These firms evolved as guideposts for institutional investors and a tool to keep management in check. But they have become too powerful and their analyses may be at odds with other shareholders. Concentration of power may also need to be checked, writes Shilpy Sinha.
Last fortnight, ISS may have lit the touchpaper on the role of proxy advisors after the three-decade-old US firm advised global funds to vote against a resolution that had sought the re-appointment of Deepak Parekh as the nonexecutive chairman of HDFC. ISS thought Parekh was hard-pressed for time, as he is on the board of eight other companies.
ISS Proxy Analysis & Benchmark Policy Voting Recommendations said that investors may be concerned whether directors could fulfil their fiduciary responsibilities when they are serving on many boards. “While the demands of each board will vary, and the capacity of each person will vary, holding the equivalent of more than six directorships with publicly-listed companies may make it challenging for a director to devote adequate time to the affairs of each company,” the report said.
An otherwise uneventful AGM at Indias biggest mortgage lender grabbed national headlines after the above piece of counsel became widely known, tilting the voting decision for global funds. In India, non-executive directors above the age of 75 years need shareholder support through a special resolution to continue in the job. And a special resolution requires the stamp of approval from more than 75 per cent of shareholders to continue as director on board. After an unexpected cliffhanger during the balloting, which is otherwise perfunctory, Parekh got 77.36 per cent votes in his favour – and the mandate to continue in his role.
“The issue got attention because it involved a high-profile company and high-profile personalities,” said JN Gupta of SES Advisory. “It is not the only case where shareholders have expressed dissatisfaction. Rather than describing as activism, I would say that shareholders are becoming enlightened, realising their responsibility and are becoming conscious of the price that they pay because of their passivity.”
Many institutional investors across the globe are voting based on the recommendations of proxy advisory firms. The decisions on whether to vote for or against various resolutions by shareholders at the annual general meetings is increasingly being driven by what the proxy advisor recommends. Also, voting is largely done by the custodians on behalf of the institutional investors, based on recommendations of the proxy advisors.
“Shareholder activism in India is still in a nascent stage,” said TT Ram Mohan, a professor at IIMAhmedabad. “Fund managers cannot disregard the views of advisory firms; if they do, the onus will be on them to explain why they disregarded the advice. The concern the firms had, namely, that it is difficult to do justice to board membership if one is on too many boards, is well founded. The advisory firms are only enforcing norms they have applied globally. Board members will now come to realise that they must meet the expectations of advisory firms.”
As per their rules, a director who sits on the boards of more than five public companies is construed as over boarded and thus, be automatically disqualified.
Two directors at HDFC — Bansi Mehta and Bimal Jalan — had to forgo reappointment before the AGM as proxy advisory firms insisted on a younger board.
“Our view is that Indian companies need younger boards and there should be appropriate board refreshment. If there is a board where many directors are above 75 years, we look at the average age, the reason and contributions made by the board members and make appropriate recommendations,” said Shriram Subramanian, MD, InGovern Research Services.
GLOBAL FIRMS AND GLOBAL FUNDS
There are two large global proxy advisory firms — ISS and Glass Lewis. Foreign institutional Investors, who own large stakes in Indian companies, are delegating much of their governance work to proxy advisors.
“The absence of adequate competition in the advisory business is an issue,” said Ram Mohan. “Foreign investors tend to be guided by their advice. Corporates should, therefore, make every effort to address the concerns of proxy advisory firms. That is the lesson from the Deepak Parekh episode.”
In case of banks, the regulations require promoters to bring down their stake to 15 per cent over a period. In case of HDFC, the company does not have any promoter holding, while all 100 per cent of its shares are listed, with a dominant foreign shareholding at 75 per cent. Higher FII holdings need not mean loss of control. Even at a non-finance firm such as Infosys, the promoters have continued to exercise control with a very low stake.
Companies run by professionals do not necessarily fear losing control if they performed. Institutional investors would have no reason to evict them. But in non-bank firms run by industrial houses, the threat of losing control is very real and promoters tend to raise their holdings to ward off challenges.
Internationally, both institutional investors and proxy advisory firms have norms that the CEO should not be in his or her job for more than a certain period. Both the age of the CEO and the number of years of tenure are considered before voting. The average tenure of a CEO is on an average 4-5 years, down from seven or more in the past. There are exceptions, such as PepsiCos Indra Nooyi, who has served as CEO for some 12 years. She has now announced her decision to step down.
The entire eco-system changed with the introduction of e-voting under the Companies Act, 2013, Sebi LODR, and regulators, including pension fund, insurance and capital market regulator mandating voting by the institutional investor.
“In the earlier show of hands voting system, the defeat of resolutions was almost impossible. Now it is a reality and lot many investors are expressing their dissatisfaction through the vote,” said Gupta. “There have been a few high-profile defeats as well: Tata Motors, United Spirits and Siemens have experienced shareholder ire.”
REGULATING THE PROXY FIRMS
Recently, Asias richest banker Uday Kotak flagged concerns over regulating global proxy firms. While India is probably the only jurisdiction that has regulations for proxy services, many countries have guidelines and best practices for them.
“We had opposed giving power to proxy firms to vote in response to IRDAs consultation paper in 2017,” said Gupta. “If proxy advisory services do vote, it gives them disproportionate power, which we believe is not our objective. We are facilitators and would prefer to remain the same. SES would strongly oppose this. Such powers can lead to undesirable outcomes.”
Besides the growing consensus that proxy advisory firms need to be regulated, companies will also need to engage proactively with them.