Chapter 3 — Affiliates Whose Securities Collateralize Securities Registered or Being Registered

3.2 Disclosure Requirements

3.2.1 Nonfinancial Disclosures

Nonfinancial disclosures can help investors understand the nature of the securities of affiliates that have been pledged as collateral by the issuer and the underlying collateral arrangements. Rule 13-02 requires registrants to provide, to the extent material, certain nonfinancial disclosures, such as:

(1) A description of the securities pledged as collateral and the affiliates whose securities are pledged as collateral;

(2) A description of the terms and conditions of the collateral arrangement, including the events or circumstances that would require delivery of the collateral;

(3) A description of the trading market for the affiliate’s security pledged as collateral or a statement that there is no market.

In addition, some individual affiliates may have unique fact patterns regarding the pledge of their securities, collateral arrangements, or both that would warrant specific disclosure. Beyond the requirements outlined above, registrants are required to disclose specific facts and circumstances related to individual affiliates or collateral arrangements if such information would be material to investors and would help them understand and evaluate the pledges of the affiliates’ securities and the underlying collateral arrangements. Registrants must also provide additional information to the extent necessary to ensure that the disclosures provided are not misleading. For example, as discussed in paragraph 2620.4 of the FRM, if a registrant pledges its equity interest in an affiliate that is not wholly owned or the pledge of collateral does not include all of the registrant’s outstanding ownership interest in the affiliate, the registrant would be required to include additional disclosures about its ownership interest in the affiliate, including relevant information about the amount of interest not held by the registrant.

Further, Regulation S-K, Item 601(b)(22), requires a registrant to include in its disclosure Exhibit 22, which lists “each of its affiliates whose securities are pledged as collateral for securities registered or being registered, and also [identifies] the securities pledged as collateral.”

3.2.2 Financial Disclosures

3.2.2.1 Level of Detail

For each affiliate whose securities are pledged as collateral, Rule 13-02(a)(4) requires the registrant to disclose, to the extent material, the summarized financial information specified in Rule 1-02(bb)(1), which includes select balance sheet and income statement line items, and provide an accompanying note that briefly describes the basis of presentation (see Section 3.2.2.2). At a minimum, the summarized financial information must include the following items, subject to appropriate variation to conform to the nature of the registrant’s business:

Current and noncurrent assets.2
Current and noncurrent liabilities.3
Redeemable preferred stock (if applicable).
Noncontrolling interests (if applicable).
Net sales or gross revenues.4
Gross profit (or costs and expenses related to net sales or gross revenues).5
Income (loss) from continuing operations.
Net income (loss).
Net income (loss) attributable to the entity.

Rule 13-02 also requires registrants to present separate line items for “[a]n affiliate’s amounts due from, amounts due to, and transactions with” (1) the registrant, (2) any of the registrant’s subsidiaries that are not included in the summarized financial information, and (3) related parties (e.g., transactions between affiliates and unconsolidated equity method investments or entities with common ownership or management). Note that these three groups of transactions (i.e., transactions with the registrant, other subsidiaries of the registrant, and related parties) should be presented as separate line items.

In addition to the financial information prescribed by Rule 1-02(bb)(1), registrants should separately present additional line items when such financial information would be material to investors. For example, if a material goodwill impairment charge is incurred or a material related-party transaction occurs for an affiliate whose security is pledged as collateral, separate disclosure of these items may be meaningful to an investor.

Note that supplemental cash flow information is not required to be disclosed.

A registrant that pledges its equity interest in an unconsolidated affiliate (e.g., an affiliate accounted for by using the equity method or at fair value) may also be required to file the separate financial statements of the investee if such statements are material to the pledge because equity method investees are not consolidated in an issuer’s financial statements. The rationale for this requirement is outlined in paragraph 2620.3 of the FRM:

In the rare circumstances where the securities of an affiliate that is not a consolidated subsidiary of a registrant collateralize the registered securities of that registrant, S-X 13-02(a)(6) and (7) require the registrant to provide any financial and narrative information about each such affiliate if the information would be material for investors to evaluate the pledge of the affiliate’s securities as collateral and sufficient information so as to make the financial and non-financial information presented not misleading. Because the unconsolidated affiliate’s information is not included in the registrant’s consolidated financial statements, disclosure beyond what is specified in S-X 13-02(a)(1) through (4) may be necessary. In this regard, separate financial statements of the unconsolidated affiliate may be necessary to satisfy the requirements of Regulation S-X 13-02(a)(6) and (7).

3.2.2.2 Basis of Presentation

The financial disclosures of each consolidated affiliate whose securities are pledged may be presented on a combined basis provided that “[i]ntercompany balances and transactions between affiliates whose summarized financial information is presented on a combined basis [are] eliminated” (see Rule 13-02(a)(4)(ii)). Thus, the registrant does not need to provide separate columns for each consolidated affiliate whose securities are pledged or to show the associated eliminations; it may disclose only the combined amounts. In addition, the financial disclosures of each affiliate whose securities are pledged as collateral should reflect the financial information of its subsidiaries on a consolidated basis, even if the securities of the affiliate’s subsidiaries are not pledged as collateral. Paragraph 2620.1 of the FRM states, in part:

Because the securities pledged as collateral are an equity interest in a given pledgor affiliate, the financial information of all subsidiaries that would be consolidated by that affiliate must be included in that affiliate’s summarized financial information presented pursuant to S-X 13-02(a)(4), even if the securities of those subsidiaries are not pledged as collateral. This presentation is different from the disclosures applicable to issuers and guarantors of guaranteed securities, which require non-issuer and non-guarantor subsidiaries of issuers and guarantors to be excluded from the financial information of issuers and guarantors in order to distinguish the financial information of entities that are legally obligated to pay from those that are not.

See Section 2.3.2.2 for a discussion of disclosures related to guaranteed securities.

When a nonfinancial disclosure (as described in Section 3.2.1) applies to one or more, but not all, affiliates whose securities are pledged as collateral, the registrant is required to present separate financial disclosures regarding the affiliate(s) to which the unique nonfinancial disclosure applies. For example, if there is a trading market for one affiliate’s pledged securities, the summarized financial information for that affiliate should be presented separately from the combined information for the affiliates for which there is no trading market. Similarly, a registrant that pledges its equity interest in an affiliate that is not wholly owned would be required to include additional disclosures about its ownership interest in the affiliate and thus may need to present summarized financial information for that affiliate separately (see paragraph 2620.4 of the FRM). If the financial disclosures for those affiliates to which the separate narrative information applies can be easily explained and understood, it may be acceptable for the registrant to provide narrative disclosure in lieu of the separate summarized financial information. However, such situations are expected to be limited.

3.2.2.3 Omission of Financial Disclosures

Rule 13-02 permits registrants to omit financial disclosures if one of the following scenarios is true and disclosed:

The amounts to be presented for “the combined affiliates whose securities are pledged as collateral are not materially different than the corresponding amounts presented in the consolidated financial statements.”6 For example, this could be the case when a registrant (1) pledges stock of all of its subsidiaries or (2) pledges the stock of a majority of its subsidiaries and the subsidiaries whose stock is not pledged is immaterial.
“The combined affiliates whose securities are pledged as collateral have no material assets, liabilities or results of operations.” For example, this could be the case when an issuer pledges only the stock of a finance subsidiary that is used solely to service debt or operating subsidiaries, or both, with immaterial operations.

However, registrants that do not meet the criteria in these two nonexclusive scenarios may nonetheless conclude, on the basis of their specific facts and circumstances, that the financial disclosures are not material. We encourage any registrants that intend to omit financial information on the basis of materiality (i.e., when the two nonexclusive scenarios above do not apply) to consult with their legal and accounting advisers.

3.2.3 Periods to Present

3.2.3.1 Annual Reports

Financial disclosures must be presented in annual reports on Form 10-K as follows:

Balance sheet information — As of the most recent year-end.
Income statement information — For the most recent year.

For example, a registrant with a December 31 fiscal year-end is required to include balance sheet information as of December 31, 20X1, and income statement information for the year ended December 31, 20X1, in its December 31, 20X1, Form 10-K. Comparative prior-year periods are not required.

3.2.3.2 Quarterly Reports

Financial disclosures must be presented in quarterly reports on Form 10-Q as follows:

Balance sheet information — As of the most recent interim period and the comparative prior year-end, which is consistent with the periods presented in the registrant’s consolidated balance sheet.
Income statement information — For the current year-to-date interim period. Comparative prioryear interim and annual periods are not required.

For example, a registrant with a December 31 fiscal year-end is required to include balance sheet information as of June 30, 20X1, and December 31, 20X0, and income statement information for the six months ended June 30, 20X1, in its June 30, 20X1, Form 10-Q.

3.2.3.3 Registration Statements

Financial disclosures must be presented in an entity’s registration statement for the issuance of collateralized securities as follows:

Balance sheet information — As of the end of the most recently completed fiscal year-end and interim period included in the registration statement.
Income statement information — For the most recently completed year and the current year-todate interim period included in the filing. Comparative prior-year interim and annual periods are not required.

For example, if a registrant with a December 31 fiscal year-end files a registration statement after the June 30, 20X1, Form 10-Q has been filed, it is required to include (1) balance sheet information as of June 30, 20X1, and December 31, 20X0, and (2) income statement information for the six months ended June 30, 20X1, and the year ended December 31, 20X0.

3.2.4 Where Disclosure Is Required

For periodic reporting on Forms 10-K and 10-Q, a registrant may provide the required disclosures in either its MD&A or financial statements.

For registration statements (i.e., Form S-1, Form S-3, Form S-4, or Form S-11) for the sale or registration of collateralized securities, the disclosures may be presented in one of the following:

MD&A.
The financial statements.
The prospectus, placed immediately after “Risk Factors,” if not otherwise included in the financial statements or MD&A. If there are no risk factors disclosed, the information may be presented immediately after the pricing information.

If a registrant chooses to include the disclosures in its financial statements, such disclosures would be subject to (1) audit (in the case of Form 10-K) or review (in the case of Form 10-Q), (2) ICFR (and an audit of ICFR in a Form 10-K if applicable), and (3) XBRL tagging. However, if the registrant elects to include the disclosures outside its financial statements, the disclosures would be subject to disclosure controls and procedures but would not require XBRL tagging. While disclosures in MD&A or elsewhere in the prospectus would not be subject to audit or review, the auditors may be asked to perform certain procedures on these disclosures in conjunction with providing comfort letters to underwriters and certain other requesting parties in a securities offering.

3.2.5 Recently Acquired Affiliates Whose Securities Are Pledged as Collateral

When filing a new registration statement in conjunction with the sale of new collateralized securities, a registrant needs to consider whether any information related to recently acquired businesses may be required.

If a registrant acquires a significant business7 after the most recent balance sheet date included in its consolidated financial statements and the securities of the acquired business or one or more of the acquired business’s affiliates, or both, are pledged as collateral, the registrant must provide preacquisition financial disclosures for the recently acquired affiliate(s) in the registration statement. Once the acquisition has been reflected in the registrant’s balance sheet, the requirement for the preacquisition financial disclosures of the recently acquired affiliate(s) in a registration statement no longer applies. Preacquisition financial disclosures for recently acquired affiliates whose securities are pledged as collateral are not required in Form 10-Q or Form 10-K.

Example 3-1

On July 1, 20X1, a registrant completes the acquisition of a significant business that has a December 31 fiscal year. The registrant plans to file a new registration statement on Form S-3 on September 25, 20X1, to register debt securities, and the common stock of the acquired business will be pledged as collateral for the to-be-registered debt securities. In such a case, the registration statement should include (or incorporate by reference) the preacquisition financial statements of the acquired business under Rule 3-05. Furthermore, to comply with Rule 13-02, the registration statement should include the preacquisition financial disclosures of the newly acquired affiliate (1) as of June 30, 20X1, and December 31, 20X0, and (2) for the six months ended June 30, 20X1, and the year ended December 31, 20X0.

In certain circumstances, a registrant may be required to provide the preacquisition financial disclosures of the recently acquired affiliate whose securities are pledged in accordance with Rule 13-02 before providing the historical preacquisition financial statements of the recently acquired business in accordance with Rule 3-05. This is because under Rule 3-05, a registrant may not be required to include the financial statements of a recently acquired business in a registration statement that is filed or declared effective within 75 days of the consummation of the acquisition. Because Rule 13-02 does not include a similar provision for recent acquisitions, any registration statement for the issuance of collateralized securities that is filed after the consummation of a significant acquisition but before the acquisition is reflected in the registrant’s financial statements must include the preacquisition financial disclosures of the recently acquired affiliate whose securities are pledged.

Footnotes

Rule 1-02(bb) indicates that “[f]or specialized industries in which classified balance sheets are normally not presented, information shall be provided as to the nature and amount of the majority components of assets and liabilities.”

See footnote 2.

Rule 1-02(bb) indicates that “[f]or specialized industries, other information may be substituted for sales and related costs and expenses if necessary for a more meaningful presentation.”

See footnote 4.

This does not apply if the separate financial disclosures of one or more, but not all, affiliates are otherwise required.

A registrant determines whether a “business” has been acquired in accordance with the guidance in Rule 11-01(d). An acquired business is deemed significant on the basis of the same significance tests and thresholds used to determine whether preacquisition financial statements are required for an acquired business under Rule 3-05; in such a determination, 20 percent is substituted for 10 percent any place it appears in Rule 1-02(w). See Deloitte’s Roadmap SEC Reporting Considerations for Business Acquisitions for further details on determining whether an acquisition is a significant business.

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This SEC Reporting Interpretations manual provides comprehensive guidance; however, the manual does not address all possible fact patterns, and the guidance is subject to change. Consult a Deloitte & Touche LLP professional regarding your specific issues and questions.