Bloomberg Law reports that SEC Commissioner Allison Herren Lee, whose term expires at the end of the month, will join the faculty of NYU Law School after she leaves the SEC:
Lee will be appointed an adjunct professor and senior fellow at the law school’s Institute for Corporate Governance and Finance, teaching a seminar on law and business in the fall, a school official confirmed Thursday. She announced earlier this year she would leave the Securities and Exchange Commission, following the Senate confirmation of a successor. Jaime Lizarraga, the nominee for Lee’s seat, won Senate approval Thursday.
In its October 2021 release reopening the comment period for its proposed clawback listing standard rules, the SEC floated the idea of including “little r” restatements as triggers for a compensation recovery analysis under the rules. Earlier this month, the SEC’s Department of Economic Research and Analysis issued a memorandum addressing the impact of including little r restatements with the scope of the rules. This excerpt says that while requiring little r restatements to be included would increase the total number of restatements that might trigger clawbacks, those restatements may be less likely to trigger a recovery of previously paid comp (also see Liz’s blog on CompensationStandards.com):
We estimate that “little r” restatements may account for roughly three times as many restatements as “Big R” restatements in 2021, after excluding restatements by SPACs. Accordingly, if the final rules were to encompass both types of restatements, it would increase the total number of restatements that could potentially trigger a compensation recovery analysis that may result in recovery.
However, “little r” restatements may be less likely than “Big R” restatements to trigger a potential recovery of compensation. For example, “little r” restatements may be less likely to be associated with a decline in previously reported net income, 19 and on average they are associated with smaller stock price reactions. As a result, if the final rules were to encompass both “Big R” and “little r” restatements, while there would be an increase in the number of restatements that would be included, the overall number of recoveries may not increase in proportion to the increase in the number of restatements that would be included. This, in turn, would mitigate the potential impact of including “little r” restatements on the expected benefits and costs associated with the proposed rules.
The DERA memo noted that one potential downside of including little r restatements is that by expanding the rule’s scope, it may “encourage managers to make suboptimal operational decisions rather than suboptimal accounting decisions to meet financial targets.” However, the memo also points out that such a decision would “mitigate the potential for the proposed rules to create an incentive for managers to report misstatements as “little r” restatements rather than “Big R” restatements.” Given the agency’s jaundiced view about the abundance of little r restatements, my guess is that this latter point may carry a lot of weight when it comes to the final rule.
Speaking of things that might carry some weight, the CII recently submitted a comment letter reiterating its support for including little r restatements within the scope of the clawback rules.
With final rules expected as soon as this fall, We’ll be sharing the latest updates on clawbacks at our “Proxy Disclosure & 19th Annual Executive Compensation Conference” coming up in October. Our session on “Clawbacks: Where Things Stand” – with Davis Polk’s Kyoko Takahashi Lin, CompensationStandards.com’s Mike Melbinger, Gibson Dunn’s Ron Mueller, and Hogan Lovells’ Martha Steinman – will give you practical action items to take in response to SEC rulemaking and recent enforcement activity, as well as investor expectations. Here’s the full agenda for the Conferences – 18 sessions over 3 days. Sign up online, email sales@ccrcorp.com, or call 1-800-737-1271.
We’ve been operating in a low inflation environment for so long that I think the last time anybody cared about the impact of inflation on inventory accounting was when I was taking my undergrad Financial Accounting 101 class – and in case anybody from the Division of Enforcement is reading, I want to point out that this was my only accounting class. Unfortunately, inflation is back, and according to this WSJ article, so are investor concerns about its impact on companies that use the “Last In, First Out” (LIFO) method of accounting for inventories:
In 2021, approximately 15% of companies in the S&P 500 used LIFO as their primary inventory method and 50% used FIFO, according to Credit Suisse Group AG , citing annual reports. The remainder used an average-cost method, a combination of methods, or methods that couldn’t be determined, Credit Suisse said.
Investors are scrutinizing accounting methods like the use of LIFO amid recent declines in the stock market to ensure they fully understand business models in their portfolios, said Ron Graziano, a managing director at Credit Suisse. “It really matters when it matters, and it matters a lot right now,” he said.
The article cites examples of some LIFO companies that reported big reserve increases associated with LIFO for their most recent reporting period and providing forward-looking disclosure about the potential impact of LIFO accounting for their full fiscal years.
If investors are scrutinizing LIFO companies more carefully, it almost goes without saying that those companies need to be prepared for the Staff to take a close look at disclosure practices as well. In addition to addressing the potential impact of inflation on LIFO inventory valuations and their current and future results of operations in the Risk Factors & MD&A sections of their filings, companies should keep an eye out for potential comment trends on LIFO issues.
I did a quick search on EDGAR and haven’t found any 2022 comment letters referencing LIFO that have been released yet, but I did find a handful of comment letters from 2021 that raised issues that are likely to be relevant this year as well. These include:
– Comments directed at non-GAAP presentations that exclude changes in LIFO reserves, which the Staff has challenged as potentially involving “tailored accounting.” The company in question was able to successfully resolve this comment.
– Comments seeking clarification (see comment # 3) as to whether LIFO inventory was reported at the lower of cost or market or lower of cost or net realizable value in accordance with ASC330-10-35-1B through -7. Here’s the company’s response with the requested clarifying disclosure.
– The usual “equal prominence” comment on non-GAAP measures that exclude changes in LIFO reserves.
LIFO accounting may be an issue for only a relatively small percentage of public companies, but it’s a subpart of the much broader issue of how inflation is affecting all public companies’ results of operations and financial condition. In that regard, although the SEC’s 2020 Regulation S-K modernization rules eliminated specific line-item disclosure requirements concerning the impact of inflation and changes in prices, discussion of these matters is still required if they are part of a known trend or if they have had or the company reasonably expects them to have a material impact on key income statement line-items.
Good morning! I know everyone was expecting to see Dave Lynn at the helm of this week’s blogs, but “Dave’s not here” – so you’re stuck with me for another week. The good news is that Emily will handle “The Mentor Blog” this week.
White & Case recently published its annual survey of ESG disclosure practices in SEC filings. The survey reviewed annual meeting proxy statements and annual reports of 50 Fortune 100 companies and identified trends in ESG disclosures from 2020-2022. Given the SEC’s comment letters on climate disclosure & the fact that everyone knew a climate rule proposal was on the way when proxy season began, it’s not surprising that environmental topics were the fastest growing category of ESG disclosures. Trailing close behind were disclosures about human capital management – again, that’s not surprising in light of the SEC’s recent rulemaking in the area.
While the top two spots were claimed by the usual suspects, the third fastest growing category of ESG disclosure was one that made the list for the first time this year – E&S goals and targets. This excerpt provides some details on the survey’s findings concerning these disclosures:
For the first time in White & Case’s annual survey, E&S Goals and Targets made the top seven categories, rising to the third spot with the largest increase in disclosure. This reflects the heightened focus by investors on companies setting specific targets with respect to environmental and social priorities.
Seventy-six of the filings surveyed (or 76%) increased their disclosure related to E&S goals and targets. In total, all but one of the surveyed companies (49 out of 50) included some form of E&S goal or target. Of these, 32 companies included the disclosure in their Form 10-K and 48 companies included it in their proxy statement. Of the 49 companies that included E&S goals and targets, seven companies included them for the first time in their 2022 disclosures.
The survey says that it wasn’t just qualitative disclosures about ESG goals targets that grew this year. A total of 44 companies, or 88% of those surveyed, included quantitative metrics. Of this amount, 18 included such disclosure in their Form 10-K (compared to 11 in 2021) and 42 included it in their proxy statements (compared to 26 in 2021).
Preparing & filing the Form 144 for insider transactions has traditionally been a job that’s fallen to the brokerage firm involved in the trade. But with the recent amendments imposing a mandatory electronic filing requirement for Form 144, this Bryan Cave blog suggests that responsibility for those filings may end up on the General Counsel’s plate:
The SEC estimated in the adopting release that only approximately 25 percent of Form 144 filers have already prepared a Form ID and obtained a CIK number for EDGAR filings. As a result, approximately 75 percent of Form 144 filers will need to file a Form ID for the first time to obtain a CIK code and gain access to file on EDGAR. In practice, the burden of helping prepare Form IDs and obtain CIK numbers often falls to company counsel rather than the company insider, and the process in recent years has taken several days, due in part to COVID-19 slowdowns and challenges.
Although in the past, broker-dealers executing sales for affiliates generally handled the preparation and submission of paper Form 144 filings, it is unclear whether Form 144 filers and/or company counsel will be comfortable sharing CIK codes and sensitive Form ID information with broker-dealers, who may not have developed processes to collect, securely store, and properly update all of the EDGAR access credentials for each client required to file a Form 144
Fortunately, there’s an extended transition period for the portion of the amendments that imposes the electronic filing requirement for Form 144, which should provide some time to sort this out. In the adopting release, the SEC said that this new requirement will kick in six months from the date of publication in the Federal Register of the SEC’s adoption of an updated version of the EDGAR Filer Manual addressing the Form 144 changes. That’s expected to happen on September 22, 2022, so assuming those changes hit the Federal Register promptly, the electronic filing requirement shouldn’t go into effect until March 2023 at the earliest. Given that new procedures may be needed and that the requirement is going to hit all Rule 144 filers at once, now is the time to start coordinating with brokers.
One sure sign of a tumbling stock market is a rise in the number of companies thinking about reverse splits to support their stock prices and/or preserve their exchange listings. SoFi Technologies is probably the most high-profile example of this potential trend. The formerly high-flying Fintech company’s stock has lost 60% of its value this year, and it’s asking shareholders to approve a proposed charter amendment at its upcoming annual meeting to permit it to engage in a reverse split if the board so determines.
A major consideration for any company considering asking for shareholder approval of a reverse split is how ISS & Glass Lewis are likely to react to such a proposal. This recent Goodwin blog sheds some light on that issue:
ISS generally recommends voting for management proposals to implement a reverse stock split if the number of authorized shares will be proportionately reduced, or the effective increase in authorized shares is equal to or less than the allowable increase calculated in accordance with ISS’ Common Stock Authorization policy. ISS will recommend voting on a case-by-case basis if the proposal does not align with either of the two criteria above, taking into consideration, among other factors, a stock exchange notification of potential delisting. Glass Lewis notes that it may recommend voting against a proposal to conduct a reverse stock split if the Board does not state that it will reduce the number of authorized common shares in a ratio proportionate to the split.
By the way, if your company is thinking about a stock split or a reverse stock split, be sure to check out our article on “Unpacking Stock Splits” which appeared in the July-August 2019 issue of The Corporate Counsel.
Dealing with analysts in an earnings call can sometimes be a challenging and even somewhat confrontational process for any CEO, but a recent study cited in an IR Magazinearticle says that male securities analysts are much tougher in their questioning of female CEOs than they are of their male counterparts. This excerpt from the article discusses the study’s findings and some of their implications:
Analyzing transcripts of 39,209 earnings conference calls, including with Apple, Microsoft and Facebook, we found that male analysts’ questions to CEOs were more aggressive than those of female analysts and that this contrast doubled when the CEO was female. We also found that when male analysts challenged female CEOs, they were more aggressive than when questioning men.
Our findings lay bare yet another challenge female leaders face in the workplace, and with workplace gender diversity linked to everything from increased productivity to improved performance, staff retention and collaboration throughout a business, the ramifications are enormous.
The findings are of particular relevance to the finance industry and investors, as the way analysts ask questions sends signals to the capital markets. When investors following earnings conference calls witness analysts asking verbally aggressive questions, it could signal to them that the analysts are not happy with a company’s performance.
The study’s authors say that its findings are a classic example of ‘in-group bias’, a psychological theory that says we give preferential treatment to those we regard as belonging to the same group as us. This theory suggests that male securities analysts question female CEOs more aggressively because they see them as outsiders and a threat to their sense of identity and self-esteem.
Earlier this month, the SEC brought enforcement proceedings against Synchronoss Technologies & certain of its senior officers arising out of alleged accounting improprieties. The officers targeted by the SEC included the company’s former General Counsel. The charges against the GC are worth noting, because I think they reflect a perception within the Division of Enforcement that public company lawyers have greater expertise in accounting matters than most actually do.
The enforcement proceedings were based on allegations that the company improperly recognized revenue on multiple transactions and misled the company’s auditors about those transactions. The former GC was tagged for his role in allegedly causing the violations, and consented to a “neither admit nor deny” settlement under the terms of which agreed to a $25,000 civil penalty & accepted an 18 month suspension of his right to practice before the SEC. How did he get himself in hot water? The SEC’s complaint points to the following alleged actions:
– The GC knew about a billing dispute with a customer during which the customer told the company that an email on which the company had relied in booking revenue for a particular transaction did not reflect a “commitment by [Customer A] to acquire the software” and also knew about subsequent communications from the customer stating that it had not committed to purchase the software.
– The GC attended and prepared minutes for an audit committee meeting at which the CFO discussed the billing dispute with the committee and the company’s auditor, but the SEC alleged that neither the CFO nor the GC shared with the auditor the “fact or substance” of the communications from the customer, which it contended were contrary to representations made by the CFO to the auditor about the collectability of the receivable under GAAP.
– The SEC also found fault with the GC for not disclosing information to the company’s auditor that he “knew or should have known” that an acquisition was contingent upon the company’s sale of a license to an affiliate of the seller, and that the alleged patent infringement claim that license agreement was purportedly used to settle wasn’t asserted by the company until after it approached the seller to discuss the acquisition. The SEC said that these facts would have been material to the proper accounting treatment of the license fee under GAAP, and that the GC’s reps to the auditors were misleading because they made the two transactions appear separate from each other.
The SEC’s allegations that the lawyer made potentially misleading reps to the auditor about the second transaction don’t cause me a lot of heartburn, but those relating to his largely passive role in the first transaction are more troubling. That’s because under similar circumstances, I believe that many GCs would act in a similar manner.
I think most lawyers would defer to the CFO when it comes to providing auditors with information about accounting matters. There’s a good reason for this deference – most lawyers don’t have the technical expertise to reliably discern when particular statements or omissions by a CFO about a transaction might raise accounting red flags. It’s reasonable to assume that a trained accountant would pick up on how a CFO’s statements might lead auditors astray when it comes to GAAP, but I don’t think the same assumption necessarily applies to a lawyer.
This enforcement action is a reminder that lawyers need to act with extreme caution whenever they communicate – or are party to others’ communications – with auditors about something that might implicate financial reporting. But the action also appears to be premised, at least in part, on assumptions by the Division of Enforcement about lawyers’ expertise in identifying potential accounting red flags that I don’t think are usually justified.
A few years ago, the SEC brought a handful of enforcement actions targeting confidentiality provisions in employee agreements that didn’t include provisions expressly permitting the employees bound by those provisions from reporting allegations of misconduct to the SEC. There hasn’t been a lot of activity on that front in recent years, but that changed earlier this week when the SEC announced an enforcement action against Brink’s based on an overly restrictive confidentiality agreement that included an aggressive liquidated damages provision. Here’s an excerpt from the SEC’s announcement:
The SEC’s order finds that, from at least April 2015 through April 2019, Brinks used an employee confidentiality agreement that prohibited employees from disclosing confidential company information to any third party without the prior written approval of Brinks. According to the SEC’s order, the confidentiality agreement threatened current and former employees with liquidated damages and legal fees if they failed to notify the company prior to disclosing any financial or business information to third parties.
According to the order, the confidentiality agreement did not provide an exemption for potential SEC whistleblowers. The SEC’s order finds that, in 2015, shortly after the SEC had instituted its initial whistleblower protection action, Brinks modified its employee confidentiality agreement by adding a $75,000 liquidated damages provision for violations of the agreement.
The company consented to consented to the issuance of an order finding that it violated Rule 21F-17(a) of the Securities Exchange Act of 1934 and ordering it to cease & desist from future violations. The company also agreed to pay a $400,000 penalty and to comply with certain undertakings, including modifying its employment agreements to make it clear that employees were not prohibited from dropping a dime on the company to the SEC “or any other federal, state, or local governmental regulatory or law enforcement agency.”
In a statement, Commissioner Peirce objected to the requirement that the company modify its employment agreements to permit employees to report alleged misconduct to governmental or law enforcement authorities in addition to the SEC. She said that the SEC “plainly lacks statutory authority to impose such a broad requirement, and Rule 21F-17 does not purport to assert such authority” and noted that just because a company agreed to particularly broad language as part of a settlement shouldn’t be construed as an indication that other companies need to use the same or similar language.
