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The Future of Investment Company Governance

By Robert W. Helm and Megan C. Johnson
August 31, 2004

In the wake of the market timing and late trading scandals in the investment company industry, the Securities and Exchange Commission (SEC or “Commission”) recently adopted rules and rule amendments designed to enhance the governance practices of registered investment companies (“funds”). In an effort to protect shareholders and reduce conflicts of interest between fund boards and fund investment advisers, the SEC has adopted rules that, among other things, proscribe the composition of and processes for fund boards, increase the required disclosure regarding approval of investment advisory contracts and create the position of fund chief compliance officer (CCO) who reports to the board. This article addresses the responsibilities fund boards will face in the wake of these new rules.

Investment Company Governance

The SEC recently adopted rules, in a rare 3-2 vote, that will require funds to adopt certain governance practices if they intend to rely on a number of important exemptive rules under the Investment Company Act of 1940, as amended (“1940 Act”), including Rule 12b-1 and Rule 18f-3, among others. [As of press time, the SEC had not published the final governance rule release. This article is based on the SEC's press release regarding the adoption of the rules and the proposing release.] In statements at the SEC's open meeting, Commissioners Glassman and Atkins cited, as support for their votes against the proposal, their concern that the SEC lacked sufficient empirical evidence, suggesting that some aspects of the proposal would result in better fund governance or combat recent problems in the fund industry. Additionally, at a conference sponsored by the Securities Industry Association soon after the approval vote, Commissioner Atkins noted that the Commission's approval of governance changes for funds marked “the first time that the federal government has described in such detail a corporate governance model for such a large number of companies.” (Horowitz J: SEC Commissioner Atkins Slams New Fund Governance Rule, The Wall Street Journal Online, June 24, 2004).

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