Having fund chieftains certify a checklist really doesn't help investors

Your Funds

Dollars & Sense

September 15, 2002|By CHARLES JAFFE

THERE IS a lot of information investors wish they could get from mutual fund companies.

The top executive's certification of the fund's financial statements is not part of it.

Don't get me wrong. If the Securities and Exchange Commission intends to have every corporate top dog in America vouch for the truth in the numbers, it won't get any complaints from me.

It will just have a hard time proving that such a document is actually fruitful and worthwhile for investors.

"I don't think a certification would have any substantive meaning for the shareholders of a fund," says Burton J. Greenwald of B.J. Greenwald & Associates, a Philadelphia-based industry consulting firm. "But when the credibility of corporate America is being questioned, I would expect the fund industry to lean over backwards on the side of the angels."

And so fund family executives will sign what amounts to a meaningless document, one that promises to comfort the investor but which actually proves nothing.

The whole certification effort is fallout from the Sarbanes-Oxley Act of 2002, the same legislation that made the executives of public companies certify their financials. Functionally, fund executives needed to start signing the forms at the end of August, although certain requirements and the possible adoption of a new form to make the declaration on are likely to delay full compliance.

But having fund chieftains certify financial numbers - at least as the process is currently being implemented - is a symbolic and largely meaningless gesture.

The need for the symbolism is obvious. With corporate America under great scrutiny as a result of Enron, WorldCom and other scandals, regulators want to put executives' necks and pocketbooks on the line.

Indeed, insiders at the SEC say the arm of the agency that oversees mutual funds was opposed to having any certification of results, but that the lawyers are pressing on with the idea because they don't want the general public believing that any part of the investment world is getting a free pass.

But the current certification plan is ludicrous.

Fund executives must certify information contained in something called Form N-SAR. Without getting into too much detail about this esoteric paperwork, let's just say that it does not include the fund's full financial statements. It's more of a checklist of required filings, including a fund's semiannual report.

It's the numbers in the semiannual, if anything, that should be certified.

But unlike the straight semiannual, the N-SAR is not a document that is going to help anyone decide whether a fund is a worthwhile investment.

(That's one reason why you have never seen an N-SAR from your funds.) There is talk of creating a new form that would be more appropriate, but the whole process misses the point.

A fund firm's chief executive is seldom the fund's portfolio manager. A statement from the manager might at least get investors interested, but a "financial-statements-are-OK" voucher from someone with no day-to-day investment responsibilities is not likely to inspire much confidence.

Beyond those basics, consider that funds prepare audited financial statements once a year, not on the more regular schedule of publicly traded corporations. That means that chief executives will sometimes be testifying to faith in their own corporate accounting chief, rather than to the truth of audited financial statements.

Further, funds and stocks are completely different entities. The Investment Company Act of 1940 - the rules that govern funds - prohibits a lot of the practices allowed by stocks. It requires independent directors, disallows tricky back-room deals and generally minimizes the opportunities for a manager to do wrong.

That doesn't mean that problems can't happen, but it does explain why big problems have been so rare.

"Funds are heavily regulated, and the executives are certifying something that has probably been done by someone else, outside of their direct control," says Thomas R. Smith Jr., a partner in the New York law firm of Brown & Wood and a specialist on fund-governance issues. "I don't think executives will mind signing these things, but I also don't think this will change anything about how funds are run or managed.

"[Certification] is just a sign of the times."

Adds industry adviser Geoff Bobroff of Bobroff Consulting in East Greenwich, R.I.: "People want some magic solution, something to make them feel safe. But this doesn't change anything, so when it's all said and done and you ask whether the investor has any greater comfort in the safety of their funds, the answer is going to be `Probably not.'"

Charles A. Jaffe is mutual funds columnist at The Boston Globe. He can be reached by e-mail at jaffe@globe.com or at The Boston Globe, Box 2378, Boston, Mass. 02107-2378.

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