Proxy Advisory Firms Face New Threat From Old Law at Trump’s SEC

Companies are weighing a new strategy to restrict firms that guide shareholder voting after a court this summer rejected regulatory curbs from the first Trump administration.

The DC Circuit’s July decision against 2020 Securities and Exchange Commission rules set back a sweeping business-backed effort to limit Institutional Shareholder Services Inc., Glass, Lewis & Co., and other proxy advisory firms. But business advocates say a path for narrower regulation remains open under existing federal law at the SEC, the go-to regulator in the space.

The SEC couldn’t regulate proxy firms with a 1934 law governing the shareholder voting process, as it sought to do with its 2020 rules, according to the US Court of Appeals for the District of Columbia Circuit. The agency could instead have directed the firms through a 1940 federal statute for investment advisers, the court said.

Business groups and Republicans long have said the outcome of shareholder votes on environmental, social, and governance proposals and other matters at corporate annual meetings rests heavily—and improperly—on ISS and Glass Lewis. The firms, by far the biggest providers of voting recommendations to pension funds and other large investors, dispute claims that they use their dominance to inappropriately advance an ESG agenda against their clients’ financial interest.

ISS and Glass Lewis are battling several Republican bids to curb proxy advisers, including with pending federal legislation, a congressional antitrust probe, and a new Texas law. SEC Chairman Paul Atkins, who’s been critical of proxy firms, can join that effort as well, said Charles Crain, managing vice president of policy for the National Association of Manufacturers, which defended the 2020 rules at the DC Circuit.

“The commission can ensure that that regulatory regime is used to ensure that these firms are accountable and transparent and are providing conflict-free advice for the betterment of American investors,” Crain said. “So, there is a pathway there.”

An SEC spokesperson declined to comment. Representatives of ISS and Glass Lewis declined to comment.

‘Creative Ideas’

The SEC has sparred with ISS and Glass Lewis for years over whether to boost proxy firm regulation—and on what legal grounds the agency could deploy new rules.

The two proxy firms opposed the 2020 rules adopted through the Securities Exchange Act of 1934, with ISS filing the case that led the DC Circuit ultimately to reject them. But ISS and Glass Lewis disagreed on whether the Investment Advisers Act of 1940 was an appropriate option for proxy firm regulation. The 1940 law requires investment advisers to put the interests of their customers ahead of their own and submit to periodic SEC examinations.

ISS is a registered investment adviser under the statute; Glass Lewis is not. The SEC should make proxy firms register under the Advisers Act, if it has concerns about their activities, ISS has said. But proxy firm clients already have a fiduciary duty to those they assist under the Advisers Act, which provides robust regulation without new rules, Glass Lewis has said.

The SEC wasn’t interested in using the 2020 rules to further proxy firm regulation under the Advisers Act, either.

The concerns that prompted the rules “are squarely subject to, and appropriately addressed through, regulation under” the Exchange Act, the agency said at the time. The law has anti-fraud and public filing requirements for activist investors and company managers seeking to shape shareholder votes. The law directs activist investors and company managers trying to sway shareholders to provide truthful and detailed information to them and the SEC.

Proxy firm rules under the Exchange Act were a stretch for the SEC from the beginning, said Sarah Haan, a Brooklyn Law School professor, who studies corporate governance and shareholder voting rights. The Advisers Act isn’t a surefire alternative, though it might prove enticing to the SEC after the DC Circuit ruling, she said.

Proponents of proxy firm curbs “are interested in coming up with more creative ideas,” Haan said. “I don’t think we can expect the push to regulate proxy advisers to end here.”

Pending Matters

Other Republican efforts to curtail proxy firms, meanwhile, are tied up in Congress or court.

A federal judge in late August paused a Texas law requiring proxy firms to disclose they use “nonfinancial factors” in creating ESG-related recommendations starting Sept. 1. Glass Lewis and ISS sued separately to stop the statute, saying it violated the First Amendment by compelling speech, among other claims.

Congressional Republicans in March also initiated an antitrust investigation of ISS and Glass Lewis’s market dominance and are pursuing legislation that targets the firms.

Business groups are looking to work with Congress on legislation that gives the SEC new powers to restrict proxy firms after the DC Circuit decision. The SEC would be better positioned to regulate proxy firms with new laws, than with the Advisers Act, according to business advocates. But moving legislation through Congress can take years, they said.

“How is this actually going to cross the finish line?” said Bill Hulse, senior vice president at the U.S. Chamber of Commerce’s Center for Capital Markets Competitiveness. “I think that’s step five.”