C A P I T A L G U A R D I A N
T R U S T C O M P A N Y
333 South Hope Street, Los Angeles, California 90071
Telephone (213) 486-9200
Fax (213) 486-9677
EUGENE P. STEIN
December 5, 2002
Jonathan G. Katz, Esq.
Securities and Exchange Commission
450 Fifth Street, N.W.
Washington, D.C. 20549
Re: File Nos. S7-38-02 and S7-36-02
Dear Mr. Katz:
We appreciate the opportunity to comment on the proposals by the Securities and Exchange Commission relating to proxy voting by investment companies and investment advisers.
Capital Guardian Trust Company (Capital Guardian) is a California-chartered trust company and federally registered investment adviser. We provide investment management services to large and middle market corporate and public employee pension plans, endowments, foundations, and high net-worth individuals. Assets under management currently exceed $115 billion. If these proposed rules are adopted, Capital Guardian would be subject to the rules under both the Investment Advisers Act of 1940 and the Investment Company Act of 1940 because it also serves as sub-adviser to unaffiliated registered investment companies.
Capital Guardian appreciates the Commission's efforts to encourage responsible proxy voting practices. Proxy voting is an important part of an adviser's fiduciary responsibility to its clients. To act prudently in the voting of proxies, Capital Guardian considers those factors which would affect the value of the client's investment. It votes solely in the interest of, and for the exclusive purpose of providing benefits to, its clients overall. We report our proxy voting record to our clients and the outside directors of advised funds, who are overwhelmingly satisfied with our results.
However, we have three primary concerns with the proposed rules:
1) The Commission does not clearly define conflicts of interest for purposes of these proposals, nor does it provide guidance regarding when such a conflict is material. Further, we do not believe that all the examples of conflicts provided are actually conflicts of interest, or that all such conflicts are material;
2) The investment company rule proposal does not utilize the existing governance structure for investment companies, thereby completely bypassing the role a fund's board of directors has historically played in monitoring and addressing conflicts of interest, as mandated under the Investment Company Act; and
3) Public disclosure of a fund's proxy voting record will result in a loss of confidentiality and will potentially subject funds and their advisers to outside pressure to vote proxies in accordance with the interests of groups other than shareholders.
The Investment Advisers Act Proposal
1) Conflicts of Interest
Under this proposal, advisers would be required to adopt policies and procedures that describe how to address "material conflicts between its interests and those of its clients and how it resolves those conflicts in the best interest of clients." However, for purposes of the proposal, the Commission did not clearly define what constitutes a conflict of interest, nor did it indicate under what circumstances a conflict is considered material. Instead, the Commission provided examples of situations it perceives as posing conflicts. These include situations in which advisers have personal and business relationships with participants in proxy contests or with directors or director candidates, or where an executive of the adviser is related to an employee at the company for which it is voting a proxy.
Given an adviser's overall fiduciary responsibility when managing client portfolios, we are surprised by the Commission's specific emphasis on the potential impact conflicts may have on proxy voting, which is just one aspect of the investment process. There are many occasions an investment manager's day to day business that may pose conflicts of interest. For example, a manager may purchase the publicly traded stock of its clients for other client portfolios. Or it may choose to buy the stock of companies in which an executive of the adviser is related to an employee at the company. It seems inconsistent to us that if such scenarios are considered conflicts with regard to proxy voting, the same conflicts are not addressed in the choice of investment for client portfolios.
Not all examples of conflicts the Commission has outlined present actual conflicts of interest, nor are all such conflicts material. A conflict of interest occurs when an adviser stands to benefit from acting in a way that is not in the best interest of clients. A material conflict of interest occurs when that potential benefit is sufficiently compelling for the adviser to take into consideration when making a decision.
For example, we would not view relationships our executives have with executives of the companies in which we invest as presenting a conflict of interest. Indeed, this is an integral component of Capital Guardian's business model. We conduct fundamental research on the companies in which we may invest, and as part of that research, our analysts develop relationships with the management and boards of the companies they follow. Capital Guardian uses these relationships to evaluate the strengths and weaknesses of a company's management, and to address directly with management any concerns it may have. In fact, we often communicate directly with company managements regarding significant proxy issues before and sometimes after recording our votes. We believe this interaction has had a positive and lasting impact on corporate governance practices of many operating companies. The proposed rule suggests that this method of doing business categorically presents a conflict that could somehow harm our clients' interests.
Further, the proposal states that if "an executive of the adviser [has] a spouse or other relative who serves as a director of a company or who is employed by the company" then the adviser has "a personal interest in the outcome of a particular matter before shareholders." We disagree. It would be very unlikely that the adviser itself would stand to benefit by acting against client interests by virtue of an ancillary personal relationship. In addition, it would be impractical for many advisers to track this information. Capital Guardian and its affiliates have over 5,000 associates, and many executives. Monitoring which associates have relatives at publicly traded companies would be an enormous administrative burden to us, resulting in additional costs that may be passed on, with no corresponding benefit, to our clients.
We respectfully recommend that the Commission revise the proposed rules to clearly identify what constitutes a conflict of interest and when it becomes material.
The Investment Company Act Proposal
Under this proposal, registered investment companies would be required to publicly disclose their proxy voting policies and procedures and proxy voting record. The Commission states that its intention is to make the information available to shareholders of funds in part to address conflicts of interest between the investment company and its shareholders. However, because the information will be filed electronically with the Commission, it will be available to the general public through its website.
2) The role of an investment company's board of directors
We are concerned that the scenarios outlined in the adviser release (and referenced in this proposal) do not, per se, represent material conflicts of interest. Even if such conflicts are material under certain circumstances, the primary role of investment companies' boards of directors has been to monitor conflicts and establish appropriate policies regarding how the company and its affiliates handle them. This responsibility includes monitoring investment decisions about which companies are purchased and sold and which brokers execute transactions for the fund. However, the Commission's proposal includes no role for the board on this issue. We do not understand why the Commission does not utilize the existing investment company governance structure to address its concerns about proxy voting.
3) The loss of confidentiality of an investment company's proxy voting record
We are also concerned that the level of disclosure required under the proposed rule would result in a loss of confidential treatment of investment-related decisions that are proprietary to Capital Guardian and its clients. Capital Guardian discloses such information only to clients for whom it has the authority to vote proxies and with regard to the securities held in their account. Capital Guardian feels strongly that its clients are entitled to confidential treatment of all investment decisions made in their portfolio, including proxy voting decisions. However, because Capital Guardian votes proxies the same way for all accounts that hold the security, publication of its voting record for one client - in this case, an investment company sub-advised by Capital Guardian - means the voting record for all clients with a similar mandate would, by extension, be made public.
Further, the publication of this information not only makes it "readily available to interested fund shareholders," but also makes it available to third parties who are not shareholders. This public disclosure potentially exposes us, other advisers, and investment companies to pressure from third parties to vote proxies in a manner that would further their own agenda, which may be inconsistent with the interests of clients. Such pressure would be inconsistent with the Commission's long-standing policy objective of maintaining a regulatory environment designed to encourage market participants, such as investment advisers and investment companies, to act solely in the best interests of their clients. While we would hope that advisers and investment companies would not change proxy voting decisions because of this type of pressure. It will certainly require substantial time and resources to address these outside interests.
Having said this, we understand that certain investors wish to invest their assets in mutual funds that pursue social, environmental, and political objectives similar to their own. In fact, several fund complexes offer funds to meet the needs of those very investors. We have no objection to investors making investment decisions based, among other things, on whether a mutual fund seeks to achieve certain non-investment goals through their security selection and proxy voting process. However, we do object to being subject to rules under which those who are neither clients nor shareholders of mutual funds for whom we manage assets may attempt to exert pressure on us to vote proxies to pursue their objectives.
We respectfully recommend that the proposal be revised to incorporate the existing role of the board in monitoring conflicts of interest to explicitly cover proxy voting. If fund boards are properly utilized, wide public disclosure of investment companies' proxy voting records would be unnecessary. Thus, the confidentiality of proxy voting decisions would be preserved and advisers would not be subjected to outside pressure to make decisions inconsistent with its fiduciary obligations.
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In summary, if the Commission adopts the proposed rules in their current format, they will interfere with the day to day business of investment managers that make decisions based on fundamental research, discount the current investment company governance structure to address conflicts in proxy voting, and increase the potential for outside pressure on advisers to make decisions based on the interests of groups other than its clients and shareholders.
For these reasons, we strongly urge the Commission to modify the proposed rules in the manner recommended. Thank you again for the opportunity to comment on these proposals. We hope that our suggestions will be helpful in the Commission's consideration of how to address the issues of proxy voting facing investment advisers, investment companies and their clients and shareholders.
/s/ Eugene P. Stein
Eugene P. Stein