Sample Letter Sent in Response to Inquiries Related to Filing Restated Financial Statements for Errors in Accounting for Stock Option Grants
In December 2006, the Division of Corporation Finance responded to inquiries from several public companies requesting filing guidance as they prepare to restate previously issued financial statements for errors in accounting for stock option grants. The following illustrative letter provides information for registrants to consider as they prepare reports to be filed with the Commission to correct errors in accounting for stock option grants.
January 2007
Name
Chief Financial Officer
XYZ Corporation
Address
Dear Chief Financial Officer:
We understand that you plan to restate previously issued financial statements for errors in your accounting for grants of stock options to employees, members of the board of directors, and other service providers and that you have determined that your periodic filings for multiple periods contain materially inaccurate financial statements and related disclosures. In this letter, we are providing you with guidance as you consider how you will address these deficiencies in your periodic filings. You should not interpret this guidance to mean that we will not review your filings if you follow it. Furthermore, as with all staff guidance, the Commission has not approved this letter or the guidance we provide in it.
The Securities Exchange Act of 1934 requires you and your company to file reports with the Commission and to determine the accuracy and adequacy of the information you provide in them. Generally, previously filed reports containing financial statements determined to be materially misstated require amendment. However, since the restatement for errors in accounting for grants of stock options will affect a significant number of years, you have indicated that your company would be unduly burdened by amending all previously filed reports and that the filing of those numerous amendments could adversely impact the ability of a reader of your financial statements to easily and fully understand the impact of the restatement.
The staff of the Division of Corporation Finance will not raise further comment regarding your company's need to amend prior Exchange Act filings to restate financial statements and related MD&A if your company amends its most recent Form 10-K and includes in that amendment the comprehensive disclosure outlined below. If your next Form 10-K is due to be filed within two weeks of the Form 10-K amendment that you would file in response to this guidance, we will not comment on your company's need to amend or file prior Exchange Act filings to restate financial statements and related MD&A if your company includes the comprehensive disclosure outlined below in that next Form 10-K, rather than including the comprehensive disclosure in an amendment to your most recent Form 10-K.
In taking this position, we understand that you will include the following disclosure in your Form 10-K amendment (or your next Form 10-K, as appropriate):
- An explanatory note at the beginning of the Form 10-K amendment that discusses the reason for the amendment.
- Selected Financial Data for the most recent five years as required by Item 301 of Regulation S-K, restated as necessary and with columns labeled "restated".
- Management's Discussion and Analysis as required by Item 303 of Regulation S-K, based on the restated annual and quarterly financial information, explaining the company's operating results, trends, and liquidity during each interim and annual period presented. Discussions relative to interim periods may be incorporated into the annual-period discussions or presented separately.
- Audited annual financial statements for the most recent three years, restated as necessary and with columns labeled "restated".
- If interim period information for the most recent two fiscal years as required by Item 302 of Regulation S-K is required to be restated, the information presented for the balance sheets and statements of income should be in a level of detail consistent with Regulation S-X Article 10-01 (a)(2) and (3), and appropriate portions of 10-01(b) and with columns labeled "restated". Note that there is no need to present cash flow information as it is not required by Item 302.
- Footnote disclosure reconciling previously filed annual and quarterly financial information to the restated financial information, on a line-by-line basis and for each material type of error separately, within and for the periods presented in the financial statements (audited), in selected financial data, and in the interim period information (see paragraph 26 of FASB Statement No. 154).
- The disclosure referred to in the Chief Accountant's September 19, 2006 letter that applies to your restatement (the letter can be found at http://www.sec.gov/info/accountants/staffletters/fei_aicpa091906.htm).
- Audited financial statement footnote disclosure of the nature and amount of each material type of error separately that is included in the cumulative adjustment to opening retained earnings.
- Audited financial statement footnote disclosure of the restated stock compensation cost in the following manner:
- For the most recent three years: restated net income and compensation cost and pro forma disclosures, required by paragraph 45.c. of FASB Statement No. 123, Accounting for Stock-Based Compensation, as clarified and amended by FASB Statement No. 148, for each annual period presented in the financial statements for which the intrinsic value method of accounting in APB Opinion 25 was used, with columns labeled "restated" as appropriate.
- For each annual period preceding the most recent three years: disclosure of the information required by paragraph 45.c.2. of FASB Statement No. 123, the restated stock compensation cost that should have been reported for each fiscal year. The total of the restated stock-based compensation cost should be reconciled to the disclosure of the cumulative adjustment to opening retained earnings. While the disclosure required by paragraph 45.c.2. is net of tax, material tax adjustments related to the accounting for stock-based compensation should also be disclosed by year. Registrants may also elect to voluntarily provide the full restated information previously disclosed pursuant to paragraph 45.c. of FASB Statement No. 123, for each period prior to the most recent three years, either in the audited financial statement footnotes or elsewhere in the filing.
- For companies that adopted (1) FASB Statement No. 123 using the retroactive restatement method specified in FASB Statement No. 148 and/or (2) FASB Statement No. 123R, Accounting for Share-Based Payment, using the modified retrospective application method for all prior years for which FASB Statement No. 123 was effective: the disclosure outlined in the preceding two paragraphs should include the restated stock-based compensation pursuant to FASB Statement No. 123 and also the restated stock-based compensation cost that should have been reported under the accounting principle originally used for each period, presumably Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees.
- Appropriate revisions, if necessary, to previous disclosure under Items 9A and 9B:
- As we discussed in "Staff Statement on Management's Report on Internal Control Over Financial Reporting" (May 16, 2005) (available at http://www.sec.gov/spotlight/soxcomp.htm), in disclosing any material weaknesses that were identified as a result of the restatement and/or investigation, you should consider including in your disclosures: the nature of the material weaknesses, the impact on the financial reporting and the control environment, and management's current plans, if any, for remediating the weakness. While there is no requirement for management to reassess or revise its original conclusion of the effectiveness of internal control over financial reporting, management should consider whether its original disclosures are still appropriate and should supplement its original disclosure to include any other material information that is necessary for such disclosures not to be misleading.
- In light of the restatement and new facts discovered by management, including identification of any material weaknesses, disclose the certifying officers' conclusion regarding the effectiveness of the company's disclosure controls and procedures as of the end of the period covered by the amended filing. If the certifying officers' conclusion remains the same, that disclosure controls and procedures are effective, you should consider discussing the basis for that conclusion.
In advising you that the staff of the Division of Corporation Finance will not raise further comment regarding your company's need to amend prior Exchange Act filings to restate financial statements and related MD&A, it is important that we advise you that this guidance does not:
- mean the Division of Corporation Finance will not comment on or require changes in your Form 10-K amendment or Form 10-K that includes the comprehensive disclosure we outlined above;
- mean the Division of Corporation Finance has concluded that you or your company have complied with all applicable financial statement requirements;
- mean the Division of Corporation Finance has concluded that the company has satisfied all rule and form eligibility standards under the Securities Act and the Exchange Act;
- mean that the Division of Corporation Finance has concluded that the company is current in filing its Exchange Act reports;
- mean that the Division of Corporation Finance has concluded that the company has complied with the reporting requirements of the Exchange Act;
- foreclose any action recommended by the Division of Enforcement with respect to your disclosure, filings or failures to file under the Exchange Act; or
- foreclose any action recommended by the Division of Enforcement under Section 304 of the Sarbanes-Oxley Act, Forfeiture of Certain Bonuses and Profits, with respect to the periods that the company's financial statements require restatement, irrespective of whether the company amended the filings to include the restated financial statements.
As you know, the staff of the Office of the Chief Accountant is continuing to consider matters related to the accounting for stock options (we refer you again to Conrad Hewitt's September 19th letter at http://www.sec.gov/info/accountants/staffletters/fei_aicpa091906.htm). If you would like to discuss the particular facts and circumstances of your stock option grants and the accounting conclusions you have reached, we encourage you to contact Joe Ucuzoglu, Professional Accounting Fellow in the Office of the Chief Accountant at 202-551-5301 or Mark Barrysmith, Professional Accounting Fellow in the Office of the Chief Accountant 202-551-5304.
We have provided this guidance to you based on our understanding of your circumstances surrounding your decision to restate your financial statements to correct errors related to your accounting for stock options. Materially different circumstances, including filing delinquencies and restatements for other reasons, could result in our reaching a different conclusion.
Please direct any questions about the guidance we have provided to you in this letter to the staff of the Chief Accountant's Office in the Division of Corporation Finance (202-551-3400).
Sincerely,
Carol A. Stacey Chief Accountant Division of Corporation Finance