Under Section 108 of the JOBS Act of 2012, Congress tasked the SEC to undertake a comprehensive review of requirements under Regulation S-K, with the goal of developing a plan to modernize and simplify the registration process for the newly created category of issuer called an “emerging growth company,” or EGC. The objective was to reduce the associated costs and burden of ongoing compliance with reporting and disclosure requirements. In December 2013, the SEC issued its “Report on Review of Disclosure Requirements in Regulation S-K,” proposing not only to evaluate the requirements under Regulation S-K, but to undertake a comprehensive review of all existing disclosure requirements, including financial statement requirements under Regulation S-X, related rules for presentation and delivery of information to investors, and disclosure requirements developed through SEC staff interpretations, no-action letters, waivers and CD&I guidance. In addition, the SEC stated its intent to evaluate the appropriateness of the current scaled disclosure requirements for all categories of issuers, not just EGCs.
Given that the SEC is still over-burdened with the task of proposing rules to address various matters mandated by Dodd-Frank and the JOBS Act, the SEC is to be commended for adding this monumental undertaking to its workload voluntarily. However, to have limited its review of disclosure requirements simply to Regulation S-K would be doing only half the job, as the staff no doubt determined. A fresh look at the disclosure requirements is required to bring the regime into the 21st century, including an exploitation of available technology to make the disclosure accessible and navigable. Keep in mind that many of the current requirements have their genesis in the original Securities Act of 1933 and Securities Exchange Act of 1934 and have been expanded significantly in the decades since, but yet have not been updated for continued relevance, harmonization and consolidation, and elimination of repetitiveness.
Take, for example, the “risk factor” disclosure common to prospectuses and annual reports. The original requirement dates back to 1968, when companies were required to disclose risks relating to an offering of their securities in registration statements. In 1982, when this requirement was moved in Regulation S-K, companies were asked to include risks relating to the absence of a trading market, if applicable. Today, it is not uncommon to see 30-40 pages of largely boilerplate risk factors, which the market widely acknowledges are primarily read by the SEC staff and plaintiffs’ lawyers rather than the intended investor. Items such as historical stock price disclosures and number of shareholders are now readily available through online resources and company websites, leaving the mandated disclosure requirement with little relevance. Most readers will agree it is far easier to obtain, digest and analyze company information from Bloomberg, The Wall Street Journal, Yahoo! Finance or a myriad of other online sources.
The SEC’s “Industry Guides” for banks, oil and gas programs, REITs, insurance companies and mining companies have not been updated since 1982. In addition, a number of disclosure requirements relating to financial information are now redundant due to having been supplanted by financial accounting rules.
Perhaps one of the more interesting proposals in the SEC Report is that of revamping the entire concept of company disclosure and, instead, creating a “core company profile.” This idea seems to be gaining traction both within the staff as well as with market participants. As outlined by Keith Higgins, the SEC’s Director of the Division of Corporation Finance, in two speeches during 2014, each reporting company would have a “company page” on the SEC’s EDGAR portal where “core” company information would be disclosed. In lieu of the current system of chronological filings, the company page would have tabs such as “Business Information,” “Financial Information,” “Governance Information,” “Executive Compensation,” and “Exhibits.” Consequently, instead of disclosure in an Annual Report on Form 10-K responsive to Regulation S-K Item 101 (Description of Business), there would be a block of structured data and information under the Business Information tab. Exhibits would be readily accessible under one tab, rather than having to search through the chronological files to find the relevant document. Exactly how and when information under the tabs would be updated remains to be developed. As always, the devil is in the detail, but this is an extremely innovative and, quite frankly, revolutionary approach which, if adopted, would completely reconstruct the disclosure regime as we know it today.
The SEC seems to have put everything on the table for review, and public comment letters submitted to date are in broad support of the project, many offering detailed comments on Regulation S-X, Regulation S-K and certain Industry Guides. Moving towards the proposed greater use of a principles-based approach for many disclosures would undoubtedly enhance the disclosure process. No one can argue reasonably with the elimination of redundant, repetitive, boilerplate and outdated disclosures, or the harmonization and consolidation of the current rules, regulations, forms, guidance and interpretations impacting today’s disclosure requirements. Employing available technology to improve the delivery and navigability of disclosure and accessible and comprehensible disclosure could be just a double-click away – it almost seems too good to be true.
Several commentators have advised caution in relation to the statutory safe harbors under the Securities Act and the Exchange Act for forward-looking statements which was added by the Private Securities Litigation Reform Act of 1995. As the SEC coordinates its review of financial disclosures with the Financial Accounting Standards Board, consideration should be given to the placement of certain disclosures containing forward-looking statements to ensure that they qualify for the safe-harbors and do not create an unnecessary increase in liability exposure for issuers. For example, forward-looking information contained in financial statements (including the footnotes), among others, do not qualify for the safe harbors.
The disclosure review and updating project will undoubtedly take more than a year to complete. Market participants, including issuers, investors and industry groups, are encouraged to submit comments to the SEC on particular rules and issues, or more generally on the “core disclosure” or other concepts outlined in the staff’s report. Higgins has a long and solid relationship with industry groups from his work as Chair of the ABA’s Committee on Federal Regulation of Securities. He will need all of these relationships to support and guide the staff’s work. We should anticipate the staff will have interactive forums and roundtables on specific topics as the project progresses. If the SEC and its staff can pull this off, they will have left an indelible mark in the history of federal securities regulation. It is fervently hoped that the staff will remain committed to the challenge it is has set for itself and not become sidetracked by other initiatives.