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Why Proxy Firm Consulting Revenue is a Problem
Apr 10, 2023
For years, certain proxy firms, apart from Egan-Jones, have been criticized for having an unforgivable conflict of interest: they receive payment for consulting with the very firms they recommend votes on. Sometimes referred to as "pay for pay" instead of "pay to play," many assume that this issue is well controlled, otherwise it would not be allowed to persist. We will explain, in our expert opinion, why we believe it to be a significant problem.
Firstly, this issue does not pose a problem for large corporations willing to spend tens or even hundreds of thousands of dollars to achieve a better vote outcome. Neither is it a problem for the proxy firms collecting those fees. To identify the real victims, we must take a closer look at a rather complex engine.
The first victims are small or principled boards that do not pay for consulting services to ensure their compensation plan receives the votes needed to pass. Especially if a set minimum share of compensation proposals is required to fail proxy firms’ votes, as seems to be the case for some proxy advisory firms, it is evident that those boards that purchased compensation consulting have an advantage. Egan-Jones has no such set minimum.
The next victims are the shareholders, many of whom engage certain proxy firms with the expectation that they will recommend appropriate actions in their proxy reports to control excess executive compensation. However, this consulting may lead to biased recommendations that result in overcompensated or undercompensated executives, negatively impacting company performance and shareholder value.
So, what are issuers paying for when they purchase compensation consulting? Issuers typically have two options when maximizing compensation allowed by most proxy firm compensation methodologies. The first is to request the maximum compensation allowed within the methodology, rather than choosing a lower but "safe" level for their compensation proposal. For example, they may ask for the maximum number of shares or select a stock option that is less valuable when granted according to the option valuation model or methodology used.
The second, more problematic option, is to adjust certain qualitative measures that have minimal impact on the company's executives but significantly affect the methodology used. For instance, if Egan-Jones were to engage in compensation consulting successfully, we would likely need to add five to ten times the number of qualitative factors to our compensation methodology than we currently have.
Thus, we believe that compensation consulting is one of the main reasons executive compensation at large companies, who can afford to pay for such consulting, remains high today despite the level of concern and scrutiny it has attracted.
What can you do? The best choice would be to avoid using a proxy advisor with this conflict. However, at a minimum, requesting a second opinion should be standard policy. Either way, Egan-Jones Proxy is here to help.
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By Alyssa Festin
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