A new report released this week from the American Federation of State, County and Municipal Employees (AFSCME) claims that some of the largest mutual funds -- including Vanguard and BlackRock -- are guilty of rubber-stamping company-initiated, executive-compensation plans that are often out of whack with their companies' performance and therefore compromising shareholders' best interests in the process.
AFSCME, the country's largest public service union with more than 1.6 million members and a contributor of more than $1 trillion in retirement assets that are invested by public pension systems, examined the voting patterns of 26 of the largest mutual fund families during corporate annual meetings during a one-year period beginning in July 2009.
The report, titled "Tipping the Balance? Large Mutual Funds' Influence Upon Executive Compensation," ranked the fund families according to how they voted in director elections, on management compensation proposals and on shareholder compensation-related proposals in several different categories including shareholder advisory votes on CEO pay, equity-holding requirements and limiting severance payments.
It found that Vanguard, BlackRock, ING and Lord Abbett were the least likely to user their proxy votes to align executive pay with performance.
"We're very concerned that the largest mutual funds are enabling a disconnect between executive compensation and corporate performance, especially since shareholders cannot vote proxy on the mutual funds they own," said Lisa Lindsley, director of capital strategies at AFSCME.
The report found that those four fund groups supported more than 90% of management proposals, 7% percent of shareholder proposals and 80% of appointments to the companies' boards of directors.
Smaller mutual funds including Dimensional, Dreyfus, Oppenheimer and Wells Fargo were identified as ones most likely to rein in pay, finding that these fund families voted for shareholder proposals to link executive pay to long-term performance roughly 88% of the time and voted against all directors sitting on compensation committees at companies with pay problems.
"Mutual funds bare as much blame as anyone else in the accumulation of assets bubble," Lindsley said. "They have been passive investors, letting the financial sector accrue all this risk."
Representatives from Vanguard and BlackRock strongly disagreed with the report's findings and methodology.
"As an independent asset manager, BlackRock acts solely as a fiduciary for our clients and has a rigorous process to ensure we cast proxy votes in the best long-term economic interest of fund investors," BlackRock spokesperson Bobbie Collins said in an emailed statement. "Beyond that we have no comment."
The report was especially critical of Vanguard which controls, along with Fidelity and American, 59% ($1.2 trillion) of the assets reviewed in the report and was found to be the largest "pay enabler" and "did the least" to rein in executive pay in 2010.
"We take exception to the report's methodology, both in terms of the limited number of votes examined and the asset weighting, and do not believe the results are indicative of Vanguard's governance program and efforts to maximize value on behalf of our shareholders," Amy Chain, a Vanguard spokesperson, said in an emailed statement.
"Last year, Vanguard voted on tens of thousands of proposals at more than 4,000 portfolio companies," Chain added. "The report therefore is not a holistic view of our voting practices. As our proxy guidelines illustrate, we do pay particular attention to executive compensation issues and will vote against proposals that we deem excessive or that unduly dilute the ownership interests of the Vanguard funds."
Vanguard also said the report's weighting of a thumbs-up or thumbs-down vote makes an erroneous assumption that all votes against management proposals are good.
"In our experience, directors understand their fiduciary duties and are acting in a manner that drives shareholder value," Chain added.
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