Tag: financial restatements

Is it Groundhog Day? SEC reopens comment period for clawback proposal

Yesterday, the SEC announced that it is reopening the comment period for its 2015 proposal for listing standards for recovery of erroneously awarded compensation.  Wait—didn’t they just do that? Yes, in October 2021. (See this PubCo post.) But no, that’s not Sonny and Cher on the radio.  The SEC has decided to reopen the comment period AGAIN to allow further public comment in light of a new, just released DERA staff memorandum containing “additional analysis and  data on compensation recovery policies and accounting restatements.” The new comment period will be open until 30 days after publication of the reopening notice in the Federal Register.

What happened with financial restatements in 2021?

Audit Analytics has just posted its 2021 annual review of financial restatements, which this year covered a 21-year period. The review showed a 289% increase in the number of restatements to 1470, the highest level of restatements since 2006.   You may have guessed that the increase was attributable to restatements by SPACs.  Excluding SPACs, the numbers actually reflected a 10% decrease in the number of restatements year over year. SPACs also account—largely but not entirely—for a large increase in the proportion of reissuance (“Big R”) restatements.  Audit Analytics found that 62% of restatements were reissuance restatements, the biggest proportion since 2005. But even excluding SPAC restatements, 24% of 2021 restatements were reissuances, an increase from 2020 of three percentage points.

SEC’s Acting Chief Accountant discusses materiality assessments in connection with restatements

In this statement from the SEC’s Office of the Chief Accountant, Acting Chief Accountant Paul Munter discusses materiality assessments in the context of errors in financial statements. As he summarizes the issue, the “determination of whether an error is material is an objective assessment focused on whether there is a substantial likelihood it is important to the reasonable investor.” And when an error in historical financial statements is determined to be material, a “Big R” restatement of the prior period financial statements is required. On the other hand, if the error is not material, “but either correcting the error or leaving the error uncorrected would be material to the current period financial statements, a registrant must still correct the error, but is not precluded from doing so in the current period comparative financial statements by restating the prior period information and disclosing the error,” known as a revision or “little r” restatement. In either case, Munter observes, “both of these methods—reissuance and revision, or ‘Big R’ and ‘little r’—constitute restatements to correct errors in previously-issued financial statements as those terms are defined in U.S. GAAP.” According to a review by Audit Analytics, “while the total number of restatements by registrants declined each year from 2013 to 2020, ‘little r’ restatements as a percentage of total restatements rose to nearly 76% in 2020, up from approximately 35% in 2005.” Should we attribute this change to improvements in audit quality or internal control over financial reporting, or could it be that some companies are not being entirely objective in making their materiality determinations? In the event of error in the financial statements, Munter emphasizes, companies, auditors and audit committees must “carefully assess whether the error is material by applying a well-reasoned, holistic, objective approach from a reasonable investor’s perspective based on the total mix of information.”

More SPAC restatements on the way?

It’s been weeks since the SEC last took SPACs to task!  According to Bloomberg, the SEC is now requiring many SPACs to “Big R” restate their financial statements because they tripped over the classification of certain shares they offered to investors.  Auditors with whom Bloomberg spoke said that the latest SPAC accounting snafu relates to incorrect categorization of Class A shares—which are typically redeemable—as “permanent equity instead of temporary equity.”  One auditor described the issue as “pervasive[:] everyone’s dealing with it because everyone did it wrong.”

SEC revisits 2015 Dodd-Frank clawback proposal—opens public comment period

It’s time to dig back into your mental archives for 2015.  That’s when the SEC, by a vote of three to two, initially proposed rules to implement Section 954 of Dodd-Frank, the clawback provision. But the proposal was relegated to the SEC’s long-term agenda and never heard from again.  Until, that is, the topic found a spot on the SEC’s short-term agenda this spring (see this PubCo post) with a target date for a re-proposal of April 2022.  The SEC had scheduled an open meeting for Wednesday to consider re-opening the comment period, but instead cancelled the meeting and, on Thursday, simply posted a notice.  Here is the original 2015 Proposing Release and here is the new fact sheet. SEC Chair Gary Gensler said that, with re-opening of the comment period, he believed “we have an opportunity to strengthen the transparency and quality of corporate financial statements as well as the accountability of corporate executives to their investors.” The questions posed by the SEC in the notice (discussed below) give us some insight into where the SEC may be headed with the proposal. It’s worth noting that one possible change suggested by the questions is a potential expansion of the concept of “restatement” to include not only “reissuance” restatements (which involve a material error and an 8-K), but also “revision” restatements (or some version thereof).  The public comment period will remain open for 30 days following publication of the release in the Federal Register.

Audit Analytics studies long-term capital market consequences of restatements

Studies have shown that, following announcement of a restatement, stock prices are abnormally negative for the period 20 to 30 trading days after the announcement.  But what happens after the restatement is actually filed?  In a study from Audit Analytics, the authors found that, following the date of the restated financials, there were no significant abnormal returns in either the first 30-day window or after a 90-day window, but, in the second 30-day window, the authors found long-term abnormal positive returns “of up to 3.28% following the resolution of the restatement process and filing of the restated financial statements.”

Audit Analytics reviews financial restatements in 2017

Audit Analytics has published its annual review of financial restatements, which this year covered a 17-year period. The review showed a double-digit percentage decline in the total number of restatements for the last three years in a row, resulting in a new 17-year low of 553 total restatements. Compare that to 1,859 restatements in 2006!  As discussed in this article in Compliance Week, the percentage decline was 19% in 2017, 10% in 2016 and almost 12% in 2015. Stepping back, what the data shows is that, following SOX, the number of restatements skyrocketed, as the new act imposed “new discipline to the financial reporting process through its requirement to report on the effectiveness of internal control over financial reporting.” But by 2007, companies seemed to have gained a better handle on the demands of SOX, as the numbers of restatements began to decline. 

Will clawbacks have an unintended consequence?

by Cydney Posner A recent  study, “Why Do Restatements Decrease in a Clawback Environment? An Investigation into Financial Reporting Executives’ Decision-Making during the Restatement Process,” shows that clawbacks may have unintended consequences.  The study, conducted by an academic at Miami University of Ohio and published in The Accounting Review, showed […]