At Bridgeway Funds Inc., candor is a constant philosophy, even in the face of adversity and even when that adversity involves a settlement with the Securities and Exchange Commission.
As John Montgomery, Bridgeway president, noted in a recent letter to the mutual fund company's shareholders: "One principle that guides our decisions, both large and small, is considering the question ‘What is in the best long-term interests of current shareholders?' A tradition that has grown out of this philosophy is reporting to shareholders in the annual report what we consider to have been the worst thing that happened during the fiscal year."
That declaration introduces an explanation of the SEC settlement with Bridgeway and Mr. Montgomery. His letter is remarkably candid, acknowledging "…we broke the rule…" and "I am the one at fault." Those admissions stand in contrast to the statements of other mutual fund companies settling with the SEC over alleged improper activities. As one such statement at another mutual fund company reads, "…the SEC made certain findings of fact and violations, which (the company) neither admitted or denied."
Mutual fund shareholders must be weary of seeing such noncommittal statements, especially when the companies then ask for a renewal of trust and continued money management.
Mr. Montgomery's frankness is refreshing. As his letter says, "From a shareholder's point of view, I would want my fund manager to answer these questions about the settlement…" He proceeds to address five questions, including:
"1. What happened? In a nutshell, for eight and a half years Bridgeway was out of compliance with Rule 205-2 of the Investment Advisers Act of 1940 concerning the calculation of performance-based management fees…. Because the average net assets were generally increasing over time and each fund had beaten its market benchmark over most time periods, three funds overpaid advisory fees.
"2. How serious is it? Plain and simple, we broke the rule, which is the same as the underlying law. We believe that breaking any law is serious…. I have been a major proponent of performance-based fees in the industry, having spoken to industry players and the media on many occasions. Any time you take a strong position, you should have a firm grasp on the full legal requirements that surround that position. Bridgeway Capital Management (the funds' adviser) and I, specifically, should have sought specialized legal counsel on this issue long ago.
"3. Is anyone taking responsibility? Yes. As founder of Bridgeway Capital Management and president of Bridgeway Funds, this calculation was absolutely my responsibility, and I am the one at fault. Rule 205-2 is the definitive rule of law with respect to performance-based fees in a mutual fund structure, and Bridgeway was calculating them incorrectly."
The letter details the fines Bridgeway Capital and Mr. Montgomery will pay to the U.S. Treasury and a financial remedy for shareholders. He notes that Bridgeway Capital overcharged a net $4.4 million, which Bridgeway Capital, not the funds, will repay plus $0.5 million in interest to current and previous shareholders of the three Bridgeway funds. That proposed repayment requires SEC approval.
Mr. Montgomery also detailed actions initiated to ensure the problem doesn't recur. His letter concludes, saying, "I'd like to apologize personally to our shareholders … and to all others who have placed their trust in us."
Candor and a philosophy of keeping shareholder interest the priority don't always prevent problems. But that kind of attention gives investors more confidence that problems will be dispatched with their interest paramount.