This article is written by Utkarsh Nigam of New Law College, Bharti Vidyapeeth University, Pune. The author through this article discusses the concept of Proxy Advisory Firms. This article was written by the author while pursuing M.A in Business laws from NUJS.

Introduction

• A proxy advisory firm is a type of market intermediary which provides services to the shareholders of a listed company or of a quoted company in particular. The services provided by these firms in relation to the activities performed by the shareholders are known as proxy advisory services.
• These proxy advisory firms are independent research organisations that are responsible to evaluate the advantages and disadvantages of a corporate action such as mergers, acquisitions, top appointments and CEO pay, on which shareholders are expected to vote in the Annual General Meetings, Extra Ordinary General Meetings or court convened meetings.
• The main functions of these firms are to analyse the corporate actions which are put to vote and give the shareholders detailed and well-researched reports advising them on how should they approach the vote or where should the vote be casted in the particular matter.
• These Proxy advisory firms are basically and in majority of the cases, used by the institutional investors which are charged an amount by these proxy advisory firms and are responsible for providing regular independent voting recommendations on the companies.

Emergence and Need of Proxy Firms

The emergence of proxy advisory firms has grown in recent years and because of the need that has been felt by the shareholders. India has home-grown proxy advisory firms such as Institutional Investor Advisory Services (IiAS), InGovern and Stakeholder Empowerment Services (SES) that provide these services. The need of the proxy advisory firms would not arise on paper because shareholders, in an ideal world, would be interested in the proper running of the company in which they have invested and would hold the management and the board of the company accountable for their actions taken on behalf of the company. The shareholders, in that case, would also attend all the Annual General Meetings and Extra Ordinary General meetings and would cast their votes with their conscience without making any partial decision by indulging in any illegal activity, which would help in the betterment of the company in the coming future. They would also read all the notices and resolutions carefully and would refrain from treating them as junk mail or discard them. But as the reality is very different from the ideal world and what is mentioned on the paper, shareholders are usually interested in heavy dividends, bonuses, free coupons and gifts by the company and are least interested about the voting. Many institutional investors such as mutual funds or insurers often represent the retail investors as proxies in meetings but lag in the energy and time required for digging deep into every corporate event that is held by the company.

Click here

Therefore there arose a need of a person who should be independent and knowledgeable, both at the same time regarding the affairs of the company and the corporate matters which a company plans to undertake by analysing the whole thing in a step by step manner and then give an advice regarding the same. Their views re independent till there is a conflict of interest and they are quite efficient in serving the investors in this regards. For a retail investor also these firms’ decisions are of great help. A retail investor may or may not attend all the Annual General Meetings and Extra Ordinary General meetings of the company which he has a share of, but if the person is vigilant enough, he/she can opt for e-voting for a big corporate action and there the views of these proxy advisory firms are of great help and can be put to use in deciding in favour or against the matter.

Corporate Governance and Proxy Advisory Firms

These proxy advisory firms also perform a good work of regulating the boards and the governance records of the firms they track and pushing institutional investors to take a stand on governance matters. In simple words the proxy advisory firms act as a watchdog over the company for the protection of the interests of the shareholders.

Proxy advisories also do a good job of policing the boards and governance records of the firms they track, and nudging institutional investors to take a stand on governance issues. The proxy advisory firms have started to come up since 2010 and their main agenda is to make a recommendation of the corporate matters relating to various listed companies, which include but not limited to appointment of directors, engaging of auditors, mergers and acquisition, as a result it can be clearly figured out that the management is always under the pressure of the recommendations made by these proxy firms and cannot ignore the presence of small shareholders or retail investors. Some of the main points on why should an investor rely on proxy advisory firms’ are-

1. Proxy advisory firms help in checking the compliance of the corporate governance norms, nonconformity of which can reduce the investor’s wealth
2. The services offered by the proxy advisory firms reduce the operational costs for the institutions as they lack sufficient resources and time to investigate the corporate issues themselves.
3. By engaging positively with the companies, proxy advisory firms help in airing concerns on behalf of investors and take a stance without hampering management access for fund managers and analysts. There could be situations where the institutional investor is managing funds of the corporation where contentious resolutions are placed in front of shareholders.
4. The proxy advisory firms also tend to bring the best practises from around the world.

In consideration of the corporate governance norms the proxy advisory firms have sometimes recommended against the administrations of the company as well, like in the case where proxy advisory firms IiAS and SeS being the advisory firms of the shareholders of Infosys for their informed voting decision suggested in negative to vote for Prof Jeffery S Lehman as independent director of the company. The basis for this advice was the long association of Prof Jeffery S Lehman with the company, thus the advisory firms gave their advice in compliance with the Companies Act, 2013. The proxy advisory firm SeS said in its statement that if the company is of the opinion that Prof Jeffery S Lehman would be beneficial to the company then it should appoint him as a non independent director because in the opinion of the firm directors who are associated with the company for more than ten years cannot be considered as independent. Similarly, InGovern, the first proxy firm of India was appointed by three companies to suggest on the voting decision where the appointment of Independent Director was to take place in the Annual General Meeting. The proxy firm suggested voting against Wipro’s BC Prabhakar as the Independent director, against Shardul Shroff as Independent director of IDFC and against SH Khan as the Independent Director. The firm’s opinion on the matter was that the candidates who were contesting for the position of Independent directors were in a long association with the company and it was almost like a marriage with the company and the appointment of the same persons would violate or would be a non-compliance of Clause 49 of Listing Regulations of SEBI.

Through the above examples, it can be clearly seen that the proxy firms analysed the actual independence of the proposed candidates for the position of Independent directors in the respective companies on behalf of the institutional investors which are not competent to find the actual truth and knowledge about the candidates and the company. Thus proxy advisory firms’ recommendations help in maintaining good corporate governance and also they help the companies to comply with the provisions of law.

Proxy advisory firms, as said earlier are like a watchdog over the corporate matters which a company undertakes and Section 197 of the Companies Act, 2013 is an example of such matter. It states that if a company wants to pay its managerial personnel any amount more than the maximum limit prescribed then the same can only be done through a resolution passed by the shareholders. Usually these resolutions regarding the remunerations of the managerial personnel don’t get rejected and are easily passed because of the fact that the shareholders do not have adequate knowledge in this area but if this opportunity is utilized with a vigilant and cautious manner then they can have a considerable amount of control on the remuneration packages of the personnel. But coming off the proxy advisory firms has brought a drastic change in this matter. As they are responsible for bringing adequate and correct information to the institutional investors for cast of their votes, they are also responsible to bring in light any ill practise being practised by the company and hence helping the investors to take the correct decision which is in favour of growth of the company. In the case of Lavasa, Ajit Gulabchand who was drawing a salary five times in excess of what was sanctioned by the Central government, that too without any approval. He was made to refund the extra amount as his remuneration was checked by a proxy advisory firm who brought into light the fact that at the time when the company was under huge debts the CEO was drawing excessive compensation. Thus proxy advisory firms monitor the companies against excessive remuneration and keep a check that the remuneration of the managerial personnel/s of the company is in line with the performance of the company.

The protection of the interests of the shareholders is generally and majorly governed by the audit committee. Section 139 to 148 of the Companies Act, 2013 deals with audit and audit committees. The proxy advisory firms have played a major role in raising their concerns against the appointment of the auditors and regarding their independence. The proxy advisory services provided by these firms help the domestic institutional investors as well as the foreign institutional investors regarding the selection of auditors by framing the pints on which the voting decisions are to be decided so that in future cases like Satyam are avoided and there is minimal chance of a major corporate fraud. In 2015 the proxy advisory firm SeS advised ITC to vote against the ratification of the appointment of Delloite Haskins & Sells as its statutory auditor. The firm stated that as the proposed auditor and the leaving auditor share the same network the proposed firm cannot be appointed as the statutory auditor of the company as it is prohibited under Rule 6(3) (ii) of the Companies (Audit & Auditor) Rules, 2014 and also this ratification would be a non-compliance Section 139(2) of the Companies Act, 2013. These proxy advisory firms are not only responsible for the corporate matters which take place in ordinary course of business of the company but also play an important role in corporate matters like merger, acquisitions and corporate restructuring where there is chance of fading of the shareholding of the investors.

The practise of compliance of the governance norms by these proxy advisory firms creates a culture in the market for the same. By criticizing the non-compliance of the governance policies by a company the proxy advisory firms spread a message to the general public and in the securities market about the company and the mistakes, thus helping other to learn from the mistakes and creating knowledge about the company as well. The recommendations made by the proxy firms act as a stimulant to both the retail and the institutional investors as it reveals all the details regarding the corporate matter which is under consideration for shareholders’ approval. There hasn’t been any study in India which shows a positive or negative impact of the recommendations but a study conducted by Bethel, and Gillan in 2002 on the status of U.S proxy advisory firm shows that a negative recommendation from ISS (U.S Based) on the proposal of the management can persuade 13.6 % and 20.6 % of the vote. Another study done by Cai, Garner, and Walking in 2009 shows that a negative ISS recommendation can sway up to 19 % of the votes. Survey conducted by National Association of Securities Dealers Automated Quotations and the Stanford Rock Centre for Corporate Governance, finds that 70% of executive officers and directors account that their compensation programs affected by the recommendations and the guidelines of the proxy advisory firms.

Statutory Recognition in India

The proxy advisory firms are defined under regulation 2(i) (p) of the SEBI (RESEARCH ANALYSTS) REGULATIONS, 2014 which were issued by the Securities and Exchange Board of India. These regulations talk about the eligibility norms, registrations, and management of conflict of interest, disclosure requirements and other aspects. Regulation 23 deals with the specific disclosures to be made by the proxy advisory firms. The idea of SEBI is to regulate these market intermediaries so as to set up the best practise in market. For this the Securities and Exchange Board Of India has also covered regulation regarding the conflict of interest where the proxy advisors are part of both end of the transaction that is at one end they act for the shareholders of the company and at the other end they are acting for the founders of the company. Thus this situation will create biasness against the party who pays less to the firms, thus SEBI came up with rules and regulations for research analysts and investment advisors with an intention to curb the practise of using the loopholes in the existing regime at that time which may have led to insider trading.

Issues with Proxy Advisory Firms

Though the concept of Proxy advisory firm is new in India and is not in that much practise but issues regarding it have been developing continuously. Some of these issues are-

1. A situation where the advisory firm is at both end of the transaction, as discussed above and this would create an act of biasness and would result in hampering of the interest of the party who pays less. But this problem has now been overcome in India through the SEBI (Research Analyst) Regulations, 2014 which has brought with it stringent laws and has tried to overcome the chances of conflict of interest.
2. Concerns have been raised regarding the methodology used by these advisory firms for conducting the research on the given corporate matters and then afterwards giving their opinion regarding it. These firms have ordinary research procedure and tools which puts a question on the accuracy of results and for the same they have been widely criticized.
3. The next concern is regarding the accountability of these proxy firms. There may arise a situation where the recommendation given by the proxy firm leads to huge loss to the investors, then who will be accountable for the same is a matter of great concern and stringent regulations are needed in this aspect.
4. The next concern is the issue of transparency which is a major concern because on the recommendations of these proxy firms the investors are pursued to vote on a matter, thus whether a proxy advisory firm is or has been unbiased in giving its decision has to be examined carefully.

The business or the concept of these proxy advisory firms might be a new concept in India but the same along with the concept of Investment advisory firms have been regulated by the Securities Exchange Commission (SEC) and it also proposed a new bill in 2016 dealing with the reforms of proxy advisory services. The new bill provides the right to review by the corporation before the proxy advisory firm gives any advice to the investors. Also it has a provision which states that in case where the right of an investor is being infringed, the investor has the option of approaching to the court.

Conclusion

The concept of proxy advisory services is a new concept in the country and is in a rapid growth and a conclusion can be made based on the cases discussed above that although the concept has not been so popular till now, the Indian proxy advisory firms are handling the interests of the investors by giving them the best recommendation on their voting decisions. It can be seen in the cases of stand taken by proxy advisory firms in the Cyrus-Ratan face-off or in the Max promoters awarding themselves a non-compete fee in the merger deal with HDFC Standard Life and bringing to light numerous other corporate shenanigans are useful and of interest to all stakeholders. The shareholders now have a helping hand and can now become more active. The concept and the practise of corporate governance is also growing at a rapid pace and is not merely on paper. The proxy advisory firms in India have also been efficient till now in keeping up with the existing laws and also towards global corporate governance compliance. There is always the other side of a coin, thus is the case with the proxy advisory firms. The regulator of the market in the respective countries should bring in some standard procedures and regulations which these firms should be made to comply with keeping in mind the stringency which should not hamper their working. The stringency should be such that these firms or organisations should not become just a profit earning entity and move away from their main objectives. The recommendations given by these firms are based on predictions and research done by them on the company and the corporate issue involved thus it would not be fair to expect a 100% result from them. In India, SEBI has come up with the regulations regarding the research analysts and the investment advisors which till now have been covering all the issues relating to the regulation of the proxy advisory firms. Till now the overall examination of the work of the proxy advisory firms have shown that the recommendations given by these firms have led to compliance with the relevant laws prevailing in the country and also with the corporate governance norms as well. If these firms work in the best interest of their clients there is a good chance that the companies will have a better rate of compliance with the governing norms and the investors will also hugely benefit from the same.