Krasner v. Dreyfus Corp.Krasner v. Dreyfus Corp.
MEMORANDUM AND ORDER
Jоint application for approval of a proposed consolidated settlement of all four of these shareholder derivative cases is denied, without prejudice to renewal upon supplementation of the record as provided herein.
Petitions for attorneys’ fees shall await the Court’s decision on the proposed settlement.
BACKGROUND
Presently before the Court is a stipulation of settlement of four consolidated shareholder derivative actions brought on behalf of Dreyfus Liquid Assets, Inc. [“the Fund”], as well as related petitions for attorneys’ fees. Since the procedural history of these cases is rather unusual, a brief description of it is in order.
The first action was brought by Walter Untermeyer, Jr., on January 14, 1976, alleging that the Fund violated section 22 of the Investment Company Act of 1940,
On July 28, 1977, the parties in the
Krasner
and
Gross
cases entered into a stipulation of settlement, which they thereupon submitted to the Court for approval pursu
Untermeyer then appealed this Court’s approval of the settlement and award of attorneys’ fees. While this appeal was pending, Untermeyer moved to amend his complaint, which was pending before Judge Goettel, to add claims of excessivе management fees. Judge Goettel denied this motion, and Untermeyer thereafter filed a new complaint alleging such claims on November 21, 1978, which was assigned to Judge Griesa.
The Court of Appeals for the Second Circuit heard oral argument on Untermeyer’s appeal from the approval of the settlement in the Krasner and Gross cases on March 29, 1979. Then, on May 11, 1979, while the appeal was sub judice, Untermeyer’s attorney informed the Court of Appeals by letter that:
Subsequent to the argument, on behalf of my client an agreement was rеached with the attorneys for the investment advisor and the Fund. The new agreement, in my opinion, meets the . •objections and renders the controversy before this Court moot. The new agree-"' ment will, pursuant toRule 23.1 of the Federal Rules of Civil Procedure , be placed before the district court for approval, and notice of the new agreement will promptly be given to all shareholders. In view of the agreement reached, all parties to the appeal consent to have the appeal withdrawn without costs. 2
The letter enclosed an executed stipulation for withdrawal of the appeal, without costs.
On May 17, 1979, the Second Circuit granted the joint application to withdraw the appeal, stating in part:
On May 11, 1979, the court received a letter from counsel for the objecting stockholder stating that his objections had been removed, by a new agreement, whose terms were not disclosed, which would be placed before the district court for approval on notice to all shareholders
Before receiving this communication the court had concluded that the reasons given by the district court for approving the settlement were inadequate and that more detailed findings were demanded. In cases like these the interests of all stockholders and not simply those of the appealing stockholder must be taken into account. In dismissing the appeal without costs, as we do by this order, we wish to make clear that the district court should not deem its previous action a sufficient basis for approving the new settlement. We take no position on the mеrits, save in one respect. If the revised settlement involves payment over a term of years, we would be much concerned with any provision similar to that in the settlement here before us requiring the Fund to use its best efforts to require any new entity that might be chosen as manager to assume the obligations of The Dreyfus Corporation for unpaid instalments. Prima facie such a provision appears inconsistent with the purpose of the final paragraph of § 15(c) of the Investment Company Act.
Gross v. The Dreyfus Corporation,
At the suggestion of the parties, this Court then aсcepted transfer of the two
The Court then took “the extraоrdinary step” of bringing on its own motion to vacate the judgment. Id. at 6. After hearing the parties on July 5, 1979, the Court vacated its judgment in the Krasner and Gross cases, and afforded counsel an opportunity to submit a consolidated proposed settlement of all four actions, providing for new notice to shareholders. See Memorandum and Order (dated July 12, 1979).
The parties eventually did arrive at a comprehensive settlement, which they then submitted to the Court along with requests for awards of attorneys’ fees. Upon notice to all shareholders, the Court conducted a hearing оn the proposed settlement and attorneys’ fees petitions on June 12, 1980. No shareholder objected to the proposed settlement, although two shareholders objected to the attorneys’ fees petitions, contending that any award of fees should be paid by the Corporation and not the Fund.
TERMS OF SETTLEMENT
The Original Krasner/Gross Settlement
The original settlement of the Krasner and Gross cases, as contained in the stipulation of July 28, 1977, provided for the discontinuance of the actions in return for annual payments by the Corporation to the Fund for each of the years 1977 through 1986, in amounts ranging betweеn $150,000 and $250,000, with the payment for 1977 fixed at $200,000, and the precise amount for each subsequent year depending upon the average daily net asset value of the Fund that year. Although it was at the time difficult to predict what these payments would be, the recent rapid growth in the Fund’s assets makes it likely that the maximum $250,000 will be payable for 1979 and each year thereafter. 3
The original settlement further provided that instead of making outright cash payments to the Fund, the Corporation would assume certain recurring expenses theretoforе paid by the Fund, including expenses for printing prospectuses, for investor services, and for certain other services. If the amount payable under the stipulation exceeded such expenses for a particular year, the Corporation would pay the excess to the Fund in cash.
Additionally, the stipulation contained the following provision:
In the event that prior to December 31, 1986, neither the Corporation nor any Successor shall continue as the Fund’s manager, the Fund agrees to use its best efforts to require any person assuming the management function to abide by the terms of the Stipulation of Settlement, and if the obligations of the Corporation thereunder are assumed by such person, the Corporation’s obligation thereunder shall cease.
As already noted, the Court of Appeals has expressed its opinion that this provision appears inconsistent with section 15(c) of the Investment Company Act,
The Amended Krasner/Gross Settlement
The amended stipulation of settlement retains the original settlement’s payment formula for annual payments bеtween 1977 and 1986, except that the payments will be made in cash or by a reduction of the management fee, rather than by assumption of
Over and above such payments, the amended settlement contains additional benefits for the shareholders. First, the Corporation will bear all expenses of printing and distributing prospectuses. Second, the Corporation has agreed to alter the rate of its annual management fee, which has until now been a flat 0.5% of average daily net assets. Under the revised formula, the fee would be determined by the following sliding scale:
Rate Average Daily Net Assets of Fee
First $1.5 billion 0.50%
Between $1.5 and $2 billion 0.48%
Between $2 and $2.5 billion 0.47%
Over $2.5 billion 0.45% 5
If approved, this fee reduction will apply for the year 1979 and all years thereafter, not merely through 1986.
Finally, the parties have eliminated the provision found objectionable by the Court of Appeals. The amended settlement provides:
Notwithstanding any provision of the original Krasner/Gross Stipulation, and superseding any obligation to the contrary included in said Stipulation, neither the Fund nor its directors shall have any obligation to attempt to have a successor manager assume the obligations of the Corporation under the Stiрulation [original] and the [revised stipulation].
The Untermeyer Settlements'
The parties have agreed to discontinue Untermeyer’s first action provided that the Fund includes the following disclosure provision in its prospectus to prospective shareholders:
There are various methods of valuing the assets and of paying dividends and distributions from a money market fund. In general, the Company values its assets at available bid prices or yield equivalents for the securities being valued or for comparable securities. The Company rounds its net asset valuе per share to the nearest $.01 on a $1.00 price and expects that the Company’s price per share for purposes of sales and redemptions will remain at $1.00. The Company pays dividends only from net investment income. The Securities and Exchange Commission has issued an Order of Exemption from the applicable provisions of the Investment Company Act of 1940, permitting the Company to engage in this method of valuation and pricing. Certain other money market funds value their assets at cost and pay dividends consisting only of net investment income. Other money market funds value their asserts at market and pay dividends consisting of net investment income plus or minus realized and unrealized appreciation or depreciation of principal. Accordingly, the reported yields of the Company may not be comparable with the reported yield of certain other mutual funds having investment objectives similar to the Company’s.
As to Untermeyer’s second action, the parties propose that it be discontinued on the basis of the аmended settlement in the Krasner and Gross cases.
Attorneys’ Fees Petitions
In its Memorandum Decision and Order dated June 30, 1978, the Court approved a request by counsel for plaintiffs for fees of $266,898.11, plus expenses of $3,101.89. Since the value of counsel’s time at non-contingent billing rates was found to be $126,798.50, the Court’s award included a “risk multiplier” of approximately 2.17 to compensate for the risks of litigation assumed by counsel. Counsel for Krasner and Gross now seek an additional $80,000, of which $2,467.91 represents additional expenses, and $77,532.09, additional fees, for their efforts in (1) opposing the Untermeyer appeal, and (2) negotiating the consolidated settlement of all four instant actions.
Counsel for Untermeyer has submitted an application for an award of $100,000 in fees and expenses. As part of the overall settlement of these actions, the defendant Corporation has agreed to pay Untermeyer’s counsel’s fees.
DISCUSSION
The Krasner/Gross Settlement
Given the Court of Appeals’ admonition in its Memorandum Order dismissing the intervenor’s appeal, this Court may not rely on its earlier approval of the original settlement in the Krasner and Gross cases as a basis for approving the amended settlement. Accordingly, the Court approaches the amended settlement de novo.
In
Desimone
v.
Industrial Bio-Test Laboratories, Inc.,
First, the proponents have the burden of proving that (1) the settlement is not collusive but was reached after arm’s length negotiation; (2) the proponents are counsel experienced in similar cases; (3) there has been sufficient discovery to enable counsel to act intelligently and (4) the number of objectants or their relative interest is small. If the proponents establish these propositions, the burden of attacking the settlement then shifts to the objectants, if any. Finally, the court must approve the settlement only after finding it to be reasonable in light of the plaintiffs’ ultimate probability of success in the lawsuit.
In determining reasonableness, the courts in this circuit have not applied any single, inflexible test. Instead, they have considered the amount of the settlement in light of all the circumstances, including such factors as: (1) the best possible recovery; (2) the likely recovery if the claims were fully litigated; (3) the complexity, expense and probable duration of continued litigation; (4) the risk of establishing liability; (5) the risk of establishing damages; (6) the risk of maintaining the class action throughout trial; (7) the reaction of the class to the settlement; (8) the stage of the proceedings and (9) the ability of the defendants to withstand a greater judgment.
Id. at 618-19 (footnotes omitted).
Here, the amended settlement of the
Krasner
and
Gross
actions, upon which the dismissal of the second
Untermeyer
complaint also deрends, is the product of arm’s length negotiations,
6
between capable and experienced attorneys. Moreover, although notice of the proposed revised settlement has been sent to approximately 200,000 shareholder accounts, not one person has objected to the substantive terms of the
On the question of risk of liability, what the Court expressed in its June 30, 1978 Memorandum Decision and Order remains true: “there has never been a recovery, on the merits, in a suit claiming excessive advisory fees.” Memorandum Decision and Order,
supra,
at 4. Cónsequently, it is very difficult to predict whether, after litigation, a flat rate of 0.5% of average daily net asset value regardless of the Fund’s size, would be found unfair, and thus a violation of the statute. This is not to say, however, that any fees charged by an investment advisor are acceptable. Section 36(b) of thе Investment Company Act,
One source suggests that an evaluation of fairness requires not merely a comparison of a particular adviser’s fees to industry norms, but rather a more detailed analysis of at least seven factors:
(1) “[t]he nature, quality and extent of the service to be rendered”; (2) “the extent to which economies of scale and сommon management [in the case of a fund complex] were shared with the fund”; (3) whether “comparable charges [were] made by the adviser” to other investors and whether those charges are prevalent within the fund industry; (4) “the value of all other benefits received” by the fund; (5) whether the directors approved and the shareholders ratified the advisory fee agreement; (6) whether there was complete and effective disclosure of all pertinent information by the adviser; and, (7) whether the deliberations of the directors were a matter of substance or a mere formality.
Note, Mutual Fund Advisory Fees-Too Much for Too Little?, 48 Fordham L.Rev. 530, 545-46 (1980).
As to the various questions relating to damages, it is likewise at this point exceedingly difficult to estimate “the risk of establishing damages,” “the best possible recovery,” or “the likely recovery if the claims were fully litigated.” Under section 36(b), the plaintiffs are limited to recovery of “actual damages resulting from the breach of fiduciary duty,” which means they would have to prove the amount by which the 0.5% fee exceeded a fair fee.
The proponents of the amended settlement have offered little evidence from which to determine “fairness.” Accordingly, the Court has undertaken some limited research on its own to learn the fee arrangements of comparable funds. What the Court has discovered, which it suggested to the proponents at the hearing on the instant application, is that some funds base their fees upon sliding scales that are substantially steeper than the one contained in the amended settlement. The following is
Rate Average Daily Net Assets of Fee
First $0.5 billion 0.500%
Between $0.5 and $0.75 billion 0.425%
Between $0.75 and $1 billion 0.375%
Between $1 and $1.5 billion 0.350%
Between $1.5 and $2 billion 0.325%
Between $2 and $2.5 billion 0.300%
Over $2.5 billion 0.275%
The following is the fee scale of the Inter-Cаpital Liquid Asset Fund Inc.: 9
Rate Average Daily Net Assets of Fee
First $0.5 billion 0.500%
Between $0.5 and $0.75 billion 0.425%
Between $0.75 and $1 billion 0.375%
Between $1 and $1.5 billion 0.350%
Between $1.5 and $2 billion 0.325%
Between $2 and $2.5 billion 0.300%
Between $2.5 and $3 billion 0.275%
Over $3 billion 0.250%
For average daily net assets of $3 billion or less, therefore, the InterCapital rate is the same as Merrill Lynch’s.
In order to compare the actual monetary difference between these fee formulas and the one contained in the amended settlement, the Court must ascertain or estimate the net asset value of the Fund during the years for which recovery may be had under the instant complaints. Section 36(b) of the Investment Company Act provides that “[n]o award of damages shall be recоverable for any period prior to one year before the action was instituted.” The Krasner complaint was filed on March 29, 1976; consequently, the starting date for the computation of any recovery is March 29, 1975.
According to the Fund’s 1975 annual report, the management fee paid to the Corporation in 1975 was approximately $4.5 million; thus the Fund’s average daily net asset value for 1975 was approximately $0.9 billion. 10 The parties agree that on December 31, 1976, the Fund’s total net assets were “slightly in excess of” $0.8 billion; thus, in the absenсe of a better estimate, the Court will use this figure as the average daily net asset value for that year.
The parties have further informed the Court that “the Fund’s average daily net asset value has been over [$1.5 billion] since August 10, 1979, and has been approximately [$3.0 billion] for the past several months.” Using a very rough interpolation, the Court therefore estimates the Fund’s average daily net asset value as $0.9 billion for 1977, $1.2 billion for 1978, and $1.5 billion for 1979. Additionally, while the Fund’s net asset value is likely to grow in the future, the Court will simply assume for the purposes of this аnalysis that it will remain constant at $3.0 billion for 1980 and thereafter. 11
On the basis of these estimates, the following table shows the advisory fee payable for the last nine months of 1975, and each year thereafter, under three different formulas: (1) a flat 0.5% rate as charged by the Corporation prior to the settlement of these actions; (2) the rate provided in the amended settlement, taking into account both the sliding scale fee reduction schedule, and the cash payments for 1977 through 1986; and (3) the Merrill Lynch and InterCapital rates, which are the same here, since the average daily net asset value is presumed never to exceed $3 billion.
----ADVISORY FEE ($ Million)--
(1) (2) (3)
YEAR AV. DAILY NET ASSETS ($ Billion) 0.5% Rate Settlement Rate Merrill/Inter-Capital Rate
1975 0.9 3.38 3.38 •3.09
(3/i year)
1976 0.8 4.00 4.00 3.75
1977 0.9 4.50 4.30 4.13
1978 1.2 6.00 5.75 5.20
1979 1.5 , 7.50 7.19 6.25
1980 through) 1986 ) 3.0 15.00 14.19 10.75
1987 and) after ) 3.0 15.00 14.50 10.75
It should be remembered that the amended settlement also provides that the Corporation will assume the cost of printing prospectuses, which had, at the time of the complaint, been borne by the Fund. This added benefit is not reflected in the table above, however, since the Court does not know whether the Merrill Lynch and Inter-Capital funds had comрarable arrangements.
Also, the Court recognizes the limitations of this table, and takes no position at this time as to whether the Merrill Lynch and InterCapital formulas represent either the best or a likely result. Since there are apparently numerous funds which pay a flat advisory fee of 0.5% of average daily net asset value, 12 there is at least some chance that after a full trial on the merits, such a rate would be found to be fair in this case. Nonetheless, the table does suggest that further inquiry may be in order.
In deciding whethеr to approve the amended settlement, the Court is well aware that its function is “not to substitute [its] business judgment for that of the negotiators who bargained at arm’s length, but only to insure that the arrangement is not so unfair as to require disapproval.”
Desimone, supra,
What most concerns the Court are not the fees that would be payable under the amended settlement for the years 1975 through 1979, but rather, the fees payable thereafter. The relatively gentle slope of the amended settlement’s sliding fee scale suggests to the Court that the Corporation is unwilling to share with the Fund-in more than a trifling way-the substantial economies of scale that must necessarily have resulted from the Fund’s recent explosive growth. When this Court approved the original settlement in these cases, the annual advisory fee payable to the Corporation was under $5 million. The annual advisory
CONCLUSION
Accordingly, the Court declines to approve the proposed amended settlement without further evidence of the best possible recovery and the probable recovery in these eases. Such evidence should include a comparison of fees paid by all competitive funds of reasonably comparable size, as well as evidence with respect to the sеven factors mentioned above as pertinent to a determination of the fairness of an advisory fee. Moreover, to the extent that the Court’s estimates of the Fund’s average daily net asset value for the relevant years are inaccurate, the proponents should provide more precise figures.
The Court’s decision on the proposed settlement of Untermeyer’s first complaint, and the petitions for attorneys’ fees shall await the proponents’ supplementation of the record as suggested herein. The proponents shall advise the Court, as soon as possible, of the amount of time they will need to comply.
SO ORDERED.
Notes
. The executors of the Estate of Joseph Rosenbach also objected on grounds essentially similar to those urged by Untermeyer. See Objections to Proposed Settlement (filed Sept. 7, ¡977).
. See Memorandum and Order at 3, Nos. 76 Civ. 1478 (JMC), 76 Civ. 4010 (JMC) (S.D.N.Y. dated June 27, 1979; filed June 28, 1979).
. See Affidavit of Abraham L. Pomerantz in Support of Settlement and Fee Application at 5 6 (filed May 19, 1980).
. See Memorandum of Defendants The Dreyfus Corporation, Jerome S. Hardy, Joseph S. Di Martino, and William Berkowitz in Support of the Proposed Settlement at 8.
. As the .Court understands it, this scale would operate in the following fashion. If, for example, the average daily net assets for a particular year were $3 billion, the total advisory fee payable for that year would be:
0.5% of the first $1.5 billion, or $7.5 million, plus 0.48% of the next $0.5 billion, or $2.4 million, plus 0.47% of the next $0.5 billion, or $2.35 million, plus 0.45% of the remaining $0.5 billion, or $2.25 million, for a total of $14.5 million.
The amended settlement provides that this fee scale will be submitted to the shareholders of the Fund. See Amendment of Stipulation of Settlement 6 (filed March 20, 1980).
. See Affidavit of Joan T. Harnes at 4 -5 (filed May 2. 1980).
. See Memorandum of Defendants, etc., supra note 4, at 17. In all, only two shareholders have filed objections, and these objected to the Fund’s having to pay the fees of the plaintiffs’ attorneys in the Krasner and Gross cases.
. Prospectus of Merrill Lynch Ready Assets Trust at 12 (April 30, 1980); Prospectus of Merrill Lynch Ready Assets Trust II at 13 (June 10, 1980).
. Prospectus of InterCapital Liquid Asset Fund Inc. at 14-15 (Jan. 1, 1980). This fund is managed by a wholly-owned subsidiary of Dean Witter Reynolds Organization Inc.
. See Affidavit of Sydney B. Silverman, Esq., In Opposition to Proposed Settlement, Exhibit D, at 6 (filed Oct. 4, 1977) (copy of Dreyfus Liquid Assets, Inc., Annual Report, Dec. 31, 1975).
. Such an assumption is expressly invited by counsel for Krasner. See Affidavit of Abraham L. Pomerantz, Esq., In Support of Settlement and Fee Application at 6 n.* (filed May 19, 1980).
. See Note, Mutual Fund Advisory Fees Too Much for Too Little?, 48 Fordham L.Rev. 530, 534 (1980).