The DOL Strikes Again; Proxy Rules Could Chill ESG Engagement Efforts
The U.S. Department of Labor issued new proposed rules regarding proxy voting by private employer-sponsored retirement plans under the Employee Retirement Income Security Act (ERISA). The new rule may impact the ability of investment managers to promote sustainability goals through their investments, suggesting that proxy voting on ESG issues is not in the interests of investors.
One purpose expressed for the new rules was to ease the burden on plan fiduciaries regarding their requirements to vote on proxies, indicating that voting is only required when it is expected to affect the value of plan assets. The DOL, however, added a requirement indicating that proxies may only be voted when the fiduciary determines that the issue will have an economic impact on the plan.
According to a DOL statement accompanying the new proposal:
“The proposal includes provisions that would articulate general duties requiring fiduciaries to vote any proxy where the fiduciary prudently determines that the matter being voted upon would have an economic impact on the plan. It also prohibits fiduciaries from voting any proxy unless the fiduciary prudently determines that the matter has an economic impact on the plan.”
Specifically, the proposed rule indicates that voting cannot be used to pursue non-pecuniary objectives. The proposal states:
“A fiduciary’s exercise of voting rights (or other shareholder rights) must be performed solely for the plan’s economic interests, which under no circumstances may be subordinated to non-pecuniary goals. Accordingly, the use of plan assets for purposes other than enhancing the value of the plan’s investments—through proxy voting or otherwise— violates the fiduciary duties of loyalty and care under ERISA.”
The new proposal could potentially limit the ability of investment managers to pursue sustainability-related goals through their investments. Managers will often set sustainability criteria for the companies held in their portfolios, and engage with company management on improving their ESG profiles. One of the key tools managers have to pursue sustainability goals is their proxy voting power.
The use of ESG integration has been on the rise among investment managers, partially as a risk management tool, but also due to the long-term economic benefits of managing businesses in a sustainable manner. Given the long-term nature of the rewards of sustainability-related efforts, however, it may be difficult for managers to point to specific economic benefits of their voting.
The DOL specifically highlights ESG factors as those that may not have economic benefit. In explaining the need for the regulation, the DOL writes:
“The Department’s concerns about plans’ voting costs sometimes exceeding attendant benefits has been amplified by the recent increase in the number of environmental and social shareholder proposals introduced. It is likely that many of these proposals have little bearing on share value or other relation to plan interests.”
The DOL has recently come under fire for another proposed rule that would put stricter limits on ESG investing in private employer-sponsored retirement plans. Specifically, the new rule would “make clear that ERISA plan fiduciaries may not invest in ESG vehicles when they understand an underlying investment strategy of the vehicle is to subordinate return or increase risk for the purpose of non-financial objectives.” Many investors have objected to this proposed rule, indicating that it would end up hurting investors’ financial interests, exposing them to unnecessary risk and potentially harming returns. Investment mangers also argued that the DOL’s assumption that pursuit of ESG objectives comes at the expense of financial returns is out of date and not in line with current research.
The new proposed proxy voting rule includes a 30-day comment period.