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| Best Practices: On the Board |
Fund Follies
Gayle B. Ronan
08/01/2005
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In fact, the ICI’s Best Practice Guidelines, which
many larger fund families began using as a benchmark when it was released in
1999, already stipulates that fund directors should invest in the funds on whose
boards they serve. These guidelines are as, or even more, stringent than those
the SEC seeks to enforce. In fact, ICI Guideline No. 1 on a list of 17 reads:
“Independent directors should account for two-thirds of the board
membership.”
Owing to the adoption of the guidelines by ICI members, many
boards are already just one director shy of conforming to the SEC’s dream figure
of a 75 percent supermajority. This explains why the frenzied recruiting rush
that consultants were expecting to capitalize on has not materialized. Rumors of
nervous board members and boardroom shake ups have turned out to be mostly a
function of ad copy created by vendors hoping to sell directors services to help
them cope with change. In fact, the only perceptible shaking going on in
boardrooms these days is of heads—mostly prompted by the sentiment that the
action represents too little too late.
Akin to the SEC’s ruling, the ICI
enacted its guidelines without proof that increasing the number of independent
board members would increase the quality of governance. But that was never the
point behind the recommendations. According to IDC managing director Marguerite
Bateman, the two-thirds figure reflected the average board construction at those
funds deemed well-governed. Bateman also recalls that part of the reasoning
behind recommending a two-thirds majority involved the potential problems caused
by sudden departures. At the SEC’s previously mandated 40 percent—and later 50
percent—level, if an independent director died or needed to step down
immediately, management directors might have a temporary advantage in any board
rulings. At two-thirds, this was not likely to happen. The advantage of the
SEC’s three-quarters requirement over the ICI’s two-thirds, however, eludes
her.
Bateman also worked on drafting the ICI guidelines, which entailed
“conversations involving hundreds of people from all areas of the industry.” She
remembers hearing strong arguments for having a number of management company
directors on boards. “The feeling is that management should have the same
fiduciary responsibility as the independent directors. Moving to minimize or
eliminate them from the board lets them off the hook, relieving them of sharing
the same fiduciary obligation.”
Dissenting Pioneer
John Bogle is one—apparently lone—proponent of further
government-mandated reform in the industry. Bogle, the legendary founder of
Vanguard and pioneer of index mutual funds, now presides over Bogle Financial
Markets Research. He is campaigning for a statutory, albeit mostly symbolic,
standard: a federal standard of fiduciary duty. On a more practical level, he
would like to see more stringent requirements supporting skin in the game.
“Directors should have their own money in the fund, and they should act as if
every penny they own is in that fund,” Bogle argues. “Better yet, they should
act as if they are the sole shareholder in that fund.”
As for how many funds
practice this guideline, industry statistics are not available yet because funds
have only recently been required to gather any data on director ownership.
Dawn-Marie Driscoll, the independent chair of Scudder Funds, says the firm
strongly encourages independent ownership across all of the funds each director
oversees. “This is why I have to explain to my accountant every year that as a
Florida resident, I own a Massachusetts municipal bond fund,” she notes.
It
does appear that the SEC has begun to shift its focus from board structure to
another area that has been an ongoing concern for Bogle and others: that of fees
and expenses. It is examining which benchmarks are being used to determine the
price of services. Regulation would mean boards would have to spend more time
benchmarking compensation, focusing on contract renewal guidelines and costs,
and continually assessing service and vendor expenses to keep fund expenses
down. But the shift toward lowering fund costs is not waiting for SEC guidance.
Judging by the preponderance of fund family advertising, it is already receiving
priority in boardrooms.
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