According to the Financial Times, “[p]ension funds and retail investors have complained for years over their lack of ability to vote at annual meetings when using an asset manager.” Last week, BlackRock, the largest asset manager in the galaxy with $9.5 trillion under management, announced that, beginning in 2022, it will begin to “expand the opportunity for clients to participate in proxy voting decisions.” BlackRock said that it has been developing this capability in response “to a growing interest in investment stewardship from our clients,” enabling clients “to have a greater say in proxy voting, if that is important to [them].” BlackRock will make the opportunity available initially to institutional clients invested in index strategies—almost $2 trillion of index equity assets in which over 60 million people invest across the globe. It is also looking at expanding “proxy voting choice to even more investors, including those invested in ETFs, index mutual funds and other products.” Will this be a good thing?
Clients will have four choices: they can cast votes themselves for all companies; they can vote in accordance with a shareholder proxy service, such as ISS or Glass Lewis; they can cherry pick certain proposals or companies that that they want to vote on themselves—perhaps the most controversial topics of day, such as climate or political spending disclosure—or they can continue to rely on BlackRock Investment Stewardship to vote their shares. BlackRock reports that, in the 12 months ended June 30, 2021, “BIS held more than 3,600 engagements with more than 2,300 companies. BIS voted at more than 17,000 shareholder meetings, casting more than 165,000 votes on behalf of our clients in 71 voting markets.” But now, if they so choose, some institutions will be able to conduct those engagements and make decisions themselves.
According to the NYT’s Dealbook, “[a]llowing investors to vote their shares gives BlackRock some cover, especially when it comes to what has become its thorniest issue: its size. In recent years, BlackRock has been simultaneously criticized for having too much power and for not using it to push for more changes at companies in which it invests.” For example, Harvard Professor and former SEC general counsel John Coates predicted in 2018 that index investing could lead to the control of investment entities by a few people—the “twelve,” he called them—with enormous concentrated power over most public companies. And not just over business, but also perhaps over the entire economy and even the “social contract.” (See this PubCo post.)
In his paper, “The Problem of Twelve,” Coates argues that “[t]hree ongoing mega-trends are reshaping corporate governance: indexing, private equity, and globalization. These trends threaten to permanently entangle business with the state and create organizations controlled by a small number of individuals with unsurpassed power.” With regard to index funds, for example, he contends that most analyses have overlooked
“a first-order consequence…that is, the wealthiest organizations in the world, with more revenue than most states—will soon be concentrated in the hands of a dozen or fewer people. Conventional analyses have emphasized that the individuals who control index funds have weak incentives to use that control….But conventional analyses mistakenly assume that index funds must make significant expenditures to influence companies and neglect economies of scale in exercise of power. They also neglect the power of control threats to discipline, and non-wealth utility derived from power. Index funds increasingly possess the ‘median vote’ in corporate contests. That gives them an ability, even if contingent, to make crucial decisions across most public companies. Unless law changes, the effect of indexation will be to turn the concept of ‘passive’ investing on its head and produce the greatest concentration of economic control in our lifetimes. More fundamentally, the rise of indexing presents a sharp, general, political challenge to corporate law. The prospect of twelve people even potentially controlling most of the economy poses a legitimacy and accountability issue of the first order—one might even call it a small ‘c’ constitutional challenge.”
Coates observes that index funds exercise influence in three ways: first, they “form ‘policies’ regarding various kinds of decisions that the boards and managers of their portfolio companies must make.” As they meet with representatives of other institutional shareholders, they “achieve significant coordination over many if not all topics on which shareholders routinely vote.” The second channel of influence is through engagement with their portfolio companies. The “third channel of influence—control contests, activist campaigns, and mergers—[is] where the indexed funds have their greatest potential for influence….Index funds are increasingly the pivotal votes in such contests,” especially “if the top indexed funds take similar positions.” The “bottom line of this influence,” he continues, “is very different than what the term ‘passive’ investment implies. Rather than blindly choosing stocks in their index and then ignoring them, index fund managers have and are increasingly using multiple channels to influence public companies of all sizes and kinds. Their views on governance issues, their opinions of CEOs, their desires for change at particular companies, their response and evaluations of restructuring or recapitalization proposals from hedge fund activists—all of these matter intensely to the way the core institutions in the U.S. economy are operating.”
As Bloomberg columnist Matt Levine has commented on Coates’s analysis: “The thing is, though, that if you find the ‘Problem of Twelve’ sort of creepy and unsettling when applied to issues of corporate governance and profitability, isn’t it even weirder when applied to, like, the environment, or the social contract for U.S. workers? …What if large public companies are the most effective locus of political power in the world today, and what if Larry Fink is one of the most influential people at a lot of large public companies [see this PubCo post], and what if he decides to use his influence and those companies’ power to do things that would once have been the responsibility of governments? What if Larry Fink has been elected to a position of vast political power, not by the old-fashioned mechanism of people going to the polls and giving him their votes, but by the new, late-capitalist mechanism of people giving him their money to manage?” (See this PubCo post.)
But it’s not just BlackRock’s phenomenal power standing alone that has drawn criticism; it’s what BlackRock has done—or rather failed to do—with that power. While BlackRock and its CEO, Laurence Fink, have long played an outsized role in promoting corporate sustainability and social responsibility, that was often as far as its advocacy went. As a result, BlackRock has long been a target for protests by activists. As reported by Bloomberg, “[e]nvironmental advocates in cities including New York, Miami, San Francisco, London and Zurich targeted BlackRock for a wave of protests in mid-April, holding up images of giant eyeballs to signal that ‘all eyes’ were on BlackRock’s voting decisions.” There’s even a global network of NGOs, social movements, grassroots groups and financial advocates called “BlackRock’s Big Problem,” which pressures BlackRock to “rapidly align [its] business practices with a climate-safe world.” (See this PubCo post.) Why this singular outrage at BlackRock? Perhaps because, as reflected in press reports like this one in the NYT, activists have reacted to the appearance of stark inconsistencies between the company’s advocacy positions and its proxy voting record: BlackRock has historically conducted extensive engagement with companies but, in the end, voted with management much more often than activists preferred. For example, in the first quarter of 2020, the company supported less than 10% of environmental and social shareholder proposals and opposed three environmental proposals.
Starting this past proxy season, however, there has been a dramatic change in BlackRock’s approach to voting, as a new global head of investment stewardship began to implement changes. For example, in the 2020-21 proxy year, BlackRock Investment Stewardship supported 35% of shareholder proposals (297 out of 843), compared to 17% (155 out of 889) the previous year. And, this year, BIS voted against the election of 255 directors as a result of climate-related concerns, an increase from only 55 in the prior year. In the 2020-21 proxy period, BIS voted against 319 companies (177 in the Americas) by voting in support of or abstaining on climate-related shareholder proposals because of “climate-related concerns that could negatively affect long-term shareholder value.” In addition, this year, BIS reported that it supported 64% of the environmental shareholder proposals, 35% of the social shareholder proposals and 32% of governance shareholder proposals. Last year, BIS said that it supported 6.3% of the environmental shareholder proposals, 6.8% of the social shareholder proposals and 17.1% of governance shareholder proposals. Not to mention BlackRock’s vote in a highly publicized proxy contest this year. (See this PubCo post.) Some might argue that the shift in voting position by BlackRock and other large asset managers was the decisive factor in many votes this proxy season where environmental and social issues were central. (See, e.g., this PubCo post.)
So is this a good thing? Views seem to be mixed on this question. To some extent, where you stand depends on where you sit. Some activists seem to welcome the dispersal of power. According to one activist commentator in the NYT, “‘[w]hen the biggest asset managers control a sizable chunk of the voting at the biggest companies, shareholder advocates trying to make change can often end up feeling like one David against two Goliaths….Whatever BlackRock’s motivation, dividing up even part of that power seems like it’ll be a good thing.’” But given BlackRock’s recent shift toward more “aggressive” voting on environmental and social issues, will activists come to regret the change?
Likewise, companies, perhaps dismayed by the recent voting trends at BlackRock, may also embrace the new policy on voting rights. However, Reuters suggests, they may be quickly disillusioned: the “changes could lead to companies finding it more difficult to push through their choices at shareholder votes because it will give more say to many institutional investors that often have tougher corporate governance voting policies, such as big pension funds and endowments,” citing a commentator at a corporate governance software firm. The commentator expected the change in voting to “‘have a significantly negative impact on the level of support that (a company’s) management receives.’” A similar view was expressed in thecorporatecounsel.net blog: while it was too “early to predict exactly how this policy will play out in practice,” the policy could “make it even more difficult for companies to track & predict votes during proxy season. Companies will now need to engage not just with BlackRock, but will also need to understand whether the index investor whose funds BlackRock manages will be following their own unique voting policy, following a specialty voting policy, continuing to use BlackRock Investment Stewardship, or casting unique votes only at particular companies or on particular resolutions.” One commentator cited on the blog suggested that extending the voting to institutional clients could make it “‘more challenging for companies to know / reach / influence the voting shareholders and predict voting behavior across BlackRock-held shares. And that has broader implications given the explosion in ESG focus and voting support…’” Time will tell whether these new voting institutions “take a more or less stringent or consistent approach than BIS.”
However, a representative of a proxy solicitor had quite a different perspective, telling Reuters that “he expected the changes would only have a marginal impact. ‘I doubt many investors in BlackRock-managed products have policies that are too different from the well-crafted policies already set out by BlackRock and executed by its investment stewardship team.’”
This article in Bloomberg questions what the impact of BlackRock’s change in voting policy will be on ESG funds. “The decision to give index investors more influence,” the article reports, “comes as the firm predicts a ‘vast reallocation’ of capital into environmental, social and governance strategies.” But that raises the issue of whether it’s a better strategy to “punish companies that fall short by selling” the shares or to stay invested and “try to bring about improvements through active ownership.” Citing an academic paper, the article suggests that the more effective alternative is to stay invested and “exercise their rights of control to change corporate policy.” Will the dispersal of voting power by BlackRock complicate this effort?
In the end, a University of Pennsylvania law professor cited in Reuters may have the final word. After praising BlackRock’s decision to allow pension funds and other big institutions to have more say over corporate decisions, she observed—alluding perhaps to “the problem of twelve”— “‘[b]ig asset managers try to do a good job, but they’re not the people I want running the country.’”