DoJ cautions SEC over proxy advice proposals

The US Department of Justice (DoJ) has expressed deep concerns over proxy advisor rule amendments proposed by the country’s financial regulator, warning the changes could quash competition in the advisory market and restrict investor choice.

In a letter to the SEC, dated 5 February 2020, the Department of Justice said it feared the SEC proposals, which have already been widely criticised for limiting shareholder rights, could also prevent new players from entering the proxy advisor sector.

The DoJ, which is entrusted with enforcing federal antitrust laws, promoting and protecting competition, highlighted that limiting competition would be highly problematic in a sector that is already dominated by just a few proxy advisory firms.

“The department supports efforts to inject more competition into this industry and hopes that the proposal will do just that,” the letter stated.

“At the same time, the department would be concerned if the effect of the proposal were to further entrench the industry leaders by raising barriers to entry…. In finalizing the proposal, the SEC should continue to maximize the opportunities to increase competition in proxy advisory services,”

Depart of Justice Letter to SEC

If the SEC found the rules risked a “deleterious effect on competition”, the department said it would hope the regulator would consider ways to minimize compliance burdens while making proxy advisory services more transparent and accountable.

The DoJ’s correspondence pointed to several issues within the proxy advisor industry, including claims that leading firms often provide biased and or erroneous advice, and disproportionately influence voting.

But while the department said it welcomed the SEC's exploration of ways to address these concerns, it warned the proposals could impose additional costs on proxy voting advice businesses.

“The SEC rightly focuses on the likely effects of increasing regulatory costs in this industry, which, as noted, some observers argue is already subject to significant entry barriers,” it said. “The SEC clearly recognizes there is a balancing to be done. If the cost increases are large enough to cause some firms to exit, or to deter entry, the rules could decrease competition.”

Moreover, costs associated with the proposal could potentially affect smaller proxy voting advice businesses more significantly than the larger firms, according to the department.

“The proposal correctly notes that larger, wealthier firms are generally better-positioned to absorb cost increases than smaller or less wealthy rivals or new entrants,” the letter said. “The department would further emphasize that efforts which increase regulatory costs, in particular, should be undertaken with care, because such costs tend to be stable or to increase over time.”

Under the SEC’s proposals, proxy advisory firms would have to supply companies with advance copies of their advice before it goes to investors.

Companies would be able to review these documents so they can “identify errors in the proxy voting advice”.

In the event that investors vote against company bosses’ desires, the proxy adviser would be required to include the company’s objections in a final report. Proxy voting advice businesses would also have to disclosure any material conflicts of interest in their advice.

In addition, the SEC is proposing shareholders must hold a minimum $2,000 stock in a company for at least three years before they can require a company to include a proposal in its proxy statement.

While SEC Chairman Jay Clayton said these changes would help ensure that proxy voting advice used by investors is “accurate, transparent, and materially complete”, some of his colleagues firmly disagree.

In a strongly worded statement earlier this year, SEC Commissioner Robert J. Jackson warned that the proposals would have dire consequences for investors and their right to hold corporate insiders accountable.

In an act of dissention, Jackson said: “Whatever problems plague corporate America today, too much accountability is not one of them. [These] proposals impose a tax on firms who recommend that shareholders vote in a way that executives don’t like.

“Firms recommending a vote against executives must now give their analysis to management, include executives’ objections in their final report, and risk federal securities litigation over their methodology.”