SEC Adopts Amendments to MD&A and Financial Disclosures

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On November 19, 2020, the Securities and Exchange Commission (SEC) adopted amendments to Regulation S-K to modernize, simplify and enhance certain financial disclosure requirements in the Management’s Discussion and Analysis of Financial Condition and Results of Operations (MD&A) section of applicable SEC filings, including Form 10-Ks, Form 10-Qs and registration statements on Form S-1. As part of these amendments, the SEC removed a number of prescriptive items required by Regulation S-K and replaced those items with a more principles-based framework for MD&A disclosures. The adopting release is available here.

Companies will be required to comply with the amended rules for their first fiscal year ending on or after 210 days after publication in the Federal Register, which is referred to as the “mandatory compliance date.” As a result, calendar year-end companies will need to start complying with the amended rules for their annual reports on Form 10-K for the year ending December 31, 2021. Companies will be required to apply the amended rules in a registration statement and prospectus that on its initial filing date is required to contain financial statements for a period on or after the mandatory compliance date. Companies may voluntarily elect to provide disclosure consistent with the final rules any time after the effective date (which is 30 days after publication in the Federal Register), so long as they provide disclosure responsive to an amended item in its entirety and provide such disclosure in all applicable filings going forward.

The amendments were adopted by the SEC by a vote of 3-2, with Commissioners Lee and Crenshaw dissenting. The dissenting Commissioners, in a joint statement, noted their objection to two significant aspects of the rule. First, they noted that the final rule eliminates the contractual obligations table which they believe “currently provides investors with critical insight into supply chain and risk management.” Second, they noted that the amendments fail “completely to address climate risk.” In their statement, the dissenting Commissioners urge the SEC to engage in new rulemaking specific to climate, human capital and other ESG risks going forward. While acknowledging that some commenters had provided input addressing whether there is a need for additional disclosure requirements related to ESG and sustainability matters, the final amendments adopted by the SEC did not add any new requirements for MD&A disclosures with respect to ESG or sustainability matters, noting the SEC’s principles-based approach to MD&A and the SEC’s existing interpretive guidance regarding disclosure related to climate change (see Release No. 33-9106 (February 8, 2010)).

Final Amendments

The SEC had proposed amendments on January 30, 2020 as part of the SEC’s “Disclosure Effectiveness Initiative,” informed by the objectives of the Fixing America’s Surface Transportation Act, which, among other things, required the SEC to study ways that Regulation S-K can be modernized and simplified. The amendments, which were adopted substantially as proposed with certain modifications, reflect the SEC’s long-standing commitment to a principles-based, registrant-specific approach to disclosure. The amendments are summarized in Appendix A to this alert (available here).

The more significant amendments to Regulation S-K include:

• eliminating Item 301 (Selected Financial Data), which generally requires companies (with exceptions for smaller reporting companies and emerging growth companies) to furnish selected financial data in comparative tabular form for each of the last five fiscal years;
• streamlining Item 302 (Supplementary Financial Information), which requires disclosure of selected financial data for each quarter within the two most recent fiscal years, to require disclosure only when there are one or more retrospective changes that pertain to the statements of comprehensive income for any of the quarters within the two most recent fiscal years and any subsequent interim period;
• enhancing Item 303(a)(2)(i) in a newly captioned Item 303(b)(1)(ii) (Capital Resources) to require discussion of material cash requirements of the company, including but not limited to capital expenditures (currently the requirement is to discuss material commitments for capital expenditures only);
• replacing Item 303(a)(4) (Off-Balance Sheet Arrangements), which requires disclosures about off-balance sheet arrangements in a separately captioned section, with an instruction regarding the need to discuss such obligations in the broader context of MD&A;
• eliminating Item 303(a)(5) (Contractual Obligations Table), which generally requires companies (other than smaller reporting companies) to disclose in tabular format their known contractual obligations by type of obligations and overall payments due, and amending Item 303(b) to specifically require disclosure of material cash requirements from known contractual and other obligations as part of the liquidity and capital resources discussion;
• adding a new Item 303(b)(3) to expressly require disclosure of critical accounting estimates and including an instruction specifying that the disclosure of critical accounting estimates should supplement, but not duplicate, the description of accounting policies in the notes to the financial statements; and
• amending Item 303(b) (Interim Periods) to permit companies to compare their most recently completed quarter to either the corresponding quarter of the prior year or the immediately preceding quarter.

Other amendments to Regulation S-K include: adding a new Item 303(a) to state the principal objectives of MD&A; amending Item 303 to add “product lines” of the company as an example of other subdivisions that the company should discuss if appropriate to an understanding of the company’s business; clarifying that a company should discuss “material changes” (as opposed to only “material increases”) from period to period in net sales and revenues and “underlying reasons” (rather than only the “cause”) of material changes from period-to-period in one or more line items in quantitative and qualitative terms; and eliminating Item 303(a)(iv), which requires companies to discuss the impact of inflation and changing prices. The SEC also made other corresponding changes, such as eliminating unnecessary cross-references to industry guides, eliminating certain instructions and making other conforming changes. Although not specifically described here or in Appendix A, the final rules also include certain parallel amendments to Forms 20-F and 40-F applicable to disclosures provided by foreign private issuers.