At a meeting today of the SEC’s Investor Advisory Committee, the committee discussed disclosure considerations arising in the context of COVID-19. In addition to relentlessly complimenting the SEC for its efforts during the pandemic, the committee members offered a number of valuable insights, particularly related to the need for human capital disclosure (which one committee member characterized as “as important a mission as the SEC has ever faced”) and other stakeholder disclosures, as well as accounting, controls and liability issues. Many of the committee also seemed to be pleased with nature of the disclosure that companies were providing, even offering in-quarter information in some cases. There was also a brief discussion of virtual shareholder meetings.
SEC Chair Jay Clayton opened the meeting by addressing common themes that had arisen in conversations that he and the SEC staff had had with retail and institutional investors, investor advocates, auditors, public company executives and board members. These conversations emphasized the “importance of keeping markets functioning and…the importance of keeping investors and markets apprised about the evolving impact of, and responses to, COVID-19—in other words, the importance of timely, accurate and decision-useful information.” As he has observed in the past (see this PubCo post), Clayton stressed that, in light of current events, this earnings season, investors are much less focused on historical performance and more focused on “the company from a liquidity and operational perspective.” He identified the following as more specific areas of inquiry:
- “How long can the business sustain its current operating posture in the absence of additional funding?
- Have supply and distribution chains been temporarily or permanently disrupted?
- How do you plan to manage the health and safety of your employees and customers as you and other market participants seek to increase activity?”
Although the answers to these questions continue to evolve, he observed that these issues are currently under discussion in “boardrooms and strategy meetings.” He advised that companies should “make all reasonable efforts to disclose material information of this type to investors,” focusing on process and information that is “consistent with related discussions involving senior management, board members, lenders, vendors, customers and government regulators.” Finally, he welcomed the committee’s “insights into potential practices that companies can consider to ensure that shareholder engagement is appropriate” as more companies move to virtual shareholder meetings.
The other Commissioners commented on the wonderful flexibility of our principles-based disclosure system (Peirce and Roisman), which might provide even better disclosure if the system were a bit more prescriptive (Lee). Peirce also observed that Corp Fin Director Bill Hinman and his staff were “monitor[ing] and assess[ing] the earnings calls and quarterly reports across all industry groups.”
(Based on my notes, so standard caveats apply.)
Human capital management and other stakeholder disclosures
One of the committee members characterized the current pandemic as “a brutal and vivid” example of why HCM reporting is so important. Another committee member, speaking broadly about the underlying theory of our disclosure-based system—that investors, armed with knowledge and information, will compel companies to do better—argued that our system needs to ensure that companies contribute to a “positive outcome” here. That is, in his view, the worst outcome would occur if we “restarted” our economy, but it turned out that, for safety reasons, it was not sustainable. To that end, it was critical that safe workforce processes be negotiated and implemented so that workers feel and are safe returning to work. This issue will be important in determining if companies will be able to open and remain open, a critical issue for investors as well as for the economy as a whole. In effect, workforce health and safety has become a determinant of whether or not a company is able to function. In his view, this issue was “as important a mission as the SEC has ever faced.”
These committee members identified the following as specific topics that should be considered in disclosures, and advocated further guidance and standard-setting from the SEC in this area:
- Workforce stability (layoffs) and turnover
- Remuneration across the workforce
- Employee engagement and sick leave
- Training, especially with regard to health and safety preparedness
More specifically, with regard to employee safety issues, the following topics were highlighted:
- Identification of workforce safety hazards and levels of risk
- Engineering and system controls that address these risks, such as air filters, spatial barriers
- Administrative controls, such as cleaning practices, varying work schedules
- Protective equipment, such as masks and gloves
- Training measures, including expenditures and measurement
- Identification of infected employees, isolation and contact tracing
Clayton remarked that the issues related to workforce disclosures have turned out to be more challenging than originally thought. Safety issues are incredibly variable, even for workers that work in individual offices—but who still must get on crowded elevators. Another committee member remarked that issues regarding human capital also affect consumers and consumer acceptance of company products and services, for example, whether restaurant companies have appropriate sick leave policies or require cooks to wear masks could affect whether consumers frequent those restaurants.
In addition, one of the committee members remarked that the pandemic may well be a lesson for risks that may arise out of climate change. She advocated that the SEC use this opportunity to prepare for that possibility, including by discussing with FASB ways to connect the TCFD framework to financial statements. Another committee member concurred that the pandemic was a “giant wake-up call” as to why ESG is material and decision-useful. The key is how to provide appropriate ESG disclosure in SEC filings and take ESG into account in current operations and strategy.
Accounting and Controls
Several of the committee members commented on accounting and controls issues. One of the committee members repeated his concern from the last committee meeting about the acute difficulty of providing estimates in this environment. Clayton commented in response that that the staff had been engaging with issuers about impairments. At the same time, however, the member was critical of Congress’s action in the CARES Act to delay implementation of CECL (which requires estimates) for banks, viewing it as an assault on the independence of accounting standard-setters. Other committee members agreed that the independence of standard-setters was important to maintain.
Another commenter remarked on the absence of “going-concern” warnings in SEC filings prior to very recent bankruptcy filings, and encouraged auditors to improve their practices in that regard. With regard to internal controls, he also cautioned that controls assessments are best performed in person, which is not possible at the current time. Although there is an ad hoc process, it is still harder to assess the controls. Issues with performing the controls assessment, compounded by a substantial economic decline, put a lot of stress on the controls, he warned. He advocated that companies improve their disclosure regarding this risk area. Clayton asked for ideas about alternatives to on-site controls testing.
One member also advocated that, under the stress test of the pandemic, companies examine whether their disclosure controls have been adequate to capture material information related to COVID-19 and relay it to appropriate persons for disclosure.
One committee member suggested that companies focus more on information asymmetries, such as the potential impact of remote work. Another member observed that “the train you see coming is not the train that hits you,” and wondered how to construct a system to elicit that information. She suggested using the pandemic as a lesson to consider issues such as supply chain disruption and workforce safety in other types of crises. With regard to supply chain issues, Clayton commented that supply chain issues arise in the context of dependence on third parties, a concept that needs to be further refined. Is the lowest cost supplier potentially the most likely to be problematic? In addition, Clayton noted that competition is also affected if some companies and their suppliers go back to work, but the third-party suppliers in the company’s supply chain do not.
Another committee member complained about the complexity of some companies’ forward-looking scenario-planning disclosures.
Some of the committee members expressed concerns about liability for forward-looking statements, which the SEC has been encouraging—the forward-looking statements, not the liability. One member advocated regulatory or legislative action to ensure that the protections of the PSLRA safe harbor not be lost simply because the forward-looking information incorporated historical information, especially in the context of COVID-19. Another committee member agreed that more granular disclosures would be useful in helping investors understand where the company stands, so long as the disclosure did not raise the legal risk.
Several committees members, while highly complimentary of the SEC‘s “sterling” guidance, wanted to be sure that it did not evolve into “back-door rulemaking.” Clayton confirmed that the guidance was to assist companies in their disclosures and that it was not intended as rulemaking.
Virtual Shareholders’ Meetings
There was brief discussion of the use of virtual formats for shareholders’ meetings. Given that it was the first time that so many companies were taking advantage of the format—mostly of necessity—some of the committee members were taking a wait-and-see approach. Some, however, were concerned that VSMs would be used to deny shareholders the types of rights they would have at meetings held in person, such as the right to speak at the meeting and pointed to problems that had been identified by CII and others. Other members, however, thought that the format could eventually be used to encourage more participation by shareholders. One member thought it was important to encourage more VSM providers and wondered if there were obstacles to more competition.