The fierce fight for board independence got downright ugly last week, as SEC heavyweights took off the gloves to spar over critical fund governance reforms, just one day before the chairman hung 'em up.

The Securities and Exchange Commission on June 29 voted to approve the hotly contested rule requiring mutual funds to have an independent chairman fast on the heels of a court directive to reevaluate the potential costs and consider an alternative.

The move nixed the hopes of a harmonious departure for Chairman William Donaldson.

Following a bitter exchange involving SEC Commissioners and other senior staff, the SEC's top dogs voted 3-2 to move ahead with plans to implement the controversial fund governance rule. The rule was bounced back to the Commission after the U.S. Court of Appeals ruled on June 21 that the regulatory agency gave short shrift to the costs associated with requiring funds to have an independent chairman and a 75% independent board of directors.

Almost immediately after the court's decision, the SEC issued a "sunshine notice," calling for an emergency meeting to push through the additional details needed to satisfy the court's mandate. The ruling was handed down in response to a suit filed by the U.S. Chamber of Commerce attempting to block the requirement on grounds that it overstepped its jurisdiction.

Pre-Emptive Strike

While the judges upheld the SEC's statutory authority over the matter and ruled that the Commission had reasonable rationale for drafting the new independence rule, they asked the regulatory body to re-examine the costs associated with imposing it on funds. The judges also told the SEC to consider a potential alternative that would rely on added disclosure instead of increasing the number of independent directors.

Fearing an inevitable shift in the balance of power at the SEC after his departure, Donaldson engineered a successful, albeit unusual, 11th-hour proceeding, a pre-emptive strike to thwart his successor from rejiggering the rule and to preserve his legacy.

Earlier this month, President Bush nominated Rep. Christopher Cox (R-Calif.) to be his replacement, an attorney and politician known for his support of free markets and limited government.

Despite securing yet another victory in the fight to get the fund chair rule on the books, Donaldson drew intense criticism from his peers for taking such swift action without allowing a reasonable amount of time to conduct a more thorough review, on the eve of his departure from the Commission.

"The ink on the court decision was not even dry when the die was cast," Republican Commissioner Paul Atkins said, calling the move "a profound disrespect for the rule of law."

Atkins and fellow Republican Commissioner Cynthia Glassman once again represented the dissenting votes on the governance reform item, blasting Donaldson for rushing to judgment on a rule they believed never should have been approved in the first place.

"I disagree with this rush to respond to the court's remand of the independent chair rulemaking in the strongest possible terms," Glassman said. "It's simply not possible to conduct a thorough review of the record in this time frame."

Flawed Analysis'

Reiterating her staunch opposition to the rule, Glassman, one of the more outspoken Commissioners, characterized the movement to pass the rule as "an assembly of false statements, unsupported assumptions, flawed analysis and misinterpretations."

The two have vehemently opposed the reform effort, arguing that it puts form over substance and that many fund complexes that had independent chairmen and a 75% independent board got caught up in the market-timing and late-trading scandal anyway. In other words, Atkins and Glassman view it as more of a cosmetic change than meaningful reform.

The Republican dissenters took further offense to what they perceived to be cloak and dagger political tactics by Donaldson and his supporters. Just several days after the court's decision and with the Commission in the middle of relocating to a new building, the supporting Commissioners issued a 27-page proposal with the additional items needed to satisfy the court's directive. They did this without consulting Atkins or Glassman.

The dissenting duo believes they were intentionally left in the dark on the matter and that standard procedure was not followed.

"To allow this meeting to proceed as if the Commission can simply fill in the blanks for APA deficiency without requesting public comment on these significant issues makes a mockery of the process," Glassman barbed, noting that passing the meeting off as an expedited decision to protect investors is "completely disingenuous."

Donaldson Calls His Own Number

Standard operating procedure at the SEC dictates that each week a so-called "duty officer" is selected among the five Commissioners, with that individual having the authority to sign off on any rushed proceedings.

While Donaldson purposely excluded himself from the rotation in the past, he declared himself the duty officer that week, even though it was Glassman's spot in the rotation. Given his imminent exit from the chairmanship, Donaldson set the proceedings in motion without offering the typical 15 to 30 days notice

"This is one of the saddest days in the Commission's 71-year history," Atkins said, capping what has been a deepening rift between Donaldson and his fellow Republican Commissioners over the last 18 months.

Democratic Commissioner Roel Campos scoffed at the notion that the proceedings were somehow underhanded, calling his colleagues' accusations "absurd."

Commissioner Harvey Goldschmid, a Democrat, also countered Glassman's and Atkins' arguments, saying, "Crocodile tears are being shed over the need to respect the Court of Appeals." He also said that reopening the comment period would carry a heavy cost burden and lead to "a period of great uncertainty" for mutual funds and their shareholders.

In advance of the vote, eight Republican members of the Senate Banking Committee wrote a letter urging Donaldson to leave the matter in the hands of his successor. In addition, three former SEC Commissioners, including former Chairman Harvey Pitt, warned Donaldson that the mere appearance of a political strong-arm maneuver would put a dent in the SEC's credibility.

While Donaldson refused to engage in a war of words with his detractors, he defended his position by saying, "Any further delay or ambiguity surrounding implementation would disadvantage not only investors but fund boards themselves and management companies."

With respect to the timing of the last-minute vote, the outgoing SEC Chairman declared the SEC's action be "fully consistent with the opinion of the Court of Appeals and with the other legal requirements applicable to Commission rulemaking."

Despite their deteriorating relationship with Chairman Donaldson, Glassman and Atkins both stood up to honor the septuagenarian at his farewell gala later on that evening, where guests remarked that there was a very "collegial" atmosphere that stood in stark contrast from the mood of the day's earlier gathering, according to one attendee's account.

Both Rep. Michael Oxley (R-Ohio) and Sen. Paul Sarbanes (D-Md.) delivered speeches paying tribute to Donaldson and the work he accomplished during his tenure. Donaldson was also presented with a Congressional flag that had been flown over the Capitol and received a standing ovation from the crowd.

The 27th Commissioner in the 71-year history of the SEC, Donaldson gracefully acknowledged the work of his fellow Commissioners, asking each to stand up to be honored for their own respective rounds of applause.

During the day's open meeting, SEC General Counsel Giovanni Prezioso noted that a legal response to the SEC's decision not to re-open the comment period is already in the works, in all likelihood another lawsuit by the U.S. Chamber of Commerce. But Prezioso refused to elaborate further, much to the chagrin of Commissioner Glassman.

And so the saga continues.

(c) 2005 Money Management Executive and SourceMedia, Inc. All Rights Reserved.

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