The proxy voting process is called into question as Yahoo! suffers a high-profile technical glitch in vote counting
Securities lending has long been the highest-profile problem threatening the proxy voting process. Now, however, there is fresh concern about the integrity of voting mechanics. Yahoo! recently had to explain that a technical glitch counting votes meant its CEO and chairman had much less shareholder support in its board elections than first thought.
The debacle has given corporate elections their own ‘hanging chad’ scandal (see Mistake in Mountainview, below), and is making investors aware that the proxy voting process is a mess.
The most mundane problem is vote tabulation, which the Bush vs Gore presidential recount proves is more complicated than it looks. ‘Mechanical issues are a big problem given the complexity of the system and the number of votes that happen in a short time frame,’ says Marcel Kahan, a professor at NYU School of Law. ‘I suspect mistakes happen regularly and often go undetected.’
Mistakes don’t matter much in votes on directors or merger deals that aren’t close but, with more shareholder activism, margins are getting tighter, increasing pressure for improvement. Some issuers and corporate governance experts say the problem goes beyond tabulation and requires a reevaluation of the whole proxy voting infrastructure.
One corporate secretary of a major company, who declines to be named, lists a myriad of problems: ‘Rule 452 and the death of retail voting; the inability of companies to know the identity of their owners; empty voting and over-voting; the multi-layer proxy delivery process with Broadridge locked in at the center. Issuers have been pushing the SEC for years to take a broad look at the entire stockholder voting process and mechanics. The whole system is in a pre-scandal stage.’
System restrictions
To a great extent, hands are tied by the system. In a paper Kahan wrote with Edward Rock for Georgetown Law Journal, entitled ‘The hanging chads of corporate voting’, the authors say the problems originate in the move 40 years ago from a system where investors held shares registered with the issuer to one in which there is ‘immobilization’ of share certificates in a depository system.
The shift means there are multiple tiers of custody, uncertainties as to who owns particular shares, and a potential misalignment between voting rights and economic interests. Under the current system, some proxies don’t get delivered, more proxies might go out than can be legally voted, and hedge funds might be voting shares borrowed for short selling that they don’t own.
The allowance of the broker vote makes it even more crucial to get right the number of shares with effective votes. On issues where brokers have discretionary voting authority over shares for which they receive no voting instructions, the imprecision might magnify their view. ‘Rule 452 means you need to be confident the controls in place are flawless,’ says a source who serves as a corporate elections inspector.
Without reconstruction, the proxy process will continue to be ‘imprecise’ and ‘disturbingly opaque,’ say Rock and Kahan. In their paper, they outline a range of suggestions for change, including adding more time between the record date establishing share ownership and the annual meeting date, reserving primary voting responsibility for beneficial owners, and looking to a direct share registration and clearing system like the one used in Spain.
There are many competing interests, and there probably won’t be much action until the Delaware courts issue a blistering opinion on a flawed election. In the meantime, a number of issuers are hoping for a reform effort from the SEC, the exchanges and key market players.
After its August 1 annual meeting, Yahoo! announced that it had under-reported the percentage of shareholders withholding support for five of its directors because of a technical glitch counting votes. The glitch did not change the outcome of the election, but the recount showed much weaker backing for five directors, including CEO Jerry Yang.
The review was requested by Capital Research Global Investors, one of Yahoo!’s largest and most critical shareholders, after it noticed some 200 mn fewer shares were being counted than in previous years.
In the weeks leading up to the AGM, Yahoo! faced a proxy fight for control of the board from investor Carl Icahn. But the two sides settled in July, with Yahoo! agreeing to give board seats to Icahn and two of his nominees. A source says Yahoo! might have thought the deal helped settle investors to the point where they didn't need to vote, but the sheer drop-off in numbers deserved checking and rechecking.
Broadridge senior vice president Chuck Callan says the Yahoo! miscount is not the result of a systemic problem, but rather a 'perfect storm' of factors. Large withhold votes are usually processed without error, he says, but in this case there was a truncation error when shares withheld for a specific director in a specific nomination exceeded eight digits and were reported to the tabulator in paper format. 'Everything went to plan until the printing step,' Callan says.
The mistake led Broadridge to consider adding additional steps to loop back to the issuer on big-picture questions, like - in Yahoo!'s case - why on the first count, there were so many fewer votes. 'We're always interested in constructive suggestions for how to improve the process,' Callan says.
