SEC Tightens Regulations on Proxy Advisory Firms

David A. Bell is a partner, Ryan Mitteness is an associate, and Soo Hwang is a Senior Attorney at Fenwick & West LLP. This post is based on their Fenwick memorandum.

The U.S. Securities and Exchange Commission on July 22, 2020, adopted amendments tightening regulation of proxy voting advice from proxy advisory firms (Release No. 34‑89372). The final rule implements additional regulations for proxy advisory firms, but stops short of some of the proposals included in the SEC’s original proposal (and described in our prior alert).

The final rule codifies the SEC’s interpretation set forth in August 2019 (and described in our prior alert) that voting recommendations and related materials provided by proxy advisory firms are “solicitations” subject to antifraud rules. In addition, the amendments add conditions that must be met in order for proxy advisory firms to rely on the exemptions historically available to them from filing full proxy solicitation materials (a key exemption for the conduct of their business). In particular, proxy advisory firms will need to include additional conflict of interest disclosure in their vote recommendation materials, provide their recommendation materials to the subject company not later than simultaneously with delivery to the proxy advisory firms’ clients, and provide access to responses by the subject company to the advisory firms’ recommendations.

Importantly for companies, the final rule does not give subject companies the opportunity to review and comment on proxy advisory firms’ recommendations prior to publication, or to explicitly require the proxy advisory firm to include a hyperlink to a response statement from the company with such recommendations at the time that they are sent.

Review of the Final Rule and Takeaways

The key takeaway from the amendments for public companies is, as further discussed below, to file their proxy materials at least 40 days in advance of the shareholders meeting and to be prepared to act promptly to publish any responses that they desire to make in reaction to the voting recommendations.

The amendments include a transition period for compliance by proxy advisors until December 1, 2021, and therefore these rules will generally first apply with respect to the 2022 proxy season.

Codification of the Commission’s Interpretation of “Solicitation” under Rule 14a‑1(l) and Section 14(A)

In the final amendments, the SEC codified its interpretation that proxy voting advice constitutes a “solicitation” under Rule 14a‑1.

The SEC stated that its goal is to clarify that the terms “solicit” and “solicitation” include any proxy voting advice that includes a recommendation to a shareholder as to its vote, consent, or authorization on a specific matter for which shareholder approval is solicited, and that is furnished by a business who markets its expertise as a provider of such advice, separately from other forms of investment advice, and sells such advice for a fee. This clearly identifies proxy advisory firms, such as Institutional Shareholder Services (ISS) and Glass Lewis.

The SEC also included in the amendments a provision to address the concern that its interpretation of solicitation could include any advice given by any third-party advisor. Rule 14a‑1(l)(2), which lists exceptions to the definition of solicitation, will now also exclude: “the furnishing of any proxy voting advice by a person who furnishes such advice only in response to an unprompted request.”

Amendments to the Exemptions from Filing Requirements Under Rule 14a‑2(b)

Proxy advisory firms have typically relied upon the exemptions in Rule 14a‑2(b)(1) (exempting solicitations by persons who do not seek the power to act as proxy for a shareholder and do not have a substantial interest in the subject matter of the communication beyond their interest as a shareholder) and Rule 14a‑2(b)(3) (exempting proxy voting advice furnished by an advisor to any other person with whom the advisor has a business relationship) to avoid the filing and information requirements generally required for solicitations under the federal proxy rules.

The amendments impose new conditions, contained in new subsection (9) of Rule 14a‑2(b), that apply to persons furnishing proxy voting advice to continue to rely on the exemptions in Rules 14a‑2(b)(1) and 14a‑2(b)(3). These conditions are described more fully below.

Conflicts of Interest Disclosure

In the adopting release for the amendments, the SEC refers to proxy advisory firms offering services to public companies regarding corporate governance and compensation policies and practices that are often material to the recommendations that the advisory firms make to their advisory clients. Many have felt that this creates an appearance of the advisory firms’ marketing to public companies an ability to “buy” a favorable recommendation. Reflecting the SEC’s belief that the existence of these relationships with a subject company may be potentially material to the proxy advisory firm’s clients, the amendments require disclosure of these matters in two general categories:

  • Any information regarding an interest, transaction, or relationship of the proxy voting advice business (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
  • 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
  • The company has filed their definitive proxy statement at least 40 calendar days before the shareholder meeting, and
  • The company has expressly acknowledged that they will only use the proxy voting advice for their internal purposes and/or in connection with the solicitation and it will not be published or otherwise shared except with the registrant’s employees or advisers

The SEC stated that it adopted these broad principles-based categories to give the proxy advisors the discretion to determine which situations and details merit disclosure, based on the materiality of such information to the proxy voting advice business’s objectivity. However, the adopting release provides various specific examples of the types of disclosure that the rule is designed to elicit.

Notice of Proxy Voting Advice to Registrants

The second condition for proxy advisory firms seeking to rely on the exemptions available under Rule 14a‑2(b)(1) or (b)(3) is a requirement that a proxy voting advice business adopt and publicly disclose written policies and procedures reasonably designed to ensure that subject companies have the proxy advisor’s advice made available to them at or prior to the time when such advice is disseminated to the clients of the proxy advisor. This provision does not outline any specific requirement as to the form by which the advisor’s recommendation is made available to the subject company. The rule includes a safe harbor provision that will ensure compliance if the advisory firm has written policies and procedures that are reasonably designed to provide a registrant with a copy of its proxy voting advice, at no charge, no later than the time such advice is disseminated to the proxy voting advice business’s clients. This safe harbor permits the proxy voting advice business to include as conditions before distributing its advice to the subject company that:

The 40‑day deadline to file the definitive proxy statement is already required of any company seeking to use “notice and access” proxy delivery instead of full mailings, so we do not expect a substantial impact on most companies’ proxy filing timelines as a result.

Mechanism to Become Aware of Registrant’s Responses

The final condition for proxy advisory firms seeking to rely on the exemptions in Rule 14a‑2(b)(1) or (b)(3) is a requirement that the proxy voting advice business must provide its clients with a mechanism by which the clients can reasonably be expected to become aware of any written statements regarding its proxy voting advice by subject companies in a timely manner before the security holder meeting (or, if no meeting, before the votes, consents, or authorizations may be used to effect the proposed action).

The rule also includes a safe harbor if the proxy advisory firm provides notice that the subject company has filed, or has informed the proxy voting advice business that it intends to file, additional soliciting materials through either (A) its electronic client platform or (B) through email or other electronic means. In either case, the notice must include an active hyperlink to those materials on EDGAR when available. The SEC also clarified that including the hyperlink to the company’s EDGAR filings would not, by itself, make the proxy voting advice business liable for the hyperlinked content. The safe harbor does not require specific timing for such notice to qualify.

Amendments to Rule 14a‑9

Rule 14a‑9 prohibits any proxy solicitation from containing false or misleading statements with respect to any material fact at the time and in the light of the circumstances under which the statements are made.

In the SEC’s interpretive guidance in August 2019, the agency addressed the application of Rule 14a‑9 to proxy voting advice, stating that: “Any person engaged in a solicitation through proxy voting advice must not make materially false or misleading statements or omit material facts, such as information underlying the basis of its advice or which would affect its analysis and judgments, that would be required to make the advice not misleading. For example, the provider of the proxy voting advice should consider whether, depending on the particular statement, it may need to disclose [certain] types of information in order to avoid a potential violation of Rule 14a‑9.”

In the adopting release for the amendments, the SEC provides in a Note to Rule 14a‑9 a list of examples applicable to proxy voting advice businesses. In particular, the examples of statements that may be false or misleading, depending upon particular facts and circumstances, include:

“Failure to disclose material information regarding proxy voting advice covered by § 240.14a‑1(l)(1)(iii)(A), such as the proxy voting advice business’s methodology, sources of information, or conflicts of interest.”

Transition Period

The final rule is effective 60 days after publication in the Federal Register, but compliance by proxy advisors is not required until December 1, 2021, and therefore will first be generally effective for the 2022 proxy season.

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