Conflicts of Interest and Competition in the Proxy Advisory Industry

The following comes to us from Tao Li, Assistant Professor, Warwick Business School

Proxy advisors, private firms that help investors decide how to vote their shares, play an extremely powerful role in shaping corporate governance. As institutional investors vote billions of shares each year on thousands of ballot items, relying on research and recommendations from these advisors is an effective way to reduce costs and fulfill their fiduciary duty to vote in the best interests of clients. However, investors and policymakers are concerned about undesirable features of the industry, especially potential conflicts of interest. A 2007 U.S. Government Accountability Office report noted that the most commonly cited conflict of interest for proxy advisors is when they sell both proxy voting services to investors and consulting services to corporate issuers seeking assistance with proposals to be voted by shareholders. In addition, a 2010 SEC concept release on the U.S. proxy voting system remarked that an issuer “may purchase consulting services from the proxy advisory firm in an effort to garner the firm’s support for the issuer when the voting recommendations are made.” Potential conflicts of interest were also a major theme in the proxy advisory services roundtable organized by the SEC on December 5, 2013.[1]

My paper, Outsourcing Corporate Governance: Conflicts of Interest and Competition in the Proxy Advisory Industry, explains why a proxy advisor may issue a biased voting recommendation when it provides services to both investors and corporate issuers on the same governance issues, and how increased competition can alleviate these conflicts. A unique data set on voting recommendations is used to empirically test the predictions.

Some policymakers believe that increasing competition among proxy advisors may improve service quality. For example, the 2010 SEC concept release asked whether certain issues in the proxy advisory industry, including conflicts of interest, are affected by limited competition. My study shows that heightened competition indeed can reduce biased recommendations by an incumbent proxy advisor selling services to both investors and corporations. The existence of a competitor that is perceived as less conflicted can discipline the incumbent advisor. Given this competitor’s reports, investors may make a more informed guess about the incumbent’s truthfulness.

I first provide evidence concerning proxy advisors’ influence on vote outcomes. A major concern regarding conflicts of interest is that if biased recommendations translate into actual votes, shareholder value may be adversely affected. I show that endorsement by either of the dominant advisors, Institutional Shareholder Services, Inc. (ISS) or Glass, Lewis & Co. (Glass Lewis), substantially increased the percent of “For” votes for management proposals (20% for ISS and over 10% for Glass Lewis),[2] independent of ballot types and firm characteristics. This finding is consistent with prior research (see Choi, Fisch and Kahan, 2010; Ertimur, Ferri and Oesch, 2013).

In terms of the disciplinary effects of competition, there was indeed a convergence of recommendations from ISS and Glass Lewis. The incumbent advisor ISS sells proxy voting services to institutional investors and consulting services to corporations, while Glass Lewis, established in 2003, serves only institutional investors. Competitive pressure from Glass Lewis could have reduced biased recommendations by ISS if any. I show that the difference between “For” recommendations from ISS and Glass Lewis dropped as Glass Lewis’ market share increased during 2004-2011. Furthermore, I find that when Glass Lewis began to cover a company for the first time between 2004 and 2011,[3] ISS’s average “For” recommendations for its management proposals dropped by more than 2%. These suggest that ISS might have responded to competitive pressure by making fewer “For” recommendations, with the effect presumably larger for its corporate clients.

It is important to note that many Russell 3000 companies do not subscribe to ISS’s consulting services. Changes in ISS’s voting recommendations under competition may be related to reasons other than conflicts of interest. Further research needs to control for these confounding effects, as well as examine different ballot items separately.

In summary, my study suggests that conflicts of interest might be a real concern in the proxy advisory industry, and increasing competition may help to alleviate them to a certain extent. While this study supports the view that greater competition is desirable among proxy advisors, the readiness of investors to support multiple advisory firms remains to be seen.


Choi, S, J Fisch and M Kahan (2010), “The Power of Proxy Advisors: Myth or Reality?” Emory Law Journal 59, 101-151.

Ertimur, Y, F Ferri and D Oesch (2013), “Shareholder Votes and Proxy Advisors: Evidence from Say on Pay,” Journal of Accounting Research 51(5), 951-996.

[1] Proxy advisors’ potential conflicts of interest also concern the European Securities and Markets Authority (ESMA), which recently launched a public consultation on best practice principles following ESMA’s February 2013 conclusion that “the proxy advisory industry would benefit from increased disclosure and transparency regarding how it operates.” Security regulators in Canada and Australia have also issued white papers on policy options.

[2] The purpose of this exercise is to show that advisory firms can play an important role in shareholder voting, rather than claiming any causal relationship between voting recommendations and vote outcomes. In practice, investors may select a proxy advisor due to prior agreement with the advisor’s governance philosophy.

[3] When Glass Lewis obtains a new institutional client, it has to cover all portfolio firms of the client. Prior to establishing the relationship, however, it does not know which companies are in the client’s portfolio. Thus Glass Lewis’ coverage of a new company is unlikely to be related to factors that affect ISS’s recommendations for that company.


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