[A similar version of this post was published on the Harvard Law School Forum on Corporate Governance on November 20, 2021. ETF Stream also wrote an article about this post on November 25, 2021.]
As widely reported, BlackRock announced that it will start giving certain of its institutional index equity clients the ability to instruct BlackRock how they would like their votes cast at shareholder meetings of companies in their index funds:
Beginning in 2022, BlackRock is taking the first in a series of steps to expand the opportunity for clients to participate in proxy voting decisions where legally and operationally viable…
[M]ore of our clients are interested in having a say in how their index holdings are voted. We want to provide choice to these clients while continuing to support those who have selected BlackRock’s industry-leading investment stewardship team to vote on their behalf…
Approximately 40% of the $4.8 trillion index equity assets we manage for our clients will be eligible for these new voting options.
Cydney Poser at Cooley does a great job explaining the details and putting BlackRock’s announcement into context and interspersing related media coverage. I highly suggest reading her piece on the Cooley PubCo blog.
BlackRock’s move is very savvy. It will allow them to look like good guys for putting voting power back into the hands of beneficial asset owners and at the same time deflect some of the criticism that BlackRock has received for deferring too much to management and not using its voting power in more activist ways. They’re essentially responding to the critics by saying, “Here’s your vote back. Now stop blaming us for everything.”
The announcement has received wide praise, but the move raises a number of questions.
How Will We Know?
BlackRock will give clients a few different choices on how to instruct their shares to be voted, including continuing to just let BlackRock have full discretion. But how will we know (1) which clients choose to take back the votes; and (2) how those clients vote those new-found votes? From what I can tell, we won’t know either—not even when BlackRock eventually discloses their proxy votes on Form N-PX— unless BlackRock or their clients voluntarily disclose that information.
Unlike asset managers, asset owners (i.e., BlackRock’s clients) are not currently required to report their proxy votes on Form N-PX or in any other filing. Some of the large asset owners voluntarily disclose their votes on their websites (e.g., CalPERS, NYCERS), but that’s not a widespread practice. Asset owners will soon have to file Form N-PX pursuant to rules recently proposed by the SEC as required under Section 951 of the Dodd-Frank Act, but that’s only to disclose their say on pay votes. Unless the final rules expand the scope of those filings, there still won’t be requirements for asset owners to disclose their votes on director elections, shareholder proposals, etc.
Will getting that client-instructed voting data just be a matter of BlackRock voluntarily disclosing them due to its own benevolence or pressure from outside stakeholders? I can’t imagine BlackRock could or would disclose anything without their clients’ affirmative consent. Since investors generally prefer to keep their investment and voting decisions private, most BlackRock clients probably won’t give BlackRock that consent to disclose how they instructed BlackRock to vote or even whether they continued to rely on BlackRock’s voting discretion. This means clients will be able to hide behind the Rock on a large portion of the votes they decide on for themselves, thus making it more difficult for companies to accurately predict how the massive chunk of their shares that are held by BlackRock will be voted. Note to proxy solicitors: Your jobs just got harder.
(How) Will This Impact Share Lending?
Lending shares under management to short sellers is big business for asset managers. For BlackRock, securities lending revenue totaled $652 million, $617 million, and $627 million for 2020, 2019, and 2018, respectively. That represents about 4.2% of BlackRock’s total GAAP revenue over those three years. So, share lending is not a major line of business, but it’s a decent flow of cash that BlackRock would probably rather not lose.
When an asset manager lends out shares, the voting rights and the right to dividends and other distributions on the loaned shares transfer to the borrower until the loan is terminated and the shares are returned to the asset manager. The asset manager can “recall” the lent shares to get those rights back, but it can be costly. The SEC’s proposing release explains this well:
Funds commonly engage in securities lending activities to generate additional revenue for the fund. When a fund lends its portfolio securities, it transfers incidents of ownership relating to the loaned securities, including proxy voting rights, for the duration of the loan. As a result, while the securities are on loan, the fund is not able to vote the proxies of such securities. If a fund determines that it wants to vote loaned securities, it must recall the securities and receive them prior to the record date for the vote. Recalling loaned securities may decrease the revenue a fund generates from securities lending activity.
At the SEC’s Open Meeting to discuss the proposed rules, Commissioner Elad Roisman explained the factors that go into an asset manager’s decision whether to recall lent shares:
When a fund manager is faced with the decision of whether or not to recall shares in a company in order to vote in the meeting, the manager considers where the fund can get the most bang for its buck—a calculus that can involve, for example, weighing how significant that company’s shares are to the overall portfolio, how likely it is that the fund will influence the outcome of the vote, and what issues might be on the company’s agenda in the first place.
I don’t know to what extent BlackRock recalls shares they’ve lent to vote on routine matters at shareholder meetings, but I’m guessing it’s not that often since there are probably downsides to constantly doing that (like getting the borrowers annoyed… and losing money). But we may soon get a peek at this since the proposed amendments to the Form N-PX filing requirements also include disclosure requirements on shares lent by asset managers but not recalled for votes.
Now that BlackRock is giving institutional indexed clients the choice to instruct BlackRock how to vote shares in their index funds, BlackRock will potentially have to recall larger amounts of lent shares for those shares to get voted the way their clients instruct and on more voting items. Certain votes that BlackRock considers “routine” or doesn’t care about will be very important to some of their clients. This may result in BlackRock losing out on some future share lending revenue since presumably borrowers would prefer to borrow from lenders less likely to recall the shares they borrow.
Why Are They Doing This?
Why is BlackRock doing this when they really don’t have to? They are already receiving massive inflows for their index funds and generating a nice stream of revenue from lending shares. And offering this voting feature can’t be cheap. BlackRock said that to do this, they have been “developing new technology and working with industry partners over the past several years,” meaning they’ve made some serious investments that they’ll want to recoup. So, is it purely because of the increasingly higher pitched concerns that BlackRock may hold too big a share of the overall stock market and is on a trajectory for Larry Fink to one day dictate economic, environmental, and social policy with no accountability to the general public? Nah.
These types of decisions are business decisions made after many Zoom meetings where long slide presentations are screen-shared and hundreds of emails (a third of which just say “Thanks”) are sent to evaluate the potential revenues, costs, and downside risks on both quantitative and qualitative bases, including reputation, but most importantly client demand. BlackRock is doing this to make money—something they do better than you, me, and almost everyone else.
We know Larry Fink is a data guy, so an enormous amount of brain power at BlackRock was used to crunch the numbers and conclude that this move, and the necessary spending, will give it a competitive advantage when large institutional asset owners are deciding where to place their assets for indexing. Think about when you as an individual are deciding to buy shares of a S&P 500 index fund. Are you going to choose BSPIX, FXIAX, SVSPX, SWPPX, VFINX, or one of the many other mutual funds or ETFs? What’s the diff? They all hold exactly the same positions (by definition) with minuscule expense ratios and modest investment requirements. So, what special bell or whistle could entice you to buy one product over the other? Perhaps if one fund family offered you the ability to vote, you’d go to their house? For institutional asset owners who want to index and have their votes too, heck yeah!
Will It Rock the Vote?
I’ve talked to some long-time residents of Corporate Governance Land who think this makes for another “Did you see BlackRock’s letter?” moment, but not something that will result in a meaningful impact on voting outcomes. A lot of BlackRock’s clients are perfectly happy with BlackRock deciding their votes. That’s part of the purpose of indexing; it cuts down on the work you would otherwise have to do that would translate into costs you have to eat or pass on to your clients. Unless you are one of the biggies, you don’t have the staff to deal with even more proxy votes, when you already can't handle the ones on your desk. Lindsay Frost at AgendaWeek wrote a good piece with some testimonials about this. (Subscription required.)