On behalf of the independent trustees of the registered investment companies advised and distributed by subsidiaries of Federated Investors, Inc. (the "Federated Funds"), I write to express our views with respect to certain aspects of the above-referenced rulemaking proposal. The Federated Funds comprise 135 investment portfolios with assets of approximately $200 billion.
The initiatives of the Securities and Exchange Commission to enhance fund board governance are largely substantive and commendable. Requiring seventy-five percent of board members to be independent directors and requiring a chief compliance officer to report to the board and to meet separately with the independent directors enhances the ability of independent directors to carry out their quintessential fiduciary responsibility. The concept of a "lead director," chairing separate meetings of independent directors, acting as their spokesperson and interacting with independent counsel is highly beneficial to assuring the long-term interests of fund shareholders. Any requirement that the chairman of the fund board must be an independent director, however, is not only unnecessary, it is counter productive.
The Commission, itself, wonders whether an independent chairman is necessary under current standards that mandate a majority of independent directors. A fortiori, a requirement that seventy-five percent of the board must be independent directors would remove the last scintilla of doubt concerning the power of independent directors to choose the chairman of the board. Under these circumstances, the essential flaw is clearly exposed. The singular effect of requiring the chairman to be an independent director would be negative. The independent directors would be limited to choosing an independent director to chair the board, regardless of their view that a party other than an independent director would serve that function more effectively in promoting the interests of shareholders. While the other Commission proposals clearly enhance the authority and function of the independent directors, this proposal has the effect of severely weakening their authority and judgment in the choice of a board chairman. For this reason alone, the proposal should be withdrawn. There are, however, other equally important reasons.
The proposal suggests that the chairman of the board can largely control the board agenda. If the independent directors are performing as they should, this simply is not true. As the lead director of independent directors who currently constitute seventy-five percent of the board, I can attest to the fact that the independent directors always meet separately from the board and management. They interact with their own independent counsel in considering every agenda item at every board meeting. In effect, agenda items are cleared by the independent directors prior to the meeting. Nothing will be on the agenda absent the approval of the independent directors.
The proposal suggests that the board chairman can have a substantial influence on the board culture with the possible effect of suppressing meaningful dialogue or otherwise diminishing the role of independent directors in the performance of their obligations. This concern, however, is misdirected. It has little or nothing to do with the chairman. It contains a biting innuendo suggesting the failure of independent directors to meet their obligations. It is the independent directors who, again, have the authority to decide who will chair the board. It is the independent directors who are primarily responsible for ascertaining that the long-term interests of shareholders are preserved and protected. The proposal suggests that independent directors need Commission protection against a dominating chairman who will preclude them from performing their fiduciary obligations. Under those circumstances, the fund should rid itself of such pusillanimous independent directors. Such an unfortunate group would be equally susceptible to a dominating independent chairman who may pursue his or her own interests rather than the interests of shareholders.
There is an even more important reason for rejecting the proposal of an independent chairman. The Commission proposal alludes to this reason when it wonders whether an independent chairman might weaken fund governance because of his or her inability to lead the board through a detailed and complex agenda. I suggest that there may be an even more dangerous though unintended outcome. An independent director thrust into a chairmanship would be required to devote the necessary time and energy to engage managerial issues that would substantially alter the independent director perspective. The independent director would begin to see the funds through the lens of a manager. The line between independent director and manager would necessarily become wavering and blurred as the "watchdog" role of the former independent director would merge into the status of a de facto manager. It would be prohibitively difficult to maintain the appropriate schizoid function that would be required of an independent director and chairman-manager. This danger, alone, is a sufficient reason for rejecting the proposal.
Again, the Commission is to be commended for its other initiatives to protect and enhance the interests of shareholders because they are substantive measures that clearly and realistically support that goal. The notion of an independent chairman, however, appears to be an overreaction to current challenges that would unwittingly weaken fund governance.