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Important Reminders for Upcoming 10-Q Filings

​As calendar year filers begin preparing their Forms 10-Q for the third quarter, there are a few items they should keep in mind.

Potential Impact of SEC's New Disclosure Update and Simplification Release

As discussed in greater detail in our client alert (available here), on August 17, 2018, the Securities and Exchange Commission (the “SEC") adopted several dozen amendments (available here) to “simplify compliance without significantly altering the total mix of information" (the “Final Rules").  Ironically, the first effect of the Final Rules that companies may encounter is one that requires additional disclosure.  The Final Rules require Form 10-Q to contain a statement of changes in stockholders' equity and to disclose the amount of dividends per share for each class of shares with respect to the interim period, pursuant to revised Rule 3-04 of Regulation S-X.  Previously, this information was only required in Form 10-K.  The adopting release for the Final Rules notes that “[t]he extension of the disclosure requirement in Rule 3-04 of Regulation S-X may create some additional burden for issuers . . . because it will require disclosure of dividends per share for each class of shares, rather than only for common stock, and disclosure of changes in stockholders' equity in interim periods," but the SEC staff “expect[s] this burden will be minimal, as the required information is already available from the preparation of other aspects of the interim financial information such as the balance sheet and earnings per share."  The required analysis of changes in stockholders' equity for the “current and comparative year-to-date periods, with subtotals for each interim period," can be presented in a note to the financial statements or in a separate financial statement.

The Final Rules become effective 30 days from publication in the Federal Register.  As of the date of this blog post, the Final Rules have not been published in the Federal Register.  Moreover, the adopting release does not indicate (1) whether the amendments should be applied only to periodic reports covering periods ending on or after the effective date, or (2) whether the amendments should be applied to all periodic reports filed after the effective date.  Accordingly, assuming the Final Rules are published in the Federal Register sometime this month, it is unclear whether companies with a Septe...

EDNY Rejects Motion to Dismiss in First ICO Criminal Securities Fraud Trial

​On September 11, 2018, Judge Raymond Dearie of the Eastern District of New York rejected a motion to dismiss in U.S. v. Zaslavskiy, the first criminal securities fraud prosecution relating to an initial coin offering. The motion to dismiss challenged the prosecution's characterization of two virtual currencies promoted by Maxim Zaslavskiy as “securities" under the federal securities law.

In rejecting the motion, Judge Dearie determined only that a reasonable jury could conclude that the alleged coins satisfy the Howey test and that, as such, the question of whether these ICOs constituted offerings of securities is a question of fact to be determined by the jury. In scholarly and practitioner discussions of the potential applicability of the securities laws to ICOs, the most difficult question is typically whether the profit "through the efforts of others" component of Howey is satisfied insofar as many virtual currencies do not involve a clear link between managerial efforts and expected profits. In Zaslavskiy, however, Judge Dearie held that the alleged facts make “clear that the investors could have reasonably expected their profits to be derived primarily from the managerial efforts of Zaslavskiy and his team." Zaslavskiy is alleged to have marketed one coin as “real estate-backed currency" whose value was derived  from real estate investment decisions managed by “an experienced team of brokers, lawyers, and developers." The other coin was similarly marketed as a currency whose value was derived from expert investments in diamonds. In both cases, the court noted that there was no indication that investors were to be given any opportunity to manage the real estate and diamond investments “backing" the virtual currencies and that the expected profit from these currencies was to be derived from the investment strategies of Zaslavskiy's “expert" team.

As the first instance of a federal court opining on these questions in a criminal context Judge Dearie's findings are notable; however, as with the SEC's 2017 DAO ICO investigative report, the court's analysis has limited generalizable implications. The alleged facts of the coins forming the subject of the criminal complaint allowed for a straightforward application of Howey and accordingly the ruling provides relatively little guidance as to how federal courts will apply the securities laws to the often more ambiguous character of many ICOs.  Practitioners will undoubtedly watch the resulting criminal trial with interest. 

This post was prepared by Alan Bannister, Nicolas Dumont, and Michael Mencher. 


SEC Streamlines Disclosure Requirements as Part of its Overall Disclosure Effectiveness Review

On August 17, 2018, the Securities and Exchange Commission (the “Commission") adopted several dozen amendments (available here) to “simplify compliance without significantly altering the total mix of information" (the “Final Rules").  In Release No. 33-10532, the Commission characterized the amended requirements as redundant, duplicative, overlapping, outdated or superseded, in light of subsequent changes to Commission disclosure requirements, U.S. GAAP, IFRS and technology developments.  

The Final Rules are largely consistent with the changes outlined in the Commission's July 13, 2016 proposing release, available here and discussed in a previous post. They form part of the Commission's ongoing efforts in connection with the Disclosure Effectiveness Initiative relating to Regulations S-K and S-X and the Commission's mandate under the Fixing America's Surface Transportation Act to eliminate provisions of Regulation S-K that are duplicative, overlapping, outdated, or unnecessary. The Final Rules will become effective 30 days from publication in the Federal Register.  

In the short term, issuers and registrants will need to revise their disclosure practices and compliance checklists in light of the amendments before filing a registration statement or periodic report following effectiveness of the Final Rules.

We discuss the Final Rules in greater detail in our client alert (available here).

Our thanks to Michael Mencher in New York and Maya Hoard in Orange County for their assistance in preparing the summary above and the client alert. ​


The PCAOB’s Draft Strategic Plan: Overview and Outlook

On August 10, 2018, the Public Company Accounting Oversight Board (PCAOB or Board) released a draft of its five-year strategic plan and sought public comment on the plan through September 10, 2018. This represents the first time that the Board has solicited public input to a draft strategic plan, and follows the Board's announcement in April of a public survey to permit stakeholder input on the strategic plan even in advance of the draft's release. In a speech on May 17, 2018, at the Deloitte/University of Kansas Auditing Symposium (Kansas Speech), PCAOB Chairman William D. Duhnke III announced that after the public comment period, the Board plans to finalize the strategic plan in November 2018.[1]

Coming on the heels of a complete turnover of the Board and the subsequent departure of numerous senior personnel, the process by which the Board is crafting its strategic plan provides further evidence—if any were necessary—that this Board intends to seek out new ways to operate and to fulfill the PCAOB's mission.

This post surveys the current state of the Board's three most important functions—standard setting, inspections, and enforcement—in light of the Kansas Speech and the draft strategic plan, and offers some thoughts concerning what stakeholders might expect as the PCAOB moves forward.

Standard Setting

In recent years, the PCAOB's standard-setting process has vacillated between a focus on structural changes to the audit process—such as disclosure of critical audit matters (CAMs) and exploring whether audit firm rotation could be viable—and so-called “blocking and tackling" issues—in the words of former U.S. Securities and Exchange Commission (SEC) Commissioner Daniel Gallagher—that beef up the procedures that auditors are required to perform. After the adoption last year of a new auditor's reporting model that includes CAMs, the pendulum now seems to be swinging back toward more mechanical standards. The Office of the Chief Auditor's current Standard-Setting Agenda includes items relating to auditing estimates, the use of specialists, the supervision of other audit firms, and going-concern provisions.

The just-released draft strategic plan is consistent with this apparent approach. The plan sets as an objective that the standard-setting process should better incorporate economic and risk analysis. It also reaffirms t...

SEC Modifies XBRL Filing Requirements

On June 28, 2018, the Securities and Exchange Commission (the “SEC") adopted a final rule, Inline XBRL Filing of Tagged Data, which substantially alters requirements related to the use of the eXentsible Business Reporting Language (“XBRL") format in operating companies' financial statement information and funds'[1] risk/return summary information. The rule was published in the Federal Register on August 16, 2018, available here, and will be effective on September 17, 2018.

XBRL is a standard for tagging business and financial reports that is intended to increase the transparency and accessibility of business information by using a uniform, machine-readable format. SEC rules adopted in 2009 required companies to provide the information from certain registration statements and periodic reports in XBRL format by submitting Interactive Data Files (the machine-readable computer code that presents information in XBRL format) to the SEC as exhibits and posting them on corporate websites. Similar rules were adopted for the risk/return summary information required of funds. The SEC's new rules will substantially change the requirements in this area. The changes are intended to make this information both human- and computer-readable, to increase its usefulness, timeliness and accuracy, and, over time, to lower the preparation costs for submitting the data to the SEC.

A summary of the significant changes is set forth below and the full text of the SEC's adopting release is available here.

New Requirement to Embed XBRL Data

Format Requirement Changes. Once the new requirements take effect (see phase-in schedule below), XBRL data will no longer be filed as a separate exhibit to an operating company's financial statement information or a fund's risk/return summary information filed in HTML on EDGAR. Instead, XBRL data will be “Inline"—that is, embedded or tagged with financial statement information in HTML wherever it appears. To see an example of what this will look like, filers may look to the Inline XBRL filings made by

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SEC Proposes to Substantially Lighten Financial Disclosures for Issuers and Guarantors of Registered Debt

On July 24, 2018, the Securities and Exchange Commission (the “Commission") proposed amendments to Rules 3-10 and 3-16 of Regulation S-X (available here) in an effort to “simplify and streamline" the financial disclosures required in offerings of certain guaranteed debt and debt-like securities (collectively referred to as “debt securities"), as well as offerings of securities collateralized by securities of an affiliate of the registrant, registered under the Securities Act of 1933, as amended (the “Securities Act"). These proposed changes would, if implemented, facilitate greater speed to market for such public offerings, significantly reducing the Securities Act disclosure burdens for such registrants, as well as reducing the registrant's disclosure obligations in its subsequent annual and interim reports required under Securities Exchange Act of 1934, as amended (the “Exchange Act"). Taken together, the proposed changes represent a significant liberalization of the current disclosure requirements. 

We discuss the proposed changes in greater detail and provide a “before and after" comparison chart in our Client Alert (available here).

The proposed amendments to Rule 3-10 of Regulation S-X would:

  • replace the condition that a subsidiary issuer or guarantor be 100% owned by the parent company with a condition that it be consolidated in the parent company's consolidated financial statements (e.g., joint ventures controlled or majority-owned by an issuer), which would mean more subsidiaries would be eligible for disclosure exceptions;​
  • replace condensed consolidating financial information with certain proposed financial and non-financial disclosures, including summarized financial information which may be presented on a combined basis over fewer periods and expanded qualitative disclosures about the guarantees, issuers and guarantors (as further described below), which would reduce general disclosure requirements;
  • permit the proposed disclosures to be provided outside the footnotes to the parent company's audited annual and unaudited interim consolidated financial statements in the registration statement covering the offer and sale of the subject securities and any related prospectus, and instead in certain Exchange Act reports filed shortly thereafter;
  • require the proposed disclosures be included in the footnotes to the parent company's consolidated financial statements for annual and quarterly reports beginning with the annual report for the fiscal year during which the first bona fide sale o...
SEC’s Division of Corporation Finance Issues Guidance Regarding the Voluntary Filing of Notices of Exempt Solicitation under Exchange Act Rule 14a-6(g)

​As we first noted in our March 2018 blog post, available here, and further discussed in our July 2018 client alert discussing shareholder proposals submitted to public companies during the 2018 proxy season, available here, both institutional and individual investors increasingly have used Notices of Exempt Solicitations under Exchange Act Rule 14a-6(g) as a means of publicizing shareholder proposals or addressing other matters being voted on at annual meetings. Rule 14a-6(g) requires a person who owns more than $5 million of a company's stock and who conducts an exempt solicitation of the company's shareholders (in which the person does not seek to have proxies granted to them) to file with the Securities and Exchange Commission (the “Commission") all written materials used in the solicitation.

As we have previously discussed, Notices of Exempt Solicitation, which appear on a company's EDGAR page as a PX14A6G filing, can be confusing to shareholders and other stakeholders because the Division of Corporation Finance (the “Staff") of the Commission has not previously addressed whether such filings must include a cover page containing information about the filer that clearly demonstrates that the notice was not filed by the company (in contrast to, for example, Schedule 13Gs and 13Ds). Moreover, filers have not been required to provide basic information in the notice, such as what interest they may have in the matter they are soliciting on or their share ownership in the company (or even to demonstrate that they are, in fact, a shareholder).

On July 31, the Staff released two new Compliance and Disclosure Interpretations (“C&DIs"), available here, providing guidance on the use of Notices of Exempt Solicitations.

The first C&DI, Question 126.06, confirms that “voluntary" Notices of Exempt Solicitations can be filed. Accordingly the Staff will continue to permit filers who do not own more than $5 million of a company's securities to use EDGAR as a means to draw attention to their views on various matters. However, under the Staff's new guidance, the filer must specifically state that its Notice of Exempt Solicitation is a voluntary filing. As a result, observers who know the intricacies of the securities laws will be informed that the filer owns $5 million or less of the company's stock.

The second C&DI, Question 126.07, clarifies that each Notice of Exempt Solicitation, whet...

House of Representatives Adopts Bipartisan Financial Reform – JOBS Act 3.0

On July 17, 2018, the U.S. House of Representatives overwhelmingly passed, by a vote of 406-4, bipartisan financial reform legislation titled the “JOBS and Investor Confidence Act of 2018," frequently referred to as JOBS Act 3.0.  The JOBS Act 3.0 builds upon the 2012 Jumpstart Our Business Startups (“JOBS") Act, and on the Fixing America's Surface Transportation Act (the “FAST Act"), which was enacted in 2015 and is commonly referred to as JOBS Act 2.0. 

The proposed JOBS Act 3.0, which had the backing of House Financial Services Committee Chairman Jeb Hensarling (R-TX) and Ranking Member Maxine Waters (D-CA), still must be approved by the U.S. Senate.  The legislation includes 32 individual bills that already passed the House Financial Services Committee or the House during this congressional term.  Key provisions include: 

 1.     Encouraging Public Offerings Act of 2017 (H.R. 3903) (Further Extension of JOBS Act IPO “On-Ramp").  Sponsored by Rep. Tedd Budd (R-NC) and Rep. Gregory Meeks (D-NY), this bill would amend the Securities Act of 1933 (Securities Act) to permit all companies to submit confidential draft registration statements for their initial public offerings (IPOs) to the Securities and Exchange Commission (SEC) for SEC staff review, as well as for securities offerings within one year of an IPO.  Additionally, this bill would allow all companies to engage in “test-the-waters" activities with qualified institutional buyers and other institutional accredited investors in connection with securities offerings.  The Securities Act currently permits an “emerging growth company" (EGC) to confidentially submit a registration statement in connection with its IPO and to engage in “test-the-waters" activities in connection with its securities offerings, although in June 2017 the SEC adopted a policy permitting non-EGCs to also confidentially submit registration statements for their IPOs and permitting all issuers to confidentially submit registration statements in connection with securities offerings within one year of an IPO.  The text of H.R. 3903 can be found here.

2.     Main Street Growth Act (H.R. 5877) (Creation of Venture Exchanges).  Sponsored by Rep. Tom Emmer (R-MN), this bill would amend the Exchange Act of 1934 (Exchange Act) to allow for the creation of venture exchanges registered with the SEC to provide trading venues more tailored to the needs of small and emerging companies.  Securities of “early stage growth companies" exempt from registration pursuant to Regulation...

SEC Amends “Smaller Reporting Company” Definition to Expand Access to Scaled Disclosure Accommodations

On June 28, 2018, the United States Securities and Exchange Commission (the “SEC") approved amendments to the definition of a “smaller reporting company" (a “SRC").  These amendments will expand the number of registrants qualifying for SRC scaled disclosure accommodations in their SEC filings.  These scaled disclosure accommodations include, among other things, reduced required business, financial and executive compensation disclosures.  A chart  briefly summarizing the SRC disclosure accommodations is attached as Exhibit A.

The amendments should benefit a number of public companies with less than $250 million of public float, as well as public companies with revenues of less than $100 million and less than $700 million of public float. One industry sector that may benefit from the amendments is the biotechnology and life sciences sector, where we believe a significant number of additional companies will now be able to qualify for SRC status. But companies across all industry sectors should benefit from these amendments.  The SEC estimates 966 additional reporting companies will be eligible for SRC status in the first year under the amended definition, and approximately 48.8% of SEC registrants will now qualify as SRCs (as compared to approximately 35.7% currently).[1]  

We provide a summary of the SEC's SRC amendments below and the full text of the SEC's adopting release is available here.

As revised, Rule 12b-2 under the Exchange Act of 1934, as amended (the “Exchange Act"), Rule 405 of the Securities Act of 1933, as amended, and Item 10(f) of Regulation S-K, define a “Smaller Reporting Company" as an issuer that is not an ...

The SEC Identifies Priorities in Draft Strategic Plan Through 2022

On June 19, 2018, the Securities and Exchange Commission (the “SEC") published a draft strategic plan outlining the SEC's priorities through 2022 (the “2018 Plan"). In the 2018 Plan, the SEC elected to pursue three goals, emphasizing investors, innovation and performance, each of which is summarized below. The 2018 Plan focuses on the “Main Street" investor, responds to new market developments, such as the growth of cryptocurrencies, and improves the regulator's use of data and analytics.

In his cover letter, SEC Chairman Jay Clayton stated, “The Plan provides a forward-looking framework for making the SEC even more effective, focusing on the most important goals and initiatives that will best position the SEC to fulfill our mission.... For the investing public and the various market participants and regulatory authorities who interact with the SEC, we hope this Strategic Plan will inspire your full confidence in our ability to innovate in response to evolving markets."

The 2018 Plan was drafted pursuant to the Government Performance and Results Modernization Act of 2010, "which requires federal agencies to outline their missions, planned initiatives, and strategic goals for a four year period." The SEC has opened the public comment period for investors and other market participants to share their concerns and suggestions. Comments on the draft 2018 plan are due July 25, 2018 and may be submitted by e-mail to PerformancePlanning@sec.gov, or through written correspondence to Nicole Puccio, Branch Chief, Securities and Exchange Commission, 100 F Street, NE, Washington, DC 20549–2521.

Focus on Retail Investors

The SEC's first enumerated goal in the 2018 Plan centers around preserving long-term investor interests. Primarily, the SEC acknowledges the challenges associated with retirees' increased life expectancy and their reliance on investments as a source of income. Additionally, the SEC highlights common problems faced by investors such as a lack of clarity in deciphering the difference between investment professionals who merely sell securities and those poised to give advice, as well as the decline in companies raising capital through securities. In order to combat decreased opportunities for investors, the SEC proposes five initiatives:

(1) Access. The SEC plans to enhance its understanding of channels used by retail and institutional investors to access capital markets in order to tailor access initiatives.

(2) Diverse Guidance. Because not all investors, businesses and markets are the same, the SEC plans to enhance its outreach efforts to diverse investors.

(3) Misconduct Deterrence. With an increasingly connected m...

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