June 15, 2018

Generic Risk Factors: PSLRA & Comment Letter Benefits?

This research analyzes why companies continue to use long, generic risk factors despite negative capital market consequences, a decline in the ability of analysts to assess fundamental risks and Corp Fin’s criticism of boilerplate disclosure. Here’s an excerpt:

Our results suggest that longer and more boilerplate risk factor disclosures are less likely to be flagged as inadequate under judicial and regulatory review. Specifically, we find that longer and more generic risk factor language is positively associated with favorable assessments for purposes of the Private Securities Litigation Reform Act’s safe harbor, and that standardized risk factor language is less likely to be targeted by an SEC comment letter during the SEC’s filing review process.

This makes sense up to a point. Nobody wants to be an outlier when judges & regulators use precedent to determine whether disclosure is adequate – that’s why it’s important to benchmark against peers, especially for industry risks. But – as we saw with the recent $35 million cybersecurity enforcement action against Yahoo! – it doesn’t work to use generic hypotheticals to describe a specific thing that’s actually happened (or is likely to happen) to your company. Our “Risk Factors Handbook” is full of tips for striking this balance.

SEC Enforcement: 67% Decline in Actions Since Last Year

This report from Cornerstone/NYU highlights just how much the SEC has stepped back from enforcement actions against public companies in the first half of this year. It initiated only 15 new enforcement actions – compared to 45 in the first half of last year. This is the lowest semiannual total since 2013. Here are five other findings (also see this blog from Kevin LaCroix):

1. 87% of enforcement actions were resolved on the same day they were initiated

2. 67% of actions didn’t have an associated individual defendant

3. Of the 5 actions with individual defendants, 4 involved reporting & disclosure allegations

4. 67% of actions were against companies in the finance, insurance & real estate industry

5. Monetary settlements declined to $65 million – the lowest semiannual total since at least 2009

According to this Bloomberg article, SEC Commissioner Hester Peirce might be emerging as an opposition force to many proposed enforcement actions, settlements and penalties. She retorted by explaining that she wants to move away from the SEC’s “broken windows” approach to enforcement. Along those lines, this WSJ article notes that the Division of Enforcement also says it wants its activities to be measured not by penalty totals, but by its success in expelling bad actors from the financial industry.

More on “Enforcement: Assessing the Fallout from Kokesh”

It’s been about a year since the Supreme Court’s Kokesh decision – which said that SEC disgorgement claims were subject to a 5-year limitations period. Since our last blog on this, the Co-Directors of the SEC’s Enforcement Division testified before Congress that the SEC has likely missed out on over $800 million in disgorgement penalties since the ruling – and may be unable to compensate victims in the future due to the time it takes to discover and investigate fraud. Limits on the SEC’s ability to obtain disgorgement could also help explain the decline in the magnitude of its settlement penalties this year. It’s unclear at this point whether these consequences will lead to legislation…

Liz Dunshee