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Court Refuses to Dismiss Excessive Advisory Fee Case

A federal judge recently refused to dismiss a complaint against Hartford Investment Financial Services alleging excessive investment advisory fees under section 36(b) of the Investment Company Act.  As Stradley Ronon's John Baker explains:

“According to the complaint, the defendant fund adviser pays sub-advisers to perform substantially all of the investment management services that it provides to the funds at a fraction of the fee it charges for such services. The complaint alleged that the management fees the defendant charges its funds are, on average, three times (and sometimes more than five times) the amount it pays its sub-advisers for substantially the same services. The complaint supported the allegation with a table comparing the language in the sub-adviser contracts with the similar language in the fund adviser's agreements. The defendant argued that it provides the funds with extensive administrative and investment management services that are not delegated to the sub-advisers, but the court ruled that this is a merits argument that is more appropriate at summary judgment.”

In discussing whether the fee is excessive under the Gartenberg test, the judge also addressed the complaint’s allegations that the funds’ board had not acted conscientiously in approving the advisory agreements.  Baker writes:

“The plaintiffs supported this allegation with claims that the board members are responsible for overseeing all 85 mutual funds in the complex, a task that precludes them from assessing each fund individually; that truly independent directors would not have approved the management fees in light of the adviser's minimal services, economies of scale, profitability, and exorbitant fees; that the fund adviser was the subject of an SEC cease and desist proceeding regarding improper use of fund assets; and that a comparison to the far lower fees charged by Vanguard for similar services is evidence that the board should have known that the adviser's fees were excessive. The court ruled that, while these allegations are certainly not dispositive, when taken together they create an inference that the board of directors may not have adequately considered important facts when approving the management fees, and the directors' approval requires somewhat less deference than it would have had they diligently performed their watchdog role.”

The order and complaint are attached to this post.