The discussion on corporate governance in India is dominated by issues of ownership concentration and promoter control in companies. This has raised serious questions about the protection of minority shareholders.
In view of the above, the role of proxy advisory firms in India becomes pivotal. Proxy advisory firms provide analysis and voting recommendations to shareholders of publicly traded companies.
Their main clients are institutional investors, who either don’t have enough information with respect to a voting matter or don’t want to spend time and resources in analysing issues related to companies in their portfolio.
The appointment of proxy advisors also prevents duplication of efforts across multiple investor firms and makes economic sense as it centralizes the costs associated with analysing each voting proposition.
An important aspect of proxy advisory firms is their relationship with activist investors, who seek to make company management more responsive towards the needs of shareholders or towards environmental, social or governance concerns.
Since institutional investors mostly vote in the manner the proxy advisory firms recommend, these firms could induce a change in the management, company policies or the entire structure of the company. Hence, proxy advisors act as a check on the decision-making by the management of a company.
However, a number of criticisms have become associated with the functioning of a proxy advisor. For instance, they are not held to a fiduciary standard that would require them to show their actions are in the interests of the shareholders as well as the company.
Also, if proxy advisors are providing other consulting services to the company, then there may be conflicts of interest with regards to their voting recommendations.
Another criticism is that not all advisors have the necessary resources to accurately investigate each matter that is up for consideration.
Lastly, proxy advisory firms are prone to over-interfere in the matters of the company to push their own agendas and thereby derail the functioning of the company concerned.
On July 22, 2020, the US Securities and Exchange Commission (SEC) issued fresh norms for proxy advisors to dilute their influence over the manner in which institutional investors vote at shareholders’ meetings.
The SEC regulations require these firms to disclose their voting recommendation policies to the public, to share all recommendations with the company to which it pertains and to take note of the company’s opposing views.
In early August, the Securities and Exchange Board of India (SEBI) also announced similar regulations. However, the two moves have had very diverse impacts and have faced uneven opposition in the two countries.
Proxy advisors’ relevance is directly related to the institutional investors’ shareholding and inversely related to the promoter shareholding in any company. These firms enjoy greater influence when non-promoters hold a larger percentage of the shareholding.
Position in the US and India
In the US, institutional shareholding in publicly traded corporations is in the region of nearly 70%.
In companies where the institutional investors are in a majority and where they receive voting guidance from proxy advisors, the fate of the companies largely rests in the hands of the proxy advisors. This is because matters such as director appointments, remuneration of top employees and possible mergers are to be voted on by all shareholders.
Even in cases where the results of the vote are not binding, the management must give due consideration to the will of the shareholders. The management may even take pre-emptive steps to appease the proxy advisors so as to prevent any possible meeting of minds with activist investors, who may have taken an interest in the company.
The additional disclosure norms governing the proxy advisors may have been necessary to check the unimpeded growth of such firms in the US. At the same time, activist stakeholders that vouch for the effectiveness of the current system as a way of keeping the existing management in check have expressed their dissent.
In India, the position is very different and proxy advisors play a diminished role. This is because a large proportion of companies are family-owned businesses, making it very unlikely for their authority to be challenged. Since proxy advisors can only represent minority shareholders, they can’t mount a significant challenge against management.
So, the proxy advisors are largely helpless and SEBI’s disclosure norms did not face any substantial opposition.
However, institutional shareholders recently came together on the advice of the proxy advisory firms to quash the reappointment of private equity firm TPG’s nominee director on the board of Shriram Transport Finance Company.
Therefore, if the promoters are not in a majority, the role of the proxy advisory firms is already relevant.
Proxy advisory firms’ role in India is likely to change over the next decade with an increasing number of startups or new organisations coming to the fore.
These organisations usually do not have a family business structure and instead have diversified shareholding—a position that proxy advisors can benefit from.
There is little doubt that proxy advisory firms in India will play a significant role in improving corporate governance and management efficiency in the near future and may strengthen the position of activist investors.
Proxy firms can also play a leading role in giving vent to investor concerns by engaging positively with companies. This could help amicably resolve contentious resolutions presented before shareholders.
However, with SEBI tightening the reins over the proxy advisory industry, they will now be required to justify the implementation of governance standards that are higher than stipulated laws in listed companies.
The SEBI move will also bring about much needed credibility and transparency in the proxy advisory sector. With a stringent set of checks and balances to ensure adherence to compliances and integrity in their functioning, proxy advisors will have to be accountable for their decisions.
Souvik Ganguly is managing partner and Aman Bagaria is associate at Acuity Law.