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Financial Reporting and Regulatory Update

First Quarter 2020

From the SEC

Response to the CARES Act for loan modifications and option to delay current expected credit losses (CECL)

Option to delay GAAP provisions

On April 3, 2020, the chief accountant of the SEC issued a statement noting the Coronavirus Aid, Relief, and Economic Security Act (CARES Act) provides the option to temporarily defer or suspend the application of two provisions of GAAP and would be in accordance with GAAP. The two provisions of the act are Section 4013, “Temporary Relief From Troubled Debt Restructurings (TDRs),” and Section 4014, “Optional Temporary Relief From Current Expected Credit Losses.”

As such, eligible registrants can elect to take the delay. Registrants must make the election for the first quarter. During the delay, a registrant would continue to use the incurred loss model for the allowance for loan and lease losses (ALLL) for each quarter. The delay ends the earlier of the termination of the national emergency or Dec. 31, 2020.

Based on consultation with the SEC staff, the following illustrates when the delay ends and how transition occurs:

  • If the national emergency terminates on June 5, 2020, adopt CECL that quarter (June 30, 2020), retrospective to Jan. 1, 2020.
  • If the national emergency terminates on Nov. 1, 2020, adopt CECL that quarter (Dec. 31, 2020), retrospective to Jan. 1, 2020.
  • If the national emergency does not terminate by Dec. 31, 2020, adopt CECL as of Dec. 31, 2020, retrospective to Jan. 1, 2020.

The result is all calendar year registrants will reflect CECL in their 2020 Form 10-K.

COVID-19 resources and guidance

Coronavirus response

The SEC has established a COVID-19 response page that describes how the SEC is addressing the impact of COVID-19 through maintaining SEC operations continuity; monitoring markets and engaging with market participants; providing guidance and targeted regulatory assistance and relief, enforcement, examinations, and investor education; and extending comment periods for certain pending actions and rules. The page includes links to all of the current resources and guidance available from the SEC.

Extension of conditional reporting deadline relief for public companies

On March 25, 2020, the SEC issued an order, which supersedes its March 4 order, giving registrants affected by COVID-19 temporary relief from certain filing and regulatory requirements. The order provides an additional 45 days to make required Exchange Act filings that would have been due between March 1 and July 1, 2020, if a registrant is unable to meet a deadline because of circumstances related to COVID-19.

The order specifies that a Form 8-K must be filed by the later of March 16, 2020, or the original report deadline, and the Form 8-K should include:

  • A statement that the registrant is relying on the order
  • A brief description of why the registrant could not file on time
  • The estimated date by which the registrant expects to file the report or form
  • If appropriate and material, an explanation of the risk factor of COVID-19 on the registrant’s business
  • If the reason the report could not be filed on time relates to the inability of any person, other than the registrant, to furnish any required opinion, report, or certification, an exhibit statement signed by such person stating the specific reasons why he or she could not furnish such items

A Form 12b-25 does not need to be filed if the report is filed within 45 days of the original filing deadline, and registrants can rely on Rule 12b-25 if they are unable to file the required reports on or before the extended due date.

Additionally, the SEC clarified that, for purposes of the eligibility to use Form S-3 or Form S-8 and to meet the current public information eligibility requirements of Rule 144(c), a company relying on this temporary relief order will be considered current in its filing requirements under the Exchange Act if it was current as of March 1, 2020, and it files any report due during the relief period within 45 days of the original filing deadline.

The order also provides certain relief for delivery of proxy or information statements to security holders under the Exchange Act when mail delivery is not possible.

SEC statement on importance of disclosures

On April 8, 2020, SEC Chairman Jay Clayton and Director of the SEC’s Division of Corporation Finance (Corp Fin) William Hinman jointly issued a public statement providing observations addressing the importance of disclosure in this time of uncertainty and requesting actions. The statement includes a call to action “that companies provide as much information as is practicable regarding their current status and plans for addressing the effects of COVID-19.” In addressing this call to action the SEC recognizes “that producing forward-looking disclosure can be challenging and believe that taking on that challenge is appropriate” and that “robust, forward-looking disclosures will benefit investors, companies and, more generally, our fight against COVID-19. Such disclosures will facilitate communication and coordination among the public and private sectors.”

Related to developing robust disclosures as the country’s response to COVID-19 has significantly affected the economy and markets, the statement highlights the following:

“Disclosures should reflect this state of affairs and outlook and, in particular, respond to investor interest in: (1) where the company stands today, operationally and financially, (2) how the company’s COVID-19 response, including its efforts to protect the health and well-being of its workforce and its customers, is progressing, and (3) how its operations and financial condition may change as all our efforts to fight COVID-19 progress. Historical information may be relatively less significant.”

Coronavirus disclosure guidance

Also on March 25, 2020, Corp Fin staff issued “CF Disclosure Guidance: Topic No. 9 – Coronavirus (COVID-19),” which summarizes the staff’s views on disclosure and other securities law obligations that companies should consider with respect to COVID-19 impacts and disruptions. The staff acknowledges the difficulty in precisely assessing or predicting the company-specific COVID-19 impacts because the actual impacts depend on factors beyond a company’s control. However, the staff also points out that company-specific COVID-19 disclosure (for example, the effects of COVID-19 on the company, management’s expectation of future impacts, and management’s response to current events and plans for related uncertainties) might be material to investment and voting decisions.

The guidance reminds registrants of the need for disclosures related to COVID-19 within the context of the principles-based disclosure system of the federal securities laws and the SEC’s focus on registrant disclosure of new and evolving risks, and then delves deeper on specific disclosure topics including:

  • Assessing and disclosing the impact of COVID-19. The guidance provides a list of questions for registrants to ask with respect to their present and future operations and reminds registrants of the availability of safe harbors for forward-looking statements in Section 27A of the Securities Act and Section 21E of the Exchange Act.
  • The need to refrain from trading prior to the disclosure of material nonpublic information. The guidance reminds registrants of their obligations to monitor their market activities, refrain from selective disclosures, and update disclosures when necessary.
  • Reporting earnings and financial results. The staff encourages effective project management steps to address unique and complex accounting issues (for example, early engagement of third-party experts for goodwill impairment assessment) and provides thoughts on non-GAAP measures.

Registrants requiring additional guidance are encouraged to contact the staff directly.

Manual signature guidance

On March 24, 2020, Corp Fin staff (in conjunction with the Division of Investment Management and the Division of Trading and Markets) released a statement regarding the manual signature requirements for certain documents filed electronically with the SEC under Rule 302(b) of Regulation S-T. While the staff continues to expect compliance with the rule, the staff recognizes the health, transportation, and logistical difficulties resulting from COVID-19. The statement indicates that, due to these difficulties, the staff will not recommend enforcement action with respect to Rule 302(b) if the filer meets certain specific procedural requirements, as outlined in the statement.

Guidance to promote continued shareholder engagement

The SEC issued guidance on March 13, 2020, aimed at assisting public companies, investment companies, shareholders, and other market participants affected by COVID-19 with their upcoming annual shareholder meetings. The guidance provides information regarding changing the date, time, or location of an annual meeting including using technology and holding virtual shareholder meetings. It also addresses presentation of shareholder proposals including providing alternatives.

In the press release, the SEC reiterates that it will continue to closely monitor the impact of COVID-19 on investors and the capital markets. It also encourages companies, shareholders, and other market participants to contact the SEC staff with any questions and concerns.

Joint statement on financial reporting considerations for the coronavirus

On Feb. 19, 2020, the SEC and PCAOB issued a joint statement covering, among other items, the effects of the coronavirus on financial reporting including the issuer’s disclosures and the audit firm’s audit quality. The statement acknowledges that the effects of the coronavirus on any particular industry or issuer might not be known. However, users might need disclosure of how issuers plan for and respond to coronavirus events. The statement reminds companies to work with their audit committees and auditors to “ensure that their financial reporting, auditing and review processes are as robust as practicable in light of the circumstances in meeting the applicable requirements.”

 

Public statements and announcements

Postponed compliance outreach seminar

The SEC has postponed its national compliance outreach seminar scheduled for April 21, 2020, at its headquarters in Washington, D.C., and will reschedule it for later this year if appropriate. It would be the SEC’s 10th seminar covering regulations, compliance, and investor protection topics for senior personnel of investment companies and investment advisory firms.

Audit committee’s role in financial reporting

On Dec. 30, 2019, SEC Chairman Jay Clayton, Chief Accountant Sagar Teotia, and Corporation Finance Director William Hinman issued “Statement on Role of Audit Committees in Financial Reporting and Key Reminders Regarding Oversight Responsibilities.”

The statement acknowledges the vital role of audit committees in financial reporting and oversight in the preparation and review of financial information for investors and markets. It addresses potential focus areas for audit committees for the 2019 calendar year-end financial reporting process. The statement’s observations are intended to help audit committees carry out their year-end work, including promoting constructive dialogue among audit committees, management, and independent auditors. Financial reporting and auditing topics highlighted in the statement include the audit committee’s role in setting the tone at the top, responsibility for auditor independence, implementation of new significant accounting standards, and communications with the audit committee.

Additionally, the statement provides more specific observations on the audit committee’s responsibilities related to non-GAAP measures, reference rate reform, and critical audit matters

Rules and guidance

Amendments to accelerated and large accelerated filer definitions

On March 12, 2020, the SEC adopted amendments to the accelerated filer and large accelerated filer definitions, which will result in fewer registrants being required to obtain an auditor attestation on the effectiveness of internal control over financial reporting (ICFR). According to the final rule, an issuer that qualifies as an SRC and has annual revenues of less than $100 million also qualifies as a nonaccelerated filer and, therefore, is not required to obtain an auditor’s attestation on ICFR and is not subject to any accelerated filing requirements.

The table summarizes the new definitions with regards to public float and revenue classification thresholds for each potential category of issuer:

Thresholds and resulting filing status

Public float

Annual revenues

Filing status

Less than $75 million

N/A

SRC and nonaccelerated filer (ICFR attestation not required)

 

$75 million to less than $700 million

 

Less than $100 million

$75 million to less than $250 million

$100 million or more

SRC and accelerated filer

$250 million to less than $700 million

$100 million or more

Accelerated filer (not SRC)

$700 million or more

N/A

Large accelerated filer

The amendments have no impact on the statutory exemption from Section 404(b) afforded to an issuer that qualifies as an emerging growth company. The amendments also do not change the requirement that companies establish, maintain, and provide management’s assessment on the effectiveness of ICFR.

Additionally, the amendments increase the public float transition threshold for an accelerated filer or large accelerated filer to become a nonaccelerated filer to $60 million from $50 million, and for a large accelerated filer to become an accelerated filer to $560 million from $500 million. Also, a revenue test was included in the transition thresholds for exiting both accelerated and large accelerated filer status.

The amendments became effective April 27, 2020, and apply to an annual report filing due on or after the effective date.

Financial disclosure requirements related to debt offerings

The SEC adopted, on March 2, 2020, amendments to the financial disclosure requirements for registered debt offerings that include credit enhancements, such as subsidiary guarantees, or affiliates whose securities are pledged as collateral. The requirement changes are designed to improve the quality of disclosure and increase the likelihood that issuers will complete registered debt offerings.

Included among the disclosure requirement changes, the SEC reduced the circumstances that require separate audited financial statements of subsidiary issuers and guarantors. In place of separate statements, the SEC simplified the required alternative disclosures. Regarding separate financial statements of affiliates whose securities are pledged as collateral for registered securities, the SEC revised the required disclosure to be similar to those for subsidiary issuers and guarantors.

The amendments will be effective Jan. 4, 2021, but early voluntary compliance is permitted.

Proposed rule changes to the exempt offering framework

To promote capital formation and increase investment opportunities while still protecting investors, the SEC proposed changes to the framework for securities offerings that are exempt from registration. The amendments, as proposed on March 4, 2020, are aimed at simplifying and improving the exempt offering framework, which currently includes 10 different exemptions and complex rules covering issuers with multiple securities transactions.

Incorporating feedback received on the SEC’s concept release in June 2019, the proposal would, among other changes, create an integration principle to help determine whether multiple securities transactions by an issuer should be considered part of the same offering, provide certain safe harbors, increase certain types of offering and investment limits, expand the availability of certain “test-the-waters” communications for exempt securities, and simplify certain disclosure and eligibility requirements and disqualification provisions to decrease differences among the multiple exemptions.

Comments are due June 1, 2020.

 

Proposal to modernize key market infrastructure for securities market data

The SEC released, on Feb. 14, 2020, a proposal to modernize the infrastructure for market data collection, consolidation, and dissemination for exchange-listed national market system (NMS) stocks. The proposal would “update and expand the content of NMS market data to better meet the diverse needs of investors in today’s equity markets. The Commission has not significantly updated the rules that govern the content and dissemination of NMS market data since their initial implementation in the late 1970s.” As part of the proposal, competitive forces would be included in the national market system, which would increase the NMS market data and potentially benefit all market participants.

This proposal is the latest initiative in the SEC’s efforts to modernize the national market system to better fit the needs of investors and other market participants.

Comments on the proposal are due May 26, 2020.

Interpretive guidance on key performance indicators

On Feb. 25, 2020, the SEC published interpretive guidance on the use of key performance indicators (KPIs). KPIs can include measures defined in GAAP, a non-GAAP measure, or a different measure. GAAP and non-GAAP measures differ from other KPIs in that specific frameworks exist for their use (for example, non-GAAP measures are defined in Item 10(e) of Regulation S-K, and specific rules and requirements exist for the use of non-GAAP measures in SEC filings). KPIs other than GAAP or non-GAAP measures are not directly addressed in SEC rules or regulations.

The interpretive guidance provides guidance on the types of disclosures the SEC would expect with respect to KPIs, including when the entity changes the calculation or method used to compare the KPIs from one period to another. It also reminds registrants of the need to consider disclosure controls and procedures when disclosing a KPI.

Proposed changes to MD&A and other disclosures

On Jan. 30, 2020, the SEC announced that it is proposing amendments to modify certain Regulation S-K financial disclosure requirements and is issuing guidance on KPIs and metrics in management’s discussion and analysis (MD&A).

The proposed amendments would eliminate duplicative disclosures including item 301 (selected financial data) and item 302 (supplementary financial data). They also would amend item 303 (MD&A).

Proposed changes to MD&A requirements include:

  • Adding a new item 303(a) to state the principal objectives of MD&A
  • Replacing item 303(a)(4), off balance sheet arrangements, with a principles-based instruction to guide registrants to discuss off balance sheet arrangements in the broader context of MD&A
  • Removing item 303(a)(5), tabular disclosure of contractual obligations
  • Including a new item 303 disclosure requirement for critical accounting estimates
  • Changing the item 303(b) interim MD&A requirement to provide flexibility by allowing companies to compare their most recently completed quarter to either the corresponding quarter of the prior year (as is currently required) or to the immediately preceding quarter

The guidance on KPIs and metrics provides that, where companies disclose metrics, the SEC would expect to see additional disclosures such as:

  • Definition of the metric and how it is calculated, including estimates and assumptions
  • Reasons why the metric provides useful information to investors
  • Description of how management uses the metric in managing or monitoring the performance of the business
  • Description of changes in the method for calculating metrics and reasons for the changes, if applicable

The guidance also reminds companies of the requirements in Securities Exchange Act rules 13a-15 and 15d-15 to maintain disclosure controls and procedures and notes that companies should consider these requirements when disclosing metrics.

Comments were due April 28, 2020.

Cybersecurity and resiliency observations

On Jan. 27, 2020, the SEC’s Office of Compliance Inspections and Examinations shared cybersecurity and operational resiliency examination observations in a report highlighting approaches taken by market participants in the following areas:

  • Governance and risk management
  • Access rights and controls
  • Data loss prevention
  • Mobile security
  • Incident response and resiliency
  • Vendor management
  • Training and awareness

The publication notes that not all of the practices described are suitable for all organizations, but the SEC is providing these observations, including example practices and controls to safeguard against threats and respond to incidents, to help market participants as they consider ways to improve cybersecurity preparedness and operational resiliency.

Guidance on Regulation S-K interpretation

On Jan. 24, 2020, the Corp Fin updated its Compliance and Disclosure Interpretations (C&DI) of Regulation S-K. New questions 110.02, 110.03, and 110.04 provide guidance on preparing item 303, MD&A of financial condition and results of operations.

Proposal to update auditor independence framework

The SEC announced, on Dec. 30, 2019, a proposal to codify certain staff consultations and update parts of its auditor independence framework. Since the rules were most recently revised in 2003, capital markets and market participants have changed significantly. The proposed amendments would let audit committees and SEC staff focus more on relationships and services that might pose threats to an auditor’s objectivity and impartiality and less on those that might trigger nonsubstantive rule breaches or time-consuming audit committee review of nonsubstantive matters.

Comments were due March 16, 2020.

Disclosure guidance for international intellectual property and technology risks

On Dec. 19, 2019, the Corp Fin staff issued “CF Disclosure Guidance: Topic No. 8 – Intellectual Property and Technology Risks Associated With International Business Operations.” The guidance presents Corp Fin’s views of disclosures that companies should consider for intellectual property and technology risks that might arise during the companies’ participation in international operations.

Guidance on confidential treatment applications

Corp Fin, on Dec. 19, 2019, issued “CF Disclosure Guidance: Topic No. 7 – Confidential Treatment Applications Submitted Pursuant to Rules 406 and 24b-2,” detailing how and what companies should submit when filing an application objecting to public release of information that otherwise is required to be filed under the Securities Act and the Securities Exchange Act. This guidance replaces and supersedes the guidance provided in Staff Legal Bulletins 1 and 1A.

Examination priorities

The SEC’s Office of Compliance Inspections and Examinations (OCIE) revealed, on Jan. 7, 2020, its 2020 examination priorities. Annually, the OCIE publishes its examination priorities to provide transparency into its examination program and insights into its risk-based approach, including the areas that might present risks to investors and U.S. capital market integrity.

The OCIE’s 2020 examination priorities are categorized as follows:

  • Protection of retail investors, including seniors and those saving for retirement
  • Market infrastructure with specific focus on the security and resiliency of entities’ systems
  • Information security
  • Focus areas related to investment advisers, investment companies, broker-dealers, and municipal advisers
  • Anti-money laundering programs
  • Financial technology and innovation, including digital assets and electronic investment advice
  • Financial Industry Regulatory Authority and Municipal Securities Rulemaking Board operations

In the release, the SEC says that the “published priorities for FY 2020 are not exhaustive and will not be the only areas OCIE focuses on in its examinations, risk alerts, and investor and industry outreach.”                

Staffing updates

On March 12, 2020, the SEC announced that after nearly 20 years of public service Kyle Moffatt, chief accountant and disclosure program director of Corp Fin, would leave the SEC later that month. Upon Moffatt’s departure, Lindsay McCord and Patrick Gilmore, deputy chief accountants in Corp Fin, will become acting chief accountant and acting disclosure review program director, respectively.

On Feb. 13, 2020, the SEC announced that Nancy Sumption will serve as Chairman Clayton’s senior adviser for cybersecurity policy. The responsibilities of this role include addressing coordination efforts on cybersecurity policy throughout the SEC, connecting with external stakeholders on cybersecurity matters, and improving the SEC’s processes for assessing and responding to cyberrelated risks. Sumption has nearly three decades of legal, policy, operations, and executive risk management experience working in both the national security and corporate sectors.