On January 4, 2023, the U.S. Office of Information and Regulatory Affairs released the SEC’s Fall Reg Flex Agenda.  The agenda addresses many issues, including Human Capital Management Disclosures (Proposed Rule Stage), Cybersecurity Risk Governance (Final Rule Stage), and Climate Change Disclosure (Final Rule Stage).

In a Statement on the agenda, Chair Gary Gensler said:

“I support this agenda as it reflects the need to modernize our ruleset, moving deliberately to update our rules in light of ever-changing technologies and business models in the securities markets. Our ability to meet our mission depends on having an up-to-date rulebook—consistent with our mandate from Congress, guided by economic analysis, and shaped by public input.”

As always, your thoughts and comments are welcome!

The SEC’s Dodd-Frank “pay versus performance” final rule raised a number of overall and detailed implementation questions.  To help companies as they build these disclosures, Gary M. Brown of Nelson Mullins Riley & Scarborough LLP, and a frequent SEC Institute workshop leader, has built a very helpful implementation template.  You can find the template here.

In addition, on January 5, 2023, Mr. Brown and SEC Institute Director George M. Wilson will present a One-Hour Briefing,  Finished Business – The SEC’s New Pay Versus Performance and Clawback Rules, to provide insights and guidance for companies as they implement these complex new requirements.

As always, your thoughts and comments are welcome!

On December 8, 2022, the PCAOB issued a report titled “Staff Update and Preview of 2021 Inspection Observations”.  The report shows an increase in the number of audits with deficiencies at audit firms inspected in 2021.  The report indicates that many of the areas that have historically been the source of audit deficiencies continue to be problematic.  These include ICFR audit areas such as testing controls with a review element and identifying controls to test, and financial statement audit areas such as revenue recognition and inventory.  In addition, deficiencies related to the reporting of critical audit matters increased in 2021 inspections.

You can read more in this News Release and the staff report.

As always, your thoughts and comments are welcome!

On December 13, 2022, just in time for the holidays, CorpFin updated several non-GAAP measure Compliance and Disclosure Interpretations.  You can find the CorpFin announcement here and the updated C&DIs here.  C&DI Questions 100.01, 100.04 – 100.06, and 102.10(a)(b)(c) were updated.  All companies that use non-GAAP measures should review these updates.

As an example, the old language of C&DI 100.01 read:

Question 100.01

Question: Can certain adjustments, although not explicitly prohibited, result in a non-GAAP measure that is misleading?

Answer: Yes. Certain adjustments may violate Rule 100(b) of Regulation G because they cause the presentation of the non-GAAP measure to be misleading. For example, presenting a performance measure that excludes normal, recurring, cash operating expenses necessary to operate a registrant’s business could be misleading. [May 17, 2016]

The update expands the discussion of what might make an adjustment misleading.  The changed language is in bold below:

Question 100.01

Question: Can certain adjustments, although not explicitly prohibited, result in a non-GAAP measure that is misleading?

Answer: Yes. Certain adjustments may violate Rule 100(b) of Regulation G because they cause the presentation of the non-GAAP measure to be misleading. Whether or not an adjustment results in a misleading non-GAAP measure depends on a company’s individual facts and circumstances.

Presenting a non-GAAP performance measure that excludes normal, recurring, cash operating expenses necessary to operate a registrant’s business is one example of a measure that could be misleading.

When evaluating what is a normal, operating expense, the staff considers the nature and effect of the non-GAAP adjustment and how it relates to the company’s operations, revenue generating activities, business strategy, industry and regulatory environment.

The staff would view an operating expense that occurs repeatedly or occasionally, including at irregular intervals, as recurring. [December 13, 2022]

As always, your thoughts and comments are welcome!

On November 15, 2022, the SEC Enforcement Division issued a press release announcing its fiscal year 2022 results.  As it did last year, the Commission again used this simpler release rather than a glossy annual report.  Highlights for the year include:

• • Money ordered in SEC actions in f/y 2022 actions totaled $6.439 billion, a significant increase over $3.852 billion for f/y 2021,
  • The Division filed 760 enforcement actions in 2022, an increase of 9 percent over the prior year, and
  • Actions included 169 “follow-on” cases to bar or suspend individuals.

You can read more details, including the SEC’s focus on individual accountability, along with commentary by SEC Chair Gary Gensler in this Press Release and accompanying addendum.

If you would like to hear a deeper discussion of the Enforcement Division’s report, you can check out this episode of our inSecurities Podcast where co-hosts Chris Ekimoff and Kurt Wolfe delve into the report with a number of experts and former inSecurities guests.  And, if you would like a deeper dive into accounting-related enforcement issues and the role of the Enforcement Division’s Chief Accountant, check out this episode of inSecurities where Chris and Kurt discuss these issues along with the auditor’s responsibility for identifying fraud with Matt Jacques, a former Chief Accountant for the SEC’s Enforcement Division.

As always, your thoughts and comments are welcome!

Accounting for joint venture formation has never been formally addressed in the accounting literature.  As a result, the complexities of accounting for contributed assets and services and related issues have created diversity in practice.  Some joint ventures account for contributed assets at fair value while others have carried over the historical cost of the entities contributing the assets.

To address these issues, on October 27, 2022, the FASB issued a Proposed Accounting Standards Update titled “Business Combinations—Joint Venture Formations (Subtopic 805-60).”  The proposed ASU would require joint ventures as defined in the codification to apply the principles of business combination accounting to the formation process.  This would result in most assets and liabilities being measured at fair value, with certain exceptions that are consistent with existing exceptions in the business combination accounting guidance.  One important note, while the term “joint venture” is used to describe many types of entities, the definition of joint venture in the codification is narrow and would not include many entities colloquially referred to as joint ventures:

Corporate Joint Venture

A corporation owned and operated by a small group of entities (the joint venturers) as a separate and specific business or project for the mutual benefit of the members of the group. A government may also be a member of the group. The purpose of a corporate joint venture frequently is to share risks and rewards in developing a new market, product or technology; to combine complementary technological knowledge; or to pool resources in developing production or other facilities. A corporate joint venture also usually provides an arrangement under which each joint venturer may participate, directly or indirectly, in the overall management of the joint venture. Joint venturers thus have an interest or relationship other than as passive investors. An entity that is a subsidiary of one of the joint venturers is not a corporate joint venture. The ownership of a corporate joint venture seldom changes, and its stock is usually not traded publicly. A noncontrolling interest held by public ownership, however, does not preclude a corporation from being a corporate joint venture.

While the proposed ASU would not apply to all entities referred to as joint ventures, for entities that meet this definition the proposed ASU would hopefully reduce diversity in practice.

The FASB asks that comments be submitted by December 27, 2022.

As always, your thoughts and comments are welcome!

We have blogged about many SEC “pull forward” enforcement cases.  They all involve companies that “pull forward” orders scheduled for future periods to the current period to meet sales forecasts and expectations. (Check out this post for several example cases).  As the volume of these cases shows, “pull forwards” are a common way companies can try to mask revenue shortfalls.  Interestingly, in almost all these cases, there is no financial statement revenue recognition misstatement.  Goods are shipped and revenue is recognized in the proper period.  Most of these cases focus on companies not disclosing the impact of related management practices, including price reductions, extended payment terms and the potential impact on future period revenues.

In an interesting twist on this practice, on September 12, 2022, the SEC charged VMware with “managing” its backlog to move orders from current quarters to future quarters, the mirror image of a “pull forward.”  According to the SEC’s Accounting and Auditing Enforcement Release, this allowed VMware to meet revenue forecasts and related analysts’ expectations during a period where its business slowed relative to projections and its sales mix was shifting from a point in time license model to a revenue recognition over time subscription model.

The basis for this case is failing to disclose to investors how VMware “managed” its backlog.  Revenue was not misstated.  The case includes disclosures in Exchange Act reports, earnings calls and earnings releases. According to the AAER:

The AAER focuses on disclosure:

“In making public statements regarding its backlog, VMware omitted material information regarding the extent to which the company controlled its quarter-end total and license backlog numbers through its use of discretionary holds, and the extent to which it used backlog to control the timing of revenue recognition generally. The managed backlog disclosure did not convey to investors the material information that backlog was used by VMware to manage the timing of revenue recognition based upon factors such as the company’s financial guidance and  analysts’ estimates. This information was necessary in order to make VMware’s statements regarding its backlog, in light of the circumstances under which they were made, not misleading.”

In key parts of the AAER, the SEC addresses materiality:

“VMware’s statements and omissions regarding its quarterly revenue and revenue growth, without disclosing the impact that the company’s discretionary backlog practices and revenue management had on reported revenue, materially concealed a substantial FY20 slowing in the company’s recognized revenue growth versus expectations. Reasonable investors would have considered the foregoing information to have been important in deciding whether to purchase VMware securities during the relevant period.”

“In addition, this was important information to analysts, who began questioning VMware’s backlog ‘drawdown’ following the company’s Q1 earnings call and continued to question the continual reductions in quarter-end backlog numbers throughout the remainder of the fiscal year. VMware recognized the materiality of the issue when preparing its Q&A scripts.”

VMware paid an $8,000,000 fine.  The company did not admit or deny the SEC’s findings.

As always, your thoughts and comments are welcome.

On August 26, 2022, the SEC amended its whistleblower program rules to incentivize whistleblower tips. As you can read in the related Press Release, the changes “allow the Commission to pay whistleblowers for their information and assistance in connection with non-SEC actions in additional circumstances” and “affirms the Commission’s authority to consider the dollar amount of a potential award for the limited purpose of increasing an award but not to lower an award.”

You can read more about the changes in the related Fact Sheet and final rule.

To date, the whistleblower program has paid out over $1.3 billion to 281 individuals.

As always, your thoughts and comments are welcome!