Supplementary Material, Independent Investment Company Directors:
Statement of Paul F. Roye, Director,
Division of Investment Management

Open Commission Meeting,
October 13, 1999

Good morning Chairman Levitt, Commissioners Johnson, Hunt, and Unger.

I am extremely pleased to be here this morning to present a series of initiatives designed to enhance the important role that independent directors play in protecting fund investors.

Mr. Chairman, throughout your tenure at the Commission, you have been a powerful advocate for strong and independent fund boards. You have spoken to fund directors about their obligation to be vigorous, effective, and independent shareholder representatives. You have listened to fund directors, investors, and others talk about the measures that will help directors to fulfill that obligation. And you have been instrumental in turning the ideas that came out of the Roundtable and the speeches that preceded it into the concrete proposals that are before you today.

Participants at the Commission's Roundtable called on the Commission to do more than just give sermons about director independence. Today's initiatives respond to that call. They are designed to reinforce the independence of fund directors, strengthen their hand in dealing with fund management, and provide investors with valuable information that they can use to judge for themselves the independence of the directors who represent them.

The initiatives that you are considering today are in three parts. We are recommending that the Commission propose substantive rule changes. We are recommending that the Commission propose changes to its disclosure requirements. And we are recommending that you issue an interpretive release clarifying several areas where there is confusion in the mutual fund industry.

Let me begin with the substantive rule changes, which would fortify the position of the independent directors who sit on fund boards. A number of Commission exemptive rules require fund boards to approve and oversee activities that involve potential conflicts of interest. Under the proposals before you today, funds relying on any of these exemptive rules – and that is most funds – would be required to meet the following conditions:

  • Independent directors must constitute at least a majority or perhaps a super majority of the board.
  • New independent directors would have to be selected and nominated by the incumbent independent directors, rather than by the fund's investment adviser or other affiliates of the fund.
  • Legal counsel for the independent directors would have to be independent – that is, counsel that has not acted as legal counsel for the fund's investment adviser, principal underwriter, administrator, or any of their control persons for the preceding two years.

Other substantive rule proposals before you today would:

  • prevent qualified individuals from being unnecessarily disqualified from serving as independent directors;
  • protect independent directors from the costs of legal disputes with fund management;
  • exempt any fund that establishes an independent audit committee from the requirement that shareholders ratify the selection of the fund's independent public accountant;
  • permit the Commission to monitor the independence of directors more effectively by requiring that funds keep records of their assessments of director independence; and
  • temporarily suspend the independent director minimum percentage requirements if a fund falls below the required percentage due to an independent director's death or resignation.

Our disclosure proposals are designed to help fund shareholders evaluate whether the independent directors can, in fact, act as an independent, vigorous, and effective force in overseeing fund operations. The proposals would require funds to:

  • provide basic information about directors annually so that shareholders will know the identity and experience of their representatives;
  • disclose directors' ownership of shares in the fund family, to help shareholders evaluate whether the directors' interests are aligned with their own;
  • disclose information about directors that may raise conflict of interest concerns; and
  • disclose information about the board's role in governing the fund.

Finally, the interpretive release would express the views of the Commission and its staff on a number of issues relating to independent fund directors. It would:

  • provide guidance about the types of material business and professional relationships of a fund director that could form the basis of a Commission order finding that the director is an "interested" person of the fund who may not serve as an independent director;
  • clarify that actions taken by fund directors in their capacities as directors generally are not joint transactions that require prior Commission approval;
  • provide guidance about circumstances under which funds may advance legal fees to their directors; and
  • provide guidance concerning the circumstances under which funds may compensate fund directors with fund shares.

The release also would explain the Commission's position regarding its role in connection with disputes between independent fund directors and fund management when there are allegations that the federal securities laws have been violated.

Mr. Chairman, you have said that fund directors need to have "the tools, the access, and the power to faithfully fulfill their legal duty and moral mandate as the shareholder's representative." I believe that the proposals before you today represent a significant step in achieving that goal.

Last modified: 10/13/1999