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When it comes to mutual fund proxy, everyone knows how important it is to get the vote. Yet there are instances where getting one vote can cost you another – which leads to unexpected outcomes.
For example: Many funds struggle to anticipate, and adjust for, the effect of broker non-votes (BNV). In some instances, BNV rules create conditions under which quorum is achieved, but key meeting proposals unexpectedly fail.
I’m going to get a bit wonky here with the math, but every fund needs to understand how and why this happens so you can plan accordingly.
Accounting for the BNV impact
Broker non-votes are activated in cases where a beneficial shareholder does not give voting instructions to the broker holding the shares “in street name.” In most cases, beneficial shareholders can give voting instructions to the broker, who then returns a proxy on behalf of the entitled shareholder.
When entitled shareholders fail to provide voting instructions, the broker is still permitted to vote on behalf of the shareholder, but only on routine agenda items. Regulations prevent brokers from casting votes on non-routine agenda items.
In practice, routine items almost exclusively involve matters related to director elections and the appointment of auditors. Everything else is considered, by rule, non-routine. Non-routine matters are those that substantially impact the rights and privileges of shareholders. Among other things, this may include: mergers, advisor and sub-advisor changes, redomiciles and investment objective proposals.
In cases where both routine and non-routine items are on the agenda, the broker may cast a vote for or against the routine items only. These votes are counted toward quorum and the proxy preference is registered. At the same time, the BNV is activated for the non-routine items. Importantly, the BNV — while also counting toward quorum — is always tabulated as an against vote. As a result, the BNV has a positive impact on the quorum and a negative impact on the favorable percentage for non-routine matters.
Let’s take a closer look at how this works. First, this is the equation used to calculate BNV:
Broker Non-Vote = Routine Total Voted – Non-Routine (FOR + AGN + ABS)
So, let’s apply this equation to a hypothetical shareholder meeting:
| Sample Voting for the ABC Fund Outstanding of the Fund Voted Shares Quorum to Hold the Meeting |
20,000,000 18,000,000 90% |
||||
| Routine (Proposal 1) | % of Voted | Non Routine (Proposal2) | % of Voted | % of Total Shares | |
| For | 17,500,000 | 97% | 8,000,000 | 44% | 40% |
| Against | N/A | 0% | 200,000 | 1% | 1% |
| Withhold/Abstain | 500,000 | 3% | 300,000 | 2% | 2% |
| Broker Non-Vote (Present) | N/A | 9,500,000 | 53% | 48% | |
| Total Voted | 18,000,000 | 100% | 18,000,000 | 100% | 90% |
| Note: Proposal 1 in this sample is a Director election proposal, voting options are FOR and Withhold. Proposal 2 in this sample has voting options FOR, AGAINST and ABSTAIN. | |||||
In this illustration, quorum looks great because it is at 90 percent. But, the favorable percentage of the non-routine proposal is only at 44 percent. 1940 Act vote requirements stipulate that you need 67.001 percent favorable of the voted shares and/or 50 percent favorable of the outstanding shares for passage. In this instance, then, the fund achieves quorum, but passage fails.
Clearly, BNV rules can make a big difference when chasing passage on a non-routine proposal. The good news is that there are several steps you can take to help improve the odds. Among other things, issuers may pursue broker revocations, targeted mailings or even individual broker outreach.
