Whether it be Myners in the UK, Tabaksblat in the Netherlands or SEC in the US, regulation within corporate governance is increasing. The pressures on investment managers are increasing worldwide and, in many cases, it is a legal requirement to vote at least part of the portfolio. In Spain, disclosing vote decisions for mutual funds is now a legal requirement, as it is in the US. All this has added significant pressures on institutional investors to vote their proxies internationally. These pressures are now apparent not only for the largest investment managers but also for pension funds and local authorities. The need for cross border voting is therefore greater and consequently the complexities of the voting process have been highlighted.
Corporate governance in the investment process
Investment managers and pension funds are beginning to incorporate governance data into their investment process, using it for risk analysis, due diligence and portfolio weighting. Trustees seeking greater transparency are starting to see the risks of investing in poorly governed companies; for example, Parmalat was the lowest rated company in Institutional Shareholder Services’ (ISS) Corporate Governance Quotient database for Italy.
The ISS and FTSE Group recently announced that they are developing a new market index based on corporate governance, providing a unique tool for global portfolio managers.
To further enhance transparency in the UK, the Myners Report has recommended that the underlying beneficial owner should request designation as opposed to omnibus accounts.
Issues with cross border voting
Four key requirements are needed to enable a shareholder to vote:
o Knowledge of time and place of meeting
o Information to enable the shareholder to cast an informed vote
o Eligibility–to ensure the vote is counted
o Confirmation of votes.
Although these requirements seem fairly basic, the custodial chains and financial intermediaries render the process more complex and these simple needs are often forgotten. The lack of cross-border regulation means that there is a long way to go until the process becomes completely transparent. The key challenges perceived by ISS are summarised as:
o Disclosure: this varies across markets and is often poor
o Language: since there is no standard language, investors are often unable to vote globally without utilising a service provider which translates all the information
o Time: the period between the meeting announcement and the deadline for casting the vote varies, and is often short
o Share Blocking: the inability to trade shares whilst voting in some markets means investors have to choose whether voting is their priority
o Eligibility: the requirements in certain markets for power of attorney and re-registration of shares are time consuming, providing yet another hurdle
o Confirmation: the lack of standards in this area is problematic, and although bad they vary from market to market, and in many cases are non-existent.
o Standards: A lack of international regulations means that there are no uniform processes and controls.
The ISS and the National Association of Pension Funds (NAPF) have created a UK-based joint venture Research, Recommendations and Electronic Voting (RREV). RREV enables institutional investors to fulfil most of the criteria above. However, lack of regulation means that consistency across markets is extremely difficult to achieve. ISS provides institutional investors - pension funds and investment managers - with meeting notices, intelligible agendas, research and recommendations, as well as handling eligibility issues. Consequently, obtaining confirmation varies from market to market. In the UK CREST provides confirmation that electronic votes have been received by the registrar but does not provide confirmation that they have been cast at the meeting. ISS is a member of the Shareholder Voting Working Group, which demonstrates ISS’s commitment to working with all relevant industry participants to improve the efficiency of the voting process.
In Europe Euroclear is working towards market harmonisation, with the integration of electronic proxy voting forming part of its strategy. The current complexity means this will take time, but it is a step in the right direction.
The European Commission has published an action plan that is principally based upon company caw recommendations. It calls for ‘a directive setting up a legislative framework aimed at helping shareholders exercise various rights (asking questions, tabling resolutions, voting in absentia and participating in general meetings via electronic means). These facilities should be offered to shareholders across the EU and specific problems relating to cross-border voting should be solved.’ Currently however, many country-specific regulations follow the ‘comply or explain’ recommendations made by Tabaksblat, Myners and others. This puts pressure on the institutional investors who should be able to justify any voting decision and, if deciding not to vote, justify why.
The enforcements by the SEC for mutual funds to disclose their voting decisions means that institutional shareholders across the world often have to vote at least a part of their portfolio. The partial enforcement has made many investors re-evaluate their current corporate governance policies. The outcome in many cases has highlighted the need to vote on a global basis, partly because of the belief that this is a competitive advantage for the fund and partly because of growing evidence that good corporate governance also leads to better returns. Brown and Caylor, 20041 states: “We found firms with weaker corporate governance to perform more poorly. They have lower stock returns in the preceding three-, five- and 10-year periods than do firms with stronger corporate governance”.
The factors mentioned are putting pressure on developing an international policy and making cross border voting easier and more transparent. Steps are being taken to approach proxy voting as a global phenomenon but there is a long way to go. In order for electronic proxy voting to become the norm globally, shareholders must continue to put pressure on the companies in which they invest to provide vote confirmation. In tandem with this, service providers like ISS must keep lobbying to ensure that this process works quickly and efficiently and that the interface is reliable and up-to-date.`
The two key parties - the company and the investors - are separated by a long chain of intermediaries, including registrars, depositaries, sub-custodian banks, global custodian banks, investment managers and third-party service providers, like ISS. ISS sees its role as two tier: firstly to ensure that the process it follows is streamlined and straight-forward; and secondly, perhaps more importantly in the long-term, to work with key constituents to reduce this chain to ensure that all meetings can be voted easily and efficiently as well as providing confirmation that the votes have been cast.
So is the glass half-full or half-empty? Technical capability is racing ahead; unfortunately market acceptance and regulatory pressure are lagging. However, looking back over the last 10 years it is clear significant steps forward have been made and ISS therefore firmly believes the glass is half-full and rising.
Johanna Milne is European sales and marketing manager with Institutional Shareholder Services, based in London.
1‘The correlation between corporate governance and company performance’, by Lawrence D Brown and Marcus L Caylor, Georgia State University, 2004