An Unexpected Free Cash Flow Comment from the SEC Staff

It is surprising how much attention free cash flow continues to generate in SEC disclosures. After all, it’s been used for decades as a non-GAAP financial measure. In fact, back in 2003, the SEC’s non-GAAP financial measure FAQs stated that companies should be “cautious” when using it, noting that it does not have a uniform definition and might inappropriately imply that it represents residual cash flow available for discretionary expenditures. Fast forward to the much-scrutinized 2016 non-GAAP financial measures C&DIs, which essentially repeated the old free cash flow FAQ, though now companies need only be “aware” of, rather than “cautious” about, the absence of a uniform definition. This softer language presumably reflects the staff’s general softening toward non-GAAP measures, which it now sees as helpful disclosure so long as it’s done properly. Then unexpectedly (at least to me), Monsanto Company received the following comment in a February letter that appears to have resulted from the staff’s routine review of Monsanto’s Form 10-K: “We note you define free cash flow as the total of net cash provided or required by operating activities and net cash provided or required by investing activities. Pursuant to Question No. 102.07 of the Staff’s Compliance & Disclosure Interpretations (“C&DIs”) on Non-GAAP Financial Measures, issued May 17, 2016, please advise of your consideration given to redefining this measure or its computation as the typical calculation of free cash flow (i.e., cash flows from operating activities less capital expenditures). Please provide us with any proposed revisions to your disclosure of free cash flow to be included in future filings.” The comment seems inconsistent with the staff’s position...

What’s Happening with Pay Ratio Disclosures?

Well, we’re more than half-way through the year, Independence Day has come and gone, the 2018 proxy season is closer than it used to be, and we still don’t know whether pay ratio disclosures will go away. A brief background. Dodd-Frank Act Section 953(b) requires that the SEC amend Item 402 of Regulation S-K to mandate pay ratio disclosures. In 2015, the SEC dutifully adopted the mandated rules, which state that all companies required to provide executive compensation disclosure under Item 402(c) of Regulation S-K must provide new executive compensation disclosure regarding: the median of annual total compensation of all employees, the annual total compensation of the CEO, and the ratio of those two amounts. The new rules, which are complex and involve much time-consuming preparation, require companies to report the pay ratio disclosure for their first fiscal year beginning on or after January 1, 2017. This means that, for calendar-year companies, the new disclosures are required in 2018 proxy statements. Companies generally reacted with an initial howl of outrage over the perceived arbitrary uselessness of these disclosures, observed that the implementation date was nearly three years away, and then studiously ignored the issue, hoping that in the meantime Section 953(b) would be modified or repealed. Yet, as 2017 rounded into view, the Division of Corporation Finance issued guidance regarding some of the rule’s vaguer points, seemingly in part to remind companies that the rule was still out there and that much work was required to comply with its provisions. But just as companies reluctantly began to gear up (or to think about gearing up) to collect the necessary compensation...

What Lawyers Should Know About the New Auditor’s Report Revisions

After more than six years of deliberations, it looks like the revised auditor’s report is about to become reality. On June 1, the PCAOB adopted a new auditing standard that substantially modifies the long-familiar content of that venerable report. Now the SEC must consider and act on the PCAOB’s recommendation, a process that typically involves another public comment period. What’s changing? CAM disclosure. The biggest change will be communication in the report by the auditors of “critical audit matters” applicable to the current period covered by the report. CAMs are defined as: “any matter … that was communicated or required to be communicated to the audit committee and that relates to accounts or disclosures that are material to the financial statements and involved especially challenging, subjective, or complex auditor judgments.” The new standard notes that the determination of a CAM is principles-based, though it also provides a non-exclusive list of factors for the auditor to consider in its determination. The PCAOB emphasizes that this disclosure should be client-specific and should not be boilerplate. CAMs will be described in a separate section of the auditor’s report. The auditor must identify the CAM, describe the principal considerations that led the auditor to determine it was a CAM, describe how the CAM was addressed in the audit and reference the accounts or disclosures related to the CAM. In the unlikely event that a report contains no CAMs, it must affirmatively so state. Emerging growth companies and employee stock purchase, savings and similar plans are excluded from the CAM disclosure requirements. Additional changes. The modified auditor’s report also must: State the year the...

Sustainability Reporting After the Paris Climate Accord

It’s fair to say that President Trump’s June 1 announcement that the U.S. will withdraw from the Paris climate accord has been widely reported. It’s also fair to say that the announcement triggered a host of passionate reactions, positive and negative, around the world. Within corporate America, a number of high-profile corporations (for example, Apple, Disney, Facebook, General Electric, Google, Salesforce, Tesla and Twitter) pledged to continue their efforts to cut greenhouse gas emissions and adhere to the spirit of the accord. This leads one to wonder whether withdrawal from the Paris climate accord might, per the law of unintended consequences, actually increase investor emphasis on corporate social responsibility (CSR) and the number of companies that voluntarily report their sustainability initiatives. It’s an intriguing possibility. Momentum for sustainability reporting has been building for years. In fact, the vast majority of S&P 500 companies now publish some type of sustainability or CSR report, and disclosures have begun to appear in SEC filings, particularly proxy statements. Mid-size and smaller companies, lacking the resources of their larger brethren, have been slower to do so, though some have begun and others are giving it serious consideration. Increased pressure from institutional investors, employees and other stakeholders, now coupled with widespread concern over withdrawal from the accord, could tip the reporting balance, especially for companies in sustainability-sensitive industries or companies that otherwise want to send a certain message. One challenge for all companies is to make sense out of the CSR reporting landscape. First of all, the terminology itself—sustainability, CSR, environmental, social and governance (ESG), and triple bottom line, to name a few—is confusingly ambiguous...

A Compliance Calendar Tip: Update for T+2

A few weeks ago, the SEC finalized rules to shorten the standard settlement period for securities transactions from three business days (T+3) to two business days (T+2). Amended Exchange Act Rule 15c6-1(a) will prohibit a broker-dealer from entering into a contract for the purchase or sale of a security (subject to certain exceptions) that provides for payment of funds and delivery of securities later than two business days after the trade date (known as “T”), unless otherwise expressly agreed to by the parties at the time of the transaction. (See this Doug’s Note.) The shift from T+3 to T+2 will be effective on September 5, 2017 to give everyone sufficient time to plan for, implement and test changes to the various systems, policies and procedures necessary for an orderly transition. Most of this preparation burden will, of course, fall on the direct participants in the securities trading industry. However, any company that pays regular cash dividends may need to adjust its annual compliance calendar to accommodate the new rule. Most companies that pay regular cash dividends include these relevant dates in their annual compliance calendars: The date on which the dividend is expected to be declared by the board of directors, The dividend payment date, and The ex-dividend date (the date set by the stock exchanges on which the security’s purchase price no longer reflects the dividend because the trade will settle after the record date). NYSE and NASDAQ rules currently state that shares will trade ex-dividend two business days prior to the dividend record date, which makes sense under the current T+3 timeline. However, the exchanges have now...

Conflict Minerals–What Just Happened and What Didn’t

The conflict minerals saga continues. Background In April 2014, the Court of Appeals for the D.C. Circuit in National Association of Manufacturers v. SEC held that the conflict minerals rule’s requirement that companies state that their products have not been found to be “DRC conflict free” violated the First Amendment. Subsequently, the SEC staff released guidance relieving issuers of the obligation to put those labels in their reports. The case was subsequently remanded to the district court for further consideration, and on August 18, 2015, the Court of Appeals reaffirmed its prior decision. In response to these developments, Acting SEC Chairman Michael S. Piwowar issued a statement in January 2017 declaring that he had “directed the staff to reconsider whether the 2014 guidance on the conflict minerals rule is still appropriate and whether any additional relief is appropriate.” (See this Doug’s Note.) Last week, the D.C. Circuit Court entered final judgment in the case, which upheld its prior rulings, and remanded it to the SEC for appropriate action. This past Friday, the SEC issued a statement noting that the D.C. Circuit’s remand to the SEC has “presented significant issues for the Commission to address” and that several comments were received in response to Acting Chairman Piwowar’s January request. Therefore, “in light of the uncertainty regarding how the Commission will resolve those issues,” the Division of Corporation Finance will not recommend enforcement action if companies “only file disclosure under the provisions of paragraphs (a) and (b) of Item 1.01 of Form SD,” which conspicuously excludes the need to comply with paragraph (c). What does this mean? Companies that use conflict minerals...