SEC Adopts First Steps in Disclosure Simplification

Background

Companies should note that the amendments include a large number of amendments affecting disclosure under Regulation S-X, which governs financial statement and related disclosures. This alert principally deals with amendments that affect U.S. companies, with related amendments that affect Foreign Private Issuers (FPIs) noted below. In most cases, the amendments that affect FPIs are contained in SEC forms (e.g., Forms 20-F, F-1 and F-3).

In conjunction with the release adopting the final amendments (the “Adopting Release”), the SEC published a “demonstration version” that is essentially a redlined version of the rules, regulations and forms affected by the amendments. The demonstration version also shows (in red text) a number of current disclosure requirements which, although unaffected by the amendments, have been referred by the SEC to the FASB for potential future incorporation into U.S. GAAP. The demonstration version cautions that it does not include the official text of the amendments, which are contained in the Adopting Release.

What Companies Should Be Doing Now

The amendments are expected to be effective in early October 2018, and are therefore expected to affect Form 10-Q reports for the quarter ended September 30, 2018, as well as Form 10-K reports and registration statements filed after the effective date.

Although the amendments are largely technical and generally reduce or eliminate previously required disclosures rather than adding new disclosure requirements, companies should review the amendments with their legal and accounting professionals and their disclosure committees, and ensure that their disclosure controls and procedures reflect the amendments. Companies should also be aware that to the extent that the amendments consolidate and relocate disclosures that were previously contained in narrative disclosure sections of periodic reports and registration statements into the footnotes to the company’s financial statements, these disclosures will not be covered by the safe harbor for forward-looking statements contained in the Private Securities Litigation Reform Act of 1995.

Finally, companies should also note that the recent SEC amendments affecting the definition of “Smaller Reporting Company” and XBRL requirements, summarized in our alerts dated July 9 and July 24, respectively, both included changes to the facing (cover) page of Form 10-Q and Form 10-K. The XBRL amendments also eliminated certain XBRL disclosure and web posting requirements as of the effective date of those amendments. These changes should also be reflected in Form 10-Q reports filed for the quarter ended September 30, 2018.

Effective Date

The amendments will be effective 30 days after publication in the Federal Register, which is expected to be in early October 2018.

Summary of Principal Amendments to Regulation S-K

As noted above, the Adopting Release amends a large number of SEC financial and textual disclosure requirements and related forms for periodic reports and registration statements. The following discussion summarizes the most significant amendments affecting SEC textual disclosure requirements.

Description of Business (Item 101)

Financial Information About Segments (Item 101(b); Item 7(b) of Form 1-A and Regulation S-X Rule 3-03(e)).  The amendments delete the requirement to disclose financial information about segments in the description of the company’s business. Note that some companies’ Description of Business section did not include this disclosure in that discussion because SEC rules permitted companies to include this information in their financial statements and provide a cross-reference to that disclosure in the business description. See Section III.B.3 of the Adopting Release.

Research and Development Expenses (Item 101(c)(1)(xi) and Item 101(h)(x) for Smaller Reporting Companies (SRCs)).  The amendments delete the requirement to disclose estimated material amounts spent on research and development activities, and delete similar requirements for Smaller Reporting Companies in Item 101(h). The SEC notes that disclosure of trends related to material research and development activities and expenses continues to be required by Item 303 (MD&A) of Regulation S-K, and may also be provided voluntarily in a company’s business description or elsewhere in periodic reports and registration statements. Foreign Private Issuers continue to be subject to this requirement. See Section III.B.1 of the Adopting Release. The amendments include a similar change in Form 20-F.

Financial Information About Geographic Areas (Item 101(d)).  The amendments delete the requirement to disclose financial information by geographic area and related risks in the description of business. The SEC has also amended Item 303(a) of Regulation S-K to add an explicit reference to “geographic areas” to the current requirement to discuss elements of the company’s income that are not indicative of its ongoing business. However, the SEC does not intend this added reference to create a disclosure requirement for companies “in all circumstances.” Instead, the SEC clarified in the Adopting Release that MD&A disclosure about geographic areas is not required unless management believes that discussion of income from geographical areas would be appropriate for an understanding of a company’s business. See Section III.B.3 of the Adopting Release.

Disclosure Concerning Company Website, SEC Website and SEC Public Reference Room (Item 101(e)(2) and Item 101(h)5(iii) for SRCs).  The amendments delete the requirement to identify the SEC Public Reference Room and its physical address and phone number. The amendments continue to require disclosure of the SEC’s internet address and the availability of SEC filings, and delete the prior exception from this disclosure requirement for non-electronic filers. Related amendments delete the corresponding requirements from a variety of SEC forms, including Forms S-1, S-3, S-4, S-11, F-1, F-3 and F-4, among others.

The amendments will also require disclosure of the company’s internet address, if it has one, by all companies in registration statements and Form 10-Ks. Previously, only accelerated and large accelerated filers had been subject to this disclosure requirement in Form 10-Ks and certain other filings. Related amendments affect a variety of SEC forms, including Forms S-3, S-4, F-1, F-3, F-4 and 20-F, among others. See Section III.C.3 of the Adopting Release.

Market Price of and Dividends on the Company’s Common Equity (Item 201)

Trading Prices and Trading Market for Common Equity (Item 201(a)(1)).  The amendments add a requirement to disclose the trading symbol(s) for each class of the company’s common equity to the continuing requirement to disclose the principal U.S. trading market(s) for the company’s common equity securities. The amendments eliminate the requirement to disclose the high and low sales prices for each full quarterly period during the most recent two fiscal years and interim periods.

For non-exchange-traded common equity securities, the amendments modify existing disclosure requirements to require only disclosure concerning specific limitations and qualifications for over-the-counter market quotations.

For common equity securities for which there is no established public trading market, the amendments require disclosure of that fact and, if applicable, the range of high and low bid information for each full quarterly period within the two most recent fiscal years and any subsequent interim period for which financial statements are required. The amendments also require narrative disclosure concerning the source and nature of these quotations, with “appropriate explanation.” See Section IV.C.1 of the Adopting Release.

The amendments revise Form 20-F to implement disclosure changes for FPIs that are similar to the changes in Item 201(a) for domestic companies.

Warrants, Rights and Convertible Instruments (Item 201(a)(2)(i)).  The amendments eliminate the requirement to disclose on Form S-1 and Form 10 the amount of common equity subject to outstanding options, warrants or convertible securities if the class has no established U.S. public trading market. See Section III.B.1 of the Adopting Release.

Dividends (Item 201(c)(1)).  The amendments eliminate the requirement to disclose (1) the frequency and amount of cash dividends on common equity and (2) restrictions that materially limit the company’s current ability to pay such dividends or that are likely to limit materially the company’s future ability to pay such dividends. An amendment to Rule 3-04 of Regulation S-X will require disclosure of the amount of cash dividends paid or declared in interim financial periods. A related amendment to Rule 4-08(e)(3) of Regulation S-X will require financial statement footnote disclosure of dividend restrictions when they are material, rather than based on the previous bright-line threshold of Rule 4-08(e)(3). See Sections III.B.2 and III.C.2 of the Adopting Release.

Ratio of Earnings to Fixed Charges (Item 503(d) and Exhibit 12 (Item 601(b)(12))

The amendments delete the requirements to provide historical and pro forma ratios of earnings to (1) fixed charges (for registered sales of debt securities) and (2) fixed charges and preferred equity dividends (for registered sales of preferred equity securities).

The amendments also delete the requirement to file Exhibit 12 showing these ratios. Many companies include Exhibit 12 with their periodic reports so that these ratios are incorporated by reference into shelf registration statements on Form S-3; these companies can eliminate that exhibit beginning with their first periodic report filed after the effective date of the amendments. See Section III.B.1 of the Adopting Release.

MD&A – Seasonality (Item 303(b), Instruction 5)

The amendments delete the reference to seasonality disclosure in MD&A (Instruction 5 to Item 303(b)), but retain the requirement to disclose seasonality in the business section (Item 101(c)(1)(v). Companies should note that other general disclosure requirements in Item 303 may continue to require disclosure regarding seasonality even though the specific instruction is eliminated. In the Adopting Release the SEC stated that “[w]e also believe that, even without this instruction, the requirements in Item 303 elicit disclosure of forward-looking information in interim reports to the extent that the effects of seasonality may become material.” See Section III.B.3 of the Adopting Release.