October 25, 2021

Volume XI, Number 298


Court Dismisses Plaintiffs’ Excessive Fee Claim against Mutual Fund Adviser Following Trial

On September 27, 2019, following a two-week bench trial, the U.S. District Court for the Southern District of New York dismissed an action brought by mutual fund shareholders under Section 36(b) of the Investment Company Act of 1940 against the fund’s investment adviser alleging that the adviser breached its fiduciary duty to the fund by charging excessively high investment advisory fees. The court concluded that the plaintiffs failed to meet their burden to prove that the investment adviser breached its fiduciary duty under Section 36(b). Specifically at issue in the trial were four of the Gartenberg factors: (1) the nature and quality of services provided to the fund; (2) the profitability of the fund to the investment adviser; (3) comparative fees; and (4) the care and conscientiousness with which the independent trustees performed their duties, i.e., whether the board’s approval of the advisory fee deserved substantial deference by the court. The court had previously granted partial summary judgment to the defendant with respect to the other two Gartenberg factors: fall-out benefits and economies of scale.

The court’s findings regarding the Gartenberg factors at issue were as follows:

  • Nature and Quality of Services. The plaintiffs contended that the fund’s performance was poor and that the independent trustees offered only “fig-leaf responses” to questions concerning the adviser’s performance in managing the fund. In response, the court indicated that the independent trustees were “fully apprised of the fund’s performance history and [the adviser’s] efforts to improve performance.” The court found that the adviser’s “substantial efforts to improve performance and the Fund’s more recent uptick in performance further lessens the importance of the Fund’s struggles with performance during the relevant period.”

  • Profitability. Although both parties presented competing profitability estimates, the court concluded that those estimates fell within the range of profitability that had been deemed by other courts not to be indicative of excessive fees and there was no other evidence indicating that the profit margins were excessive. The court also concluded that the adviser’s methodology for calculating profitability, including its allocation of indirect costs on the basis of assets under management, was consistent with industry standards and accepted accounting principles, noting that “because there are a range of reasonable and acceptable judgments and methodologies that can be used [to calculate profitability], and which will all produce a range of different but equally reasonable results, there is no one 'true' profitability figure.”

  • Comparative Fees. The court disagreed with the plaintiffs’ contention that the fee charged to the fund was excessive based upon a comparison of the fees charged with (1) fees charged to peer funds and (2) fees charged to the adviser’s sub-advised and institutional clients. As to the peer comparisons, although the fund’s fee was above its peer group and category medians, the court concluded that such comparisons did not support plaintiffs’ argument that the adviser’s fee was excessive and not reflective of arm’s-length bargaining, noting that plaintiffs could not prevail by demonstrating solely that the fees are higher than those charged to peer funds and that “Section 36(b) does not require that a fund experiencing below-median performance must charge a below-median fee.” The court also agreed with the adviser’s expert witness that it made “economic sense” for investors to consider expense ratios. As to the other accounts, the court found that the fees charged to the adviser’s other accounts are “inapt comparators” to the fund’s fees since the adviser “provides substantially more services—and undertakes substantially more risks—in advising the Fund.” The court acknowledged the greater extent of services and risks when serving as an adviser (as opposed to a sub-adviser) to a fund in areas such as legal (i.e., litigation risk), regulatory and compliance, and noted the adviser’s ongoing responsibility for activities conducted through service providers.

  • Care and Conscientiousness of the Independent Trustees’ 15(c) Review. Contrary to the plaintiffs’ allegation that the independent trustees were not properly apprised of the differences in services provided and risks undertaken by the adviser in advising the fund as compared to its institutional or sub-advisory clients, the court concluded that the independent trustees engaged in a “robust review” of these differences, citing, among other things, information provided to the independent trustees related to the 15(c) process throughout the year. The court found that “the weight of credible trial evidence makes clear that the Independent Trustees were fully informed, conscientious and careful in approving [the investment adviser’s] annual advisory fee” and consequently, “substantial deference to the Independent Trustees’ decision is warranted.”

The court concluded that of the six Gartenberg factors, only one—the quality of services provided to the fund—“even marginally tends to support Plaintiffs’ claim,” with the other factors weighing decisively in the adviser’s favor. Thus, the court concluded that the plaintiffs failed to prove that the adviser received an excessive investment advisory fee from the fund.

The case is Chill v. Calamos Advisors LLC, Case No. 15-cv-1014 (ER) (S.D.N.Y. Sep. 27, 2019).

© 2021 Vedder PriceNational Law Review, Volume IX, Number 326

About this Author

Jacob Tiedt,Vedder Price law firm investment services attorney

Jacob C. Tiedt is a Shareholder at Vedder Price and a member of the Investment Services group.

Mr. Tiedt’s practice includes the representation of registered mutual funds, closed-end funds and exchange-traded funds; private funds; investment advisers; and other financial institutions on a broad range of regulatory, governance and compliance matters. Mr. Tiedt regularly counsels clients on matters relating to SEC registration, disclosure and compliance; shareholder solicitation; NYSE, Nasdaq and FINRA regulation; corporate governance; and board administration. Mr....

John Marten Investment Attorney Vedder Price Law FIrm

John S. Marten, a Shareholder in the Chicago office of Vedder Price, has substantial experience representing clients in the investment management industry.

As a member of the firm’s Investment Services group, Mr. Marten counsels clients on a wide variety of matters involving the application of the federal securities laws to investment companies, investment advisers and broker-dealers. He has significant experience counseling investment company clients with respect to new products and was recently involved in the creation of two mutual funds...

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Nathaniel Segal Investment Attorney Vedder Price Law Firm

Nathaniel Segal is counsel at Vedder Price and a member of the Investment Services group. He focuses his practice on investment companies and investment advisers in connection with the organization and operation of investment products and services, including traditional mutual funds, closed-end investment companies (including interval funds and listed closed-end funds), variable insurance products and registered hedge funds, as well as mutual funds utilizing complex hedging and absolute return strategies. Mr. Segal has experience in conducting transactional due diligence...

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