SEC proposes narrow carve-out to exempt low-revenue smaller reporting companies from the SOX 404(b) auditor attestation requirement (UPDATED)
[This post has been updated primarily to reflect the contents of the proposing release as well as the statement of Commissioner Hester Peirce.]
Those of you who expected the SEC to go big and propose raising the current threshold for status as an “accelerated filer” to be commensurate with the cap for “smaller reporting companies” will be sorely disappointed, as will anyone looking for regulatory simplification and harmonization. Nevertheless, the SEC did address the big elephant in the room—the SOX 404(b) auditor attestation requirement—with a measured, narrowly tailored exception that attempted to thread the needle with regard to the controversy over exempting additional companies from SOX 404(b), viewed by some as a critical investor protection. However, the resulting framework proposed for determining filer categories and requirements adds another layer of complexity to the current labyrinth, including some rather head-spinning new transition provisions. Will anyone—other than low-revenue smaller reporting companies—be happy with the result?
SEC proposes narrow carve-out to allow low-revenue smaller reporting companies to avoid SOX 404(b) auditor attestation requirement
Those of you who expected the SEC to go big and propose raising the current threshold for status as an “accelerated filer” to be commensurate with the cap for “smaller reporting companies” will be sorely disappointed. Nevertheless, the SEC did address the big elephant in the room—SOX 404(b)—with a narrowly tailored exception.
At an open meeting this morning, the SEC voted (by a vote of three to two, with Commissioner Robert Jackson dissenting) to propose amendments to the accelerated filer and large accelerated filer definitions that provide a narrow carve-out from these definitions for companies that qualify as smaller reporting companies and reported less than $100 million in annual revenues in the most recent fiscal year for which audited financial statements were available. As a result, if the proposal were adopted, those companies would no longer need to comply with the shorter timeframes applicable to accelerated filers and large accelerated filers for filing periodic reports. And, most significantly, the proposed revision would mean that those companies qualifying for the carve-out would no longer be subject to the SOX 404(b) auditor attestation requirement, which has been anathema to many deregulation advocates. Notably, companies with a public float between $75 million and $250 million would still be subject to the accelerated filer requirements unless their revenues were under the $100 million revenue cap. The proposal, which has not yet been posted, would also increase from $50 million to $60 million the transition thresholds for accelerated and large accelerated filers to become a non-accelerated filer and increase the threshold for exiting large accelerated filer status from $500 million to $560 million. In addition, the proposal would add a revenue test to the transition thresholds for exiting both accelerated and large accelerated filer status. (Here is the press release.) There is a 60-day comment period. (The proposing release has just now been posted. Check this space for updates.)
This is National Small Business Week and, to kick things off, the SEC today held a brief roundtable featuring representatives of small business and investment funds in a discussion of the challenges of raising funding outside of the four key tech hotspots (San Francisco, San Jose, Boston and NYC) as well as other challenges associated with public company status as a small business. After the roundtable, the SEC’s Small Business Capital Formation Advisory Committee held its inaugural meeting. At the meeting, Corp Fin Director Bill Hinman discussed the SEC’s agenda (including the upcoming proposal that could limit the application of the SOX 404(b) auditor attestation requirement).
A bipartisan group of senators has introduced a new bill, the Fostering Innovation Act of 2019 (S. 452), that would amend SOX to provide a temporary exemption from the auditor attestation requirements of Section 404(b) for low-revenue issuers, such as biotechs. The bill is designed to help those EGCs that will lose their exemptions from SOX 404(b) five years after their IPOs, but still do not report much revenue. For those companies, proponents contend, the auditor attestation requirement is time-consuming and expensive, diverting capital from other critical uses, such as R&D. According to the press release, the bill would provide “a very narrow fix that temporarily extends the Sarbanes-Oxley Section 404(b) exemption for an additional five years for a small subset of EGCs with annual average revenue of less than $50 million and less than $700 million in public float.” I know it’s Valentine’s Day, but does it also feel a bit like Groundhog Day? That’s because, in 2016, the House passed the Fostering Innovation Act of 2015—the very same bill. That bill went nowhere, but the question is: have we now reached an inflection point for SOX 404(b)?
You probably recall that, under SOX 404(b), all public reporting companies, other than non-accelerated filers and EGCs, are required to obtain an auditor attestation regarding the effectiveness of their internal control over financial reporting. SOX 404(a) requires all public reporting companies, including non-accelerated filers, to provide an assessment of ICFR by management. An analysis by Audit Analytics of SOX 404 reporting on ICFR over 14 years showed that the number of adverse auditor attestations—auditor attestations indicating ineffective ICFR— followed different trend lines than management-only assessments.
In this speech before the 36|86 Entrepreneurship Festival in Nashville, Tennessee, SEC Chair Jay Clayton discussed, among other topics, the coming agenda for public companies designed to “encourage capital formation for emerging companies seeking to enter our public capital markets.” The main topic was the plan to revisit the thresholds that trigger the SOX 404(b) requirement to provide an auditor attestation report on internal control over financial reporting. However, Clayton also added some news for private companies too. One thing is pretty clear from this speech: odds are excellent that relief from SOX 404(b) is in the offing for more small companies.
Will there be a JOBS Act 3.0? The JOBS and Investor Confidence Act of 2018 just passed the House by a vote of 406 to 4, so, even though Senators may often be chary of jumping on the House bandwagon—remember the doomed Financial Choice Act of 2016 and then 2017— the overwhelming and bipartisan approval in the House still makes the odds look better than usual.