Much has been written about the crumbling infrastructure of Canada’s large cities. But most of us don’t think about the millions of miles of underground pipes and sewers that service our daily needs — until something goes horribly wrong. Similarly, corporate issuers don’t give any thought to the Byzantine system that allows their shareholders to vote on corporate matters — until something goes horribly wrong.

After Yahoo! Inc.’s 2008 annual shareholder meeting, some large shareholders of the Internet giant were confused by the published vote results. Capital Research, which owned slightly more than 6% of Yahoo, and Capital World Investors, which controls approximately 10% of the corporation, had withheld votes for Yahoo CEO Jerry Yang. Yet, according to Yahoo’s official tally, only 14.6% of the votes for Yang were withheld. Capital Research demanded a review of the vote.

On Aug. 6, Yahoo issued a press release acknowledging that a printing error was made by Broadridge Financial Solutions, the servicing agent that gathers and counts ballots. When Broadridge reported voting results for “withholds,” the initial tally of the withheld votes were reported with eight digits instead of the correct nine digits.

The corrected results showed that withheld votes for Jerry Yang were actually 33.7%, not the 14.6% initially reported. While the glitch was an undeserved embarrassment for Yahoo, it highlighted what Benjamin Pimentel at Marketwatch describes as an “error-prone and Byzantine voting system” at a time when shareholder activism is leading to increasingly heated corporate elections.

The Canadian system, which closely mirrors that of the U.S., is not immune to these types of errors. And not to point the finger of blame at Broadridge, the nature of the system is such that mistakes are likely to happen — and most go undetected.

In the recent proxy fight between Biovail Corp. and the “Concerned Shareholders of Biovail” (led by Biovail founder and largest shareholder Eugene Melnyk), it appeared there was a last-minute revocation of 6.3 million shares voted for Biovail management. Upon seeing this shareholder movement and believing that it was a significant shareholder trying to change their vote, the Concerned Shareholders were advised that by also revoking their shares, they could cause the meeting not to have sufficient shares for quorum.

The desired result was a delay in the meeting so the revoked shares could then be voted for the dissident board. The Concerned Shareholders shares were pulled, but the Biovail board avoided the delay by hastily calling a board meeting to reduce the quorum. The shareholder meeting then proceeded with a reduced quorum. The Concerned Shareholders then successfully argued in court that the shareholder meeting had been improperly constituted, and the court ordered a new meeting. And as for the last-minute revocation of 6.3 million shares that triggered all this drama? It turned out that they should not have been voted in the first place — because they were out on loan.

At the heart of our system’s dysfunction is the fact that its design does not reflect modern reality. Corporate law is based on the registered ownership of securities rather than beneficial ownership. Yet the vast majority of shares are held beneficially by shareholders that are using bank and brokerage custodians. This disconnect is then further complicated by other modern realities, such as the loaning of shares, short-selling of shares and the use of derivative instruments.

Two American law professors, Marcel Kahn and Edward B. Rook, have sorted through the maze-like process in which proxy votes are identified, gathered and tabulated during a shareholder vote. A review of the steps in their 2007 article in the Georgetown Law Journal , “The Hanging Chads of Corporate Voting,” reveals a patchwork approach.

As the authors note, a majority — between 52% and 60% — of the shares of publicly traded companies are owned by “objecting beneficial owners” — that is, the shares are held by custodians such as banks and brokers, on behalf of owners who object to the disclosure of their names. This prevents companies from communicating directly with the owners of large numbers of their shares. Broadridge, however, as an agent of the custodians, has access to this information, and thus plays the critical role of distributing the proxy materials.

Most shares in corporations are now held in “street name” through bank and brokerage custodians, which in turn hold the shares through Depositary Trust Corp. (DTC) in the U.S. and Clearing and Depositary Services Inc. (CDS) in Canada. To start the voting process, DTC or CDS executes an omnibus proxy in favour of its participant bank and brokerage firms. These firms must then provide beneficial shareholders either with an executed proxy card or, more typically, a request for voting instructions. Broadridge is the key player at this stage: when all goes well, Broadridge receives voting instructions, verifies receipt, verifies that the signatories have voting authority, executes the proxy on behalf of its custodian (bank or broker) principal, aggregates the instructions and then forwards the proxies to the “tabulator.”

@page_break@In the final step, the tabulator, usually the issuer’s transfer agent, checks the validity of the proxies received (many executed by Broadridge) and checks that the number of nominee shares voted does not exceed the number of shares that DTC indicates are held in that nominee name.

As Kahn and Rock point out, under this system, it’s not surprising that what they call “pathologies” (serious mistakes) can occur at several stages. These can range from proxies or voting instructions that never arrive to the incorrect number of shares being voted because of lending or short-selling of the shares or “empty voting,” which occurs when the person voting the shares has no economic interest in the final outcome.

These errors, issues and complications have caused regulators in both the U.S. and Canada to review the system with an eye to reform. This past summer, the chairman of the Canadian Securities Administrators’ NI 54-101 committee met with various stakeholders “to see if there are ways in which efficiency can be enhanced, as well as removing any unintended obstacles to beneficial owner participation in the voting process.”

All stakeholders in this unwieldy system eagerly await word on the pace and extensiveness of a reform process that is long overdue. IE



Wayne Bigby is executive vice president of Kingsdale Shareholder Services Inc.