Vanguard recently made three significant announcements, including an update to its proxy voting guidelines, changes to proxy voting responsibilities for its external managers and a commentary on its views and approach to corporate governance and sustainable investing.

• On Friday, April 12, the Vanguard Funds released updated Proxy Voting Guidelines [go.pardot.com], which are effective as of April 1. While the majority of the updates to the proxy voting guidelines encompass enhanced disclosure on their approach to topics such as executive compensation, governance and environmental and social policies, the Vanguard Funds highlighted three new or refined policies [go.pardot.com] on their approach to independent chair proposals, overboarded directors and Board diversity.
• This past week, the Vanguard Funds announced [go.pardot.com] their plan to grant full proxy voting responsibilities to external managers by the end of 2019, a move which will impact approximately $471 billion in equity assets across 25 external managers and portions of 27 Vanguard funds.
• In addition, the Vanguard Funds also recently released [go.pardot.com] a new investment stewardship commentary entitled “What we do. How we do it. Why it matters.” which expands on their view of the evolution of corporate governance over the past several decades and the opportunities that they see to further improve governance and investment stewardship on behalf of their clients.

Glenn Booraem, Vanguard Investment Stewardship Officer, spoke with PJT Camberview about the new proxy voting guidelines and how companies should interpret the changes for the upcoming proxy season and beyond.

PJT Camberview: From a voting perspective how significant are these changes in the Vanguard Funds’ approach or philosophy?

Glenn Booraem: We’ve updated our proxy voting guidelines, but it’s important to note that our philosophy on proxy voting is unchanged. We continue to emphasize our four corporate governance principles: Board composition, oversight of strategy and risk, executive compensation and governance structures. We do not expect there will be significant changes in voting patterns as a result of the 2019 updates, except for the new policies that we have introduced this year. In some instances, such as our approach to executive compensation topics, we have clarified our existing policies.

Independent chair shareholder proposals

Previously, the Vanguard Funds did not typically support independent chair shareholder resolutions. Under the Funds’ new policy, they will now review these proposals on a case-by-case basis, with an underlying belief that the matter is within the purview of the Board. As such, the Vanguard Funds will “generally vote against shareholder proposals to separate CEO and chair, absent significant concerns regarding independence or effectiveness of the Board.”

In instances where the Vanguard Funds have concerns about Board independence or effectiveness, they will consider the following factors: lack of lead independent director role, lack of Board accessibility, low overall Board independence, governance structural flaws, lack of responsiveness and governance failings.

PJT Camberview: In practice, can companies expect the Vanguard Funds to significantly change their voting behavior on independent chair proposals? What will you be looking to evaluate when making your assessment?

Glenn Booraem: This is a new policy for the Vanguard Funds, but we will continue to be deferential to Boards about the way that they structure their own leadership. Companies with a lead independent director role should include disclosure that provides context on how that person provides leadership.

I would add that for companies that may be facing this type of proposal in the wake of a crisis or other adverse event, we will be looking for the Board to acknowledge the underlying problems and demonstrate independence, accountability and responsiveness through engagement and disclosure.

Director overboarding

Under this new policy, the Vanguard Funds will now vote against any named executive officer (NEO) sitting on more than one Board beyond that of the company where he/she serves as an NEO. With respect to directors who do not serve as public company officers, the Vanguard Funds will also now vote against any director serving on more than four public company Boards; votes would be against at all directorships, except generally at the one where he/she serves as chair of the Board, if applicable. The Vanguard Funds indicate that they will take into consideration public commitments to step down from other directorships.
PJT Camberview: Immediate implementation of this policy means many directors who are overboarded, according to Vanguard’s definition, will now face significantly lower support in 2019. Can you provide some more detail about why Vanguard has made this change?

Glenn Booraem: While this is a change in our policy, our view is that this change should not come as a surprise to most companies. We have been clear about our view of the important role of directors in representing the interests of shareholders. This policy is intended to encourage those directors who may have a number of public company commitments to assess where they are adding the most value ­- it is not about replacing directors or disrupting sound corporate governance but rather finding ways to right size their workload.

Diversity and qualifications disclosure

Under a new policy on director diversity and qualifications, the Vanguard Funds will support diversity-related shareholder proposals if:

• The proposal seeks disclosure regarding directors’ diversity of personal characteristics (including gender and race/ethnicity) or skills and qualifications, and this information is not already disclosed.
• The proposal asks companies to adopt policies designed to ensure appropriate diversity on Boards, and appropriate policies do not already exist.

While the Vanguard Funds are directionally supportive of the disclosure that these proposals are seeking, they acknowledge in their proxy voting guidelines that some companies may already have sufficient disclosure or policies in place and that proposals requiring skills and qualifications disclosure are often “overly prescriptive as to what skills should be included or how the information must be presented.”

PJT Camberview: What do you view as the threshold at which companies that already have some level of disclosure related to directors’ personal characteristics or skills will receive a vote for a shareholder proposal on such as topic?

Glenn Booraem: Each company will be unique in how we evaluate the existing disclosure as well as the request of the particular shareholder proposal. Our goal is to give Boards and management teams flexibility while making clear that our focus is on aggregate Board-level disclosure. We want to understand how the diversity of skills and experience of directors helps to form a well-composed, high-functioning Board.In addition to these changes, the Vanguard Funds also updated a number of other policies to reflect current practice, including:

Say-on-pay

The Vanguard Funds have provided transparency into how they carry out case-by-case evaluations on executive compensation proposals (including say-on-pay, remuneration reports and remuneration policies). They will generally support those proposals that they believe enhance long-term shareholder value or which reflect improvements in compensation practices even if the proposals are not perfectly aligned with all of the Vanguard Funds’ guidelines but that they consider to be clearly in the interests of generating long-term shareholder value. The Vanguard Funds have for the first time outlined factors that they consider “red flags” and “yellow flags” when evaluating a compensation program.

Red flag factors include:

• Pay outcomes are significantly higher than those of peers but total shareholder return is well below that of peers;
• The long-term plan makes up less than 50% of total pay;
• The long-term plan has a performance period of less than three years;
• Plan targets are reset, retested, or not rigorous; and
• The target for total pay is set above the peer-group median.

Yellow flag factors include:

• The peer group used to benchmark pay is not comparably aligned in size or strategy;
• The plan uses absolute metrics only;
• The plan allows for positive discretion only;
• The use of one-time (e.g., retention) awards; and
• The disclosure related to plan structure or payout is limited.

Environmental/social disclosure

The Vanguard Funds continue to provide additional information on their approach to environmental and social matters and the 2019 guidelines include affirmative language regarding the benefits of company disclosure on this “evolving and complex topic.” In considering proposals on these topics, their policy indicates that engagement with the company or the proponent may be necessary to determine how each fund will vote. The Vanguard Funds are likely to support proposals which:

• Address a shortcoming in the company’s current disclosure;
• Reflect an industry-specific, materiality-driven approach; and
• Are not overly prescriptive about time frame, cost, or other matters.

Workforce inclusion

The Vanguard Funds will vote for proposals requiring the inclusion of sexual orientation, gender identity, minority status, or protected classes (per local law) in a company’s employment and diversity policies when the company does not already have such protections.

Escalation process: director and committee accountability

The Vanguard Funds have provided more specificity into how they will escalate votes against directors and full committees in various scenarios including for independence concerns, directors who did not receive support from a majority of votes cast at a prior meeting and management has not resolved the issue driving opposition to the directors, limited shareholder rights, compensation-related situations, shareholder proposal responsiveness as well as oversight and audit failures.

Plan to grant proxy voting responsibilities to external managers

In addition to the update of their proxy voting guidelines, the Vanguard Funds announced this past week that the Boards of trustees of their externally managed funds plan to approve a measure that is expected to grant full proxy voting privileges to those funds’ external managers. Vanguard stated that the transitions should be completed by the end of 2019 and will apply to its 25 external managers who collectively manage more than $471 billion in equity assets across portions of 27 funds.

In a release on this change, Glenn Booraem stated in part, “We continue to focus on the principles of good governance that drive long-term value, including Board composition and effectiveness; executive compensation that incentivizes long-term outperformance relative to peers; board oversight of risk and strategies; and governance structures that protect shareholder rights. This philosophy carries through to each vote on behalf of each fund and is consistent even when the resulting vote is different from fund to fund.”

This post comes to us from PJT Camberview. It is based on the firm’s memorandum, “Vanguard Releases New Proxy Voting Guidelines, External Manager Voting Policy and Governance Commentary,” dated April 29, 2019, and available here.