Speaking fairly to everyone

Getting a set of rules in place to govern shareholder communications is an arduous process at best. The conundrum arises wherever significant equity markets exist.

In Canada the process trundles along like an old-time circus train. And just as circus performers need to know what everyone is doing to make the show a success, possessing the requisite knowledge is also essential when it comes to companies’ communications with shareholders. With 2009 shaping up to be one of the most hostile proxy seasons in memory, it is vital that companies effectively communicate their messages to shareholders and advisers.

Sadly, however, the efforts of companies are being impeded by inconsistencies in rules governing shareholder communications, like National Instrument (NI) 54-101, and a slew of state and provincial regulators.

In a long-overdue attempt to smooth the process and bring Canada’s public company regulatory system in line with other major economies, there are new moves afoot to unify the system under a single national regulator, combining 13 separate provincial agencies.

While there is definitely an appetite for change, progress is slow. ‘All parties are at the table,’ says James Hinnecke, director of product management at CIBC Mellon. ‘There is a view that this change is inevitable.’ Unsurprisingly, the process is still coming together. It took a decade or more for the existing set of rules to fall into place with, in the words of some observers ‘several generations of ‘committee think’ and staff turnover’ impeding results.

The CSA is the caretaker of modern regulation, which, for many years, was split across all the provinces individually. In fact, the CSA is still an agglomeration of all those regulators, but at least they are starting to talk under one umbrella. The committee that was formed to discuss the formation of the national regulator and rules such as NI 54-101 does not appear to be in any rush, and many participants are frustrated that few details are being publicly aired.

Meeting recently, the committee decided to adjourn until May, a lengthy hiatus indicating this will not be an easy process as various provincial regulators vie to maintain individual influence. Equities community members think the chance of having new, unified rules in place for the 2010 proxy season is slim.
One jarring complication is that different regulatory regimes apply to disparate parts of the process. Communication with shareholders who register their ownership of companies directly is governed by Canada’s Business Corporation Acts, and enshrined in the laws of individual provinces. Meanwhile, the interests of beneficial owners – those whose shares are held in so-called street names by intermediaries – are covered by the CSA’s NI 54-101 rule. ‘There is a need to align these two,’ states Hinnecke.

Everybody loses
In this confused and convoluted system no one wins. At one extreme are the shareholders; at the other, the companies issuing stock. Shareholders are concerned because they may not be getting all the information they need to vote, don’t necessarily understand the process currently in place and are thus not appropriately served, either by the issuers or the authorities overseeing their rights.

Penny Rice, vice president of advisory services at proxy solicitation firm Laurel Hill Advisory Group, is the group’s lead on the NI 54-101 Advisory Committee, an initiative by all commissions to brainstorm improvements. ‘It’s the brokerage community that’s getting the bulk of the complaints,’ she notes. ‘There are two reasons  why that’s happening. One is that the shareholders are coded as either getting all materials, only getting special materials or getting declined material.’ Issuers sometimes override this, she says, often because activity may be coming out and they’re obliged to commit to full disclosure. The second reason, she adds, is that ‘people’s accounts are often coded incorrectly.’ In these cases, shareholders don’t necessarily receive material they want, when they want it.

Issuers’ concerns are warranted, given that they have an obligation to ensure all shareholders are furnished with information in a timely fashion and they also have quorum requirements for annual meeting votes. If shareholders are not informed, they may not vote or they may be more likely to be swayed by voting advisory firms, a situation companies definitely want to avoid. The scope of these problems is somewhat dependent on whether the company is large and multilateral with big institutional ownership and operates across multiple jurisdictions, for instance, or small and widely held by retail owners.

Those are just a few of the matters that players at each end of the rope bring to the shareholder communications reform table. Then there are all the other players in between who have their own agendas to promote, which clouds the issue even further. They range from regulators at the provincial and federal level to depositories and transfer agents, intermediaries such as proxy agents and a plenitude of lawyers.

Brad Allen, senior vice president at Laurel Hill Advisory Group, says that, ultimately, ‘the aim of the regulations is to marry the Canadian procedures to the US system, allowing as many shareholders as possible to participate, ensuring companies make their documents available in a timely fashion, and increasing use of the internet as a distribution method.’

Missing out on the vote
Rice agrees that notice and access proves a bright point. Given the ease of electronic dissemination of proxy materials, it could make it less likely for people to choose not to receive documents.

At the present time a number of things keep that from happening. For instance, according to a white paper issued by the Canadian Society of Corporate Secretaries (CSCS), the overall proxy system is the problem. In many cases, retail holders simply do not understand their choice regarding receiving documents and opting out. A number of studies have shown that if they have the system more clearly explained, they prefer to opt in – that is, have the chance to receive the proxy and vote directly for themselves.

‘While in theory beneficial shareholders have the right to demand to be appointed as a proxy holder in respect of the shares in which they hold a beneficial interest, in practice the process for obtaining the legal proxy is not well understood and is hard to follow,’ the CSCS white paper states. ‘And it may therefore be very difficult or impossible in most cases for a beneficial shareholder to obtain a proxy in sufficient time for it to be of any real use at a meeting.’

The CSCS cites as an example the bottleneck in the proxy system, saying that there are several steps to be taken before a beneficial owner can actually get to the point of casting a vote. ‘At the retail level, the result for issuers and their shareholders is that registered shareholders, who in some cases make up a small minority of an issuer’s shareholders, are fully enfranchised, whereas the overwhelming majority, who are beneficial shareholders, have their rights only partially recognized.’

All this adds up to fewer participants in the process. ‘The retail holders tend not to take up the opportunity as readily as institutions do,’ says Allen. ‘Anything that reduces participation is a problem, especially for smaller companies, and while companies generally try to broaden access, retail holders who are not participating may be less inclined to vote.’

The CSCS notes that NI 54-101 also fails to deal head on with the role of proxy agents such as Broadridge. ‘The current reality is that the intermediaries have delegated to Broadridge the role of aggregating and disseminating information about beneficial ownership, and aggregating meeting materials and disseminating them to beneficial shareholders,’ it says.
‘Given the way in which the Canadian capital markets operate, this practical arrangement with the proxy agent playing a central role should now be considered an essential ingredient in enfranchising beneficial shareholders.

‘The economic reality, at least for the time being, and likely for the foreseeable future, is that the proxy agent has, in effect, a monopoly on the services it provides. This is not necessarily a bad thing for the various stakeholders, it is simply a fact that needs to be taken into account in any meaningful attempt to design an effective shareholder communications policy.’

Change for the better
Rice believes Broadridge is making moves to increase efficiency in the process, and foresees changes across the board meant to improve efficiency and accountability. More efficiency will also help dwindle mounting costs. There are savings to be had by some companies, especially large ones with significant institutional ownership. Institutions tend to get what they need regardless of the way the system may function.

But for smaller companies who often have many retail holders, the cost of multiple mailings or other distribution activities can be overly burdensome.

Looking at the broader picture, two of Canada’s heavyweights on the equities scene published in the Canadian paper National Post the second of two critiques of the system last August. The first was in 2004. Claude Lamoureux, former chief executive of the Ontario Teachers’ Pension Plan, and Edward Waitzer, former chairman of the Ontario Securities Commission and a senior partner at Stikeman Elliott, wrote that in 2004 they had called on the CSA to ‘take a longer-term view and refocus on developing a comprehensive, real-time, anonymous and cost-effective system for disseminating corporation information (including proxy materials) to investors and on enabling all shareholders to exercise their franchise.’

Last summer, four years into the process, they noted that the lack of action made their argument even more compelling, given events in the intervening years. Updating their view, they suggested the CSA ‘step back and focus on more holistic reforms to the networks that connect companies, intermediaries and investors (as other markets are doing).’

Worrying trends
In addition to the shareholder disenfranchisement taking place there are significant concerns at the issuing companies where boards of directors have a responsibility to represent the shareholders accurately, a job that is increasingly difficult as voting representation is declining in some cases and splintered in others.

‘The concentration of share ownership in the hands of pension funds and other private pools of capital is raising a host of new issues for directors who must now exercise their fiduciary duties among potentially divergent shareholder interests,’ Lamoureux and Waitzer wrote in their critiques. ‘Effective communication between boards and management with shareholders has become critical to ensuring that boards and management fully appreciate the concerns of an increasingly heterogeneous shareholder population, to building shareholder support for management’s long term plans and, ultimately, to informing the manner in which corporate law will evolve.’

The CSA’s committee, which looks at change, has encouraged other industry working groups to form – so at least things are finally moving, if at a glacial pace.