Last week the D.C. Circuit issued an “opinion [pdf]”:http://pacer.cadc.uscourts.gov/docs/common/opinions/200506/04-1300a.pdf upholding the SEC’s power to mandate independent directors for mutual funds. The court further held, however, that in actually implementing the rule, the SEC violated the Administrative Procedure Act by failing to adequately account for the costs such a rule would impose on the industry, and failing to consider whether simple disclosure of the status of directors would be sufficient. The court remanded the matter to the Commission, ordering it to address the concerns identified in the opinion.
Remarkably, Chairman Donaldson “led the charge”:http://www.sec.gov/news/speech/spch062905whd-b.htm to approve the regulation based on the existing record in a meeting of the Commission yesterday. Coincidentally, Donaldson’s last day on the job is today. Commissioner Cynthia Glassman summarizes in her “dissenting remarks”:http://www.sec.gov/news/speech/spch062905cag.htm in the open meeting:
bq. On the same day that the Court issued its decision, I received an e-mail message from the Chairman’s chief of staff informing me, without prior consultation, that the staff had reviewed the Court’s opinion and “concluded that the court’s concerns can be addressed on the basis of the record already before the Commission.” As such, the Chairman determined that this matter would be on today’s open meeting agenda - a mere week following the Court’s remand.
I’m just a novice getting my feet wet in the law, policy, and politics of securities regulation–indeed, given my lack of expertise, I have no firm opinion on the merits of the rule in question–but Donaldson’s approach in rushing to reapprove the independant director requirement seems to be in clear contravention of the D.C. Circuit’s opinion. Consider this: the court specifically noted in its opinion that the Commission itself acknowledged in a footnote in the adopting release that an independent chairman “may choose to hire [more] staff” but it stopped there because, it said, it had no “reliable basis for estimating those costs.” Yet now, just a week after the ruling and with no effort to gather additional information, the Chairman believes the Commission has a “reasonable basis?”
Further, the court specifically addressed the Commission’s obligation in considering disclosure alternatives to the independant director requirement:
bq. In sum, the disclosure alternative was neither frivolous nor out of bounds and the Commission therefore had an obligation to consider it. The Commission may ultimately decide the disclosure alternative will not sufficiently serve the interests of shareholders, but the Commission – not its counsel and not this court – is charged by the Congress with bringing its expertise and its best judgment to bear upon that issue.
If the Commission had not exercised its “expertise and best judgment” prior to the original adopting release, how can it possibly have done so a mere week after the court’s ruling? Glassman’s dissent excoriates Donaldson for all of this and more, and is well worth reading. Indeed, Glassman closes by apologizing to the court and to the SEC staff for the conduct of the Commission following the ruling. Professor Ribstein “discusses”:http://busmovie.typepad.com/ideoblog/2005/06/forcing_the_sec.html “the”:http://busmovie.typepad.com/ideoblog/2005/06/donaldsons_stil.html “situation”:http://busmovie.typepad.com/ideoblog/2005/06/more_on_donalds.html “here”:http://busmovie.typepad.com/ideoblog/2005/06/still_more_on_d.html, and Professor Gordon Smith “comments”:http://www.theconglomerate.org/2005/06/donaldsons_rene.html on Glassman’s dissent.
I have two thoughts. First, to give Chairman Donaldson the benefit of the doubt, it seems possible that over the course of the litigation involving this rule culminating with the decision of the D.C. Circuit, that the Commission and Staff of the SEC has established additional justification for the rule that was not present when the adopting release was issued. If that is truly the case, then perhaps it is possible to incorporate that additional evidence into the new proposal adopted this week. However, Donaldson does not appear to make that argument in his remarks. Second, Donaldson concludes his remarks by noting:
bq. Our failure to act would, I fear, throw the future of this rulemaking into an uncertain limbo until a new Chairman is confirmed and the new Chairman is able to familiarize himself with the rulemaking record and the policy considerations weighing for and against the decision that we made last year. Today, however, we have intact the full complement of Commissioners who have spent the last year-and-a-half thinking about the issues raised in this rulemaking, and with my imminent departure from the Commission, today is the last opportunity to bring the collective judgment and learning of we five Commissioners to bear on the important questions presented to us by the Court.
This remark smacks of arrogance. I note that although Donaldson refers to the five Commissioners present, he is the only one of the five actually leaving, as far as I know. Indeed, this comments seems to boil down to Donaldson’s fear that in his absence, either (a) the rule won’t be implemented as he envisions, or (b) he won’t get credit for it. The notion that Christopher Cox, the incoming Chairman, won’t be able to adequately get his arms around the issue is a bit condescending.
*Update:* A bit more from “Ribstein”:http://busmovie.typepad.com/ideoblog/2005/07/cass_and_manne_.html. The Financial Times has a “story”:http://news.ft.com/cms/s/158583a6-e903-11d9-87ea-00000e2511c8.html: “Mr Cox should consider what the US can learn from international experience. A UK style ‘comply-or-explain’ principle eliminates many of the problems associated with prescriptive regulations.”