Many public companies have found social media sites to be invaluable platforms for communication with customers and investors, but those added benefits have come with some potential pitfalls. In the absence of SEC guidance specifically addressing the use of social media, companies and their counsel were left to try to chart a safe course for using social media without running aground on Regulation FD or other SEC rules. It appeared that Netflix hit a shoal when, on December 5, 2012, the Company and its CEO Reed Hastings received a Wells Notice from the Securities and Exchange Commission with respect to social media comments made by Hastings. A Wells Notice is meant to inform a party that the SEC intends to bring an enforcement action against it and provides the party with an opportunity to explain why the enforcement action is inappropriate.
The comments prompting this Wells Notice were made by Hastings on July 3, 2012. Posting to his personal Facebook page, Hastings stated that “Netflix monthly viewing exceeded 1 billion hours for the first time ever in June.” The Wells Notice indicated that the SEC believed this comment may have violated Regulation FD, which had been adopted by the SEC in August 2000 to address concerns about the selective disclosure of information by public companies. The SEC has summarized Regulation FD as follows: when an issuer discloses material nonpublic information to certain individuals or entities — generally, securities market professionals, such as stock analysts, or holders of the issuer's securities who may well trade on the basis of the information — the issuer must make full public disclosure of that information.
The SEC’s concerns with Hastings’s statement were twofold. First, because Netflix’s business is based largely on selling access to video streaming, statistics relating to viewership are closely-tied to sales figures. This type of information may be material because a reasonable investor would consider it important in making an investment decision. In fact, on the day of Hasting’s post, Netflix shares rose 6.2%.
Second, Hastings made the comment via Facebook, but did not make a concurrent disclosure in a press release or Form 8-K filed with the SEC, the methods most often used by companies to disclose material information. When he made the comment, Hastings had over 200,000 followers on his Facebook page. The SEC, however, is not just concerned about the number of people that information reaches; it is also concerned with the method of dissemination and whether the investment community is on notice of a company’s disclosure practices.
At the time Hastings made the post, the SEC had not expressly addressed the use of social media sites in the context of Regulation FD, but it had provided guidance on the use of company websites as a means of disseminating disclosure. The SEC had issued an interpretive release in August 2008 (Exchange Act Release No. 34-58288) detailing how a company can use its website to provide information to investors in compliance with the federal securities laws. Pursuant to that guidance, a company wishing to use its website to satisfy the “public disclosure” element of Regulation FD must evaluate whether and when:
- a company website is a recognized channel of distribution;
- posting of information on a company website disseminates the information in a manner making it available to securities marketplace in general; and
- there has been a reasonable waiting period for investors and the market to react to the posted information
After the SEC delivered the Wells Notice to Netflix and Hastings, commentators expressed both frustration with the SEC’s actions and skepticism regarding the Commission’s ability to adapt to technological developments. A number of these commentators opined that an enforcement action against Netflix was unlikely to provide clarity. Therefore, many commentators called for the SEC to state whether its 2008 guidance pertaining to company websites may also be applied to communications made via social media sites.
The SEC issued a Report of Investigation, often referred to as a Section 21(a) Report, on April 2, 2013, announcing two important decisions. First, the SEC announced that it would not pursue an enforcement action against Hastings or Netflix. Second, the SEC affirmed that the principles outlined in its 2008 guidance also apply to disclosures made through social media channels.
The market reacted quickly to the SEC’s report. Bloomberg announced, on April 4, 2013, that it planned to integrate Twitter feeds into its terminals, which are used by financial analysts to monitor potentially market-moving information. Netflix filed a Form 8-K with the SEC, on April 10, 2013, to notify the investment community that the company planned on using certain social media outlets to disclose potentially material information. Several companies, such as AutoNation and Infrax Systems, followed suit by filing Form 8-Ks with the SEC using language almost identical to that found in Netflix’s Form 8-K. Similarly, in the press release announcing its first quarter earnings, Zynga identified certain social media sites that it may use to disclose material information. A number of commentators have applauded these developments. They believe social media disclosures allow for even more transparency, because these communications are likely to avoid the legalese and boilerplate language so often found in SEC filings.
Nevertheless, there is still concern with various aspects of social media’s new place in the disclosure realm, with possibly the most high-profile issue being cyber security. The Twitter feed of the Associated Press was hacked on April 23, 2013 and briefly displayed false tweets describing a terrorist attack at the White House. The truth quickly prevailed, but during the brief period of uncertainty, the U.S. stock market plunged. This incident acts as a startling reminder that social media is vulnerable to such attacks.
While the SEC has now officially recognized that social media can be a viable means of communicating material information to the investment community, companies still must take care to closely monitor communications they make via these channels. The informal nature of social media may create a false sense of security, and Netflix’s situation has shown that even casual comments may lead to SEC scrutiny if proper steps are not taken to ensure compliance with Regulation FD. As always, the most certain way to disclose material information in compliance with Regulation FD is to first issue a press release or file the information via the SEC’s EDGAR website.
In its Netflix report, the SEC reminded companies that, while social media may be a convenient way to communicate with the investment community, companies must still analyze their communications for compliance with Regulation FD. Whether Regulation FD has been violated has always been, and will remain, a facts-and-circumstances analysis based on the specific context presented. Therefore, companies should take the utmost care when making communications via social media sites.
If a company decides to use social media to disclose material information, management should ensure that they are complying with the SEC’s 2008 guidance. First, the company should confirm that the marketplace has access to the social media outlets it wishes to use. Meaning, for example, that if a company uses Facebook it should only disclose material information on a page that is open to the public and well-followed. Second, before disclosing material, nonpublic information, a company should alert the investment community of the channels it plans to use. This can be accomplished by filing a Form 8-K with the SEC that lists the specific sites to be used, thus making them “recognized channels of distribution.” Once the investment community has access to these sites and is on notice of their status as a possible source of material information, a company should be free to use them for communications.