Securities Snapshot: 2nd Quarter 2019
In this first edition of KMK Law’s Securities Snapshot we review the ongoing rulemaking of the U.S. Securities and Exchange Commission’s Division of Corporation Finance. Several developments attempt to simplify disclosure requirements and decrease reporting obligations of smaller public companies. We also address new U.S. Department of Justice guidance on corporate compliance programs and the SEC’s recently released framework on determining whether a digital asset is an “investment contract.” Finally, we note that the SEC is seeking comment on its exempt offering framework.
Proposed Amendments to Accelerated and Large Accelerated Filer Definitions
On May 9, 2019, the SEC voted to propose amendments to the definitions of accelerated filer and large accelerate filer. The cost-reducting effects of the proposed amendments are discussed below.
The amendments would exclude from the accelerated and large accelerated filer definitions certain issuers who are eligible to be smaller reporting companies and had no revenues or annual revenues of less than $100 million in the most recent fiscal year for which audited financial statements are available. Additionally, for accelerated and large accelerated filers becoming non-accelerated filers, the applicable transition threshold would be increased from $50 million to $60 million, and for issuers exiting large accelerated filer status, the transition threshold would be increased from $500 million to $560 million. The transition thresholds would also be subject to an additional revenue test to be added by the SEC. [As of the date of this publication, the amendments are still subject to a 60-day public comment period.]
The proposed amendments would assist in reducing costs for companies with lower revenues by limiting the number of companies who actually qualify as accelerated and large accelerated filers. For example, while the amendments would not modify the investor protections set forth by the Sarbanes-Oxley Act of 2002, a smaller reporting company with less than $100 million in revenues would not be required to obtain an attestation from an independent outside auditor regarding the company’s internal control over financial reporting.
Proposed Amendments to Financial Disclosure Requirements of Regulation S-K
On May 3, 2019 the SEC proposed amendments to Regulation S-X to simplify financial disclosure requirements for public companies relating to acquisitions and dispositions of businesses. Among other changes, the amendments would modify the significance tests applicable to acquisitions as set forth in Rule 3-05 of Regulation S-X, which sets forth the number of years of financial statements of the acquired business that must be filed with the SEC. Specifically, the proposal would amend (i) the investment test to require a comparison of a company’s investment in an acquired business to the worldwide aggregate market value of the company’s common equity and (ii) the income test by requiring an acquired business to meet a new revenue component, in addition to the previously-used net income component. Additionally, if an acquisition exceeds 50% significance, only two years of financial statements are required, and if an acquisition exceeds 20% but does not exceed 40%, then financial statements would only be required for the most recent interim period.
The proposal also provides that financial statements would no longer be required in registration statements and proxy statements filed with the SEC once the acquired business is reflected in the company’s post-acquisition financial statements for a complete fiscal year. This specific amendment would eliminate the need to provide an acquired business’ financial statements when such statements have not been previously filed or when they have been filed but the acquired business is considered “significant”.
The proposal is currently subject to a 60-day public comment period, which ends on July 29, 2019.
Streamlined Procedures for Exhibit Redactions and Confidential Treatment Extensions
On April 2, 2019, the SEC adopted new rules allowing for the filing of redacted material contracts without the need to apply for confidential treatment. The rules, included in Item 601(b) of Regulation S-K, provide that information contained in material contracts may be redacted, provided the redacted information (i) is not material and (ii) would be competitively harmful if publicly disclosed. In order to properly redact such information, companies must comply with specific requirements, including marking the exhibit index of the filing to indicate that portions of a contract have been omitted, inserting a statement on the exhibit itself that certain information has been redacted and indicating where information has been redacting by the use of brackets.
On April 16, 2019, the SEC’s Division of Corporation Finance announced the implementation of a short form application to extend the time for which confidential treatment for a material contract can be extended under a previously obtained order. The application is a one-page form that can be submitted via email to the SEC and will allow a company to request protection from public release pursuant to the Freedom of Information Act for an additional three, five or ten years. The new application process does not require the company to refile the unredacted documents or to provide analysis in support of the request for confidential treatment if the analysis remains the same as provided in the initial application.
Framework for "Investment Contract" Analysis of Digitial Assets
On April 3, 2019, the SEC announced the framework it would use to determine whether a digital asset would be considered an “investment contract” in light of the Supreme Court’s ruling in SEC v. W.J. Howey Co. and subsequent case law. Howey found that an “investment contract” exists where there is an investment of money in a common enterprise with a reasonable expectation that profits will be derived from others’ efforts. In applying the framework to digital assets, the SEC focuses on three main prongs. First, in determining whether there is a reliance on the efforts of others, the SEC analyzes whether a purchaser of the assets is reasonably expecting to rely on the efforts of a promoter, sponsor, or other third party and whether such efforts are “essential managerial efforts”. Second, the SEC examines whether there is a reasonable expectation of profits by looking at several factors, including whether the purchaser has a right to the enterprise’s income or profits and whether there is an ability to trade the asset through a market or platform. Third, the SEC considers other relevant considerations, including whether the digital asset is fully developed and operational and whether there would be an appreciation in value incidental to the asset obtaining its intended functionality.
Harmonizing Securities Offering Exemptions
On June 19, 2019, the SEC issued a concept release seeking comment on possible ways to simplify, harmonize, and improve the exempt offering framework to promote capital formation. The release requests comment on whether there should be any changes to improve Regulation D, Regulation A, the intrastate offering exemptions and Regulation Crowdfunding.
Related Guidance: DOJ Corporate Compliance Guidelines
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KMK Legal Alerts are intended to bring attention to developments in the law and are not intended as legal advice for any particular client or any particular situation. Please consult with counsel of your choice regarding any specific questions you may have.