

[Federal Register: June 19, 2006 (Volume 71, Number 117)]
[Proposed Rules]               
[Page 35365-35367]
From the Federal Register Online via GPO Access [wais.access.gpo.gov]
[DOCID:fr19jn06-33]                         


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Part III





Securities and Exchange Commission





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17 CFR Part 270



Investment Company Governance; Proposed Rule


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SECURITIES AND EXCHANGE COMMISSION

17 CFR Part 270

[Release No. IC-27395; File No. S7-03-04]
RIN 3235-AJ05

 
Investment Company Governance

AGENCY: Securities and Exchange Commission.

ACTION: Request for additional comment.

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SUMMARY: On April 7, 2006, a Federal appeals court invalidated certain 
amendments adopted by the Securities and Exchange Commission 
(``Commission'') to rules under the Investment Company Act of 1940 
(``Act''). The Court found that the Commission had failed to seek 
comment on the data used to estimate the costs of the amendments, but 
suspended issuing its mandate in order to give the Commission an 
opportunity to request further comment. Because the Court's decision 
called into question the regularity of our proceedings, the Commission 
now invites further comment on the amendments, including particularly 
their costs. The amendments, first proposed on January 15, 2004, would 
impose two conditions on investment companies (``funds'') relying on 
certain exemptive rules. First, fund boards would have to be comprised 
of at least 75 percent independent directors. Second, the boards would 
have to be chaired by an independent director. In addition to the costs 
of the two conditions, commenters may address any issue related to the 
underlying purpose of the two conditions, which is the protection of 
funds and fund shareholders. As required by section 2(c) of the 
Investment Company Act, the Commission specifically seeks comment on 
whether the proposed rule amendments will promote efficiency, 
competition, and capital formation.

DATES: Comments must be received on or before August 21, 2006.

ADDRESSES: To help us process and review your comments more 
efficiently, comments should be sent by one method only.

Electronic Comments

     Use the Commission's Internet comment form (http://www.sec.gov/rules/proposed.shtml.
); or     Send an e-mail to rule-comments@sec.gov. Please include 

File Number S7-03-04 on the subject line; or
     Use the Federal eRulemaking Portal (http://www.regulations.gov
). Follow the instructions for submitting comments.


Paper Comments

     Send paper comments in triplicate to Nancy M. Morris, 
Secretary, Securities and Exchange Commission, 100 F Street, NE., 
Washington, DC 20549.

All submissions should refer to File Number S7-03-04. The Commission 
will post all comments on the Commission's Internet Web site (http://www.sec.gov/rules/proposed.shtml
). Comments are also available for 

public inspection and copying in the Commission's Public Reference 
Room, 100 F Street, NE., Washington, DC 20549. All comments received 
will be posted without change; we do not edit personal identifying 
information from submissions. You should submit only information that 
you wish to make available publicly.

FOR FURTHER INFORMATION CONTACT: Vincent Meehan, Staff Attorney, or 
Penelope Saltzman, Branch Chief, Office of Regulatory Policy, (202) 
551-6792, Division of Investment Management, Securities and Exchange 
Commission, 100 F Street, NE., Washington, DC 20549.

SUPPLEMENTARY INFORMATION:

I. Background

    On July 27, 2004, the Commission adopted amendments to ten 
exemptive rules under the Investment Company Act \1\ (``Exemptive 
Rules'') to require funds that rely on one or more of those rules to 
adopt certain governance practices.\2\ The conditions were part of a 
package of amendments designed to protect the interests of funds and 
the fund shareholders they serve. Among other things, the amendments 
added two conditions for funds relying on the Exemptive Rules. First, 
such a fund must have a board of directors with no less than 75 percent 
independent directors.\3\ Second, such a fund must be chaired by an 
independent director. The reasons for the Commission's adoption of 
these conditions, as well as other amendments to the Exemptive Rules, 
were set forth at length in the Adopting Release issued July 27, 
2004.\4\
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    \1\ 15 U.S.C. 80a.
    \2\ Investment Company Governance, Investment Company Act 
Release No. 26520 (July 27, 2004) [69 FR 46378 (Aug. 2, 2004)] 
(``Adopting Release''). The Exemptive Rules are listed in the 
Adopting Release at footnote 9.
    \3\ In this Release, we are using ``independent director'' to 
refer to a director who is not an ``interested person'' of the fund, 
as defined by the Act. See section 2(a)(19) of the Act [15 U.S.C. 
80a-2(a)(19)].
    \4\ See Adopting Release, supra note 2.
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    The two conditions were challenged in the United States Court of 
Appeals for the District of Columbia Circuit. On June 21, 2005, the 
Court remanded to the Commission for consideration of two deficiencies 
that it identified in the rulemaking.\5\ After considering those two 
issues at a public meeting on June 29, 2005, the Commission issued a 
release announcing its decision not to modify the rule amendments 
(``Remand Release'').\6\ The June 29 action was then challenged, and 
the Court on April 7, 2006, issued an opinion holding that the 
Commission violated the Administrative Procedure Act \7\ by failing to 
seek comment on the data used to estimate the costs of the two 
conditions.\8\ The Court vacated the two conditions, but withheld its 
mandate for 90 days to afford the Commission an opportunity to reopen 
the record for comment.\9\
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    \5\ Chamber of Commerce v. Securities and Exchange Commission, 
412 F.3d 133 (D.C. Cir. 2005).
    \6\ See Investment Company Governance, Investment Company Act 
Release No. 26985 (June 30, 2005) [70 FR 39390 (July 7, 2005)] 
(``Remand Release'').
    \7\ 5 U.S.C. 553(c).
    \8\ Chamber of Commerce v. Securities and Exchange Commission, 
443 F.3d 890 (D.C. Cir. 2006).
    \9\ Id. at 909.
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II. Discussion

    The 75 percent condition and the independent chair condition have 
been extensively discussed in the prior Commission releases,\10\ and 
commenters are referred to the discussion in those releases for a 
detailed treatment of them. The Commission requests comment on the 
costs associated with the two conditions, and suggestions for 
additional provisions designed to achieve the underlying purpose of the 
amendments, which is the protection of funds and fund shareholders.
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    \10\ Investment Company Governance, Investment Company Act 
Release No. 26323 (Jan. 15, 2004) [69 FR 3472 (Jan. 23, 2004)] 
(``Proposing Release''); Adopting Release, supra note 2; Remand 
Release, supra note 6.
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    The Court found the Commission's discussion of costs, together with 
an expressed expectation that these costs would be ``minimal,'' to be 
inadequate. To address this, the Commission particularly seeks reliable 
cost data in support of commenters' assertions.
    For example, in the Remand Release we attempted to identify all of 
the potential costs associated with the 75 percent and independent 
chair conditions when we assigned an estimate of direct and indirect 
costs to each of them; we seek comment on all of these and any other 
potential costs. In addition, while the Remand Release acknowledged 
that these costs would likely vary depending upon which of various 
methods funds chose to come into compliance with the conditions,

[[Page 35367]]

such as whether a fund came into compliance with the 75 percent 
condition as a result of the resignation of one or more interested 
directors or the selection of one or more new independent 
directors,\11\ the Court was critical of the fact that we based those 
estimates in part on data from an industry survey that was not a part 
of the rulemaking record. We specifically solicit comment, therefore, 
on the adequacy of those estimates and on other appropriate measures of 
costs.
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    \11\ In the Adopting Release we estimated that approximately 60 
percent of funds met the 75 percent condition at the time we adopted 
the rule. Adopting Release, supra note 2, at n.78. Of those that 
subsequently came into compliance, our staff estimates that, based 
upon filings made with the Commission during the last year, 49 
percent did so solely as a result of one or more interested 
directors resigning from the board of directors, and 14 percent did 
so solely as a result of adding one or more independent directors. 
Thirty-seven percent of funds coming into compliance with the 75 
percent condition experienced a change in the composition of their 
boards as a result of (i) the addition of independent directors and 
the resignation or retirement of interested directors, (ii) the 
resignation or retirement of both independent and interested 
directors, or (iii) the addition of both independent and interested 
directors.
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    The Court directed our attention to gaps in the rulemaking record. 
We now solicit comment regarding current cost data, including such 
items as implementation data for funds that have voluntarily complied 
with either or both of the conditions. We also request comment on any 
other costs that funds may incur, in coming into compliance with the 
two conditions, that were not identified in the Remand Release. We are 
particularly interested in the costs incurred by small fund groups.\12\
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    \12\ For purposes of the Small Business Regulatory Enforcement 
Fairness Act of 1996, we request comment on the potential impact of 
the conditions on the U.S. economy on an annual basis. 5 U.S.C. 
804(2). In addition, we incorporate the Regulatory Flexibility Act 
analyses contained in the prior Commission releases, including the 
solicitation of comments therein.
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    With respect to the 75 percent condition, we request comment 
generally on both the monetary and non-monetary costs that funds 
experienced specifically relating to compliance. What were the costs of 
hiring and recruiting independent directors? \13\ Has the increased 
percentage resulted in the hiring of additional legal or other 
resources to support the independent directors? If so, what are the 
associated costs?
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    \13\ Our staff estimates that, based upon filings made with the 
Commission during the last year, 54 percent of funds that came into 
compliance with the 75 percent condition solicited a shareholder 
vote to elect directors.
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    What were the monetary and non-monetary costs to funds of complying 
with the independent chair condition? \14\ What were the costs of 
hiring and compensating an independent chair? Do independent chairs, as 
we anticipated they might, use additional legal services? If so, how 
much? Did they hire additional staff? If so, what are the associated 
costs? The Court, in discussing the two conditions in its April 7 
opinion, found that the Commission viewed the costs to an individual 
fund of the independent chair condition to derive principally from the 
increased compensation for the independent chair and the costs of 
additional staff, without allowing sufficient comment on these matters. 
Are there other costs that should be taken into account? Are there 
better sources of information than those upon which the Commission 
relied?
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    \14\ See Adopting Release, supra note 2, at n.81. Our staff 
estimates, based upon filings made with the Commission during the 
last year, 97 percent of newly selected independent chairmen were 
selected from among the incumbent independent directors.
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    Comment on costs may be made on an industry-wide basis or on an 
individual fund basis. Comments that are accompanied by supporting data 
and analysis are of greatest assistance.\15\
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    \15\ The Commission considers costs in connection with its 
obligations under section 2(c) of the Investment Company Act, which 
requires the Commission, when engaging in rulemaking that requires 
it to consider or determine whether an action is necessary or 
appropriate in the public interest, to consider whether the action 
will promote efficiency, competition, and capital formation. See 15 
U.S.C. 80a-2(c). We solicit comment on any other aspect of the 
conditions that would affect this consideration.
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    Finally, we note that the underlying purpose of the two conditions 
was, and remains, the protection of funds and fund shareholders, and 
that, as we have been reminded by the Court, we are bound in this 
rulemaking under the Investment Company Act to consider ``whether the 
action will promote efficiency, competition, and capital formation.'' 
For these reasons we solicit comment on any issue related to the 
underlying purpose of the two conditions, and any issue related to our 
required determination whether the amendments promote efficiency, 
competition, and capital formation.

    By the Commission.

    Dated: June 13, 2006.
Nancy M. Morris,
Secretary.
[FR Doc. 06-5493 Filed 6-16-06; 8:45 am]

BILLING CODE 8010-01-P
