On November 2, 2022, the U.S. Securities and Exchange Commission (“SEC”) adopted rule and form amendments to enhance the information that registered funds currently report about their proxy votes, in addition to requiring fund managers to report how they voted on executive compensation matters, or “say-on-pay” votes. Some of the measures to enhance reporting include requiring funds to present voting matters in a particular order and organizing them into several different categories, as well as disclosing how many shares were loaned and not recalled (and thus not voted).
The need for more transparency in this regard was not lost on the SEC, as funds and investment managers hold substantial proxy voting power that is exercised on behalf of millions of investors. They therefore have the ability to influence the outcome of a wide range of matters that public companies submit to a shareholder vote, such as governance and shareholder rights issues. As such, investors have an interest in how these entities are exercising their voting power.
On a similar note, efforts to recover investors’ losses, such as U.S. claims filing and active litigation in foreign jurisdictions, are important measures but are not given emphasis in the disclosure rules. Funds are required to make available information that investors and financial professionals would use in conducting a more in-depth analysis of their investments, however this arguably does not require inclusion of loss recovery efforts, and is based more on detailed financial and holdings information.
Funds are also required to describe material changes in the annual report, such as changes in the fund’s investment objectives or strategies; changes in fees; or changes in the principal risks of investing in the fund. Due to the no-cost, no-risk nature of most funds’ involvement in loss recovery opportunities, as well as involvement being a reliable and recommended avenue to maximize shareholder value, participation itself is likely not viewed as a material change warranting disclosure.
However, materiality should be determined based on the facts and circumstances of the fund and the specific change, as well as factors such as the fund’s risk profile and how likely the change would be to influence a shareholder’s decision to invest or continue to invest in the fund. In addition, funds are also able to disclose any other changes that may be helpful for investors to understand the operations or performance. Thus, it is not a “one size fits all” approach, and different situations may call for differing levels of disclosure and differences in what is deemed material.
Beyond this, there are other avenues that may necessitate disclosure of loss recovery claims filing and active litigation. Management is required in the annual report to include a discussion of fund performance, highlighting the factors that materially affected a fund’s performance during the most recent fiscal year. If negative fund performance can be attributed to a loss due to a company’s fraud or omissions, it could also be relevant to discuss available or planned remedies such as shareholder litigation. It is also required that a fund, when registering, must disclose any material pending legal proceedings to which the fund is a party, although this probably would not encompass the loss recovery space as materiality in this context requires the legal proceeding be likely to have a serious adverse effect on the fund, which is far from the norm in these types of cases.
With the new changes the SEC’s stated goal is to ensure that shareholders receive information more tailored to their specific investments and to reduce the complexity of the disclosures, as the SEC also noted that shareholder reports are often extremely lengthy, requiring investors to comb through extensive information which makes it difficult to fully comprehend the materials and make informed investment decisions. The amendments will also make the funds’ proxy voting records easier to review and analyze, improving investors’ ability to monitor how the funds vote on their behalf, or don’t vote, as investors will also be able to see how securities lending activities are affecting proxy voting practices.
As with any new rules the full implications remain to be seen, such as the potential for increased compliance costs and third parties looking to pressure funds to vote a particular way. With the increasing importance of measures such as ESG (Environmental, Social, and Governance), it is likely that rules focusing on more transparency will continue to be advanced. DRRT continues to monitor the developments surrounding disclosure rules and their relevance to funds’ loss recovery efforts.