SEC Regulations Committee October 21, 2020 — Joint Meeting with SEC Staff
NOTICE:
The Center for Audit Quality (CAQ) SEC Regulations Committee meets periodically with
the staff of the SEC to discuss emerging financial reporting issues relating to SEC
rules and regulations. The purpose of the following highlights is to summarize the
issues discussed at the meetings. These highlights have not been considered or acted
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and do not purport to be a transcript of the matters discussed. The views attributed
to the SEC staff are informal views of one or more of the staff members present, do
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refer directly to applicable authoritative pronouncements for the text of the
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I. Attendance
SEC Regulations Committee
Steven Jacobs, Chair
Jonathan Guthart, Vice-Chair
Todd Castagno
Kendra Decker
Fred Frank
Marie Gallagher
Paula Hamric
John May
Lisa Mitrovich
Dan Morrill
Steve Neiheisel
Mark Shannon
Chris Spahr
Terry Spidell
Mary Stone
Scott Wilgenbusch
Greg Wright
Securities and Exchange Commission
Staff from the Division of Corporation Finance (Division) and Office of the
Chief Accountant
Observers and Guests
Adam Dufour, EY
Rohit Elhance, Grant Thornton
Mark Kronforst, EY
Brandon Landas, BDO
Kathleen Malone, Deloitte
Polia Nair, EY
Annette Schumacher Barr, CAQ Observer
Carolyn Hall, CAQ Observer
Organizational, Personnel and Project Updates
A. Staff Update
The staff provided the following update of recent changes in the Division of
Corporation Finance:
- Jessica Kane was named Director of the Division’s Disclosure Review Program.
- Tamara M. Brightwell was named Deputy Director of the Division’s Disclosure Review Program.
- Lindsay McCord was named Chief Accountant.
- Pat Gilmore will return to the Division’s Office of Chief Accountant as Deputy Chief Accountant, from the Disclosure Review Program where he recently served as Acting Director.
B. Financial Reporting Manual (FRM) Update
The staff expect to issue an updated FRM that reflects some recent
rulemaking, including the updated definitions of a smaller reporting company
(SRC) and large accelerated filer/accelerated filer, the disclosure update
and simplification amendments, as well as a few other items However, the
update will not reflect recent amendments to Regulation S-X, including Rules
3-05, 3-10, 3-16, 3-14 and Article 11.
Regarding the amendments to Rules 3-10 and 3-16, the staff noted that the
Small Entity Compliance Guide for Financial Disclosures about
Guarantors and Issuers of Guaranteed Securities and Affiliates Whose
Securities Collateralize a Registrant’s Securities has
been posted on the SEC’s website.
The staff also indicated they are planning a holistic review of the FRM and
welcome any feedback or ideas.
III. Current Financial Reporting Matters
A. Modernization of Regulation S-K Items 101, 103, and 105
The Committee asked the staff about transition related to the Final
Rule on modernizing Items 101, 103, and 105 of
Regulation S-K. Specifically, the Committee asked whether the final rule
applies to all filings on or after the effective date or to filings that
include a balance sheet date after the effective date. The staff stated that
the rules will become effective on November 9, 2020 and as such, the form
and content of any filing made on or after that date needs to reflect the
provisions of the Final Rule. In other words, if a registrant files a Form
10-K or Form 10-Q on or after November 9, it is required to include all the
disclosures mandated in the Final Rule applicable to the form. The Committee
also asked whether a registration statement that is first filed before the
effective date, but amended after the effective date, would need to comply
with the final rule and whether any revised disclosure would be necessary if
a new registration statement is filed that incorporates by reference
Exchange Act reports filed prior to the effective date. The staff indicated
that the new rules apply to first-time public filings of registration
statements and as such, any amendments associated with previously filed
registration statements first filed before November 9, 2020 (not draft
registration statements) would be grandfathered under the old rules.
Note: Subsequent to the meeting, the staff issued Transitional FAQs Regarding Amended Regulation S-K Items 101, 103
and 105.
B. Implementation Questions Regarding Final Rule 3-10 Amendments
Committee members and staff discussed implementation questions regarding the
final amendments to
Rule 3-10 contained in SEC Release No. 33-10762, - “Financial
Disclosures about Guarantors and Issuers of Guaranteed Securities and
Affiliates Whose Securities Collateralize a Registrant’s
Securities”. The staff are considering what responsive
guidance may be necessary for these questions in the near future.
The Committee also asked the staff whether the modified reporting framework
set forth in new S-X 3-10/13-01 would be available to an issuer of trust
preferred securities that is not consolidated by the parent company
guarantor (as was previously permitted and discussed at the 2003 AICPA SEC
Conference). The staff indicated they are considering this issue.
Note: On November 10, 2020, the staff issued a no-action letter regarding certain trust preferred securities in
relation to the question above.
C. Impact of COVID-19 and observations on disclosures
Committee members and staff shared observations regarding disclosures on the
impact of COVID-19. It was observed that some registrants have elected to
include a dedicated section in MD&A focusing on COVID while others have
disclosed its impact throughout the filing. Regarding Q1 filings, companies
appeared to consider the Division’s Disclosure
Guidance Topic No. 9 amidst the uncertainties that
existed at the time. Regarding Q2 filings, generally registrants provided
good disclosures regarding operations, liquidity and capital resources,
further considering the views expressed by the staff in Disclosure Guidance Topic No. 9A. As registrants are
preparing future periodic reports, the staff suggested that registrants
consider their ability to provide more robust disclosure regarding long-term
views on the impact of COVID-19 (e.g., how do they plan on paying back debt
taken out to manage recent short-term liquidity challenges?). Regarding
disclosures of Non-GAAP financial measures, the staff did not observe many
objectionable disclosures of Non-GAAP measures in Q1 or Q2 filings.
Industry representatives on the Committee reported that the staff’s guidance
provided in Disclosure Guidance Topics 9 and 9A was very helpful to
registrants. The preparer community has tried to differentiate and report on
the impacts of COVID as best possible but variables are often difficult to
isolate. Looking forward, uncertainty continues regarding the duration of
the pandemic and its potential impact on financial performance which could
challenge the ability to provide disclosures about longer-term
expectations.
D. Implementation Questions Regarding Final Rule 3-05 Amendments
Committee members and staff continued a discussion on implementation
questions regarding the final amendments to Rule 3-05, Amendments to
Financial Disclosures about Acquired and Disposed Businesses. The
SEC staff are considering what responsive guidance may be necessary related
to these questions in the near future.
E. S-X Rule 3-05 financial statements when the acquired entity previously elected to use a risk-free discount rate to account for its leases under ASC Topic 842, Leases
ASC Topic 842 provides a policy election to nonpublic business entities to
use a risk-free discount rate to account for its leases, including
determining lease classification and measuring the lease liability and
right-of-use asset (ASC 842-20-30-3). The FASB provided this election as an
accommodation for private companies to make the application of the leasing
guidance easier.
This election is not available for public business entities (PBE). A PBE
lessee is required to use its incremental borrowing rate (IBR) if the rate
implicit in the lease is not readily determinable. ASC Topic 842 Glossary’s
definition of a PBE includes the following:
An entity may meet the definition of a PBE solely
because its financial statements or financial information is included in
another entity’s filing with the SEC. In that case, the entity is only a
PBE for purposes of financial statements that are filed or furnished
with the SEC.
The Committee asked the staff for its views regarding a Registrant that
acquires a non-PBE (lessee) that previously elected to use a risk-free
discount rate to account for its leases, specifically whether the Registrant
is required to calculate the significance (under S-X) of the acquired entity
based on the lessee’s IBR or rate implicit in the lease if, readily
determinable (PBE rate) for its leases rather than the previously used
risk-free rate. The staff observed that the risk-free rate may result in
higher calculated significance. Therefore, if a registrant elects to measure
significance using pre-acquisition financial statements of the acquired
business and the only difference between those financial statements and a
PBE set of financial statements is the risk-free rate, the staff would not
object.
The Committee also asked the staff whether the financial statements of an
entity (lessee) that is only considered to be a PBE because its financial
statements are included in another entity’s SEC filing (e.g., S-X Rule 3-05
financial statements) can continue to reflect the lessee’s previous
accounting policy election to use the risk-free discount rate to account for
its leases. The staff indicated that such entities are required to provide
financial statements that reflect the recognition and measurement principles
applicable to public business entities. Accordingly, the company would have
to assess whether an adjustment to use the PBE rate would be material to
necessitate revision.
F. Determining the numerator for the income component of the income test in connection with the disposition of a business
The Committee noted that registrants are oftentimes required to assess the
significance of a business that has been disposed of or is probable of being
disposed of in order to determine whether pro forma financial information
depicting the disposition of the business is required to be filed (e.g.,
under Item 9.01 of Form 8-K or in a registration statement). Rule
1-02(w)(1)(iii)(A) prescribes that the numerator for the income component of
the income test of significance is “[t]he absolute value of the registrant’s
and its other subsidiaries’ equity in the tested subsidiary’s consolidated
income or loss from continuing operations before income taxes (after
intercompany eliminations) attributable to the controlling interests…”
The Committee asked the staff for their views regarding how the numerator of
the income component of the income test of significance should be calculated
in connection with the disposition of a business. The staff noted that the
numerator is calculated based on the income statement effects that would be
removed from the registrant's income statement during the tested period
(similar to the requirements for presenting discontinued operations under
ASC 205-20-45) rather than determining pre-tax income on a carve-out basis
using the principles of SAB Topic 1.B.1.