Thursday, December 28, 2017

Accounting firms and industry groups comment on proposed Reg. S-K modernization

By Jacquelyn Lumb

The SEC’s comment period on proposals to modernize and simplify disclosures under Regulation S-K closes January 2, 2018, with letters recently submitted by accounting firms Deloitte & Touche, PricewaterhouseCoopers, BDO USA, the Council of Institutional Investors, and the U.S. Chamber of Commerce’s Center for Capital Markets Competitiveness (CCMC). Among the areas of focus in the comment letters is a proposal to allow registrants to omit the earliest of the three years of MD&A in some situations (Release No. 33-10425, October 11, 2017).

Deloitte & Touche. Deloitte recommended that registrants be allowed to omit the discussion of the earliest of the three years in MD&A if that discussion was provided in any filing a registrant made on EDGAR rather than restricting it to disclosures that were made on Form 10-K. Deloitte also suggested that registrants be permitted to exclude a discussion of the earliest year even when there has been a change in the financial statements due to a retrospective adoption of a new accounting principle as long as the discussion of the third year was previously provided in a filing on EDGAR.

Deloitte also wrote that it supports cross-referencing and internal hyperlinks within a company’s filings and suggested that the SEC consider whether it is appropriate to permit cross-referencing in the financial statements of a foreign private issuer on Form 20-F where it is permitted by home country accounting standards, laws, or regulations.

PricewaterhouseCoopers. PricewaterhouseCoopers echoed Deloitte’s view regarding the earlier year discussion in MD&A, recommending that a registrant be permitted to omit from its current Form 10-K the discussion of the earliest of the three years if it was previously filed in any SEC filing, with disclosure of where that discussion appeared. PwC added that registrants should be allowed to omit the MD&A discussion of the earliest of three years in all filings other than initial registration statements, and urged the SEC to make conforming changes to Form 20-F for foreign private issuers.

BDO USA, LLP. BDO raised concerns that the requirement to include the earliest of the three years of financial statement based on an evaluation of its materiality would add unnecessary ambiguity to the decision. If the condition for omitting the discussion is challenging to apply, BDO said registrants would likely default to including the discussion. BDO also agreed with the other accounting firms that registrants should be permitted to omit the discussion of the earliest period if it was included in any previous filing under the Securities or Exchange Acts since it would already be part of the total mix of information available to investors.

BDO urged the SEC to consolidate its MD&A guidance in a single place since doing so may improve the disclosure. The guidance can currently be found in releases, sections of the financial reporting manual, and in compliance and disclosure interpretations. BDO agreed that the SEC should make conforming amendments to Form 20-F for foreign private issuers.

Council of Institutional Investors. The Council of Institutional Investors said the SEC should not allow registrants to exclude the discussion of the earliest year in their MD&A if there has been a material change to either of the two earlier years due to a restatement or a retrospective adoption of a new accounting principle. In those circumstances, CII said the context may be particularly useful in assessing a registrant’s financial condition. As an alternative, CII said the SEC could retain the earliest year requirement but allow registrants to hyperlink to the disclosure rather than repeat it.

CII said it does not support the proposed amendment to eliminate the risk factor examples that appear in Item 503(c). In CII’s view, the examples provide useful guidance and help focus the disclosure. CII also raised concerns about the proposal to permit registrants to omit confidential information from material contracts without submitting a confidential treatment request to the Commission, explaining that the amount of information that is redacted could increase significantly as a result.

Center for Capital Markets Competitiveness. CCMC noted that it has long been a supporter of the SEC’s disclosure effectiveness initiative and it is encouraged that the initiative appears to be back on track. In brief, CCMC said it supports the proposal relating to property disclosures but without any presumptive materiality thresholds; the streamlining of MD&A; the changes relating to the process for reviewing confidential treatment requests; and many of the technical amendments included in the proposing release. CCMC urged the SEC to consider more ambitious reforms to the delivery of periodic reports.

CCMC also urged the SEC to help resolve a split among the circuit courts of appeal resulting from the settlement in Leidos, Inc. v. Indiana Public Retirement System which has created uncertainty about the level of detail that is required in MD&A. The Second Circuit held that an omission of material information that must be disclosed in the MD&A of a quarterly or annual report can provide the basis for a claim of securities fraud even if the omission does not make an affirmative statement misleading. CCMC said the finding that Item 303 of Regulation S-K imposed a duty to disclose the omitted information departed from an earlier Ninth Circuit opinion which held that “pure omissions” are not actionable under Section 10(b) and Rule 10b-5.

In CCMC’s view, the amicus brief filed by the U.S. in Leidos further complicates the analysis for public companies by refuting the Ninth Circuit’s view, and suggested that the SEC provide a formal clarification of its position on the issues in dispute.