In August, I had posted a couple of blogs on the SEC’s moves to impose new rules on proxy advisory firms such as ISS and Glass Lewis (see, SEC Votes to Provide Interpretive Guidance on Proxy Voting Responsibilities and Proxy Advisory Firms). Then, somewhat unexpectedly, the SEC announced an open meeting for next week, at which it “will consider whether to propose amendments to the proxy solicitation rules that would provide for disclosure of material conflicts of interest and set forth procedures to facilitate issuer and shareholder engagement, to provide clarity to market participants, and to improve the information provided to investors” (Agenda for the meeting). Reportedly, these proposed rules would require, among other things, that proxy advisors give companies two chances to review proxy voting materials before they are sent to shareholders.
Today, ISS sued the SEC in the federal district court in Washington, D.C., claiming that the SECs’ interpretative guidance was unlawful and should be set aside for the following reasons:
First, the Release exceeds the SEC’s statutory authority under Section 14(a) of the Exchange Act and is contrary to the plain language of the statute. The provision of proxy advice is not a proxy solicitation and cannot be regulated as such. Whereas a proxy adviser offers independent advice and research to its clients about how to vote their shares based on the proxy voting policy guidelines selected by the client, a person who “solicits” proxies urges shareholders to vote a certain way in order to achieve a specific outcome in a shareholder vote. The text, purpose, history, and structure of the Exchange Act and Advisers Act all confirm that proxy advice and proxy solicitation are fundamentally distinct activities that are regulated in different ways. The SEC lacks authority to regulate proxy advice as though it were a solicitation, and its holding otherwise in the Proxy Adviser Release is contrary to law.
Second, the Proxy Adviser Release is procedurally improper because it is a substantive rule that the SEC failed to promulgate pursuant to the notice-and-comment procedures of the Administrative Procedure Act (APA). See 5 U.S.C. §553.
Third, the Proxy Adviser Release must be set aside as arbitrary and capricious because, even though it marks a significant change in the regulatory regime applicable to proxy advice, the SEC has denied that it is changing its position at all. The agency has thus flouted the basic requirement of reasoned decision-making that it at least display awareness that it is changing its position. … The SEC, moreover, has acted in an arbitrary and capricious manner by entirely “fail[ing] to consider an important aspect of the problem.” In particular, and without limitation, the SEC has not even attempted to explain why regulating proxy advice through the regulatory framework applicable to investment advisers under the Advisers Act is insufficient to protect the investing public and advance the SEC’s regulatory goals.
Perhaps that is why the SEC had quickly scheduled next weeks’ meeting to consider formally proposed rules.
We will continue to follow this closely as it gets curiouser and curiouser.