March 10, 2022

Restatements: Chief Accountant’s Statement on Materiality Assessments

Yesterday, the SEC’s Acting Chief Accountant, Paul Munter, issued a statement addressing the assessment of materiality in the context of errors in financial statements.  The statement reviews the applicable requirements and addresses some of the Staff’s concerns about how issuers approach correcting errors based on recent interactions.

In particular, the statement notes that the Staff has observed that “some materiality analyses appear to be biased toward supporting an outcome that an error is not material to previously-issued financial statements, resulting in “little r” revision restatements.” One of the areas that the statement specifically calls out is the need for greater objectivity in assessing qualitative materiality:

One area where the staff in OCA have observed an increased need for objectivity is in the assessment of qualitative factors. The interpretive guidance on materiality in SAB No. 99 speaks to circumstances where a quantitatively small error could, nevertheless, be material because of qualitative factors. However, we are often involved in discussions where the reverse is argued—that is, a quantitatively significant error is nevertheless immaterial because of qualitative considerations. We believe, however, that as the quantitative magnitude of the error increases, it becomes increasingly difficult for qualitative factors to overcome the quantitative significance of the error.

We also note that the qualitative factors that may be relevant in the assessment of materiality of a quantitatively significant error would not necessarily be the same qualitative factors noted in SAB No. 99 when considering whether a quantitatively small error is material. So it might be inappropriate for a registrant to simply assess those qualitative factors in reverse when evaluating the materiality of a quantitatively significant error. Such a scenario highlights the importance of a holistic and objective assessment from a reasonable investor’s perspective.

There’s a lot to digest in this statement, but one takeaway is that it’s yet another indication that the Staff has cast a gimlet eye on the growth in “little r” restatements over the past decade. Along those lines, the statement points out that while some attribute the trend toward little r restatements primarily to improvements in ICFR & audit quality, the Staff continues to monitor this trend in order to understand “the nature and prevalence of accounting errors and how they are corrected.”  In other words, if you conclude that a little r restatement is sufficient to correct an error, you can expect a lot of questions from the Staff if your filings are pulled for review.

John Jenkins