1 Krantz v. Prudential Investments Fund Management LLC , Civ. Action No. 98-3722 (S.D.N.J. July 30, 1999) (order granting motion
to dismiss).
2 Krantz v. Prudential Investments Fund Management LLC , Civ. Action No. 98-3722 (S.D.N.J. June 10, 1999) (report and
recommendation).
[11199]
August 20, 1999
TO: BOARD OF GOVERNORS No. 54-99
CLOSED-END INVESTMENT COMPANY COMMITTEE No. 26-99
DIRECTOR SERVICES COMMITTEE No. 23-99
SEC RULES MEMBERS No. 50-99
RE: COURT DISMISSES COMPLAINT IN CASE CHALLENGING DIRECTOR
INDEPENDENCE
______________________________________________________________________________
The United States District Court for the District of New Jersey has dismissed a mutual fund
shareholder’s amended complaint against the fund's investment adviser and principal underwriter (the
“distributor”) alleging violations of Sections 10(a) and 15(c) of the Investment Company Act of 1940
(the “Act”) and breach of fiduciary duty under Section 36(b) of the Act.1 The court adopted and
incorporated as its opinion the Report and Recommendation of the U.S. Magistrate Judge to whom it
had referred the motion to dismiss.2 The court did not grant the plaintiff a second leave to amend his
complaint.
The plaintiff claimed that none of the fund’s directors were independent as required by Section
10(a) of the Act because, through the payment of substantial fees for service on multiple fund boards,
they had become “interested persons” within the meaning of the Act. The plaintiff, therefore, sought to
void the management and distribution agreements between the fund and its adviser and distributor, and
recover all fees paid under these agreements, on the grounds that they were not approved by a majority
of the independent directors in violation of Section 15(c). The plaintiff alleged that, by virtue of their
receipt of fees from invalid agreements, the adviser and distributor each breached their fiduciary duty
under Section 36(b) to negotiate at arm’s-length with the fund. Additionally, the plaintiff alleged that
because these fees were so disproportionately large, it amounted to a breach of fiduciary duty under
Section 36(b).
In granting the motion to dismiss, the court found that the plaintiff failed to overcome the
statutory presumption that independent directors are not “controlled persons” as defined in Section
2(a)(9) of the Act. The court noted that the defendant’s sole factual allegation challenging the directors'
independence – service on multiple fund boards for which they receive significant compensation – was
3 Id. at 7–8 (citing for support, Verkouteren v. Blackrock Fin. Management, Inc., 1999 WL 101394 (S.D.N.Y. Feb. 4, 1999); Migdal v.
Rowe Price-Fleming Int’l Inc., Civil No. AMD-98-2162, slip. op. (D. Md. Jan. 20, 1999); Strougo v. BEA Associates, No. 98 Civ. 3725
(S.D.N.Y. Mar. 11, 1999); and Olesh v. Dreyfus Corp., 1995 WL 500491 (E.D.N.Y. Aug. 8, 1995)). The court, however, declined
“to hold as a matter of law that fund directors who serve on multiple boards for which they receive substantial compensation
fails to state a claim under Rule 12(b)(6).”
4 Id. at 10 (citing Green, et al v. Fund Asset Management, L.P., et al, 19 F. Supp. 2d 277, 234-35 (D.N.J. 1999) and Green v. Nuveen
Advisory Corp., 1999 WL 182212, at *3 (N.D. Ill. Mar. 30, 1999)).
5 See Krinsk v. Fund Asset Management, Inc., 875 F.2d 404, 409 (2d Cir. 1989).
insufficient to establish that the directors were controlled, and therefore "interested," as courts have
unanimously held.3
In evaluating the claims of breach of fiduciary duty, the court stated “that receipt of
compensation while breaching a fiduciary duty violates Section 36(b).”4 Nonetheless, because the
plaintiff failed to sufficiently allege that the non-employee directors were “interested,” the court found
that plainitiff's conclusion that a fiduciary breach necessarily flows from the invalid agreements must fail.
The court also determined that the plaintiff's allegation of excessive fees was meritless because he only
addressed one of the six factors5 to be considered when determining whether fees are excessive – the
independence factor – which was rendered moot by the court’s earlier determination that the
independent directors were not “interested.”
A copy of the court's order and the related Report and Recommendation are attached.
Doretha VanSlyke Zornada
Assistant Counsel
Attachments
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