Monthly Archives: July 2014

When Tax Disclosure Morphs into Tax Policy

Generally SEC comment letter issues are about disclosure that the SEC believes investors need to make informed decisions. Sometimes they transmogrify into bigger, almost political issues, and that is happening with international operations, particularly in the tax area, right now.

We have been talking in our large conferences and workshops over the last few years about the issues involved in having significant amounts of cash held in overseas subsidiaries. The SEC’s focus on disclosure about this issue has historically centered on the related tax effect if this cash were repatriated.

This issue became important during the recession when many US companies found themselves in the situation where much of the cash on their balance sheet was actually held in overseas subsidiaries and in essence was not available to fund US operations without a significant tax impact.

Many companies received SEC comments like this one:

1. We note your disclosure on page 66 that the majority of your cash, cash equivalents and short-term investments are held by your foreign subsidiaries. We also note that a significant portion of your foreign earnings are deemed to be indefinitely reinvested in foreign jurisdictions. To assist investors understand the availability of funds in domestic operations such as payment of debt, dividends, acquisitions and capital expenditures, please provide enhanced disclosures. Please provide and confirm that in future Exchange Act filings you will disclose the following:

(a) the amount of cash and cash equivalents that are currently held by your foreign subsidiaries;

(b)  quantify the amount of cash and short-term investments held by foreign subsidiaries where the funds are not readily convertible into other foreign currencies, including U.S. dollars;

(c)  if foreign earnings are repatriated, disclose that these amounts would be subject to income tax liabilities both in the US and in the various foreign countries;

(d)  explain any other implications or restrictions upon your liquidity that is impacted by the majority of your cash, cash equivalents and short term investments held by foreign subsidiaries.

Refer to Item 303(a)(1) of Regulation S-K and Section IV of SEC Release 33-8350.

Now the flavor of this issue is changing to raise the question of how much tax has been paid on international earnings. A really hot topic in the press right now is the “corporate inversion”, a transaction in which a US company acquires a company outside the US and changes its tax domicile to the country outside the US to save taxes.

There is even an entry on the White House web page about inversions, which uses the phrase “economic patriotism”.

http://www.whitehouse.gov/blog/2014/07/24/what-are-inversions-and-why-should-you-care

We won’t put more links here, but if you Google “corporate inversion”, it is startling how much shows up!

While this is not a clear GAAP or investor risk issue right now, we think it is one to think about!

ONESEC Comment of the Week

Welcome to our second “Comment of the Week” blog. We are always looking for evolving SEC focus areas, and the use of “metrics” is clearly becoming an important issue.

Check out any tech company’s earnings release and you will see various metrics. Here is an excerpt from Facebook’s second quarter release as an example:

Second Quarter 2014 Operational Highlights

Daily active users (DAUs) were 829 million on average for June 2014, an                         increase of 19% year-over-year.

Mobile DAUs were 654 million on average for June 2014, an increase of 39% year-over-year.

Monthly active users (MAUs) were 1.32 billion as of June 30, 2014, an increase of 14% year-over-year.

Mobile MAUs were 1.07 billion as of June 30, 2014, an increase of 31%                                     year-over-year.

You can read the whole release at:

http://investor.fb.com/releasedetail.cfm?ReleaseID=861599

The SEC Staff will frequently ask questions about whether such metrics really do correlate with financial performance. Here are three example comments.

3.  We note your disclosure on page 40 of Annualized Recurring Revenue and number of paid subscriptions for your Digital Media segment’s…and Document Services offerings. Please tell us how you considered disclosing the same metrics for your Digital Marketing segment’s subscription offerings…As part of your response, please tell us if there are any other key metrics used by management to evaluate the Digital Marketing segment’s subscription offerings and tell us what consideration you have given to disclosing any such metrics. See Section III.B.1 of SEC Release No. 33-8350.

4.  We note your disclosure that renewals for your…services were one of the primary reasons for the fiscal 2013 increase in deferred revenue. We also note your disclosure on page 60 of your 2012 10-K that you “expect renewal rates associated with…, and potentially other subscription offerings, will become key metrics used to measure their performance.” Please tell us the extent to which you consider renewal rates to be key metrics and whether you believe that these metrics contribute meaningfully to understanding and evaluating your company. Please tell us what consideration you gave to disclosing renewal rates for each of your subscription offerings…See Section III.B.1 of SEC Release No. 33-8350.

5.  We note your disclosures on pages 2, 85 and elsewhere regarding social media metrics concerning your…Network and G…Channels. To the extent management uses these metrics as key indicators of operating performance, please identify the specific metrics used and address them in your Results of Operations, as appropriate. Also provide an explanation of your calculations. For guidance, please refer to Part III.B.1 of Interpretive Release No. 33-8350 (December 19, 2003), available on the Commission’s website.

Interestingly, the staff in many cases refers companies back to FR 72’s discussion of key performance indicators (the reference to Release No. 33-8350). You can find FR 72 at:

http://www.sec.gov/rules/interp/33-8350.htm

The discussion referenced starts with these words:

1.  Focus on Key Indicators of Financial Condition and Operating Performance.  As discussed, one of the principal objectives of MD&A is to give readers a view of the company through the eyes of management by providing both a short and long-term analysis of the business.25 To do this, companies should “identify and address those key variables and other qualitative and quantitative factors which are peculiar to and necessary for an understanding and evaluation of the individual company.”26 

Financial measures generally are the starting point in ascertaining these key variables and other factors. However, financial measures often tell only part of how a company manages its business. Therefore, when preparing MD&A, companies should consider whether disclosure of all key variables and other factors that management uses to manage the business would be material to investors, and therefore required.27 These key variables and other factors may be non-financial, and companies should consider whether that non-financial information should be disclosed.

Many companies currently disclose non-financial business and operational data.28 Academics, authors, and consultants also have researched the types of information, outside of financial statement measures, that would be helpful to investors and other users.29 Such information may relate to external or macro-economic matters as well as those specific to a company or industry. For example, interest rates or economic growth rates and their anticipated trends can be important variables for many companies. Industry-specific measures can also be important for analysis, although common standards for the measures also are important. Some industries commonly use non-financial data, such as industry metrics and value drivers.30 Where a company discloses such information, and there is no commonly accepted method of calculating a particular non-financial metric, it should provide an explanation of its calculation to promote comparability across companies within the industry. Finally, companies may use non-financial performance measures that are company-specific.

So, as you think about metrics, be sure they correlate to financial performance, and don’t forget about FR 72. As usual, we would love to hear your thoughts!

More SAB 74 and a Draft for Your Use

SAB 74 Disclosures are going to be important for the new Revenue From Contracts With Customers standards, so here is a starting point for your use.

First, a brief reminder of the requirements from SAB 74 (Topic 11-M in the SAB codification).  For recently issued accounting standards expected to have a material impact you should consider disclosing:

A brief description of the new standard, the date that adoption is required and the date that the registrant plans to adopt, if earlier.

A discussion of the methods of adoption allowed by the standard and the method expected to be utilized by the registrant, if determined.

A discussion of the impact that adoption of the standard is expected to have on the financial statements of the registrant, unless not known or reasonably estimable. In that case, a statement to that effect may be made.

Disclosure of the potential impact of other significant matters that the registrant believes might result from the adoption of the standard (such as technical violations of debt covenant agreements, planned or intended changes in business practices, etc.) is encouraged.

The SAB also reminds registrants of the requirement to disclose in MD&A presently known material changes, trends, and uncertainties that the registrant reasonably expects to have a material impact on future sales, revenues or income from continuing operations. We will address the MD&A discussion in a future post.

You can read the entire SAB at: http://www.sec.gov/interps/account/sabcodet11.htm#M

Here is a draft of footnote disclosure for a registrant that currently does not know the impact the standard will have. Please consider this disclosure only as a starting point, to be edited with your facts and circumstances.

New Accounting Standards

On May 28, 2014 the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) No. 2014-09, Revenue from Contracts with Customers (Topic 606). The ASU establishes a new, contract-based model for recognizing revenue.  The new model replaces virtually all of the existing generally accepted accounting principles for revenue recognition that currently exist in US GAAP.  The new model is based on five steps, (1) identifying contracts with customers, (2) identifying performance obligations within each contract, (3) determining the transaction price, (4) allocating the transaction price to performance obligations and (5) recognizing revenue when or as a performance obligation is satisfied.  The new model significantly changes existing GAAP, requires substantial judgment in its application, and will generally require companies to make more disclosures about revenue.

Public business entities must implement the new Accounting Standards Update for annual reporting periods beginning after December 15, 2016, including interim reporting periods within that year. Earlier application is not permitted.  Thus, we will implement the new standard for the quarter beginning on_________.

The new standard provides for two alternative implementation methods.  The first is to apply the new standard retrospectively to each prior reporting period presented.  This method does allow the use of certain practical expedients.

The second method is to apply the new standard retrospectively in the year of initial adoption and record a cumulative effect adjustment for the impact of adjusting contracts open at the date of adoption.  Under this transition method, we would apply this guidance retrospectively only to contracts that are not completed contracts at the date of initial application (which for us will be January 1, 2017).  We would then recognize the cumulative effect of initially applying the standard as an adjustment to the opening balance of retained earnings. This method also requires us to disclose comparative information for the year of adoption.

We have not yet determined which method we will use to implement the new standard.

We have not yet determined the impact the new standard is expected to have on our financial statements or on other matters or aspects of our business.

Comment of The Week

If you have attended one of our seminars or workshops, you know we always discuss the SEC’s Comment focus areas.  We do this so that potential problems and issues can be addressed before they become serious.

In our blog, we thought we would reinforce this with a semi-regular “Comment of the Week” entry.

And what would be a better topic to start with than reporting segments!  The SEC always mentions this area when they speak, and they continue to write comments about segments.  Here are two examples from letters issued this year:

1. We reference the disclosure on page 66 that you operate and account for your results in one reportable segment, the design, development, manufacture and market of high performance semiconductor products. Please tell us how you considered the guidance in FASB ASC 280-10-50-1 through 9. In this regard, we note that you have five major focused product groups, each of which has a Senior Vice President and General Manager that oversees its operations and may be considered a segment manager. Please clarify why these product groups do not represent segments or aggregated segments under FASB ASC 280.

7. You disclose your business is classified by management into three reporting segments. Further, we note your 2014 first quarter earnings transcript where you state, “[I]n terms of sales comparisons geographically, for the first quarter, the better performing regions in the U.S. were in the Southeast, Midwest, and Texas. Internationally, in local currencies, the better performing countries were Canada, Mexico, and Australia.” Please provide us with your analysis under ASC 280 that supported disclosing all operations as three reportable segments.

Please include the following information in your response:

  • The operating segments you have identified in accordance with ASC 280- 10-50-1 through 50-9.
  • If applicable, the basis for aggregating identified operating segments into three reportable segments given the aggregation criteria in ASC 280-10-50-11 and quantitative thresholds in ASC 280-10-50-12.
  • How the aggregation of all of your operations into three reportable segments complies with the aggregation criteria.
  • The process through which your chief operating decision maker reviews information to make decisions about resources to be allocated to your segments and assess their performance.

Why does the SEC consistently, year after year focus on this area?  As a reminder, check out the enforcement case against Sony, where their segments masked an issue in their movie business.

http://www.sec.gov/litigation/admin/3440305.txt

Or more recently, check out the enforcement case against Paccar, a Fortune 200 company that, among other issues, presented one reportable segment. As a result, the aggregation of two operating segments into one masked sizable losses in their largest segment.

http://www.sec.gov/litigation/litreleases/2013/lr22711.htm

XBRL Starting to Bubble-Up to the Comment Letter Surface?

One of the questions that SEC reporting companies have asked about XBRL (among the many questions we ask about XBRL!) is when will the SEC start to write comments about XBRL submissions?

Very few companies have ever seen a comment letter include any mention of their XBRL submissions.

It appears that comments may be starting to be issued about XBRL.  One of the ways the SEC sends messages in in a kind of generic comment letter that they call a “Sample Letter Sent to Public Companies”, which we refer to as a “Dear CFO Letter”.

While this seems to lack the impact of a comment letter sent directly to a company, the Dear CFO Letter is actually just as important as a directly received comment letter.  It is a message to a broad group of companies about an issue that the SEC thinks is pervasive, and is, in essence, a broadly transmitted comment letter.

The most recent Dear CFO Letter actually deals with XBRL!  You can find it at:

http://www.sec.gov/divisions/corpfin/guidance/xbrl-calculation-0714.htm

The letter reminds registrants to be sure to include all calculation relationships.

It also includes this language:

“Acceptance of your filing by EDGAR does not mean that your filing is complete or in compliance with the Commission’s requirements.”

This Dear CFO letter coupled with the XBRL report we blogged about last week could be the start of a greater emphasis on XBRL matters in filings.

We would love to hear your comments!  Leave them here or email Carol or George.

XBRL – An SEC Report!

The SEC broke its long silence about XBRL and raised some interesting questions for filers yesterday with an XBRL report from the Division of Economic and Risk Analysis titled “Staff Observations of Custom Tag Rates”.

The fairly brief report is available at:

http://www.sec.gov/dera/reportspubs/assessment-custom-tag-rates-xbrl.html#.U7wGKYm9K0d

Interestingly, the report notes that smaller filers use custom tags at a significantly higher rate than larger filers, and that this pattern can even be associated with which XBRL tools are used.  The report raises some very significant questions for filers in the smaller filer category.

One other XBRL discussion point for this blog – have you found an XBRL user focused analysis tool yet?  Check this one out from CalcBench, it is interesting!

http://www.calcbench.com

There are clearly many questions still to be addressed concerning XBRL.  We would love to hear your comments!