The Jumpstart Our Business Startups Act (JOBS Act) added the category of Emerging Growth Company (EGC) to the securities laws and included a number of provisions designed to make it easier for EGCs to raise money through public securities offerings. An EGC is a company that had not completed its first registered sale of common equity securities on or before Dec. 8, 2011, and had total gross revenues of less than $1 billion during its most recently completed fiscal year.
One of the methods used by the JOBS Act to make it easier for EGCs to raise funds is the reduction of the disclosures required of EGCs. Consistent with this concept, Section 108 of the JOBS Act requires the SEC to study Regulation S-K and make recommendations for streamlining the disclosure requirements for EGCs.
Regulation S-K is a central depository of the disclosure provisions applicable to a variety of offerings. Rather than repeat these requirements in each registration form and regulation, the registration forms and regulations generally refer to portions of Regulation S-K for the required disclosure items.
Section 108 of the JOBS Act requires this study specifically in relation to EGCs. The idea is complementary to the other JOBS Act provisions relating to EGCs that are designed to make it easier for these companies to raise money in public offerings, in this case by further simplification of the disclosure requirements. As is explained below, the SEC Staff has focused on reviewing the disclosure requirements for all issuers, not just EGCs.
The SEC Staff recommends a comprehensive review of Regulation S-K, not just the provisions impacting EGCs.
The SEC Staff released its study on Dec. 20, 2013. You can access this study here.
The study consists of four sections. In the first section, the SEC Staff briefly explains the requirements of Section 108 of the JOBS Act and the scope of its review.
In the second section of the study, the SEC Staff briefly summarizes the background of Regulation S-K.
In the third section of the study, the SEC Staff summarizes the existing provisions of Regulation S-K. This section includes summaries of the comment letters posted on the SEC website relating to this study. This summary of Regulation S-K is descriptive rather than analytical.
The fourth section contains the recommendations of the SEC Staff.
The staff recommends a comprehensive review of Regulation S-K, taking into account:
- The appropriateness of substantive requirements as a whole.
- Presentation and delivery issues.
The staff also mentions as an alternative, but does not recommend, a review that would involve a targeted approach (reviewing and updating requirements on a topic-by-topic basis).
The staff notes that economic analysis also needs to be taken into account in any re-evaluation of disclosure requirements.
The press release that accompanied the study indicated that Mary Jo White, chairman of the SEC, had directed the SEC Staff to prepare specific recommendations. In our very recent discussions with the SEC Staff, the staff stated that it is currently formulating an action plan for this project. However, the staff indicated that the procedure for going forward had not yet been determined and that there was no concrete time frame for completion.
The staff intends to obtain input from third parties in developing its recommendations. The staff was not in a position to state whether it will proceed with a comprehensive review, a targeted review or a review with EGCs in mind, as Section 108 of the JOBS Act seems to provide for. Based on the content of the study, a comprehensive review seems more likely.
In any case, the follow-up to this study has the potential for initiating important changes to the current disclosure rules. The remaining sections below provide more detailed information about the areas the staff recommends be reviewed and potentially revised. As described below, many of the changes suggested by the staff in the study would involve major revisions. For example, a principles-based approach to the disclosure provisions, which is recommended by the staff, would involve significant changes. Accordingly, we will monitor this matter.
Detailed description of SEC Staff suggestions of potential areas for further study
The SEC Staff included preliminary suggestions for further study and information gathering in the study as follows:
- First, as a general matter, the staff believes that any recommended revisions should emphasize a principles-based approach as the basic disclosure framework, similar to the current approach for MD&A.
- Second, the staff recommends an evaluation of the appropriateness of current scaled disclosure requirements and whether further scaling would be appropriate for EGCs (or other types of issuers). For this purpose, “scaling” refers to disclosure requirements that vary depending on the size of the issuer, resulting in simpler disclosure requirements for smaller issuers.
- Third, the staff also recommends an evaluation of methods of information delivery and presentation, through both the EDGAR system and other means. For example, the review could explore a possible filing and delivery framework based on the nature and frequency of the disclosures, including a “core” disclosure or “company profile” filing with information that changes infrequently, periodic and current disclosure filings with information that changes from period to period, and transactional filings that have information relating to specific offerings or shareholder solicitations.
- Finally, the staff recommends consideration of ways to present information that would improve the readability and navigability of disclosure documents through the use of technology such as hyperlinks.
In addition to these issues, the staff identified the following specific areas of Regulation S-K for further review, among others:
Risk-related requirements. The requirements for risk-related disclosures should be reviewed in order to improve the disclosures and to identify whether different risk-related disclosures should be required, including:
- Whether to combine the provisions relating to risk factors, legal proceedings, and other quantitative and qualitative information about risk and risk management into a single requirement.
- Reconsideration of the requirements for quantitative and qualitative market risk in Item 305 and review of whether alternative approaches to risk disclosures are more appropriate.
Requirements relating to a registrant’s business and operations. The requirements for descriptions of business and properties should be reviewed for continuing relevance in light of changes that have occurred in the way that businesses operate. For example, information about principal properties was material when all businesses needed a physical presence but is no longer as relevant for businesses that do not require physical locations to operate or can easily substitute physical locations without any material impact on their operations. For businesses that do have properties that are material, disclosure requirements could be refocused on material facts about those properties that would inform investors about the significance of the property to the business and any trends or uncertainties in connection with that property, rather than requiring a list of locations, capacity and ownership. Changes in the way that businesses operate may also make other disclosures that are not expressly addressed under current requirements relevant, such as where a business relies heavily on intellectual property owned by a third party or relies on service agreements with third parties to perform necessary business functions.
Requirements relating to the description of the business should be reviewed to confirm that the information elicited remains relevant, and such a review could consider issues relating to presentation and delivery of the information, as well as the potential for calibrating the information for different types of investors. In addition, the requirements could be re-evaluated in light of their particular emphasis on disclosure relating to non-U.S. operations and risks relating to dependence of any segments on non-U.S. operations.
Corporate governance disclosure requirements. The requirements for corporate governance disclosure should be reviewed to confirm that the information is material to investors and is presented in a manner that provides investors with effective access to material information and avoids boilerplate. Alternative forms of presentation of the information, such as including the information in a filing that is updated only when changes occur, should also be evaluated.
Executive compensation requirements. The staff recommends an evaluation of executive compensation disclosure in light of concerns that this area generally contains complex, lengthy, technical disclosure. The review could also evaluate whether further scaling is appropriate.
Offering-related requirements. The staff recommends a thorough review of the disclosure requirements relating to offerings, in light of technological changes in information delivery, including, among others, requirements for the presentation of information in prospectuses, required legends and undertakings. The staff also recommends review of the disclosure requirements relating to underwriting agreements and the consideration of the use of a principles-based approach for various items.
Exhibit requirements. The staff believes it would be beneficial to review the manner in which exhibits are made publicly available on the SEC’s website, as well as comprehensively review the requirements to confirm whether the documents called for remain relevant and useful and whether other documents should be added.
The staff also recommends a review of the other general requirements included in Item 10 of Regulation S-K.
The staff also suggests seeking the input of market participants on whether the requirements of Regulation M-A should be reviewed.
Emerging Growth Companies
The staff recommends further consideration of the criteria to be used for purposes of eligibility for potential further scaling of disclosure requirements and, in particular, whether further scaling would be appropriate for companies that meet criteria other than the qualifications for EGC status. Economic principles should be considered in determining which companies should be allowed to scale their disclosures, how companies should migrate to a standard disclosure regimen as they mature and the extent to which disclosure of previously undisclosed information should later be required.
The staff also recommends review of:
- The Industry Guides.
- The financial reporting and disclosure requirements of Regulation S-X.
- The disclosure requirements contained in rules and forms.