Alert September 23, 2020

SEC Adopts Third Round Of Disclosure Modernization

Summary
The Securities and Exchange Commission has adopted the third group of amendments to its disclosure requirements, originally proposed in August 2019 and discussed in an earlier Goodwin client alert. The amendments, which are generally consistent with the original proposals, will incrementally simplify disclosure about a company’s business, emphasizing a principles-based approach. The proposals also allow the disclosure requirements in the legal proceedings section to be satisfied by links to legal proceedings disclosure included elsewhere in the report or registration statement. Finally, the amendments change the disclosure standard for risk factors from the “most significant” to “material,” require a summary of risk factor disclosures if the risk factor section is more than 15 pages, require risk factors to be organized under topical headings, discourage risk factors that could apply generically to any company or any offering, and require that any generic risk factors be presented at the end of the risk factors section under a separate heading. The appendix to this alert includes the text of the final amendments that has been marked to show changes from current requirements

These amendments are the next step as the SEC continues to update its disclosure requirements, as recommended by the SEC staff in the December 2013 Regulation S-K study prepared under a mandate in the Jumpstart Our Business Startups Act. The SEC previously adopted two rounds of amendments in September 2018 (discussed in a Goodwin alert) and April 2019 (discussed in another Goodwin alert). These amendments revise three of the disclosure topics required by Regulation S-K in SEC reports and registration statements: Business (Item 101(a) and 101(c)), Legal Proceedings (Item 103), and Risk Factors (Item 105). The amendments also make conforming changes in the text of several SEC forms.

The amendments were adopted by a 3-2 vote of the SEC commissioners, with the dissenting commissioners expressing strong concerns that the amendments failed to adequately address disclosure about climate change and certain other environmental, social, and governance, or ESG, disclosures, and more in-depth disclosure about human capital matters.

Effective Date

The amendments will be effective 30 days after publication in the Federal Register. Companies should monitor the status of the amendments. It is possible that the amendments will become effective shortly before the due dates for Form 10-Q reports for the quarter ended September 30, 2020, so companies should review the amendments and consider how their current disclosures would change under the amendments. The adopting release does not indicate that companies can adopt the amended sections of Regulation S-K prior to the effective date of the amendments.

Companies Affected by the Amendments

The amendments will apply to reports and registration statements filed by domestic companies, with amended accommodations for Business disclosure (Regulation S-K Item 101(c)) by smaller reporting companies. The amendments to the Business (Item 101) and Legal Proceedings (Item 103) disclosure requirements will not apply to foreign private issuers that file SEC forms that do not rely on Regulation S-K disclosure requirements (such as Form 20-F), but the amendments to Risk Factors (Item 105) will apply to certain registration statements filed by foreign private issuers (such as Forms F-1, F-3, and F-4).

What Companies Should be Doing Now

Companies that file reports under the Securities Exchange Act of 1934, including reports on Forms 10-Q, 10-K, and 8-K, should review the amendments to determine the extent to which the amendments will affect their SEC reports, and the timing of these impacts. Note that the amendments also apply to registration statements filed under the Securities Act of 1933, which are not discussed in this section.

Legal Proceedings Considerations. If the amendments become effective before a company files its Form 10-Q for the quarter ended September 30, 2020, the amended disclosure requirements for Legal Proceedings (Item 103) will apply to that Form 10-Q. The amendments permit companies to satisfy the disclosure requirements for material legal proceedings by providing a hyperlinked cross-reference to legal proceedings disclosure elsewhere in the report, such as the notes to the financial statements or Management’s Discussion and Analysis, Risk Factors.

If a company anticipates taking advantage of the option to refer to legal proceedings disclosure in the footnotes to the financial statements, it will be important to discuss this possibility in advance with the company’s independent auditors. This will be especially true if the company proposes to use a dollar threshold for disclosure that differs from the threshold expected by the auditor.

Risk Factors Considerations. If a company is updating its disclosure in Risk Factors (Item 105) after the effective date, the amendments could have a significant impact on that disclosure. This would potentially be true for updates made in a Form 8-K report as well as a Form 10-Q report.

Companies that update risk factors disclosure by restating their risk factors entirely with any current changes will be subject to the amended Risk Factors requirements, summarized below. This may include review and reorganization of the entire Risk Factors section and, if the Risk Factors section exceeds 15 pages, will also require preparation of a bullet-point summary that does not exceed two pages at the beginning of the Risk Factors section.

Companies that update risk factors disclosure by including only the changed risk factors will likely see minimal impact on their Risk Factors section until their next Form 10-K filing. We believe that Item 105, as amended, applies only to the risk factors actually contained in a Form 10-Q or Form 8-K report. In most such cases, the organizational amendments should have minimal impact, and the bullet point summary requirement should not apply except in the exceptional case where the updated risk factors exceed 15 pages.

Business Disclosure Considerations. The amended disclosure requirements for the Business section would generally not apply to a company’s Securities Exchange Act of 1934 reports until its next annual report on Form 10-K.

Form 8-K Impacts. Form 8-K reports filed after the effective date that include any disclosure required by Items 101(a) and (c), Item 103, or Item 105 must comply with the amendments. Many companies update their Risk Factor disclosure by filing a Form 8-K report, and these reports will be subject to the amended Item 105 disclosure requirements.

Summary of the Amendments

The amendments are summarized below. An appendix following the summary shows the text of the amended sections, marked to show changes from the prior requirements. A second appendix reproduces a chart included in the SEC’s adopting release that summarizes the amendments in tabular form.

Business – Item 101(a) and (c)

The amendments to Item 101 of Regulation S-K will:

  • Replace List of Specific Disclosure Topics with Examples. Focus on disclosures that are material to an understanding of the company’s business and replace the lengthy and detailed current list of disclosure topics with a more concise and general list of potential disclosure topics and clarify that disclosure is required only to the extent material to an understanding of the general development of the company’s business;
  • New Business Strategy Disclosure. Add a new disclosure topic about transactions and events that affect or may affect the company’s business operations, including changes to a previously disclosed business strategy;
  • Human Capital Disclosure. Add a new disclosure topic about human capital resources, including any human capital measures or objectives that the company focuses on in managing its business, such as measures or objectives that address the attraction, development, and retention of personnel, to the extent relevant and material — note that the amendments do not define “human capital” or require disclosure of any specific metrics;
  • Expanded Governmental Regulation Disclosure. Expand current disclosure about the impact of compliance with environmental requirements to include compliance with all material government regulations, including environmental regulations;
  • Eliminate Five/Three Year Lookback. Eliminate the currently required timeframe for disclosure of the general development of the company’s business (generally five years, or three years for smaller reporting companies) — but note that Form 10-K continues to require a one-year lookback; and
  • Permit Hyperlinks to Previously Filed Disclosure. Permit a company to provide only an update of the general development of its business, focusing on material developments during the reporting period, in filings other than IPO registration statements. The amendments require companies that provide such an update to incorporate by reference and include a single active hyperlink to a single report or registration statement filed by the company that, together with the update, would present a full discussion of the general development of the company’s business. A similar amendment to Item 101(h), which applies to Item 101 business disclosure by smaller reporting companies, provides a similar same option for smaller reporting companies that use the scaled reporting provision.

Legal Proceedings — Item 103

The amendments to Item 103 will:

  • Hyperlinks or Cross-References to Legal Proceedings Disclosure in the Same Filing. Permit companies to satisfy the disclosure requirements for material legal proceedings by providing a hyperlinked cross-reference to legal proceedings disclosure elsewhere in the report or registration statement, such as Management’s Discussion and Analysis, Risk Factors, or the notes to the financial statements; and
  • Increased Environmental Sanctions Disclosure Threshold. Increase the threshold for disclosure of environmental proceedings in which a governmental authority is a party to $300,000 from $100,000.

Risk Factors — Item 105

The amendments to Item 105 will:

  • Summary of Risk Factors Section. If the risk factor section is longer than 15 pages, require a risk factor summary under an appropriate heading in the forepart of the report or registration statement, consisting of a series of short, concise, bulleted or numbered statements that summarize the principal risk factors;
  • Topical Grouping and Subcaptions. Require companies to organize risk factor disclosure under relevant headings, with each risk factor under a subcaption that adequately describes the risk;
  • Discourage and Relocate Generic Risk Factors. Discourage inclusion of generic risk factors, and require the company to present any generic risk factors at the end of the risk factors section under the caption “General Risk Factors”; and
  • Replace “Most Significant” Standard with “Material.” Change the current disclosure standard from the “most significant” risk factors to “material” risk factors.

An appendix shows the text of the amended sections, marked to show changes from the prior requirements. 

A second appendix reproduces a chart included in the SEC’s adopting release that summarizes the amendments in tabular form.