We often compare the Staff’s approach to non-GAAP financial measures to a swinging pendulum — over the years there have been times when the Staff is more accommodating to companies when they present non-GAAP financial measures in their SEC filings and other communications, but then there are times when the Staff expresses significant concern with the presentation of non-GAAP financial measures through the comment process, enforcement actions and Staff guidance. Today, the pendulum has definitely swung toward the latter end of that spectrum, with a fresh round of more rigid interpretive updates and a new enforcement action being brought against a company for misleading non-GAAP financial measures and inadequate disclosure controls.
Our panelists also shared what the Staff hopes companies will do following new or updated guidance — that is, read it and take a fresh look at their disclosures to make any necessary tweaks. With that in mind, the Staff may provide a window for companies to self-correct following new guidance and then issue comment letters with clean-up comments. Since we’re over six months from the December 2022 CDI updates, this MyLogIQ survey of non-GAAP comment letters from January 2022 to May 2023 caught my eye. The survey focused on topics that were both frequently the subject of a comment letter and addressed in the CDI updates and found that:
– Equal or greater prominence was the top non-GAAP issue triggering a comment letter
– The top three comment letter issues were all addressed in the December 2022 CDI updates — the next two being recurring expenses and individually tailored measures
The survey also provides examples of comments on each topic addressed in the updated CDIs. In multiple sample questions on recurring expenses, the SEC took issue with “pre-opening costs.” Here’s one of the sample comments:
We note the following in regards to your presentation and reconciliation of your Non-GAAP measures adjusted EBITDA and adjusted net income:Your reconciliation excludes “Pre-opening costs” which appears to be a normal, recurring cash operating expense. Please tell us your consideration of Question 100.01 of the staff’s Compliance and Disclosure Interpretation on Non-GAAP Financial Measures, or revise accordingly.
Liz got me thinking about earnings calls with her blog last week on how the Corp Fin Staff uses earnings call transcripts in the disclosure review process. This recent Q4 blog recommends earnings call post-mortems and preparations for the subsequent quarter. With so much attention focused on earnings calls — not just from investors but from regulators — it may make sense to integrate some of these steps into your quarterly process, and they’re a “must” for executives who are new participants on earnings calls:
Following an earnings call, you must assess the performance of your senior leadership team. To do this, review the webcast or call recording, identifying any challenging questions or topics. Encourage each team member to share their thoughts on their performance and areas for improvement. Gathering their valuable insights. You can pinpoint where the team can grow and enhance its effectiveness.
To prepare your team for future earnings events, develop a plan focusing on their needs. This plan may include additional training sessions to address knowledge gaps, Q&A exercises to build confidence, or providing more detailed briefing materials. Additionally, consider seeking support from investor relations consultants or communications experts who can help fine-tune your team’s messaging and presentation skills.
You’ll cultivate a strong and confident group of leaders by consistently evaluating your senior leadership team’s preparedness and taking steps to improve their performance. With this foundation, your team will be well-equipped to tackle the demands and challenges of post earnings events, approaching them with poise and expertise that will impress shareholders and analysts alike.
Liz’s blog also mentioned showing your “value-add” in the earnings release process. If you’re outside counsel, you can still take the opportunity post-earnings to improve your value-add in future quarters by listening to the Q&A and brushing up on how the company, analysts and investors view the company’s business and financial results. And better yet, referring back to the transcript when reviewing the next quarter’s 10-Q, earnings release and call script can help you identify themes and the types of inconsistencies the SEC is looking out for.
The latest issue of The Corporate Executive has been sent to the printer. It’s also available online to members of TheCorporateCounsel.net who subscribe to the electronic format – a now very popular and convenient option. Email sales@ccrcorp.com to subscribe to this essential resource! This issue includes:
– NYSE and Nasdaq Finalize Clawback Listing Requirements
– Our Model Clawback Policy
– The DOJ Focuses on Clawbacks
Speaking of clawbacks, don’t forget that we will also have a panel devoted to this topic at our rapidly approaching “Proxy Disclosure & 20th Annual Executive Compensation Conferences” – which will be held virtually September 20th to 22nd. Here’s the full agenda. If you haven’t already registered, sign up today on our membership center or by emailing sales@ccrcorp.com – or by calling 1-800-737-1271.
The practical & insightful guidance that you’ll get at the Conferences will be key to helping you put the finishing touches on your policy, consider implementation mechanics, and prepare for all the issues that proxy season and SEC rulemaking are going to throw our way. What’s more, Conference attendees will have continued access to the video archives & transcripts for a year following the event – so you can continue to refer back to this essential guidance as you navigate year-end and proxy season. CLE credit is also available for the live event as well as the on-demand replays!
I hate to add to the things that keep you up at night, but so it goes. In a recent post on The10b-5 Daily, Lyle Roberts recently warned us of the risk inherent in using a common phrase when describing pending legal matters — “without merit.” In City of Fort Lauderdale Police and Firefighters’ Retirement Sys. v. Pegasystems, Inc. (D. Mass. 7/23), Pegasystems used this phrase in its public disclosure to describe a claim that it willfully misappropriated trade secrets. When the company was ultimately required to pay $2 billion in connection with the litigation, the stock price dropped and a shareholder filed a securities class action lawsuit. The district court denied the motion to dismiss as to two of the defendants.
As to the opinion that the trade secrets litigation was “without merit,” the court found that the statement did not “fairly align” with the CEO’s “awareness of, involvement in, and direction of Pega’s espionage campaign.” Moreover, “a reasonable investor could justifiably have understood [the CEO’s] message that [the] claims were ‘without merit’ as a denial of the facts underlying [the] claims – as opposed to a mere statement that Pega had legal defenses against those claims.”
Over on the D&O Diary, Kevin LaCroix added more color on the case. Here’s an excerpt from his blog regarding disclosure alternatives to saying “without merit” when it may not be appropriate to use that phrase:
This conclusion does not mean, as Judge Young put it, that companies must “confess to wrongdoing.” Companies may, Judge Young said, “legitimately oppose a claim against it.” Companies may state, without being misleading, that they intend to “oppose” the allegations. Companies may also say, for example, that the company believes it has “substantial defenses” against a claim if it reasonably believes that to be true. An issuer may not, Judge Young said, make misleading substantive declarations regarding its beliefes about the merits of the litigation.
Earlier this year, Tulane law prof Ann Lipton blogged about an SDNY opinion that declined to impose liability for statements by the pre-merger target, about the pre-merger target when neither of the plaintiffs purchased shares of the pre-merger target. Ann notes that this decision was the natural result of Menora Mivtachim Insurance Ltd. v. Frutarom Industries Ltd., (2d. Cir.; 9/22), which John blogged about on DealLawyers.com.
In her latest post, Ann addresses a May opinion regarding Section 10(b) claims in In re Mylan NV Sec. Litig., (W.D. Pa. 5/23). Unlike Frutarom and related cases, this decision didn’t involve statements about one company that impacted trading in a different company, but the district court nonetheless held that the statements on the defendant’s general public-facing website were not made “in connection with” the purchase or sale of a security. Ann quotes the decision to show the court’s reasoning:
After careful consideration, the Court concludes that the statements from Mylan’s website are not the type of statements upon which a reasonable investor would rely. To start, the alleged misstatements appeared on Mylan’s general website, not its investor-relations page. While certainly not dispositive, this fact suggests that investors visiting Mylan’s website would view the information contained on the separate investor-relations page to have more value to them, since it was specifically targeted to them. The information on the other pages within Mylan’s website drives this point. These other pages included things like descriptions of products, general statements about safety and quality, and narratives regarding the company’s history.
But this is not how public companies and their securities lawyers operate! We worry about antifraud liability for general website statements, product launch announcements, and even statements made in a Code of Conduct — and for good reason. More from Ann:
[I]n In re Carter-Wallace Sec. Litig., 150 F.3d 153 (2d Cir. 1998), the Second Circuit held that even product advertisements in medical journals might be relied upon by investors, and since then, courts have generally accepted that all public statements by a company, no matter where they appear, were fair game for fraud on the market cases.
The SEC has specifically warned companies that their general websites might be relied upon by investors as sources of information. See Commission Guidance on the Use of Company Websites, 73 Fed. Reg. 45862 (Aug. 7, 2008) (“companies should be mindful that they ‘are responsible for the accuracy of their statements that reasonably can be expected to reach investors or the securities markets regardless of the medium through which the statements are made, including the Internet.’ Accordingly, a company should keep in mind the applicability of the antifraud provisions of the federal securities laws, including Exchange Act Section 10(b) and Rule 10b-5, to the content of its Web site.”).
In fact, the “without merit” case I also blogged about today involved actionable statements in a Code of Conduct. Here’s Kevin LaCroix’s reminder:
Securities class action plaintiff’s counsel routinely scour corporate expressions of purpose, of conduct, or of ethics, to try to find statements that are contrary to subsequent corporate conduct, in order to try to support allegations that the statements misled investors. Court’s often reject these kinds of allegations on the grounds that the statements are expressions of aspiration rather than concrete commitments of corporate conduct. However, in this case, Judge Young rejected the defendants’ arguments that the Code of Conduct statements were merely aspirational; the statement he found stated with specificity the conduct the company foreswore, while engaging in precisely the foresworn conduct.
So we will keep on keeping on — worrying about antifraud liability everywhere and flagging absolute statements in public policy documents.
After working through input beginning last year from over 1,000 stakeholders, the Greenhouse Gas Protocol has released a summary of feedback that will form the basis of a revision to its Scope 2 methodology. As a quick reminder Scope 2 applies to indirect emissions from purchased electricity, steam, heat, and cooling using two distinct methods: location-based and market-based reporting.
The major points of feedback from stakeholders – and that any revisions are intended to address include:
– Modifying the structure of and process to update GHG Protocol standards to consolidate scope 1, scope 2, and scope 3 into a single document to streamline accounting and reporting.
– Creating alignment with voluntary and regulatory climate disclosure programs such as SBTi, the EU CSRD, ISSB and the US SEC’s proposed rule on climate-related disclosures (once issued in final form).
– Reviewing the objectives of scope 2 reporting.
– Updating dual reporting requirements to reflect the usefulness, appropriateness, implementation, and overall results of the dual reporting requirement (location-based and market-based).
– Requiring granular time and location criteria to potentially correlate with actual atmospheric GHG emission reductions.
– Allowing flexibility in time and location criteria to reflect accounting standards and clean energy procurement opportunities that are feasible to implement for organizations of all sizes, sophistication levels, and global regions.
– Calling for new emission impact-based reporting approach for demonstrating emission reduction effects of buying clean energy.
– Requiring additionality criteria to more clearly align with atmospheric emission reductions.
– Adding clarifications and new guidance such as updated guidance for purchased steam, heat, and cooling; clarifying overlaps between accounting for emissions in scope 2 or scope 3 category 3; and creating guidance for specific use cases like electric vehicle charging, and leased assets, and other activities.
The organization invites all interested stakeholders to read the full draft Scope 2 Survey Summary Report. If you or your organization completed the survey and believe that the main feedback in your original response is not accurately reflected in the draft summary report, you are invited to provide feedback on this draft summary here by Friday, September 8th.
For those wondering, these changes don’t directly impact the SEC’s climate proposal. As a reminder, the SEC’s proposed rules were largely based on concepts from the GHG Protocol — including Scopes 1, 2 and 3. Although the SEC stated that it expected most issuers would use GHG Protocol standards and guidance, the proposed rules didn’t mandate their use for calculating emissions, permitting some flexibility for registrants to adopt new approaches as they may emerge in the future. Also, in a departure from the GHG Protocol, the proposal contemplated different organizational boundaries for GHG emissions so that registrants would use the same scope of entities, operations, assets, and other holdings consistent with the accounting principles applicable to their financial statements.
As Liz blogged last week, the SEC’s cybersecurity disclosures were published in the Federal Register, confirming that all registrants other than smaller reporting companies must comply with the incident disclosure requirements in Item 1.05 of Form 8-K beginning on December 18, 2023. Companies have been grappling with current reporting of material cybersecurity incidents at least since the SEC’s 2018 interpretive guidance — as Dave noted in his blog drilling down on the 8-K requirements — and have devoted significant time and resources to shoring up disclosure controls and procedures in light of that guidance and related enforcement activity. The SEC has also been quick to remind us that the rule is not intended to dictate how companies manage their cyber defenses.
Nonetheless, companies still need to consider how their processes and procedures for responding to an incident dovetail with the new cybersecurity disclosure rules. In this article, Debevoise addresses key takeaways and action items in anticipation of the effectiveness of the new requirements. With respect to the four business-day obligation to disclose material incidents on Form 8-K, here are suggestions from the alert, which goes into more detail on each item.
– Review the incident response plan and procedures to ensure that the materiality analysis is appropriately sequenced alongside other incident response activities and that materiality determination protocols are well-informed, deliberative and documented.
– Develop a disclosure analysis framework that incorporates both qualitative and quantitative factors, that accounts for the broadened definition for “cybersecurity incident,” and does not disclose information that would impede incident response and remediation.
– Review policies and procedures regarding the triage and escalation of third-party cybersecurity incidents to enable prompt materiality analysis, where appropriate.
– Track any missing required information in the initial Form 8-K filing and establish a cadence to review ongoing material incidents.
The alert also makes preparedness recommendations for the disclosure requirements relating to risk management, strategy and governance.
On DealLawyers.com, we’ve blogged about the recent legislative exemption for M&A brokers, and I shared a detailed memo by Venable providing an overview of when a person is acting as a so-called finder in a post that was focused on state-level registration for M&A Brokers. But the topic of broker registration continues to be one of broader interest to members of this site as well:
The last decade has seen a number of important developments in the securities laws related to the regulation of the activity of persons and entities participating in capital raising and corporate transactions, who have continued to be on the enforcement radar of both federal and state regulators.
As the memo notes, the term “finder” is not defined in federal securities laws but is limited by activities a person cannot perform lest they be deemed a “broker” or “dealer” and therefore subject to registration. Listing 16 factors typical of activity that would trigger registration requirements, the memo continues:
One that draws close attention from the SEC is the existence of transaction-based compensation, which often signals that the individual is more involved in a transaction than simply making introductions. The SEC has stated that “the federal securities laws require that an individual who solicits investments in return for transaction-based compensation be registered as a broker.”
[E]ven where the compensation received by a finder is based on the introduction, and not the outcome of the transaction, the SEC has taken the position that a person who accepts a fee for introduction of capital more than once is probably “engaged in the business of selling securities for compensation” and required to register as a broker-dealer. As a result, the ability of a finder to operate without a broker-dealer license is extremely limited.
Unfortunately for all of us, this isn’t a broker-only problem. There’s also a risk to companies when they pay transaction fees to unregistered brokers.
We’ve posted the transcript for our recent “Non-GAAP Developments: Enhancing Your Policies and Procedures” webcast featuring Honigman’s Mike Ben, Covington’s Matthew Franker, Deloitte’s Pat Gilmore and Faegre Drinker’s Amy Seidel. The webcast covered:
– Common non-GAAP mistakes and comment letter trends
– Tips for responding to a non-GAAP comment
– SEC guidance and non-GAAP CDIs
– The recent non-GAAP enforcement actions
– Improving non-GAAP policies, procedures & controls
Non-GAAP compliance has been one of the top three comment letter topics — if not the top comment letter topic — for several years. The panelists all stressed that now is the time to take a fresh look at your non-GAAP practices, procedures and controls if you haven’t done so recently, especially in light of the December 2022 non-GAAP CDIs and 2023 enforcement action. One of the themes of the webcast was that identifying all your non-GAAP numbers is not always as straightforward as it seems. Here’s a reminder from Matt Franker about what he called “inadvertent non-GAAP measures”:
Mike alluded to another important factor, which is what I sometimes refer to as “inadvertent non-GAAP measures.” These tend to pop up when a company is working on its earnings release and in the script for the quarterly earnings call. These can also pop up in investor presentations and in other situations. Often, these arise where there is an unusual event or charge and whomever is in charge of drafting those materials will sometimes say, “Our adjusted earnings were this, but without this factor, it was this other number.” As soon as you exclude that other number, you are creating another non-GAAP measure. Whether that is a new non-GAAP measure or a further adjustment from an existing non-GAAP measure, it is essentially a new non-GAAP measure that raises all the same issues in terms of prominence of disclosure, providing a reconciliation and defining why management is using it in the first place. Keeping an eye open for those types of things is important.
If you are not a member of TheCorporateCounsel.net, email sales@ccrcorp.com to sign up today and get access to the full transcript – or sign up online.
Not to toot our own horn, but we hear quite a bit from our members about how the resources on TheCorporateCounsel.net and other CCRcorp sites have made them look like heroes in their day jobs – or saved them from embarrassment. One person told us that they would get a tattoo of our logo on their forehead if their spouse would let them. If that’s not an endorsement, I don’t know what is!
Now is the time for your membership to pay off even more. If you have friends who aren’t already in the fold, we are offering a referral program that gets you 15% off any new CCRcorp product or membership and your friend 15% off their first CCRcorp purchase.
What does a membership to one of our sites get you? Well, I’m glad you asked. We do our best to source straightforward answers to complicated questions. You can find those answers efficiently through our filtered content libraries / practice areas, checklists, handbooks, quick-take podcasts, timely webcasts & transcripts, benchmarking surveys, blogs on key updates, and our community Q&A forums. Here on TheCorporateCounsel.net, the Q&A forum is approaching 12k posts – on topics ranging from the most basic to the most obscure. We also have great conferences! Our amazing community delivers “practical guidance, direct from the experts.”
Do your friends (and yourself) a favor and take advantage of this offer! Email sales@ccrcorp.com today – or call 1-800-737-1271.
