by Cydney Posner
The SEC has posted the staff’s Report on Modernization and Simplification of Regulation S-K, a report to Congress required by the FAST Act. (See this PubCo post.) Although required by the FAST Act, this report builds on and reflects the review that the SEC has been conducting as part of its Disclosure Effectiveness Initiative. (See this PubCo post and this PubCo post.)
While the report summarizes various proposals that have already been made, more interesting perhaps are the summaries of recommendations that the staff is presenting for consideration by the SEC. Some of the recommendations appear to fall into the category of clean-up, such as revising outdated references, allowing companies to rely on Section 16 reports filed on EDGAR (as opposed to paper) when assessing whether there are any Section 16 delinquencies that must be disclosed under Item 405, relocating “Risk Factors” from Item 503(c) to a new, separate item (Item 105), and, in the prospectus “subject to completion” legend, reducing the length by eliminating the language regarding state law prohibitions if not applicable (e.g., because of preemption of state blue sky laws under NSMIA).
The other recommendations include the following:
- Permit incorporation by reference of documents that have been on file with the SEC for more than five years, but require specific descriptions of the locations of the documents and hyperlinks to the incorporated documents on EDGAR. Currently, under Item 10(d), incorporation beyond five years is prohibited, except for documents contained in registration statements and documents identified by file number (unless the SEC has disposed of them).
- Consolidate rules on incorporation by reference to provide consistency and ease of use and allow satisfaction of Reg S-K requirements by incorporating by reference from elsewhere in a filing, including from the financial statements (but not vice versa because that could raise questions about the scope of the audit).
- Clarify that disclosure regarding properties is required only to the extent that the property is material (Reg S-K, Item 102). Consider combining with business description.
- Limit the period-to-period comparison required in MD&A (Item 303(a)) to only the two most recent fiscal years presented in the financial statements and allow a hyperlink to the prior year’s annual report for the additional period-to-period comparison. Alternatively, consider revising the instructions to Item 303 to require a discussion of changes in results of operations and financial condition over the full two- or three-year period of the financial statements included in the filing, rather than the more detailed year-to-year comparisons that are currently required.
- Eliminate the required table of contractual obligations and substitute a hyperlink to the relevant financial statement notes. Also require additional narrative in the “Liquidity” section that describes material changes to contractual obligations and discusses the company’s ability to pay them as they become due over time (Items 303(a)(1) and 303(a)(5)).
- Clarify that EGCs are not required to provide compensation committee reports (Item 407(e)(5)).
- In a prospectus, permit the method of determining pricing to be disclosed elsewhere than on the cover page, so long as a cross-reference is included on the cover page. Currently, instruction 2 to Item 501(b)(3) states that “[i]f it is impracticable to state the price to the public, explain the method by which the price is to be determined” on the outside front cover page. Instead, the staff is recommending that the SEC consider allowing issuers to state on the cover that the offering price will be determined by a particular method or formula that is more fully explained in the prospectus.
- If the securities are not listed on any national securities exchange, require disclosure of the principal U.S. public trading market where securities are quoted (Item 501(b)(4)). Currently, companies are required to disclose only the national securities exchange where the securities are listed.
- Eliminate a number of undertakings as duplicative or obsolete (Item 512 (c), (d), (e) and (f)).
- Require companies to file a description of their securities as an exhibit to Form 10-K (Item 601). Currently a description is required under Item 202 only in registration statements.
- Permit the omission of attachments and schedules filed with exhibits, unless material to an investment decision and not otherwise disclosed. Currently, only acquisition agreements permit omission of any attachment (in that case, schedules) under Item 601(b)(2). Companies would instead be required to file with each exhibit a list briefly describing the contents of the omitted schedules and attachments and an agreement to furnish them supplementally upon request.
SideBar: This recommendation may be among the most popular, as attachments and schedules will often contain confidential information that requires filing of a lengthy confidential treatment request, which may or may not succeed in protecting all of the confidential information.
- Limit the two-year look back requirement for exhibits to apply only to newly reporting companies. Currently, Item 601(b)(10)(i) requires companies to file every contract not made in the ordinary course of business if the contract is material and (i) to be performed after the filing of the registration statement or report or (ii) was entered into not more than two years before the filing. Companies that have been reporting companies would have previously filed those contracts, and they would be available on EDGAR.
- Require disclosure of legal entity identifiers (“LEIs”) for the company and the significant subsidiaries identified on Exhibit 21 (Item 601(b)(21)). LEIs are 20-character, alpha-numeric codes that permit unique identification of entities engaged in financial transactions.
- Require XBRL tagging of all cover page information in periodic and current reports. Require the cover page to include the (tagged) ticker symbol for each class of securities registered under the Exchange Act.
- Require the use of hyperlinks whenever the rules “call for” inclusion of a web address, provided the appropriate technology is available to prevent hyperlinks from jeopardizing the security and integrity of the EDGAR system.
SideBar: The report notes that the staff does “not intend,” by making this recommendation, “to change the current application of securities law liability to those documents.” However, under the current rules, while inclusion of an external hyperlink in a filing does not make the linked information part of the filing for disclosure compliance purposes, it does cause the company “to be subject to the civil liability and antifraud provisions of the federal securities laws for the information contained in the linked material…. Similarly, if a registrant hyperlinks to another hyperlink, the registrant will be treated as making all the hyperlinked material its own for liability purposes.”