[This post revises and updates my earlier post primarily to reflect the contents of the adopting release.]
By a vote of three to two, the SEC has adopted new amendments to simplify, modernize and enhance Management’s Discussion and Analysis of Financial Condition and Results of Operations and the other financial disclosure requirements of Regulation S-K. The amendments were adopted largely as proposed in January, with some modifications intended to address comments received. Once again, like other recent rulemakings, these amendments tilt toward a more principles-based, company-specific approach, highlighting the importance of materiality and trend disclosures. MD&A discussions have long been the subject of criticism as too mechanical, with companies sometimes chided for just “doing the math” without more. A new provision describes the objectives of MD&A with the goal of encouraging a more thoughtful, less rote MD&A and allowing investors a better view of the company from management’s perspective. In some cases, the amendments eliminate prescriptive requirements in favor of more general disclosures that are integrated into the primary discussions. And some of the proposed changes are fairly dramatic—such as eliminating selected financial data and the Table of Contractual Obligations, and streamlining the requirement to disclose Supplementary Financial Information. Companies may also find the new explicit mandate to discuss critical accounting estimates to be a challenge. Whether the changes result in more nuanced, analytical disclosure remains to be seen. The amendments will become effective 30 days after publication in the Federal Register.
Included at the end of this post is a version of the SEC’s table of changes.
Yesterday, the SEC announced that it has adopted, without an open meeting, final amendments designed to simplify and modernize MD&A and other financial disclosure requirements of Reg S-K. With SEC Chair Jay Clayton and Corp Fin Director William Hinman both having announced their intent to leave the SEC by year end, the adoption may well be part of a term-end crunch. As summed up in the press release, the amendments are “intended to enhance the focus of financial disclosures on material information for the benefit of investors, while simplifying compliance efforts for registrants.” The amendments are also designed to “improve disclosure by enhancing its readability, discouraging repetition and eliminating information that is not material.” Once again, like other recent rulemakings, these amendments tilt toward a more principles-based, company-specific approach, describing the objectives of MD&A with the goal of highlighting the importance of materiality and trend disclosures to a more thoughtful, less rote MD&A and allowing investors a better view of the company from management’s perspective. In some cases, the amendments eliminate prescriptive requirements in favor of more general disclosures that are integrated into the primary discussions. And some of the proposed changes are fairly dramatic—such as eliminating selected financial data and the Table of Contractual Obligations. Whether the changes result in more nuanced, analytical disclosure remains to be seen. The amendments will become effective 30 days after publication in the Federal Register.
For over a year, the SEC, credit rating agencies, investors, the Big Four accounting firms and other interested parties have been sounding the alarm about a popular financing technique called “supply chain financing”—not that there’s anything wrong with it, inherently at least. It can be a perfectly useful financing tool in the right hands—companies with healthy balance sheets. But it can also disguise shaky credit situations and allow companies to go deeper into debt, often unbeknownst to investors and analysts, with sometimes disastrous ends. This week, the FASB voted to add to its agenda a project to address the lack of transparency associated with the use of supplier finance programs.
Enforcement has certainly been busy at the end of the SEC’s fiscal year, with disclosure violations receiving their fair of attention. In this action against HP Inc., the company was charged with failing to disclose known trends and uncertainties regarding the impact of sales and inventory practices, as well as failure to maintain adequate disclosure controls and procedures. HP was ordered to pay a penalty of $6 million.
Yesterday, the staff of Corp Fin issued Disclosure Guidance: Topic No. 9A, which supplements CF Topic No. 9 with additional views of the staff regarding disclosures related to operations, liquidity and capital resources that companies should consider as a consequence of business and market disruptions resulting from COVID-19. You might recall that, in March, the staff issued CF Topic No. 9, which offered the staff’s views regarding disclosure considerations, trading on material inside information and reporting financial results in the context of COVID-19 and related uncertainties. (See this PubCo post.) As with the original guidance, the new supplemental guidance includes a valuable series of questions designed to help companies assess, and to stimulate effective disclosure regarding, the impact of COVID-19, in advance of the close of the June quarter. As always these days, the guidance makes clear that it represents only the views of the staff, is not binding and has no legal force or effect.
Check out our new Cooley Alert: SEC Proposes to Modernize MD&A and Other Financial Disclosures. It’s a thrill from beginning to end and much more fun than watching the market these days.
You might recall that in the FAST Act Modernization and Simplification of Regulation S-K, adopted last year, the SEC amended Item 303 of Reg S-K to provide that, where a company includes in the filing financial statements covering three years, the company may omit “discussion about the earliest of the three years…if such discussion was already included in the registrant’s prior filings on EDGAR…, provided that registrants electing not to include a discussion of the earliest year must include a statement that identifies the location in the prior filing where the omitted discussion may be found.” (See this PubCo post.) Notably, there was no specific condition in the new amendment that discussion of the earliest year not be material, although MD&A continued to be subject to an overarching materiality analysis. Corp Fin has now issued three new CDIs that address omission of the earliest year, summarized below.
In this Enforcement Order, the SEC described a “revenue management scheme” orchestrated by the respondent, Marvell Technology Group, and the imposition on Marvell of a $5.5 million penalty and cease-and-desist order—not because of the scheme itself, but rather because the company failed to publicly disclose the scheme in its MD&A or to discuss its likely impact on future performance. The Order demonstrates that, even if a scheme involving unusual sales practices may not amount to chargeable accounting fraud, failure to disclose its distortive effects can be misleading and result in violations of the Securities Act and Exchange Act.
SEC adopts amendments for FAST Act Modernization and Simplification of Regulation S-K (revised and updated)
Yesterday, once again without an open meeting, the SEC adopted changes to its rules and forms designed to modernize and simplify disclosure requirements. The final amendments, FAST Act Modernization and Simplification of Regulation S-K, which were adopted largely as originally proposed in October 2017 (see this PubCo post), are part of the SEC’s ambitious housekeeping effort, the Disclosure Effectiveness Initiative. (See this PubCo post and this PubCo post.) The amendments are intended to eliminate outdated, repetitive and unnecessary disclosure, lower costs and burdens on companies and improve readability and navigability for investors and other readers. Here is the SEC’s press release.
The final amendments make a number of useful changes, such as eliminating the need to include discussion in MD&A about the earliest of three years of financial statements, permit omission of schedules and attachments from most exhibits, limiting the two-year lookback for material contracts, and streamlining the rules regarding incorporation by reference and other matters. The final amendments also impose some new obligations, such as a requirement to file as an exhibit to Form 10-K a description of the securities registered under Section 12 of the Exchange Act and a requirement to data-tag cover page information and hyperlink to information incorporated by reference. .
Certainly one of the most welcome changes is the SEC’s innovative new approach to confidential treatment, which will allow companies to redact confidential information from exhibits without the need to submit in advance formal confidential treatment requests. This new approach will become effective immediately upon publication of the final amendments in the Federal Register. The remainder of the final amendments will become effective 30 days after publication in the Federal Register, with the exception of new cover page data-tagging requirements, which are subject to a three-year phase-in.
The SEC has now posted its release regarding FAST Act Modernization and Simplification of Regulation S-K, which proposes amendments to rules and forms based primarily on the staff’s recommendations in its Report to Congress on Modernization and Simplification of Regulation S-K (required by the FAST Act). (See this PubCo post.) That Report, in turn, was premised on the review that the SEC conducted as part of its Disclosure Effectiveness Initiative and the related Concept Release, which addressed a broader range of potential changes. (See this PubCo post and this PubCo post.) A new approach to confidential treatment, not addressed in the Report, is also proposed. As indicated by the title, the proposed amendments are intended to modernize and simplify a number of disclosure requirements in Reg S-K, and related rules and forms, in a way that reduces the compliance and cost burdens on companies while continuing to provide effective disclosure for investors, including improvements designed to make the disclosures more readable, less repetitive and more easily navigable.