Investment Company Institute
March 13, 2003
Office of Management and Budget
Mr. Jonathan G. Katz
RE: Proxy Voting by Investment Companies
Dear Mr. Knuffman and Mr. Katz:
The Investment Company Institute1 appreciates the opportunity to comment on the Securities and Exchange Commission's Paperwork Reduction Act burden estimates with respect to Form N-PX on which mutual funds would be required to file their complete proxy voting records. This new form was adopted by the Commission as a part of a package of rules relating to proxy voting by investment companies and investment advisers.2
On January 23, 2003, the Commission adopted rule and form amendments under the Investment Company Act of 1940 that impose new requirements on mutual funds with respect to proxy voting. The Institute supported most of the amendments, including (1) requiring investment advisers to funds to adopt written policies and procedures designed to ensure that proxies are voted in the interest of fund shareholders; (2) requiring those policies and procedures to address potential conflict of interest situations; (3) requiring funds to disclose their proxy voting policies and procedures to shareholders; and (4) requiring advisers to funds to maintain records regarding proxy voting. As discussed in our earlier letter, we believe that all of the Commission's objectives and all of the potential benefits to fund investors could have been realized if the Commission adopted those aspects of the Commission's proposals and also required fund directors to approve proxy voting policies and procedures and to oversee the implementation of those policies and procedures.3 We were disappointed, therefore, that the Commission determined to adopt the requirement that mutual funds disclose all proxy votes cast.
In adopting the proxy voting proposals, the Commission modified its original proposals in several respects. One change from the original proposals is the requirement for mutual funds to disclose their complete proxy voting records on new Form N-PX (instead of on Form N-CSR) on an annual basis. Because the Commission is adopting a new form, it is soliciting comments on the accuracy of its Paperwork Reduction Act analysis. In particular, the Commission is soliciting comments to evaluate, among other things: (1) whether the proposed collection of information is necessary for the proper performance of the functions of the agency, including whether the information will have practical utility; (2) the accuracy of the Commission's estimate of the burden of the proposed collection of information; and (3) whether there are ways to minimize the burden of the collection of information on those who are to respond.
As discussed below, the answers to these questions indicate that the Commission has failed to meet its burden in demonstrating that the collection of information required by Form N-PX meets the standards of the Paperwork Reduction Act. In light of the fact that the Commission has not met its burden, we believe the Commission should conduct an impact study to evaluate whether disclosure of fund proxy voting records is really necessary to achieve the Commission's goals, especially given the other proxy voting requirements that it adopted. Pending the completion of such study, we recommend that the Commission withdraw Rule 30b1-4 and Form N-PX under the Investment Company Act.
II. Paperwork Reduction Act Burden Estimates
A. The Commission Has Failed to Demonstrate that Disclosure of Fund Proxy Voting Records Is Necessary for the Proper Performance of the Commission's Functions
Comment is sought on whether the proposed collection of information is necessary for the proper performance of the functions of the Commission. One of the primary functions of the Commission is the protection of investors. As the following discussion makes clear, the Commission has not demonstrated that the disclosure of fund proxy voting records is necessary for the Commission to protect investors. The Commission gave three justifications for requiring disclosure of fund proxy voting records. First, it stated that such disclosure will provide better information to investors.4 Second, it stated that disclosure of proxy votes will deter voting motivated by conflicts of interest.5 Third, it stated that disclosure of proxy votes will provide stronger incentives for fund advisers to vote their proxies conscientiously.6 The Commission provided no meaningful evidence, however, in support of any of these three alleged benefits.7
Information to Investors. The Commission stated in the Adopting Release that mutual fund shareholders need proxy voting record information so that they can select funds that better match their particular preferences.8 No evidence is proffered, however, that mutual fund shareholders consider the current level of information about proxy votes to be inadequate for purposes of selecting funds.9 We note that investors who are interested in information about a fund's proxy voting record can choose to invest in several funds that voluntarily make this information public.
The Commission admitted that investors do not appear to value disclosure about proxy votes as much as they value other information.10 But it dismissed this point by arguing that this does not mean that investors place no value on this information and that requiring disclosure of proxy voting records could serve to engender interest in this type of disclosure.11 Under this standard, however, virtually any proposed disclosure requirement would be justified. The Commission also attempted to demonstrate investor interest in this information by citing to the number of favorable comments it received on the proposal from individual investors and to a vote on a recent shareholder proposal seeking to require a major fund to disclose its proxy votes on social and environmental issues.12 Neither example, however, is persuasive.
First, the approximately 7,200 comment letters submitted by individuals in support of the proposal represent approximately .008% of mutual fund shareholders. (This assumes that all 7,200 commenters are actually fund shareholders.) As Commissioner Glassman stated at the Commission's open meeting on January 23, 2003, the staff's reference to these form comment letters was not persuasive when "compared to the 95 million mutual fund shareholders in the U.S." 13 Commissioner Atkins echoed that sentiment when he stated that the 7,200 letters represent an "infinitesimally small percentage of all fund shareholders."14 Moreover, as Commissioner Atkins further pointed out, the vast majority of these comment letters were "form letters sent in response to an organized letter writing campaign" initiated by various special interest groups.15 We note that, in conducting their campaign, these special interest groups did not bother to inform investors of the costs or potential harms of the disclosure. It is quite clear that the filing of these letters does not show that investors in general need or want this type of disclosure.
The Commission's reliance on the proxy vote noted above is even more strained. While the Adopting Release stated that the vote showed "significant support" for disclosure of proxy votes,16 the fact of the matter is that over 76% of shareholders voted against the proposed disclosure. Using the Commission's logic, the results of the 2000 Presidential election show that Ralph Nader should be in the White House. As Commissioner Glassman observed, the results of this vote "do not suggest a ground swell in favor of requiring funds to disclose their proxy votes."17 In short, the Commission has not shown that the disclosure will assist investors in making investment decisions.
Conflicts of Interest. The Commission stated in the Adopting Release that disclosure of fund proxy voting records will deter voting motivated by conflicts of interest. As in the release proposing the new requirements,18 however, the Commission offered no evidence of any votes being cast in a manner contrary to the interests of fund shareholders as a result of conflicts of interest. Obviously, unless such voting occurs, investors will not benefit from the new disclosures. As we indicated in our comment letter on the proposal, many funds are not subject to the types of conflict situations that the Commission cited in the Proposing Release and those that are employ a variety of practices designed to address such conflicts.19 Moreover, as noted below, other aspects of the rules adopted by the Commission would further mitigate any potential conflicts of interest. Thus, there is no evidence that disclosure of fund proxy voting records will meaningfully benefit investors by deterring conflicts of interest in the voting of proxies by mutual funds.
Incentives for Fund Advisers. The Adopting Release stated that disclosure of proxy votes would increase mutual funds' focus on corporate governance. Once again, however, the Commission provided no evidence of funds failing to exercise appropriately their voting rights in matters of corporate governance.20 In fact, funds do exercise their proxy voting rights actively and carefully, including with respect to corporate governance matters.21
Moreover, if the Commission's conclusion that funds are not sufficiently focused on corporate governance were correct, the new rules requiring funds to have, and disclose, proxy voting policies and procedures (which the Institute supported) will ensure that funds consider corporate governance issues. The Adopting Release enumerated specific areas that the policies should address.22 Disclosure of individual votes therefore is not necessary to fulfill this purpose.
B. The Commission Has Underestimated the Burden of the Collection of Information
1. Cost Burden
The Commission greatly underestimated the costs associated with disclosing proxy voting records.23 As discussed in greater detail below, the Commission's analysis is deficient in two respects. First, it understated the direct costs of the requirement. Second, it ignored significant indirect costs. We are not alone in pointing out the inadequacy of the Commission's analysis. Commissioner Atkins stated at the SEC's open meeting that the "paucity of [the SEC's] cost-benefit analysis will open this up to procedural and legal challenge."24
a. Direct Costs
The Commission estimated that the burden of filing Form N-PX would equal $5.16 million in total internal costs annually or $992 per equity fund portfolio.25 We believe that a more realistic estimate of the costs that mutual funds, and hence fund shareholders, would have to bear under Form N-PX would be a transition cost of $22 million and annual recurring costs of $40 million.26
These estimates are very similar to those included in our comment letter on the SEC's original proposal. We acknowledge that the Commission has made certain changes to the original proposal, and we have adjusted our cost estimates accordingly. For example, we have eliminated costs associated with certifying the proxy voting record, as well as costs involved in fulfilling requests for written copies of the record.27 Nevertheless, most of the costs associated with the Commission's original proposal are still present. For example, fund groups will still have to ensure that they have adequate systems (either internally or through third parties) to capture all of the data necessary to be disclosed, and in the proper format. They will need to have procedures in place to review the disclosure. And they will still have to respond to shareholder and third-party inquiries, which will require, in turn, training of shareholder servicing personnel and related costs.28
Taking the changes to the original proposal into account resulted in a reduction of estimated average start-up costs per fund from $3,380 to $3,216 and average annual costs per fund from $5,530 to $4,613 to capture and review the proxy voting records. There would be no reduction in the initial average start-up cost of $1,050 per fund to train shareholder servicing personnel to respond to any inquiries resulting from the disclosure of the proxy voting record, but there would be a reduction in average annual costs from $3,180 to $3,074 per fund.29
b. Indirect Costs
The Commission also failed to account for the significant indirect costs associated with disclosing proxy voting records, blaming the difficulty in quantifying these costs on the lack of estimates of the magnitude of these costs from commenters.30 We believe that these indirect costs should not be disregarded simply because they are difficult to measure. Rather, the Commission should have undertaken independently to assess these costs and included them in its analysis. Certain of the indirect costs that the Commission failed to include in its analysis are described below.
First, the Commission ignored the costs that funds would have to incur as a result of politicization of the proxy voting process.31 Such costs include, as we noted in our initial comment letter, the need for senior management to devote significant amounts of time to respond to pressure from special interest groups.
Second, the Commission disregarded the indirect cost of funds losing their ability to vote confidentially.32 As Commissioner Atkins stated, the requirement to disclose the proxy voting record "completely ignores those who have long argued for the benefits of confidential voting and significantly undermines that avenue completely."33 The Commission claimed that confidentiality would be protected so long as disclosure is not required before the vote has taken place.34
The Commission's conclusion demonstrates a surprising lack of understanding of this issue.35 First, the Commission ignored the fact that advocates of confidential voting believe that it is necessary to retain confidentiality after a vote is cast.36 Second, confidentiality in voting is desired, at least in part, because it enables shareholders to avoid possible retaliation from corporate management for voting in a certain way. Disclosing votes after they are cast does not eliminate the potential for retaliation. As we noted in our initial comment letter, the elimination of confidential voting for mutual funds will only increase potential conflict of interest situations, notwithstanding the Commission's stated objective of deterring conflicts.37 This represents a cost to fund shareholders.
2. Hour Burden
The Commission also underestimated the hour burden that Form N-PX would entail. It estimated that the total annual burden for the industry for filing proxy voting records on Form N-PX would be 74,880 hours. In calculating the total annual burden, the Commission estimated that 5,200 fund portfolios that hold equity securities would be required to file Form N-PX. For each of these funds, the Commission estimated that the disclosure of its proxy voting record in filings on Form N-PX as of the end of each twelve-month period would require, on average, 14.4 hours per filing per equity portfolio.
We believe the actual total hourly burden would be significantly greater. We estimate that the proxy voting record disclosure would require, on average, 111.5 hours per filing per portfolio subject to the requirements38-- more than seven times the hour burden estimated by the Commission. Using the Commission's data on the number of funds that would be required to file Form N-PX (5,200), the total industry burden would be 579,800 hours.
C. There Are Ways to Achieve the Commission's Goals without Imposing Significant and Unnecessary Burdens on Funds
The Paperwork Reduction Act requires agencies to consider whether there are ways to minimize the burdens imposed by the collection of information. In adopting Form N-PX, the Commission failed to consider adequately such alternatives. As described in our comment letter to the Commission on the proposals, all of the Commission's goals and all of the potential benefits could be achieved through adoption of most of the other aspects of the proposal and without requiring mutual funds to disclose their complete proxy voting record.39 In that submission, we recommended that the Commission adopt the beneficial aspects of the proposals (e.g., requiring all funds to have written proxy voting policies, including policies that address how conflicts of interest will be addressed, and imposing recordkeeping requirements that facilitate review by Commission examiners) and also require fund directors to approve, and oversee the implementation of, proxy voting policies and procedures. The Commission failed to investigate whether this approach would achieve most or all of the proposed benefits.40 For example, the Commission did not discuss on what basis it concluded that public disclosure of fund proxy votes would prove more effective than director oversight in addressing potential conflicts of interest.41 This is especially surprising given the Commission's reliance on fund directors in other areas involving potential conflicts of interest. Clearly, the Commission cannot sustain its burden under the Paperwork Reduction Act if it has failed to consider alternative measures to minimize the burden on funds and their shareholders.42
For the reasons stated above, we believe that the Commission has not provided a complete and accurate estimate of burdens for purposes of the Paperwork Reduction Act. The Commission has not shown that requiring disclosure of proxy voting records of funds is necessary for the proper performance of its functions and has underestimated seriously the costs and burdens associated with the proposed collection of information. At the same time, the Commission has failed to examine adequately other less burdensome means to achieve its stated goals in adopting the proxy voting record disclosure requirement. We, therefore, recommend that the Commission withdraw Rule 30b1-4 and Form N-PX under the Investment Company Act and conduct an impact study to evaluate whether disclosure of fund proxy voting records is really necessary to achieve the Commission's goals.
Questions regarding our comments or requests for additional information should be directed to the undersigned at (202) 326-5815, Amy Lancellotta at (202) 326-5824, or Jennifer Choi at (202) 326-5810.
cc: The Honorable William H. Donaldson
Paul F. Roye, Director
John Morrall III