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[See also Latham response to ISS and Response to McGurn]
1. What's the purpose of this proposal? Why should I vote for it? Why should I propose it at companies in my portfolio?
2. Won't management be able to influence the proxy advisory firm, especially since the company is paying the advisor's fee?
3. Won't the advisor's fee lower the return on a company's stock?
4. I only buy stock in companies whose management I trust. If I no longer trust them, I sell the stock. So why bother spending company money on voting advice?
5. Management will never accept this proposal, so why bother?
6. How can shareowners evaluate and choose among proxy advisory firms?
7. Wouldn't a proxy advisory firm be unnecessarily critical of management, just to justify getting a fee?
8. How can a proxy advisory firm know better than management, since management is full-time at the company and has so much inside information?
9. Most important issues are not put to shareowner vote, so why spend money on voting advice?
10. Why propose hiring only one proxy advisory firm and for only one year?
11. Why have an entry fee for advisors to get on the ballot?
12. How can I put forward this proposal at a U.S. corporation?
13. Different investors may want different kinds of advice. Can this system provide that?
14. Institutional Shareholder Services, the proxy advisor with the greatest market share, is already powerful. Won't this proposal make them too powerful?
1. What's the purpose of this proposal? Why should I vote for it? Why should I propose it at companies in my portfolio?
This proposal will make management more accountable to shareowners, increasing managers' incentive to act in the owners' interests. The primary interest of shareowners is to improve the company's stock return, so stock performance should be enhanced. To the extent that the consensus of owners favors balancing profits with other social goals, this proposal provides a vehicle to pursue that balance. It will also encourage setting CEO pay at more realistic levels.
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2. Won't management be able to influence the proxy advisory firm, especially since the company is paying the advisor's fee?
Although management writes the check, owners choose which advisory firm the check is written to, so the payment process does not give management an opportunity for influence. Any pattern of inside influence detrimental to owners would eventually become known and damage the reputation of any advisor that permits it. They would then lose clients, by being voted out in the annual shareowner ballots to choose an advisor from an open field of competitors. Even in the investor-pay system we have now, management has an incentive to influence proxy advisors, yet advisors maintain strong reputations for independence, since their business depends on it. Similarly, Moody's and S&P bond ratings services are paid by the companies whose bonds they rate, but must maintain strong reputations for independence in order to keep their business.
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3. Won't the advisor's fee lower the return on the company's stock?
This proposal will actually reduce the cost that shareowners are already paying for proxy advisory services. Proxy Monitor, ISS, and IRRC provide research and recommendations on all US public companies, and thousands more internationally, paid for by shareowners (mainly pension funds). This proposal would make that same research on a company available to all its shareholders instead of a minority of them. The total cost to shareowners would actually decrease by the amount of corporate tax saved. Advisors would also compete head-to-head on fees and service much more than they do now. So concern about the the cost burden to shareholders argues in favor of the proposal.
(Voting advice is an information good, like computer software. Suppose all the users of Microsoft Office got together and asked Microsoft to bid one total price for developing Office 2002, instead of charging them for it one user at a time. Don't you think the users would get a better deal than they get now? Experience with group purchases in general clearly shows that price goes down.)
Of course, the cost would be spread across all shareowners, instead of just the pension funds. But since most investors are also pension fund beneficiaries, and advisory costs are trivial compared with the issues at stake (such as CEO pay), the benefit of having all shareowners informed would far outweigh the slight shift of who bears the (lower) cost.
Much more important than reduced cost, however, is the potential for increased quality and range of services. See Proxy Voting Brand Competition for more on this.
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4. I only buy stock in companies whose management I trust. If I no longer trust them, I sell the stock. So why bother spending company money on voting advice?
Conflicts of interest come up for every company every year: pay, choice of directors, the decision of whether to replace the CEO. The group in power has a clear natural bias toward keeping themselves in power, and paying themselves plenty.
Most management decisions are not put to shareowner vote. Votes are required for those issues where conflicts of interest are likely, such as those just mentioned. Proxy advisory firms are hired by investors, and they know it's not in investors' interests to interfere with management on decisions where there is no significant conflict of interest and management is more knowledgeable than outsiders.
If there is not enough check-and-balance against these conflicts of interest, the share price will tend to be depressed. You could sell the stock, but you wouldn't get a very good price. Selling the stock does not take the capital away from management (the way it does for an open-end mutual fund). Voting into place some better checks & balances should increase the share price, so is in the interests of anyone who currently owns the shares. The sizable premium often paid when a company gets taken over and its management overhauled gives a measure of this. Proxy advisory fees are tiny compared to the potential benefit, and it's cheaper to have the company pay the fee than shareowners as they do now -- see FAQ #3 above.
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5. Management will never accept this proposal, so why bother?
Shareowner proposals are very influential in spite of management resistance. Companies have repealed poison pills, reinstated annual director elections, and eliminated supermajority voting requirements, all pushed by shareowner proposals. Managers know that it does not look good to go against the expressed wishes of the company's owners.
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6. How can shareowners evaluate and choose among proxy advisory firms?
Proxy advisory firms (PAFs) are evaluated by everyone who observes what they do, and the consensus of those views is gathered in the media. You can already get a pretty good idea of PAF reputations by reading the Wall Street Journal, but it will become much easier once this proposal gets implemented somewhere, because there will be much more discussion of PAF reputation then. Of course, internet media will be a growing part of this.
It's helpful to contrast PAF reputation with director reputation. Shareowners vote each year on directors, but it's pretty meaningless because there are too many potential director candidates for shareowners to get informed about, so they aren't given any significant choice in the matter. By contrast, with only a handful of PAFs, shareowners can make a meaningful choice. Think of how you choose a personal computer. Most people don't build their own piece-by-piece, but rather choose a reputable brand. How does the average consumer know which brands are better? They're not engineers. But they read PC magazines, talk to knowledgeable friends etc. That plus competition works pretty well.
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7. Wouldn't a proxy advisory firm be unnecessarily critical of management, just to justify getting a fee?
I think the assessment-by-consensus-reputation process is smart enough to limit the possible tendency of PAFs to oppose management unnecessarily. They currently oppose management on about 25% of the proposals put to shareowner vote. They have built reputations for sound independent judgement, in the eyes of the professional pension fund managers who hire them now. PAFs will have strong incentives to serve the owners because they can be fired annually in an openly competitive ballot, and must build their reputation to have a successful ongoing business. Incentives can be further enhanced by paying the PAF fee in stock that must be held for five years.
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8. How can a proxy advisory firm know better than management, since management is full-time at the company and has so much inside information?
Proxy advisory firms know it's not in the owners' interests to interfere with management on decisions where there is no significant conflict of interest and management is more knowledgeable than outsiders. In spite of using only public information, PAFs have built strong reputations for advising owners on issues where management has a conflict of interest. To get even better advice, I think owners will grant PAFs more access to inside information in the future.
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9. Most important issues are not put to shareowner vote, so why spend money on voting advice?
More important decisions will be made by shareowner vote once shareowners have better information. A key reason why voting decisions are kept to a minimum is that shareowners are so ill equipped to make complex decisions. In spite of that, votes are now taken on the important and complex issues of director choice and executive pay, because of the conflicts of interest inherent in leaving them entirely to management. But those votes are usually rubber stamps, with little real choice involved. Giving shareowners access to professional independent voting advice will improve those decisions, and pave the way to more meaningful voting. One likely direction for expanding the scope of voting would be more competition for director seats.
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10. Why propose hiring only one proxy advisory firm and for only one year?
This is a minimal first step, to let shareowners see how this system will work. When it becomes more accepted and familiar, it would make sense to vote every year to hire a flexible number of proxy advisory firms. For example, this could be done by having a separate yes/no vote for each candidate advisor. So each year the number of advisors hired might be zero, one, or more.
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11. Why have an entry fee for advisors to get on the ballot?
The entry fee is to deter a proliferation of frivolous candidates seeking free publicity. Appropriate levels might be $5000 for typical NASDAQ firms, but more for larger firms. (Likewise, the maximum price for advisory services should be adjusted somewhat for the size of the client company.) To keep this from deterring bona fide candidates, it should be refunded to advisors winning a significant percentage (e.g. 5%) of votes.
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12. How can I put forward this proposal at a U.S. corporation?
All you need is to own $2000 worth of stock in the company for one year. To learn the simple steps of submitting a proposal, you can contact Mark Latham, or read shareowner resolution instructions. One key step is to check the company's latest "Definitive Proxy" filing. Find this in the SEC's EDGAR database-- in the list of filings for your company, look for a filing code starting with DEF 14-a. In that filing, find the section on shareholder proposals. This will tell you the deadline date for submitting proposals.
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13. Different investors may want different kinds of advice. Can this system provide that?
Yes. Proxy advisors will compete on service as well as price. If investors want different flavors of advice to be available, an advisor will have an incentive to provide that. If there is not enough demand from a company's shareowners as a group, those investors wanting nonstandard advice could still pay for it individually, as they do now. By contrast, note that management gives only one recommendation on each voting item.
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14. Institutional Shareholder Services, the proxy advisor with the greatest market share, is already powerful. Won't this proposal make them too powerful?
This proposal will reduce their market share and power, by making it far easier for new competitors to enter the advisory business. The way advisors are paid now, new entrants face a long uphill climb before becoming profitable. They need to cover thousands of companies and sign up hundreds of institutional investor subscribers. But in the proposed company-pay system, a new entrant could start by covering just a few companies very well, while they build their reputation. As soon as they get hired to advise on a company, their advice immediately goes to all that company's shareowners. The market leader's existing subscriber base advantage is greatly reduced.
Increased competition will keep prices down and quality of service up, thus benefitting the customer -- investors.
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