The coronavirus (COVID-19) that in some people can cause a severe acute respiratory syndrome coronavirus 2 (SARS-CoV-2) has created Securities and Exchange Commission disclosure obligations, and officers at companies need to determine if those disclosure obligations apply to them.
The SEC’s forward-looking disclosure obligations and decision-making matrix when outcomes are uncertain but a known trend or uncertainty will be (or is “likely to cause” under the proposed SEC rules issued Jan. 30) a material change is outlined below and often triggers disclosure obligations in the face of uncertainly where outcomes could be material.
Annual reports, Form 10-Ks, earnings releases, current reports on Form 8-Ks and public and private securities offering documents may be impacted.
SEC Disclosure Obligations When Outcomes Are Uncertain
In addition to the numerous personal implications of the COVID-19 outbreak, companies should keep in mind this principles-based approach of Regulation S-K, particularly management’s discussion and analysis of financial condition and results of operations (MD&A) when considering the disclosure obligations that may be implicated.
COVID-19’s known and unknown impact on earnings, supply chains, customers and other stakeholders, as well as other business matters, is likely to be material for some companies and require disclosure. Environmental, social and governance (ESG) factors may need to be disclosed as well.
If the forward-looking disclosure of COVID-19 relates to a “known trend or uncertainty”, then the following chart outlines the decision-making process related to SEC disclosure obligations. (See 2003 FR 72—Interpretation: Commission Guidance Regarding Management’s Discussion and Analysis of Financial Condition and Results of Operations; 1989 FR 36 Release—Describe and Quantify Causal Factors).
Officers should consider where COVID-19 disclosure should be included. In MD&A, liquidity and capital resources, sources and uses of funds, gross and net revenues in the short, medium and long term, and other economic and non-economic, personal and ESG possible disclosure obligations should be considered.
Enhanced or additional risk factor disclosure related to COVID-19 pursuant to Regulation S-K Item 105 may be appropriate as well.
Additionally, officers should consider whether COVID-19 is one of the most significant factors that make an investment in the company or any offering speculative or risky.
Since SEC disclosure is increasingly principles-based, even if there is not a rule specifically dealing with a situation that a company may find itself in related to COVID-19, the principles of full and fair disclosure apply.
Companies Should Be Mindful
Companies should be mindful that their planning for uncertainties that may arise as a result of COVID-19 and their response to events as they unfold may be material to an investment decision and should plan their disclosure accordingly.
Consider other situations where disclosure of material nonpublic information may be necessary, such as if senior management or boards become impaired and are unable to serve or whether a “material adverse change” in “prospects” has occurred or is reasonably likely to occur.
Business interruption insurance policies may be triggered. Force majeure contractual sections may be applicable and disputes over other contractual arrangements may occur on COVID-19 related matters. The tone at the top and monitoring of activity related to insider trading policies, blackout periods and trading activity monitoring should be stepped up as COVID-19 developments occur and M&A activity and defenses may be appropriate or desirable. Attention to filing obligations and their deadlines should be escalated.
It is noteworthy that in the SEC’s proposal issued on Jan. 30 to update MD&A, in Item 303(a)(3)(ii), companies would be required to disclose known events that are reasonably likely to cause (as opposed to will cause) a material change in the relationship between costs and revenues.
Interestingly, the proposed amendments would for the first time provide guidance about the use of metrics. Metrics may be important related to COVID-19 and its likely trajectory and impact.
Under SEC disclosure regulations, when it is too early to ascertain the impact of COVID-19, but the impact will be material (or is reasonably likely to be material if and when the proposed rule is adopted) if the uncertain event occurs, then the securities law disclosure obligations may be triggered.
The analysis is highly fact and circumstances specific. At this point, it may be difficult to ascertain what disclosure is appropriate, but some companies have added disclosure about COVID-19 and its likely impact on their business to their disclosure documents.
Documentation of who was involved in the decision making about whether to disclose and the time spent (without all the details of what exactly was discussed) may be appropriate depending on document retention policies. Updated periodic advice from regulators may provide additional guidance and disclosure by competitors may help inform decisions.
This column does not necessarily reflect the opinion of The Bureau of National Affairs, Inc. or its owners.
Adele Hogan is a partner at Nelson Mullins in New York. A member of the firm’s Financial Services Corporate and Regulatory practice group, Hogan represents clients in mergers, securities offerings, restructuring/bankruptcies, and projects from early stage and large companies in all industries. She regularly conducts due diligence, drafts, negotiates and advises on risk, and structures deals.
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