Thursday, April 10, 2014

Enhanced Disclosure of Mutual Fund Voting Policies

Generally, shareholders of a company may exercise their voting rights in any manner in which they deem fit. They are not even obliged to exercise their corporate franchise and may instead choose to abstain rom attending and voting at company meetings. This legal position may engender passivity and shareholder apathy, which have been prevalent in Indian companies for several decades.

While law or regulation cannot compel shareholders to exercise their votes on companies, they can be exhorted to do so. In this vein, SEBI in 2010 required mutual funds (which subject to registration with SEBI) to disclose their voting policies. By introducing transparency in mutual fund voting, the idea is that such investors cannot simply adopt a passive attitude and must decide whether or not to vote and, if so, how.

In a more recent development, SEBI has issued a circular making the disclosure of mutual fund voting policies more stringent. The key matters encompassed in the circular are as follows:

1. Asset management companies (AMCs) must record and disclose specific rationale supporting their voting decision (for, against or abstain) with respect to each vote proposal.

2. AMCs must publish summary of the votes cast across all its investee companies and its break-up in terms of total number of votes cast in favor, against or abstained from.

3. AMCs must make disclosure of votes cast on their website (in spreadsheet format) on a quarterly basis, within 10 working days from the end of the quarter. Further, AMCs shall continue disclosing voting details in their annual report. A revised format for disclosure has been prescribed.

4. Further, on an annual basis, AMCs must obtain Auditor's certification on the voting reports being disclosed by them. Such auditor's certification shall be submitted to trustees and also disclosed in the relevant portion of the Mutual Funds' annual report & website.

5. Board of AMCs and Trustees of Mutual Funds shall be required to review and ensure that AMCs have voted on important decisions that may affect the interest of investors and the rationale recorded for vote decision is prudent and adequate. The confirmation to the same, along with any adverse comments made by auditors, shall have to be reported to SEBI in the half yearly trustee reports.

These measures will certainly enhance more responsible exercise of voting rights by mutual funds. In fact, SEBI’s circular explicitly states that mutual funds/ AMCs must be encouraged “to diligently exercise their voting rights in the best interest of the unitholders”. This is representative of the dual agency problem prevalent in the case of institutional investors. On the one hand, the investee company managers ought to manage their companies for the benefit of their shareholders. Where a shareholder is an institutional investor (as in the case of a mutual fund), such investor must in turn manage its investment for the benefit of the unitholders who are the ultimate investors. This explicit recognition of unitholders’ best interest imposes a significant onus on AMCs and their managers to act cautiously and responsibly in exercising voting rights on investee companies, and it is not longer possible to adopt a passive attitude when it comes to corporate voting.

Such responsible voting decisions would also enhance activism among institutional shareholders, a phenomenon that has become altogether real in the Indian context. Although SEBI’s circular applies directly only to mutual funds, the attitude adopted by mutual funds may also influence other institutional investors as to the manner of their exercise of the corporate franchise. The rapid development of the proxy advisory industry has already begun to further aid institutional activity in corporate meetings and voting.

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