Shareholder Advisory Services and Congressional Pressure

There can be little doubt that Institutional Shareholder Services (ISS) is the "dominant" proxy advisory firm, providing recommendations on how to vote on assorted shareholder proposals.  Moreover, its recommendations, as a recent paper on advisory firms, notes, can affect the outcome of a vote.  See The Role of Advisory Services in Proxy Voting.  These firms have, as a result, played a critical role in elevating governance standards. 

It therefore came as a bit of a surprise to learn that the GAO had been studying possible conflicts of interest among advisory firms that could affect vote recommendations.  The report, published under the innocuous title of "Corporate Shareholder Meetings" (the report is posted on the DU Corporate Governance web site), ostensibly examined conflicts among the five advisory firms, ISS, Marco Consulting, Glass Lewis, Proxy Governance Inc (PGI) and Egan-Jones.  Three of the firms are registered as investment advisors (ISS, Marco and PGI) and therefore subject to SEC oversight. 

Although mentioning the five, the report focussed primarily on ISS.  The main beef?  ISS, in addition to making recommendations, also provides consulting services to companies seeking to improved their corporate governance.  This, apparently, has been a cause for concern.  As the report noted:  "Critics contend that corporations could feel obligated to retain ISS's consulting services in order to obtain favorable vote recommendations." 

The report noted that ISS discloses the potential conflict on its web site and maintains separate staff for consulting and vote analysis.  Unsurprisingly, "all institutional investors" interviewed by GAO concluded that "they are satisfied with the mitigation procedures".  Moreover, the report noted that in fact large institutional investors indicated that their reliance on advisory firms "is limited" and that they have their own in house staff.  

The one conflict that was not examined was the role ISS and the advisory firms play in elevating governance standards.  It is true that those providing consulting services to management have an incentive to raise governance standards.  Presumably with raised standards, companies will need additional advice.  The GAO report, however, did not examine the role of the advisory firms in elevating governance standards. 

The report was professionally done but nonetheless had the feel of a warning.  The industry, which has played an important role in the corporate governance process, particularly by empowering shareholders, was put on notice that its actions could become subject to future regulation, perhaps encouraging a lower profile.  The conclusion of the report that there was no real evidence of a problem should make any possible regulatory initiatives harder to justify.