Meyer v. Oppenheimer Management Corp.

Brief Fact Summary.

A shareholder in Daily Cash Accumulation Fund, Inc. (the Fund),Richard Meyer (Plaintiff), filed suit under the Investment Company Act of 1940 (Act) challenging a money market mutual fund distribution plan adopted under Rule 12b-l. Meyer alleged that information of negotiations regarding the sale by one of the owners of its interest in the fund’s investment adviser should have been provided to the directors and shareholders;an unfair burden was established by the distribution plan and forced by the investment adviser’s sale; and that the distribution and advisory fees were imbalanced and extreme.

Synopsis of Rule of Law.

(1) The sale of an ownership interest in a mutual fund’s investment adviser is not material to the implementation of a 12b-1 plan as per the Investment Company Act of 1940 (Act) if the 12b-1 plan is being sought for the economic survival of the fund not related to the selling of the ownership interest.
(2) An unfair burden is not forced on the fund in violation of the Act where a 12b-1 distribution plan is implemented by the sale of an ownership interest in a mutual fund’s investment adviser, but implementation like that is not the outcome of the sale.
(3) The advisory and 12b-1 fees under the Act are not extreme where the fees looked at separately are not extreme in connection with the services performed.

Facts.

A shareholder, Richard Meyer, in the Fund, a money market mutual fund controlled by the Act. Centennial Capital Corp. (Centennial) was the Fund’s investment adviser, which was partly owned by Oppenheimer & Co. and its subsidiaries (collectively, “Oppenheimer”) (Defendant). The remaining portion of Centennial was owned by four stockbroker entities (collectively, “the Brokers”) with the Fund serving as a way for the Brokers to provide liquid investments to their clients, and those clients and the Brokers owned over 90% of the Fund. A fee was charged by Centennial based on the total assets of the Fund. The Securities and Exchange Commission (SEC) promulgated Rule 12b-1 in 1980, allowing an open-ended investment company to utilize fund assets to pay sale and distribution expenses usually assumed only by brokers. Two of the Brokers stated they would withdraw their clients from the Fund unless it implemented a Rule 12-b distribution plan in response to the new rule. The implementation by the directors and shareholders of a plan like that was suggested by Centennial and issued a proxy statement regarding the plan, with the plan being approved by shareholders at the next annual meeting. Oppenheimer, at the same time and lacking the knowledge of directors at Centennial or directors of the Fund, chose to sell its share in Centennial to Mercantile House Holdings (Mercantile).  The Fund’s board of directors authorized a new investment advisory agreement to show Centennial’s new ownership, as required by the Act. Suit was filed by Meyer challenging the distribution plan and purporting that the shareholders and directors should have been privy to the negotiations regarding Oppenheimer’s sale of its interest in Centennial; stating that an unfair burden was imposed by the distribution plan by the sale of the investment adviser and that the distribution and advisory fees were extreme and imbalanced. Meyer’s allegations were considered by the Fund’s board and determined they were baseless. The claims were also found without merit by the district court and it dismissed them. The court of appeals granted review.

Issue.

(1) Is the sale of an ownership interest in a mutual fund’s investment adviser material to the implementation of a 12b-1 plan as per the Investment Company Act of 1940 (Act) if the 12b-1 plan is being sought for the economic survival of the fund not related to the selling of the ownership interest?
 (2) Is an unfair burden forced on the fund in violation of the Act where a 12b-1 distribution plan is implemented by the sale of an ownership interest in a mutual fund’s investment adviser, but implementation like that is not the outcome of the sale?
 (3) Are the advisory and 12b-1 fees under the Act extreme where the fees looked at separately are not extreme in connection with the services performed?

Held.

(Winter, J.) No. The sale of an ownership interest in a mutual fund’s investment adviser is not material to the implementation of a 12b-1 plan as per the Investment Company Act of 1940 (Act) if the 12b-1 plan is being sought for the economic survival of the fund not related to the selling of the ownership interest.The allegation by Meyer that Oppenheimer failing to inform the Fund directors of the sale and the missing information from the proxy statement are material non-disclosures that nullify the 12b-1 plan is denied. The Act’s rules require an investment advisory company to provide information such as that as reasonably needed to an informed decision of if a 12b-1 plan should be continued or adopted. Oppenheimer’s interest sale, though, was immaterial to the authorization of the 12b-1 plan, which was proposed to stay competitive and to stop the Brokers from leaving the fund, as the evidence amply proved. The two incidents are separate of one another.
(2) No. An unfair burden is not forced on the fund in violation of the Act where a 12b-1 distribution plan is implemented by the sale of an ownership interest in a mutual fund’s investment adviser, but implementation like that is not the outcome of the sale. Similarly, the argument that the sale of Centennial forced an unfair burden on the Fund in violation of § l5(f) of the Act is also denied. Congress stated in § l5(f) that in relation to a sale of a fund by an investment adviser to another there is no unfair burden forced on such company due to such sale or any terms, understandings or conditions applicable thereto. The definition of an unfair burden includes any arrangement where the investment adviser is given compensation for other than bona fide investment advisory services no longer than two years post transaction. Meyer alleges that the plan is that compensation, however, the unfair burden must be a “result†of the sale. Due to Meyer not being capable of demonstrating that the 12b-1 plan was implemented as a result of the Oppenheimer-Mercantile sale, his unfair burden allegation must fail.
(3) No. The advisory and 12b-1 fees under the Act are not extreme where the fees looked at separately are not extreme in connection with the services performed. Regarding if the advisory and 12b-1 fees were extreme as per § 36(b) of the Act, the fees must be unreasonably massive in comparison to the services performed that they show no reasonable affiliation to those services and could not have been the result of arm’s-length negotiating. An allegation that payments made under 12b-1 are extreme when put together with advisory fees is cognizable under § 36(b), where both payments are made to “affiliated persons” of an investment adviser, this does not mean that 12b-1 payments to an adviser’s affiliates should be combined with advisory fees to decide the merits of a  § 36(b) claim. The two types of payments are for completely different services, if the fee for each service looked at individually is not extreme in connection with the service performed then the two together is not extreme either. In this case, the district court found neither payment extreme and as a result of the evidence supporting this finding, it is not clearly erroneous. Affirmed.

Discussion.

An assumption made in this case by the court was that a severe and fast draining of the Fund’s asset value by removing brokers and their clients would have compelled the investment adviser to participate in damaging choices and would have inflated costs to the individual shareholders. Meyer contended that asset size does not matter to shareholders but the court stated that a severe and rapid loss in asset size may cause the fund to disburse assets rashly and that the outcome of lower assets would be inflated advisory fees to the shareholders that remain. The implementation of the 12b-1 plan was characterized by the court as vital for the fund’s economic survival, a ground for holding that the implementation of a plan like that is not related to the sale of an ownership interest in the investment adviser.