Form 10-Q Disclosure and Sandy
Many of our public company clients are preparing to file their quarterly reports with the SEC. This message highlights the possibility that “Superstorm” Sandy is likely to affect these clients in a variety of ways. Although most companies have only just begun preliminary action to assess the impact of the storm, public companies will want to consider possible MD&A disclosure of the potential effects of Sandy, as well as related disclosure and other securities law issues. As a starting point for evaluating these matters, the SEC disclosure principles and related issues that should be considered include the following:
1. MD&A Speaks as of the Filing Date
The SEC has made clear that MD&A must discuss and analyze a company’s financial condition and results of operations, including any known facts, trends or uncertainties, as of the date of filing, rather than the end of the fiscal period covered by the report.
Public companies should therefore consider including MD&A disclosure about the potential effects of Sandy in their Form 10-Q reports for the quarter ended September 30, 2012 if the report is filed after the date(s) on which Sandy affected the company’s business, properties and/or financial status. Note that “risk factor” or other cautionary disclosure alone may not be adequately responsive to SEC requirements for an event that has already happened, even though the impact is currently unknown or uncertain. To the extent that the company’s disclosure includes estimates or other quantitative information, cautionary disclosure about the possibility of that information changing as more facts develop should be considered.
2. Two-Step MD&A Disclosure Test
The SEC has also made clear that the required test for MD&A disclosure of known facts, developments, trends, demands, commitments, events or uncertainties is the test first announced in the 1989 MD&A Interpretive Release. Where a trend, demand, commitment, event or uncertainty is known, management must make two assessments:
First: Is the known trend, demand, commitment, event or uncertainty reasonably likely to come to fruition?
Second: If management cannot determine that the trend, demand, commitment, event or uncertainty is not reasonably likely to occur, management must evaluate materiality objectively on the assumption that it will come to fruition.
Disclosure is required unless management can determine that it is not reasonably likely to have a material effect on the company’s financial condition or results of operations. This test, rather than the Basic v. Levinson materiality test (balancing of probability and magnitude), should be used for this MD&A disclosure.
Since Sandy is for nearly all companies a historical fact at this time, most companies will need to consider the potential effects of Sandy using the second test and include appropriate disclosure in their MD&A disclosure.
Because of the very short interval between the date of the storm and the due date for Form 10-Q reports, it is likely that many companies will be unable to make definitive or specific statements about the effects of Sandy. Among other things, the internal and external resources (such as engineers and insurance adjusters) required to begin a definitive assessment are likely to be subject to extremely limited availability for some time. As a result, it may be difficult for companies to establish reasonably accurate estimates of damages and/or uninsured losses; even approximate estimates or ranges may be difficult at this point and may take significant time to establish. These factors should be considered in drafting any disclosure relating to the effects of the storm.
Although the discussion above focuses on potential disclosure of adverse impacts, some public companies may experience increased demand for their products or services, which could lead to disclosure about possible favorable material effects (for example, building supply, construction and engineering/remediation companies; manufacturers of switches/signals/controls for transit systems; manufacturers of transformers and other components for the power grid). Other companies may benefit from increased consumer spending to replace damaged items, resulting in unexpected positive business developments, while companies whose business relies on discretionary consumer spending (for example, clothing) may see unanticipated negative business developments as discretionary consumer spending is redirected to spending related to storm damage. Each company will need to evaluate the need (and content) of potential disclosure based on its specific facts.
3. Form 8-K Item 2.02 Filing Requirement
Companies should be aware that the reporting requirements of Form 8-K Item 2.02 are triggered by the disclosure of material non-public information regarding a completed fiscal period. If a company releases additional or updated material non-public information regarding a completed fiscal period (for example, if the company issues a press release updating previously-released information relating to a completed fiscal period), that release will trigger an additional Item 2.02 filing requirement.
4. Other Possible Issues
A. Insider Trading. Companies should remember that to the extent that material information develops after the date on which the Form 10-Q is filed they may need to evaluate whether the company’s insider trading policy and applicable SEC insider trading requirements would affect the ability of insiders to buy or sell the company’s securities.
B. Guidance and Projections. Companies should also be aware that the effects of Sandy may cause guidance they give now or have given before to become incorrect. In appropriate cases, companies should consider highlighting the fact that their guidance does not include any estimates for the effects of Sandy. If companies choose to include an estimate for these effects, they should be alert to the possibility that it may be appropriate (or in some cases necessary) to update that guidance as more facts become known.
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