[11399]
November 9, 1999
TO: BOARD OF GOVERNORS No. 71-99
INVESTMENT COMPANY DIRECTORS No. 12-99
SEC RULES MEMBERS No. 68-99
SMALL FUNDS MEMBERS No. 12-99
RE: ROYE ADDRESSES 1999 INVESTMENT COMPANY DIRECTORS CONFERENCE
___________________________________________________________________________
Paul Roye, Director of the Securities and Exchange Commission’s Division of Investment
Management, spoke at the Institute’s 1999 Investment Company Directors Conference on October 28,
1999. Mr. Roye’s speech focused on the Commission’s independent fund directors initiative, which
includes proposed rule amendments to enhance the independence and effectiveness of independent
directors, and staff interpretive positions designed to enhance the position of independent directors. A
copy of Mr. Roye’s speech is attached and is summarized below.
Mr. Roye applauded the Institute’s efforts to enhance the effectiveness of fund directors by
establishing an Advisory Group on Best Practices for Fund Directors. Roye noted that the “best
practices” recommendations issued by the Advisory Group illustrate the industry’s willingness to further
empower independent directors, and urged attendees to give “serious consideration to implementation
of the best practices.” Roye explained that the Commission was proposing its own reforms in addition
to the best practices recommendations to provide “a baseline standard which all funds should meet [and
which] carry the force of law.” Mr. Roye proceeded to address the Commission’s major rule proposals.
Proposals Tied to Popular Exemptive Rules
Mr. Roye explained that under the Commission’s proposals, funds that rely on any of ten
commonly used exemptive rules would be required to have boards with a majority of independent
directors, to have independent directors select and nominate new independent directors, and to have
independent legal counsel for the independent directors. Mr. Roye noted that the Commission believes
that “a fund board that has at least a majority of independent directors is better equipped to perform its
duties and responsibilities.” He also said that while the Commission recognizes that most funds’ boards
are already composed of a majority of independent directors, they believe that all funds relying on
certain conflict-related rules should be availed of this significant protection. In support of
the Commission’s self-nomination proposal, Mr. Roye stated that the proposed selection and
nomination process should give boards an opportunity to consider selecting director candidates whose
backgrounds, skills and experience will complement those of existing board members, and enhance the
autonomy from management on the part of independent board members. Finally, Mr. Roye explained
that the proposals relating to counsel would encourage, but not require, independent directors to use
independent legal counsel. He stated that independent directors would be well served by the assistance
of a legal counsel that is truly independent of fund management, especially due to the conflicts of
interest that arise between a fund and its management. Mr. Roye expressed his belief that this was one
of the strongest pieces of the Commission’s proposal.
Other Major Proposals
Mr. Roye addressed three other major aspects of the Commission’s rule proposals, but not those
proposed provisions regarding disclosure of information about fund directors. He noted that the
proposals also seek to enhance director independence by encouraging the development of fund audit
committees comprised entirely of independent directors. The proposals also would prohibit joint fund
D&O/E&O insurance policies from containing “insured versus insured” exclusions, which potentially
could exclude claims made by independent directors when they are sued by their fund’s adviser. Finally,
Mr. Roye noted that the proposal contains rules and rule amendments designed to provide qualified
individuals from unnecessarily being disqualified from serving as independent directors.
Staff Interpretations
Mr. Roye explained that, along with the rule proposals issued for comment, the staff of the
Commission published several staff interpretive positions designed to enhance the position of
independent directors. He noted that one interpretive position clarifies that actions taken by fund
directors that are within the scope of their duties as directors do not constitute prohibited “joint
transactions” under the 1940 Act. Roye stated that another staff interpretation addresses when a fund
may advance legal fees to its directors in light of the 1940 Act’s limits on indemnification of legal fees for
willful misfeasance, bad faith, gross negligence or reckless disregard of duties. He also noted that the
staff has provided guidance concerning when and how mutual funds may compensate directors with
fund shares. Mr. Roye further explained that the interpretive release sets forth a position issued by the
Commission concerning the Commission’s role in disputes between independent directors and fund
management. Roye noted that, while as a matter of policy the Commission is limited in its ability to
comment publicly on allegations of wrongdoing, the Commission takes all allegations of wrongdoing
seriously, especially those asserted by independent directors.
Doretha VanSlyke Zornada
Assistant Counsel
Attachment
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