SEC Guidance on Investment Adviser Proxy Voting Responsibilities

September 26, 2019 by ACA Compliance Group

On August 21, 2019, the U.S. Securities and Exchange Commission (the “SEC” or the “Commission”) published two sets of guidance on proxy voting. The first Guidance (“Guidance”) was issued to help investment advisers to fulfill their proxy voting responsibilities under the Proxy Voting Rule or Rule 206(4)-6 of the Investment Advisers Act of 1940. In the Guidance, the SEC clarifies investment advisers’ responsibilities, particularly when advisers retain a proxy advisory firm to help them to fulfill some of the responsibilities. The Guidance also addresses proxy voting disclosures under Forms N-1A, N-2, N-3, and N-CSR under the Investment Company Act of 1940.

Also, on August 21, the SEC issued its Interpretation and Related Guidance regarding the applicability of certain federal proxy rules for proxy voting advice. In the Interpretation and Related Guidance, the SEC confirmed that proxy voting advice provided by proxy advisory firms generally constitutes a solicitation under the federal proxy rules. As a result of this interpretation, the SEC staff is considering recommending the Commission to propose rule amendments to address the proxy advisory firms’ reliance on the Rule 14a-2(b)(1) proxy solicitation exemptions provided under the Securities Exchange Act of 1934.

6 Questions Investment Advisers May Have

In providing the Guidance to investment advisers, the SEC followed the question-and-answer format used in Staff Legal Bulletin No. 20, which the SEC’s Division of Investment Management withdrew on September 13, 2018. In the Guidance, the Commission discussed the following six questions that investment advisers may have regarding their voting responsibilities:

Question 1:
How may an investment adviser and its client, in establishing their relationship, agree upon the scope of the investment adviser’s authority and responsibilities to vote proxies on behalf of that client?

Question 2:
What steps could an investment adviser that has assumed the authority to vote proxies on behalf of a client take to demonstrate that it is making voting determinations in a client’s best interest and in accordance with the investment adviser’s proxy-voting policies and procedures?

Question 3:
What are some of the considerations that an investment adviser should take into account if it retains a proxy advisory firm to assist it in discharging its proxy voting duties?

Question 4:
When retaining a proxy advisory firm for research or voting recommendations as an input to its voting determinations, what steps should an investment adviser consider taking when it becomes aware of potential factual errors, potential incompleteness, or potential methodological weaknesses in the proxy advisory firm’s analysis that may materially affect one or more of the investment adviser’s voting determinations?

Question 5:
How can an investment adviser evaluate the services of a proxy advisory firm that it retains, including evaluating any material changes in services or operations by the proxy advisory firm?

Question 6:
If an investment adviser has assumed voting authority on behalf of a client, is it required to exercise every opportunity to vote a proxy for that client?

The SEC’s responses to the first two questions primarily reiterate the fact that investment advisers are not required to accept the authority to vote client securities. However, to the extent an investment adviser has discretionary authority to manage its client portfolios and has not explicitly agreed with the client to a limited, narrower scope of voting authority or not to assume voting authority at all, the adviser’s responsibility for making voting determinations is implied. Investment advisers must provide full and fair disclosure to their clients and obtain consent from the clients if they choose to limit their authority to vote on their clients’ behalf.

The SEC also reminds investment advisers of their fiduciary duty toward voting on behalf of clients. Specifically, investment advisers must conduct reasonable investigations into matters on which they vote and must vote in the client’s best interest. Investment advisers who manage different types of clients (e.g., mutual funds, private funds, or individuals) with different investment objectives and strategies may want to consider applying different policies to some or all these clients. Mutual funds that invest in voting securities must disclose their proxy voting policies and procedures in their statements of additional information (“SAI”) or on Form N-CSR. If the mutual funds have different voting policies and procedures, they must disclose that fact in the SAI or on Form N-CSR.

Investment advisers should also implement an annual review of their proxy votes to evaluate their compliance with the Proxy Voting Rule and to determine whether the votes are consistent with the adviser’s voting policies and procedures. If an investment adviser engages a proxy advisory firm to provide voting recommendations or execution services, the adviser should also evaluate whether such recommendations are consistent with the adviser’s voting policies and procedures and in the best interest of clients. Some of the evaluations that investment advisers should consider doing are described below.

  • Sampling pre-populated votes on the proxy adviser’s platform before they are cast to ensure that they are voted according to the investment adviser’s policies and procedures.
  • Assessing additional information should it become available for a specific proposal, such as materials conveyed by an issuer that could affect the adviser’s voting decision.
  • Higher degree of analysis to proxy advisory firms’ recommendations when an adviser does not have existing policies for a specific topic. Also, reviewing any controversial matters to ensure the proxies are voted in the clients’ best interests.

The SEC also reminds investment advisers of their compliance program requirement to annually review and document the adequacy of their voting policies and procedures to ensure they have been reasonably designed.

The next three questions in the Guidance focus primarily on investment advisers’ responsibilities when engaging a proxy advisory firm to help them to fulfill their proxy voting duties. The Guidance suggests that advisers should consider the following before retaining or continuing to retain a proxy advisory firm:

  • The proxy advisory firm’s capacity and competency to adequately analyze the matters for which the investment adviser is responsible for voting
  • The adequacy and quality of the proxy advisory firm’s personnel and technology
  • The adequacy of the proxy advisory firm’s process for seeking timely input from issuers and proxy advisory firm clients with respect to proxy voting policies, methodologies, and peer group constructions, including for “say-on-pay” votes
  • The adequacy of the proxy advisory firm’s disclosures regarding its methodologies for formulating voting recommendations and, in making such recommendations, whether it uses any third-party information
  • The proxy advisory firm’s policies and procedures for identifying and addressing conflicts of interest
  • The proxy advisory firm’s policies and procedures for implementing an investment adviser’s proxy voting instructions, if any

The Commission understands that the steps an investment adviser should take when considering whether to retain or continue retaining a proxy advisory firm could depend on the scope of the adviser’s voting authority and the type of functions and services the proxy advisory firm provides to the investment adviser. Additionally, the SEC suggests that investment advisers who retain a proxy advisory firm should require that proxy advisory firm to notify the investment adviser of any changes relevant to those services.

The SEC also addressed the sixth question on whether advisers must exercise every opportunity to vote a proxy on behalf of a client if they assume voting authority. In that respect, an investment adviser is not required to vote a proxy if it has previously and explicitly agreed with the client to limit the conditions under which it would exercise voting authority or has determined that refraining from voting is in the client’s best interest. Nevertheless, in all cases advisers should conduct a reasonable investigation into proxy matters before refraining from voting proxies as well as consider whether, in refraining, they are fulfilling their duty of care to clients.

For more information

For more information about this guidance, please contact your ACA consultant or Damon Zappacosta.