The big pension and mutual fund managers are often viewed as good guys in the capital markets, free of conflicts and devoted solely to maximizing returns for their many investors. In our frenzy to punish the villains of recent corporate scandals, we have focused on directors, executives, accountants and investment bankers. Yet few institutional shareholders have adopted best practices when exercising their significant corporate governance responsibilities.
Reform is under way in the United States, where the Securities and Exchange Commission estimates that mutual funds control 19 per cent of all publicly traded corporate equity. The SEC has proposed new rules that would force mutual funds to publicly disclose how they cast their votes as shareholders, and to tell the investing public about the funds' voting policies.
In Canada, the Ontario Securities Commission has taken a tentative step toward requiring institutional shareholders to show greater transparency about their voting policies and voting records. But much more needs to done.
The power of institutional investors is big and it's growing. Canadian mutual funds hold approximately $80-billion in Canadian equities. Even though securities law prohibits any one mutual fund from owning more than 10 per cent of the securities of a corporation, a fund can wield significant influence over a company in its portfolio and, collectively, institutional shareholders can exert control. Voting decisions by fund managers can affect the performance of portfolio companies and consequently the fund's performance.
Yet investors in these funds have few ways to know how fund managers exercise these ownership rights at shareholder meetings. Few managers will say if they vote at all, let alone whether they vote for or against company management on a given issue. Nor will they reveal what governs their voting decisions in case of a conflict between some larger business interest of the manager and the interests of fund beneficiaries.
The new SEC proposals, which are being circulated for comment until the end of this week, would require mutual funds and other investment managers to make their proxy voting records available to investors in a fund. Mutual funds also would have to disclose the policies and procedures used to determine the votes cast.
The costs of complying with such reforms would be worthwhile in order to reduce the risk of self-interested voting behaviour by managers.
Disclosure requirements would also encourage fund managers to take a more active interest in the corporate governance of their portfolio companies. It's safe to bet that most fund managers vote with company management most of the time. By making fund managers accountable to their investors and to the wider public, we could change the passive approach to corporate governance typical of too many institutional shareholders.
Securities regulators in Canada so far have not proposed reforms comparable to the new SEC rules. The OSC proposal -- open to comment until Dec. 19 -- calls for a brief description of how mutual funds vote their shares. But, unlike the SEC rules, it wouldn't require mutual funds to spell out their policies or all their votes.
Many Canadian institutional shareholders will resist such reforms. Publicly criticizing company management may hurt the share prices of portfolio companies, they'll say. Better to work behind the scenes to persuade company management to do the right thing. The new rules might politicize the voting process, giving special interest groups another excuse to promote their causes.
Instead of such resistance, however, institutional shareholders should consider the benefits of taking a more active approach to corporate governance and providing investors with more information.
Some institutional investors are already moving ahead. The Ontario Municipal Employees Retirement System posts on its Web site details of its conflicts of interest policy, and proxy guidelines that explain its approach to such matters as executive compensation, takeover protection, shareholder rights, ethical and environmental considerations, as well as reasons for any vote against a company's management.
Ethical Funds mutual funds discloses how it intends to vote its proxies about two weeks prior to each portfolio company's annual general meeting. On its Web site, you can view a list of the companies in the funds' portfolios and see how the fund manager voted on each matter at a company's last shareholder meeting.
The success of such approaches suggests that investment advisers who take their corporate governance responsibilities seriously, at the very least, may acquire a marketing advantage. More importantly, disclosure of voting policies and records would make it easier for investors to decide for themselves whether the funds they invest in are voting in their best interests.
Michael Ward is a specialist in corporate and securities law at McMillan Binch LLP.
© 2007 The Globe and Mail. All rights reserved.
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