Courting the retail vote

June 2014 | PROFESSIONAL INSIGHT | CORPORATE GOVERNANCE

Financier Worldwide Magazine

Institutional shareholders have long dominated corporate attention when it comes to proxy voting and shareholder communications. However, it is time for boards to wake up and realise that they neglect the other shareholders – the retail bloc made up of real people and not institutions.

A 2013 study entitled ‘How Well Do You Know Your Shareholders’ by PwC and Broadridge, the company that processes 80 percent of voted shares of publicly listed US companies, indicates that institutions own only 67 percent of shares, with 33 percent owned by retail shareholders. In the not so distant pre-activist past, the institutional vote gave corporate boards a comfortable ride to electoral victory. Today, however, the world has changed. Corporate elections, even for uncontested board seats, can become major contests where every vote counts. The arithmetic and dynamics of corporate elections now mean that a board neglects any group of shareholders, including the large retail vote, at its peril. Now is the time for boards to understand the demographics of their shareholder base and to build support for the time when they are challenged.

What changed from the days of automatic management victory at the polls? Several related phenomena occurred within a relatively short time. Perhaps most important has been the shift to majority voting, even in the case of an uncontested election for directors. Previously, it was virtually impossible to lose an election when running for an uncontested seat. Majority voting effectively means that even without a contest, shareholders must affirmatively approve by a majority of votes cast that a nominee can continue to serve on the board.

The requirement for a majority can become problematic when a director nominee becomes unpopular or becomes a target to punish the board for its actions or policies. For example, the California State Teachers Retirement System voted against four Bank of America directors because of anger over miscalculations of capital levels. Similarly, as of this writing, re-election of some directors of JPMorgan Chase could be in doubt because of concern about their qualifications or anger at the enormous trading losses in the London operations. Proxy advisory firms, particularly Institutional Shareholder Services (ISS), have also been clear that they may recommend a vote against a director if, for example, he or she serves on a committee whose actions ISS disapproves. For the company, winning the vote is not the sure thing it used to be.

Because winning a majority vote has become imperative, the natural question is a majority of what? If all shareholders exercised the right to vote, a majority would be 50 percent plus one of the shares outstanding and eligible to vote. However, the majority needed to win is the majority of shares actually voted. As with political elections, getting the vote out has become vitally important.

In recent years, getting votes cast has become more difficult for the board than it once was. The rules for the broker non-vote changed in 2010. The broker non-vote involves shares held in street name for which the brokerage firm holding them receives no voting instructions from its customers. Under New York Stock Exchange rules, if the matter being voted is considered routine, the broker can use its discretion as to how to casts the votes (see NYSE Rule 452). Uncontested elections for director used to be deemed routine. Typically, brokerage firms cast votes for which they did not receive instructions for management. Beginning in 2010, however, the NYSE changed its rules to make director elections a non-routine matter. Thus, unless the company can reach the retail street name voters and convince them to vote, those votes will be lost. The PwC/Broadridge study found that of the 33 percent of shares were held by retail shareholders, 70 percent were not voted. Simple arithmetic tells us that roughly 23 percent of shares that could be cast were not. If 23 percent of shares are not voted, a majority becomes 50 percent plus one of the 77 percent that are cast. Elections can thus be won by a large minority of total shares outstanding.

By contrast, PwC/Broadridge reports that 90 percent of institutional shares are voted. Under these circumstances, institutions clearly control the vote outcome.

This result should not come as a surprise to anyone who is a retail shareholder. Corporations gear their communications to institutional investors and to sophisticated analysts. Retail voters could access various analysts’ reports if they decide to take the trouble to do so.

In addition, to save money, many companies avoid the expense of printing and mailing annual reports and proxy statements. Instead, the retail investor receives an envelope whose exterior extols the importance of voting, but whose interior makes investors work to get the information they need and to cast their votes. A retail investor must download the annual report and proxy statement and attempt to peruse them online. Then she must log on to another website to vote. Clearly 23 percent of shareholders do not think it is important to jump through these hoops. If the retail vote is indeed important to the board, why does the board make it so hard to vote?

The need for a majority vote, coupled with an increase in contested elections, means that corporate boards must understand the size and demographics of their retail shareholder base. Are they mostly retirees, or are they tech savvy Millennials who have decided to forgo brokerage fees and invest their money themselves? Are retail shareholders concentrated in one geographic area, or are they spread across the country? What are their investment objectives? A board that understands these factors is in a better position to fashion a communications program that resonates with its retail base.

Understanding the demographic of the base is only half of the problem. Communicating with this group on a regular basis is the only way to build lasting support and to have a real opportunity to hear from the retail base at annual meeting time. There is no ‘one size fits all’ approach for communications to a retail base which can be problematic for a company that wants to streamline communications and save money in the process.

Nonetheless, understanding the retail base and devising a communications program is essential to capture this not insubstantial part of the corporate electorate. Retail investors are not dummies. They know why they invest in particular companies and why they continue to hold the stock or to sell it. Tapping into their investor objectives and devising a means of reaching them is the new challenge. The 20-plus percent retail bloc can easily be the key to electoral success or failure. A savvy board wants them on its side.

Alan Rudnick and Jon Masters are principals in Masters-Rudnick & Associates, LLC. Mr Rudnick can be contacted on +1 (804) 355 3000 or by email: aarudnick@mastersrudnick.com. Mr Masters can be contacted on +1 (212) 879 0872 or by email: jjmasters@mastersrudnick.com.

Alan A. Rudnick and Jon J. Masters

Masters-Rudnick & Associates, LLC