It will take more than high fees, from now on, to prove that an independent fund director is not independent.
A U.S. District Court judge in New York has thrown out a case against Scudder Kemper Investments, its closed-end Brazil Fund and the fund's directors, saying the investor who brought the suit failed to prove that the independent directors lost their independence because of the fees they received and other alleged business connections. Judge Robert Sweet, in a 37-page decision dated Nov. 18, said that the case had no merit and approved a request from a committee of the Brazil Fund's independent directors to dismiss the complaint.
The Brazil Fund's directors were "sophisticated and knowledgeable professionals," Sweet wrote. The evidence plaintiff Robert Strougo marshalled alleging the directors' lack of independence was not sufficiently persuasive, Sweet said. Joel Feffer, a lawyer with Wechsler Harwood Halebian & Feffer in New York who represented Strougo, declined to comment. A Scudder Kemper spokesperson was not available to comment.
The Strougo case has been such an irritation to the fund industry that the Investment Company Institute (ICI) filed an unusual friend of the court brief in the case in June, 1997. In May, 1997, Sweet ruled that the Brazil Fund directors may have lost their independence for having received fees as low as roughly $55,000 because they were paid for serving on multiple boards in the Scudder fund complex. Fund industry lawyers and the ICI criticized the decision, warning that it would force expensive changes in the way funds are organized.
In his Nov. 18 ruling, Sweet did not address the narrow issue of fees. Instead, in evaluating Strougo's claim, he examined whether a special committee of directors acted independently and reasonably. With respect to independence, Sweet said that the directors did not need to show "the complete absence of any facts which might point to non-objectivity." The committee's assessment that the case was without merit was reasonable, Sweet ruled.
Sweet's decision should provide some relief for the fund industry which is under attack over issues of director independence. Feffer's firm, for example, is representing shareholders who are challenging the independence of directors of several fund groups based on the fees they receive. In lawsuits against Fidelity Investments and T. Rowe Price Associates, investors represented by Wechsler Harwood allege that the funds have charged excessive fees. Both firms deny the allegations and the cases are pending.
Despite concern about the case, the fund industry has made few changes in its practices because of Sweet's May, 1997 decision. While fund boards of directors have made some relatively minor procedural adjustments, fund boards have not reorganized or changed pay structures for independent fund directors, lawyers and fund officials said at a conference on mutual fund compliance Nov. 17.
"It would be sad" if the Strougo case had forced such changes, said Kenneth Froewiss, a director of the Brazil Fund and professor of finance at New York University. Froewiss said that changes are unwarranted in light of the report which the Brazil Fund's special committee of directors prepared. Glasser LegalWorks of Little Falls, N.J. sponsored the conference at which Froewiss and others spoke.
While industry lawyers and fund officials said there had been no substantial structural changes, they said the earlier Strougo decision along with other events in the past year have placed increased pressure on mutual fund directors. Meyer Eisenberg, an attorney in private practice in Washington who will join the SEC later this year as deputy general counsel, said recent SEC scrutiny and a Morningstar study critical of directors is making directors behave more cautiously on matters around which there are legal questions.
Those events are "moving directors to be more careful, their counsel to be more precise," Eisenberg said.
Industry officials and lawyers said the system of independent directors is working well and largely dismissed the Strougo case and more recent complaints which challenge directors' independence based on the pay they receive.