(Bloomberg) -- When online grocer Ocado Group Plc wanted to bring in a generous incentive program for its top bosses earlier this year, it carried out a series of careful conversations with shareholders. Weeks later, 30% of investors rejected the proposals. 

While the plan was approved, shareholders had dealt the company a bloody nose. Skirmishes such as this have become a regular fixture of AGM season, where investors protest at high pay, over-boarding, or the gender balance of boards. This year saw revolts at GSK Plc, Ted Baker Plc and WH Smith Plc, after shareholders took aim at executive payouts in the face of a cost of living crisis.

Central to these battles is a team of advisory firms who make voting recommendations based on the quality of companies’ corporate governance. A “red-top alert,” recommending a vote against one or more proposals, is enough to send shivers down the spine of board members ahead of a vote. In the case of Ocado, both Glass Lewis and ISS -- two influential agencies -- had recommended that shareholders stage a rebellion. 

Given their influence over investment giants, these proxy agencies have found themselves at the center of heightening scrutiny. At the start of last week, the heads of some of the UK’s largest listed companies warned of a deterioration in the relationship with shareholders – complaining of “box-ticking” and a sometimes adversarial approach. 

The State of Stewardship report, compiled by public relations agency Tulchan, took aim at the use of these proxy advisers. “There are some shareholders who are subcontracting some of their relationship to a board to the proxy agencies, particularly around the AGM,” one chairman said in the report.

Read More: City Chiefs Vent Fury at Box-Ticking for London’s Fund Managers

Subsequent conversations with contributors to the report and chairs of other FTSE 100 companies, conducted by Bloomberg News, found that bosses were becoming increasingly frustrated with what they perceived was institutional shareholders outsourcing their decisions to these proxy advisers.

Top Talent

One FTSE 100 chairman said that a greater focus on executive pay, and the constant threat of a shareholder backlash, meant it was challenging to hire the best people from overseas. The chairman, who asked not to be named, said that one way to get around this was to keep top talent off the board, thus avoiding scrutiny of their pay.

Another said he would like a working group to be formed to improve the situation.

Proxy advisers have hit back against the criticisms in Tulchan’s report. Glass Lewis said the anonymous quotations painted a “caricature of proxy advisers,” while Georgina Marshall, global head of research at ISS, rejected the suggestion that ISS took a “box ticking” approach. “Investors don’t outsource their voting decisions to us,” she said.

Established in 1985 by American lawyer Robert Monks, ISS was born after Monks, a Republican candidate for the Senate in Maine in the 1970s, discovered that paper companies were sending toxic effluent downriver in the middle of the night. After losing the election, Monks chaired a trust in Boston – where he received a proxy from one of the companies in question. Ten years later, he established ISS, today majority owned by Deutsche Boerse.  

Glass Lewis, based in San Francisco, was established in 2003 by a group of finance experts with the aim of creating a standard for listed companies. Today it is owned by the private equity firm Peloton Capital and Stephen Smith, a financial services entrepreneur.

Another proxy adviser, Pirc, which is based in the UK, was established by pension funds in 1986. Today it is controlled by Alan McDougall, its founder and managing director.

These proxy advisers initially focused on pay, but have grown in prominence since the financial crisis. Their approach has broadened toward everything from gender diversity to climate change.

Oversight and Scrutiny

Richard Pennycook, the former Co-op boss and current chairman of On the Beach Group Plc and Boparan Holdings Ltd., told Bloomberg News there’s a reason why public companies had independent, non-executive directors. “That reason is to provide oversight and scrutiny, and to maintain high standards of governance,” he said. 

“When the board of those companies make a recommendation, the starting premise for shareholders should be that they would be minded to support that recommendation.”

The role of proxy advisers has drawn scrutiny from the Financial Reporting Council, which has launched a project to examine how the stewardship behavior of investors is affected by the recommendations and ratings provided. The project will assess how the agencies work, and their influence.  

Tom Powdrill, head of stewardship at Pirc, said that while the adviser took the recent criticism seriously, his “general perception is that stewardship is in a much better place than it has ever been.”

For shareholders, the report has exposed a communication gap between boards and their shareholders. “It’s not appreciated by chairs that our job has changed in the past five years,” said Rupert Krefting, head of corporate finance and stewardship at M&G Investments Ltd. Krefting added that the increasing number of stakeholders – including NGOs and regulators -- were demanding “more and more data”. 

“Everyone likes to blame the proxy agencies, and in fact I think they do a pretty good job,” he said.

Despite the strong words in Tulchan’s report, not all company chairs are as critical of the City. Anita Frew, chairwoman of Rolls-Royce Holdings Plc and chemicals manufacturer Croda International Plc, said she was in the “minority camp,” in having some sympathy for today’s investors.

“I’ve seen a range of different shareholders across a range of different companies and situations, and it’s the chair’s job to listen, and engage, and understand their perspective,” said Frew. “Generally I have found that the relationships have improved.”

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