Proxy Advisor Rules Put Bureaucrats Ahead of Investors

For millions of investors trying to keep up with the never-ending flurry of corporate news, participating in company governance can be a daunting process. Public companies routinely rely on institutional investors to vote on director elections, executive compensation, and shareholder proposals — a technical process in which many investors lack the time or expertise to meaningfully participate. Proxy advisors provide research, analysis, and voting recommendations that help these investors fulfill fiduciary duties and participate effectively in governance. 

This pivotal process threatens to be upended by model legislation called the “Proxy Advisor Transparency Act” being considered by state legislatures. The bill language poses serious First Amendment concerns, punishing views “against company management” while ensnaring nonprofits, watchdog groups, academics, and civil society organizations for daring to speak out on company proposals or criticize corporate actions. Lawmakers should instead embrace a light-touch approach to investment advice and research.

A core First Amendment principle is that the government may not favor or disfavor speech because of the point of view expressed. Even when speech is commercial in nature (which proxy advisor recommendations arguably are), regulations that hinge on the viewpoint of speech raise constitutional alarm bells. Even then, the Supreme Court has held that commercial speech “may be restricted only in the service of a substantial governmental interest, and only through means that directly advance that interest.”

It’s anyone’s guess how a law only requiring disclosures in the case of recommendations being made “against company management on a company proposal or proxy proposal” is viewpoint neutral or in service of a substantial governmental interest. If proxy advisor research and recommendations are faulty, one would expect that to impact recommendations that are bullish and bearish alike on company management. Limiting regulations to a subset of opinions is not only constitutionally suspect but also strangely disjointed from the bill’s goal of informing and protecting shareholders across the board.

In any case, the impact of proxy advisors is likely overestimated. According to one influential analysis, “shareholders often disregard the advice from proxy advisors, and the advisors themselves frequently have divergent views.” Market reputation, not government rules, is usually the best way to get accurate data and analysis in the hands of consumers.

Unfortunately, the Proxy Advisor Transparency Act doesn’t stop at punishing views its authors don’t like. It defines “proxy advisory service” to include any “advice or a recommendation on how to vote,” as well as “proxy statement research and analysis regarding a company proposal.” These terms are not limited to big firms with paid clients — they could easily be read to cover nonprofits, watchdog groups, academics, and civil society organizations that publish research or voting guides criticizing corporate actions.

Consider a nonprofit publishing a report advising shareholders to oppose a company’s executive compensation plan on ethical grounds. Under the bill’s expansive definition, that publication could constitute a “proxy advisory service,” possibly triggering the same disclosure obligations as a commercial advisor. A small nonprofit would struggle to produce the disclosures and written financial analyses the bill mandates, and failure to do so could expose it to onerous enforcement actions.

State lawmakers can empower investors to make informed decisions, but not via heavy-handed rules that pose serious constitutional issues. Markets, not bureaucrats, are the best way to get the most accurate information in the hands of investors.