Last month, John blogged about disclosing material changes to ICFR that result from the new revenue recognition standard – which takes effect at the start of next year. It’s also worth noting that revenue recognition is one of the most common accounting issues that trigger a material weakness. And having a material weakness is more than just embarrassing – SEC Chief Accountant Wes Bricker cited these nasty consequences in his recent speech:
– Companies disclosing internal control deficiencies have credit spreads on loans about 28 basis points higher than that for companies without internal control deficiencies
– After disclosing an internal control deficiency for the first time, companies experience a significant increase in cost of equity, averaging about 93 basis points
According to this Deloitte memo, companies can avoid a material weakness by identifying controls necessary to make judgments under the new standard. Here’s a teaser:
The new revenue standard requires companies to apply a five-step model for recognizing revenue. As a result of the five steps, it is possible that new financial reporting risks will emerge, including new or modified fraud risks, and that new processes and internal controls will be required. Companies will therefore need to consider these new risks and how to change or modify internal controls to address the new risks.
For example, in applying the five-step model, management will need to make significant judgments and estimates (e.g., the determination of variable consideration and whether to constrain variable consideration). It is critical for management to (1) evaluate the risks of material misstatement associated with these judgments and estimates, (2) design and implement controls to address those risks, and (3) maintain documentation that supports the assumptions and judgments that underpin its estimates.
You’ll need to consider one-time controls that relate to implementing the new standard as well as ongoing controls to track information and support sound revenue recognition judgments going forward. And remember – strong controls are also a “must” for your pre-adoption transition disclosures…
Revenue Recognition: Enhance All Of Your Revenue Disclosures…
This blog from Cydney Posner digs in to the myriad of revenue recognition disclosure issues that are coming our way. I blogged last month about transition disclosures – but those are just the tip of the iceberg. In recent remarks, Sylvia Alicea of the SEC’s Office of Chief Accountant explained:
The disclosures required by the new standard are designed to allow an investor to understand the nature, amount, timing and uncertainty of revenue and cash flows arising from contracts with customers.
The pertinent facts and related reasonable judgments related to a registrant’s contracts with customers, including the significant judgments made in applying the principles of the new revenue standard, should be disclosed to better inform investors’ decisions.
This disclosure will be different & more detailed than what currently exists – and it’s best to think through it before you face a looming reporting deadline.
Revenue Recognition: Impact on Contracts
Here’s a friendly reminder that you should already be incorporating the new revenue recognition concepts in your contracts. This blog by Steve Quinlivan elaborates on drafting tips that align with the 5 steps outlined in the new standard. Here are a few things to watch for:
– In some situations, you might have to combine contracts entered into around the same time with the same customer & account for them as a single contract
– If the contract involves both goods & services – and you want to separately recognize revenue for these deliverables – make sure to draft them as distinct obligations and allocate the contract price
– Variable consideration can make it tricky to estimate & recognize revenue
– Make sure your team understands that performance under the contract – not necessarily timing of payments – triggers revenue recognition
For even more detail on these points, take a look at this speech from Sylvia Alicea of the SEC’s Office of Chief Accountant.
We normally don’t comment on rumors, but we couldn’t ignore this WSJ article by Dave Michaels:
President Donald Trump’s choice to run the Securities and Exchange Commission is quietly assembling a cabinet of top staff members who spent their careers on Wall Street or advised companies on big deals, foreshadowing the Commission’s quick pivot toward a deregulatory agenda.
Aides to Jay Clayton, Mr. Trump’s pick as SEC Chairman, have interviewed or offered positions to people who would run the divisions that investigate wrongdoing and fraud, regulate public companies and oversee stock exchanges, according to people familiar with the matter. The group of expected hires includes William Hinman, a partner at Simpson & Thacher LLP, who is likely to run the SEC division that writes the rules for public company disclosures.
The full Senate is expected to vote on Mr. Clayton’s nomination as soon as early May.
The SEC’s six division directors have often come from Wall Street or from law firms that advise or defend financial companies. Mr. Hinman, who donated to Hillary Clinton’s presidential campaign, was the top American lawyer advising Alibaba Group Holding Ltd. on its $25 billion initial public offering, one of the biggest ever in U.S. markets. He began his career in New York before moving to Silicon Valley in 1994 and becoming a top legal adviser on tech IPOs.
A spokesman for Mr. Clayton declined to comment on any hiring efforts, saying the nominee “remains focused on the Senate confirmation.”
Financial Choice Act 2.0: CII Weighs In
A few days ago, CII delivered a letter to the House Financial Services Committee in advance of today’s hearing. Broc is quoted on pg. 14 based on an excerpt from this blog.
Here’s the intro from this WSJ article by Andrew Ackerman:
Does the U.S. need two separate market cops in Washington? That question is generating a lot of discussion early in the Trump administration as U.S. policy makers consider ways to streamline the federal bureaucracy by potentially merging the Commodity Futures Trading Commission into the Securities and Exchange Commission.
To be sure, the idea of combining the scrappy CFTC with the much larger and more bureaucratic SEC remains politically contentious and is highly unlikely to ever materialize. It is an idea that has been kicking around Washington for decades—and remained an idea. But some policy heavyweights support it. They include former Federal Reserve Chairman Paul Volcker , the conservative Heritage Foundation and Barney Frank, the retired Democratic congressman from Massachusetts. Mr. Frank has said he regrets that his namesake regulatory-overhaul law, the 2010 Dodd-Frank Act, didn’t merge the two regulators. The fact that they operate separately is the “single largest structural defect in our regulatory system,” he said in a 2012 statement shortly before retiring.
If the government could start from scratch, it wouldn’t have two separate agencies, supporters of a merger say. Proponents also argue a merger would simplify the regulation of financial firms that must adhere to rules set by two separate entities. A bank, for instance, might be regulated by the SEC as a publicly traded company, a broker and an asset manager. The same bank might be subject to CFTC oversight as a futures commission merchant (the equivalent of a broker) and a swap dealer. (The SEC also regulates swap dealers, as it shares jurisdiction with the CFTC over swaps, but it only oversees a sliver of the market.)
We have posted these survey results on Rule 10b5-1 plan practices:
1. Does your company require insiders to sell shares only pursuant to a Rule 10b5-1 trading plan?
– Yes, insiders are required to use Rule 10b5-1 plans in order to sell shares – 4%
– No, but they are strongly encouraged – 44%
– No, and they are not explicitly encouraged – 52%
– Not sure, it hasn’t come up – 0%
2. Does your company review and approve each insider’s Rule 10b5-1 trading plan?
– Yes, it is subject to prior review and approval by the company pursuant to the insider trading policy – 78%
– Yes, but only the template plan is reviewed and not the actual trading schedule – 13%
– No, but we have a broker that we require to be used and have reviewed that brokers template – 7%
– No, and there is no requirement to go through a specific broker – 2%
3. Does your company allow sales of shares through Rule 10b5-1 trading plans during blackout periods?
– Yes – 82%
– No – 13%
– Not sure, it hasn’t come up – 4%
4. Does your company require a waiting period between execution of Rule 10b5-1 trading plans and time of first sale?
– Yes, it is a two week waiting period or less – 11%
– Yes, it is a one month waiting period (or close to it) – 33%
– Yes, it is a two month waiting period (or close to it) – 4%
– Yes, it is a waiting period until the next open window – 28%
– No – 15%
– Not sure, it hasn’t come up – 9%
5. Does your company allow insiders to voluntarily terminate a Rule 10b5-1 plan?
– Yes – 86%
– No, only terminations dictated by the trading plan are allowed – 14%
6. Does your company make public disclosure of the insiders’ Rule 10b5-1 trading plans?
– Yes, but only for directors and/or one or more officers – 20%
– Yes, for all directors and employees – 2%
– No – 78%
7. If your company makes public disclosure, how does it do it?
– Form 8-K – 42%
– Press release – 0%
– Website posting – 0%
– Combination of above – 0%
– Other – 58%
Corp Fin’s “Small Business Forum”: 15 Recommendations
Recently, Corp Fin issued this set of recommendations from its annual “Small Business Forum.” The recommendations are on pages 15-19…
More on Our “Proxy Season Blog”
We continue to post new items regularly on our “Proxy Season Blog” for TheCorporateCounsel.net members. Members can sign up to get that blog pushed out to them via email whenever there is a new entry by simply inputting their email address on the left side of that blog. Here are some of the latest entries:
– Institutional Investors: Survey
– Virtual Annual Meetings: Activism Against
– Shareholder Proposals: Investors Weigh In on Reform
– The “50/50 Climate Project”
– Last Chance! Proxy Season Reminders
Here are stats about this year’s no-action letters for shareholder proposals, courtesy of this Bloomberg blog:
– An increase in number of no-action letter requests: Over 220 requests were submitted – almost a 10% increase over 2016.
– E&S requests were most common: Together, human rights & environmental proposals were the subject of 71 no-action requests. Companies were successful in excluding 62% of the human rights proposals – but only 17% of the environmental proposals.
– Ongoing attention to proxy access: 49 companies attempted to exclude proposals on proxy access – and the Corp Fin Staff granted relief more than 75% of the time. Most of these were probably “fix-it” proposals. As I blogged today on our “Proxy Season” blog, companies are starting to find a roadmap for excluding these proposals on the basis of “substantial implementation.”
– Requests vary by industry: Most of the no-action requests were submitted by companies in the financials, consumer discretionary & health care industries. In the financial sector, 9 out of 40 no-action requests dealt with shareholder proposals relating to executive compensation. In consumer discretionary, most of the requests related to human rights/social issues.
Also note that the Manhattan Institute recently released its shareholder proposal stats for the proxy season…
Director Communications: Convenience v. Security
How does your board balance convenience & security? Directors need to be able to access & interact with documents while traveling – but their accounts & devices are prime targets for hackers.
Recently, NYSE & Diligent surveyed 350 directors to understand current practices. Among other findings: 92% use unsecured personal email accounts for at least some board communications – yikes! Here’s another nugget:
It’s a bit perplexing that the auditing of board communications, accompanied by cybersecurity training for directors, has not yet become routine. At most companies, board members are on the front lines of a pitched battle; directors are targeted for cyberattack precisely because they have access to the most sensitive information with the least amount of oversight…
Experts agree, the company’s information security officers should provide a similar level of oversight, cyber risk auditing, and cybersecurity training for directors as for the rest of the company, and a director’s ability to adhere to proper procedure should be considered a basic standard for continued membership on the board.
Transcript: “Whistleblowers – What Companies Should Be Doing Now”
We have posted the transcript for our recent webcast: “Whistleblowers – What Companies Should Be Doing Now.”
Section 845 of the Act would prohibit the SEC from requiring the use of a universal proxy. It states “The Commission may not require that a solicitation of a proxy, consent, or authorization to vote a security of an issuer in an election of members of the board of directors of the issuer be made using a single ballot or card that lists both individuals nominated by (or on behalf of) the issuer and individuals nominated by (or on behalf of) other proponents.”
Section 844 of the Act would drastically alter the shareholder proposal rules. The Act would require the SEC to eliminate the option to satisfy the holding requirement by holding a certain dollar amount, require the shareholder proponent to hold one percent of the issuer’s voting securities and increase the holding period from one year to three years. It would also increase thresholds for resubmission of proposals. Interestingly, it would also prohibit the common practice of having a proxy submit a proposal on behalf of a shareholder.
The House Financial Services Committee will hold a hearing on the bill next Wednesday…
A Few New Cover Pages For You…
Recently, the SEC changed the cover pages for most ’33 Act & ’34 Act forms by adding a box relating to “emerging growth companies.” Hat tip to Bass Berry’s Jay Knight for providing these new cover pages in Word:
Director Viewpoints: Changing Domestic Strategies & More
The annual “What Directors Think” survey – by Corporate Board Member/Spencer Stuart – addresses a wide range of topics ranging from deregulation & tax policy to the board’s role in long-range strategic planning & cybersecurity. Key findings include:
– While a full third of board members agreed Dodd-Frank should be completely repealed, the majority (58%) argued in favor of tweaking only certain provisions.
– Half of the respondents believe a one-time deemed repatriation of 10% on offshore profits would support their company’s domestic growth.
– Two-thirds of directors said it is unlikely they’ll adjust their global strategy over the near term, though 46% speculated about the likeliness of doing so domestically.
– Thirty-nine percent of directors said they discuss cybersecurity at every meeting, a slight uptick from the 35% reported six months earlier.
– Four out of 10 respondents reported their board has at least one director with cyber expertise, with an additional 7% who are in the process of recruiting one.
– Only 8% of directors reported being in favor of federal regulations for overboarding.
Last week, Broc blogged that companies are lagging in preparing for the upcoming changes to the “revenue recognition” accounting standard that takes effect the start of next year. And it’s notable that companies may also be lagging in 10-Q transition disclosure. Over on our “Proxy Season Blog,” Broc recently identified this as “The Key MD&A Item in 2017 10-Qs” & highlighted a sample disclosure.
This blog excerpt from Dorsey’s Gary Tygesson provides more pointers:
Of more immediate concern, companies should be reviewing their Form 10-Q disclosures this quarter and for the balance of the year to make sure that they have addressed the SEC staff’s transitional disclosure requirements set forth in Staff Accounting Bulletin No. 74 regarding the expected impact of the new revenue recognition rules. If a company does not know, or cannot reasonably estimate, the expected financial statement impact of the new rules, that fact should be disclosed.
In that case, however, as noted in a recent speech by the SEC’s Chief Accountant, Wes Bricker, the SEC staff expects a qualitative description of the effect of the new accounting standard, and a comparison to the company’s current accounting, to aid investors in understanding the anticipated impact. Mr. Bricker said that companies “should also disclose the status of its implementation process and significant implementation matters yet to be addressed.” Based on a preliminary look at disclosures in SEC filings to date, Mr. Bricker reported that a number of companies have enhanced their transition disclosures, while for others “there is still more work to do.”
Mr. Bricker also advised caution for companies that conclude in their transitional disclosures that the impact of the new revenue recognition standard is not expected to be material. Because the new standard includes comprehensive new disclosures about contracts with customers and related judgments made by companies, he warned that “the basis of any statement that the impact of the new standard is immaterial should reflect consideration of the full scope of the new standard, which covers recognition, measurement, presentation and disclosure for revenue transactions.”
A New “Intrastate Integration” CDI: Rule 147
Yesterday, Corp Fin issued this new CDI 141.06 regarding how offerings under Rule 147 can transition to those relying on Rule 147A…
PCAOB’s “AuditorSearch” Database: Auditors & Engagement Partners Now Searchable
Recently, the PCAOB launched “AuditorSearch” – a public database of engagement partners & auditors. This search tool allows you to surf through the data filed as part of the new Form AP. The database can provide insight into the relative experience of various engagement partners – such as whether they’ve been associated with restatements or disciplinary proceedings. It also shows whether other auditors performed work underlying the audit report.
Poll: Another Editor??
It’s official – my first week of blogging is here. Readers everywhere are checking their bookmarks & emailing Broc. I can confirm he’s well (albeit in Japan on vaca) – and that all of our content remains subject to our quality-control procedures.
I’m joining TheCorporateCounsel.net after 10 years in private practice. Everyone – including me – thought I’d spend my life in the law firm trenches. Who doesn’t love the adrenaline rush of an FD slip or an unexpected shareholder proposal? But when opportunity knocks…
When we know each other better, I’ll share some reactions to my job change by former colleagues. Let’s just say they were all across the board. In the meantime, Broc & I thought it would be fun to get your reactions too – in this anonymous poll:
