing them to vote their shares directly.” Under this proposal, the NOBO/OBO distinction would be eliminated, although investors who chose to remain anonymous could appoint a nominee. While the Business Roundtable petition has the support of various groups, some shareholder activist organizations have opposed the petition on a variety of grounds, including that the petition would give issuers too much control over voting. The SEC has not taken any action on the petition.
Source
NYSE Proxy Working Group (June 5, 2006)
Klafter contends that any one reform adopted on its own would need to be changed again if adjustments are made later to other aspects of the stockholder communication and proxy voting systems. “Given all of the problems we believe exist in the current system, we think it would be better and more efficient if the SEC dealt with the issue as part of this broader whole,” he says.
David Martin, head of the securities practice group at Covington & Burling and former director of the SEC’s Division of Corporation Finance, says the Proxy Working Group’s recommendations are “useful” in that “they contribute to the discussion about the best way to elect directors to public companies.”
“Our system has evolved around essentially not having contested elections, but rather elections which are ratifications,” Martin says. “The shareholder community is bothered by the fact that their right to approve a slate of directors appears too empty. They want to be able to register disapproval in way that’s more meaningful.”
The majority voting wave that has swept across Corporate America this spring, coupled with the Proxy Working Group recommendations, would give shareholders “more veto power” and would eliminate the perception that shareholder votes are a mere formality, Martin says.
Benefitting Shareholders
Martin
But, Martin adds, “Our interest in narrowing that gap has to be tempered by not wanting to lose the benefits of the current system. Many people don’t appreciate the enormous efficiencies in the way directors are nominated, elected and proxies are distributed. We have a tremendous system which works well from a numbers perspective.”
Corporate governance generally relies on companies to come up with thousands of qualified nominees to fill board seats. While an end to broker-voting would be great if it helps shareholders feel more empowered, Martin says, “if we can’t get quorums or we can’t enough nominees up, we won’t have gained much.”
Martin also says technical issues create hurdles to implementing the proposed changes. “The history on the issues in this area has been that talk is cheap, action very expensive,” he says. “It would require a lot of technical rulemaking and there are a lot of constituencies. Doing something will require some sort of cohesive consensus, and I don’t know if [the report] will marshal that.”
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