Just weeks after the Supreme Court agreed to determine the standard for judging claims of excessive fees under section 36(b) of the Investment Company Act, another court, the Court of Appeals for the 8th Circuit, has spoken on the issue, this time handing plaintiffs a rare but potentially significant victory. In this case, Gallus v. Ameriprise Financial, No. 07-2945 (8th Cir. Apr. 8, 2009), plaintiffs alleged that the adviser to the Riversource Funds had charged excessive fees, and therefore violated duties under Section 36(b) of the Investment Company Act. The Plaintiffs' case, as described by the Court of Appeals, was based on their assertions that (i) the fees charged the funds were significantly higher than those charged to other institutional clients whose accounts were managed in similar ways and (ii) that the adviser had purposefully misled the funds’ board when it responded to the board’s inquiries about the fees paid by institutional clients.
The court did not resolve any of the factual issues raised by the case or conclude that the plaintiffs’ factual assertions were correct. It did, however, reach a number of important legal conclsuions. First, the court held that section 36(b) has both substantive and procedural content. Specifically, the court held that even if a fee appears reasonable when analyzed pursuant to the Gartenburg factors, it can nonetheless be found to violate section 36(b) because of flaws in the negation process. According to the court,
Second, however, the court rejected the 7th Circuit’s market-based approach and the belief of others that, under Gartenburg, section 36(b) requires only a comparison with the fees charged by other competitors in the fund industry. Notably, the court in Gallus clearly believed that fees charged to seemingly similar institutional accounts can be relevant, holding that the district court “erred in rejecting a comparison between the fees charged to Riversource’s institutional clients and its mutual fund clients.” Although the court stated that judges should avoid substituting their business judgment for that of fund directors and did not state precisely how much weight directors should place on fees charged to institutional clients (particularly in light of potential differences in levels of servicer), it nonetheless noted that “the argument for comparing mutual fund advisory fees with the fees charged to institutional accounts is particularly strong in this case because the investment advice may have been essentially the same for both accounts.” The court thus rejected the view that fees in line with industry averages are necessarily reasonable for purposes of section 36(b).
The Gallus opinion thus offers a different approach to judicial review in excessive fees cases just prior to the Supreme Court’s consideration of the issue. Hence, while the 8th Circuit’s decision may not directly impact other pending or future cases, it does provide another approach for the Court to consider.
Finally, court watcher Stradley Ronon's John Baker opines on the lesson of this latest case for fund directors and advisers:
The full text of the 8th Circuit's opinion in Gallus v. Ameriprise Financial is available at: http://www.ca8.uscourts.gov/opndir/09/04/072945P.pdf
The court did not resolve any of the factual issues raised by the case or conclude that the plaintiffs’ factual assertions were correct. It did, however, reach a number of important legal conclsuions. First, the court held that section 36(b) has both substantive and procedural content. Specifically, the court held that even if a fee appears reasonable when analyzed pursuant to the Gartenburg factors, it can nonetheless be found to violate section 36(b) because of flaws in the negation process. According to the court,
[T]he plain language of section 36(b) impose[s] on advisers a duty to be honest and transparent throughout the negotiation process.” The Court stated that it found this approach to be consistent with the 7th Circuit’s holding in Jones v. Harris, concluding that “[w]e believe that the proper approach to section 36(b) is one that looks to both the adviser’s conduct during negotiation and the end result…. Unscrupulous behavior with respect to either can constitute a breach of fiduciary duty.
Second, however, the court rejected the 7th Circuit’s market-based approach and the belief of others that, under Gartenburg, section 36(b) requires only a comparison with the fees charged by other competitors in the fund industry. Notably, the court in Gallus clearly believed that fees charged to seemingly similar institutional accounts can be relevant, holding that the district court “erred in rejecting a comparison between the fees charged to Riversource’s institutional clients and its mutual fund clients.” Although the court stated that judges should avoid substituting their business judgment for that of fund directors and did not state precisely how much weight directors should place on fees charged to institutional clients (particularly in light of potential differences in levels of servicer), it nonetheless noted that “the argument for comparing mutual fund advisory fees with the fees charged to institutional accounts is particularly strong in this case because the investment advice may have been essentially the same for both accounts.” The court thus rejected the view that fees in line with industry averages are necessarily reasonable for purposes of section 36(b).
The Gallus opinion thus offers a different approach to judicial review in excessive fees cases just prior to the Supreme Court’s consideration of the issue. Hence, while the 8th Circuit’s decision may not directly impact other pending or future cases, it does provide another approach for the Court to consider.
Finally, court watcher Stradley Ronon's John Baker opines on the lesson of this latest case for fund directors and advisers:
What is the take-away from this case for fund boards and advisers? Most will rightly conclude that it would be premature to make significant changes to their advisory fee approval process until the Supreme Court's views are available. The Eighth Circuit opinion does, however, put pressure on fund advisers to explain and justify any arrangements they have for providing similar advisory services to other investors at fees that are lower than those charged to mutual funds.
The full text of the 8th Circuit's opinion in Gallus v. Ameriprise Financial is available at: http://www.ca8.uscourts.gov/opndir/09/04/072945P.pdf
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