14

SEC Reporting

© 2009 The McGraw-Hill Companies, Inc. All rights reserved.

McGraw-Hill/Irwin
 SEC

• The Securities and Exchange Commission

(SEC) is an independent federal agency
created in 1934 responsible for regulating
securities markets
• The ability of companies to raise capital in
the stock markets and the high trading
volumes are indications of the SEC’s
success in maintaining an effective
marketplace for companies issuing
securities and for investors seeking capital
investments
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 History of Securities Regulation

• Thirteenth century – King Edward

establishes a Court of Aldermen to regulate
security trades in London
• Eighteenth century – England’s Parliament
passed several acts (the Bubble Acts), to
control questionable security schemes
• 1790 – Creation of the New York Stock
Exchange

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 History of Securities Regulation

• 1911 – States began passing what were

called “blue sky laws” to regulate the
offering of securities by companies which
did not have a sound financial base
• 1920s – Era of heavy stock speculation by
many individuals
• The Great Depression
• The Federal Securities Acts of 1933 and
1934
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 History of Securities Regulation

• The Securities Act of 1933

– Regulated the initial distribution of security issues by
requiring companies to make “full and fair” disclosure
of their financial affairs before their securities could be
offered to the public
• The Securities Exchange Act of 1934
– Required all companies whose stocks were traded on
a stock exchange to periodically update their financial
information
– Created the Securities and Exchange Commission
and assigned it the responsibility of administering both
the 1933 and 1934 acts
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 History of Securities Regulation

• The SEC has the legal responsibility to

regulate trades of securities and to
determine the types of financial disclosures
that a publicly held company must make
• The SEC’s role is to ensure full and fair
disclosure; it does not guarantee the
investment merits of any security

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 EDGAR System

• EDGAR (Electronic Data Gathering,

Analysis, and Retrieval)
– An electronic filing system developed by the
SEC
– Under this system, firms electronically file
directly by using computers, facilitating the
data transfer and making public data more
quickly available

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 International Harmonization of Accounting
Standards for Public Offerings
• The International Accounting Standards
Board (IASB) is working with the Financial
Accounting Standards Board (FASB) to
converge on a uniform set of accounting
and financial reporting standards that can
be used by all companies seeking financing
through any of the world’s major stock
markets, including those of the United
States

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 International Harmonization of Accounting
Standards for Public Offerings
• In 2007, the SEC published Securities Act Release
No. 33-8879
– Under this, financial statements from foreign private
issuers will be accepted by the SEC without
reconciliation to U.S. GAAP, if they are prepared using
IFRSs as issued by the IASB
• Securities Act Release No. 33-8831
– A Concept Release
– If U.S. issuers are allowed to use IFRSs in their filings
with the SEC, multinational U.S. companies operating
in several countries could use just one set of
accounting and financial reporting standards for all of
their global operations
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 Securities and Exchange Commission

• Organizational structure
– Division of Corporation Finance – Develops and
administers the disclosure requirements for the
securities acts and reviews all registration statements
and other issue-oriented disclosures
– Division of Enforcement – Directs the SEC’s
enforcement actions
– Division of Investment Management – Regulates
investment advisers and investment companies
– Division of Market Regulation – Regulates national
securities exchanges, brokers, and dealers of
securities
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 Securities and Exchange Commission

• Organizational Structure of the SEC

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 Securities and Exchange Commission

• Laws administered by the SEC

– Public Utility Holding Company Act of 1935
– Trust Indenture Act of 1939
– Investment Company Act of 1940
– Investment Advisors Act of 1940
– Securities Investor Protection Act of 1970
– Sarbanes-Oxley Act of 2002
• The SEC is often asked for assistance in the
administration of two other major laws:
– Foreign Corrupt Practices Act of 1977
– Federal Bankruptcy Acts
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 Securities and Exchange Commission

• The regulatory structure

– Regulation S-X and Regulation S-K, govern
the preparation of financial statements and
associated disclosures made in reports to the
SEC
– Regulation S-X presents the rules for
preparing financial statements, footnotes, and
the auditor’s report
– Regulation S-K covers all nonfinancial items,
such as management’s discussion and
analysis of the company’s operations and
financial position
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 Securities and Exchange Commission

• The regulatory structure

– The Accounting and Auditing Enforcement
Releases (AAERs) present the results of
enforcement actions taken against
accountants, brokers, and other participants in
the filing process
– The Staff Accounting Bulletins (SABs) allow
the SEC staff to make announcements on
technical issues with which it is concerned as
a result of reviews of SEC filings

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The Regulatory Structure

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The Regulatory Structure

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 Issuing Securities: The Registration
Process
• Companies wishing to sell debt or stock securities
in interstate offerings to the general public are
generally required by the Securities Act of 1933 to
register those securities with the SEC
– The basic financial statements required are:
• Two years of balance sheets
• Three years of statements of income,
• Three years of statements of cash flows
• Three years of statements of shareholders’ equity
– Prior years’ statements are presented on a
comparative basis with those for the current period
– The SEC requires at least five years of selected
financial information presenting key numbers
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 Issuing Securities: The Registration
Process
• A number of types of securities and securities transactions are
exempt from registration:
– Commercial paper with a maturity of nine months or less
– Intrastate issues in which the securities are offered and sold
only within one state
– Securities exchanged by an issuer exclusively with its existing
shareholders with no commission charged
– Issuances of securities by governments, banks, savings and
loan associations, farmers, co-ops, and common carriers
regulated by the Interstate Commerce Commission
– Securities of nonprofit religious, educational, or charitable
organizations
• The antifraud provisions of the securities acts still apply

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 Issuing Securities: The Registration
Process
• Small issues under the SEC’s Regulation A
for issuances up to $5,000,000 within a 12-
month period can be exempt if there is a
notice filed with the SEC and an “offering
circular” containing financial and other
information provided to the persons to
whom the offer is made
• Some required disclosures of financial
statements and other financial information
fall under Regulation A
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 Issuing Securities: The Registration
Process
• Regulation D presents three exemptions from full
registration requirements for private placements:
– Rule 504 exempts small issuances up to $1,000,000
within a 12-month period to any number of investors
– Rule 505 exempts issuances up to $5,000,000 within
a 12-month period
• The sales can be made to up to 35 “unaccredited
investors” and to an unlimited number of “accredited
investors”
– Rule 506 allows private placements of an unlimited
amount of securities and applies, in general, the same
rules of Rule 505 except the maximum of 35
unaccredited investors must be sophisticated
investors
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 Issuing Securities: The Registration
Process
• Offering process begins with the selection
of an investment banker (“underwriter”)
– Underwriter provides marketing information
and directs the distribution of the securities
– The underwriting agreement specifies such
items as the underwriter’s responsibilities and
the final disposition of any unsold securities

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 Issuing Securities: The Registration
Process
• The Registration Statement
– The process of public offerings of securities begins
with the preparation of the registration statement
– The company must select one from among
approximately 20 different forms the SEC currently
has for registering securities
– The most common are:
• Form S-1: The most comprehensive registration statement
• Form S-2: An abbreviated form for present registrants who
have other publicly traded stock
• Form S-3: A brief form available for large, established
registrants whose stock has been trading for several years

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Issuing Securities: The Registration
Process
– Form S-1 has two different levels of disclosure
• Part I: “Prospectus,” is intended primarily for
investors
• Part II includes more detailed information
– The statement must be signed by the principal
executive, financial, and accounting officers,
as well as a majority of the company’s board
of directors
– The company then submits its registration
statement to an SEC review by the Division of
Corporation Finance
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 Issuing Securities: The Registration
Process
• SEC review and public offering
– Most first-time registrants receive a
“customary review,” which is a thorough
examination by the SEC that may result in:
• Acceptance, or
• A comment letter specifying the deficiencies that
must be corrected
– Established companies that already have
stock widely traded generally are subject to a
summary review or a cursory review

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 Issuing Securities: The Registration
Process
• SEC review and public offering
– Once the registration statement becomes effective,
the company may begin selling securities to the public
– This review period is 20 days unless the company
receives a comment letter from the SEC
– Between the time the registration statement is
presented to the SEC and its effective date, the
company may issue a preliminary prospectus (a red
herring prospectus), which provides tentative
information to investors about an upcoming issue

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Issuing Securities: The Registration
Process
– The company prepares a “tombstone ad” in
the business press to inform investors of the
upcoming offering
– The time period between the initial decision to
offer securities and the actual sale may not
exceed 120 days

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 Issuing Securities: The Registration
Process
• Shelf registration rule:
– For large, established companies with other
issues of stock already actively traded
– These companies may file a registration
statement with the SEC for a stock issue that
may be “brought off the shelf ” and, with the
aid of an underwriter, updated within a very
short time, usually two to three days

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 Issuing Securities: The Registration
Process
• Accountants’ legal liability in the registration
process
– Under section 11 of the 1933 act, accountants are
liable for any materially false or misleading information
to the effective date of the registration statement
– The underwriters handling the sale of the securities
often require a “comfort letter” from the registrant’s
public accountants for the period between the filing
date and the effective date
– This letter provides additional evidence that the public
accountant has not found any adverse financial
changes since the filing date
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 Periodic Reporting Requirements

• Companies with more than $10 million in

assets and whose securities are held by
more than 500 persons must file annual and
other periodic reports as updates on their
economic activities
• The three basic forms used for this updating
are Form 10-K, Form 10-Q, and Form 8-K

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 Periodic Reporting Requirements

• Form 10-K is the annual filing to the SEC

– “Accelerated filers” must file their Form 10-K
within 60 days after the end of the company’s
fiscal year
– Small businesses, and others who do not
meet the requirements for an accelerated filer,
have until 90 days after the end of their fiscal
years

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 Periodic Reporting Requirements

• Form 10-K has four parts

– Parts I, II, and III include:
• The management’s discussion and analysis
• The audited financial statements and footnotes
• The report by management on the internal
control structure and the assessment of the
effectiveness of those controls
• The auditor’s opinion
• At least five years of condensed financial
information disclosures
– Part IV contains additional schedules and
exhibits
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 Periodic Reporting Requirements

• Form 10-Q is the quarterly report to the

SEC
– Accelerated filers must file a Form 10-Q within
35 days after the end of each of their first
three quarters
– Other companies must file within 45 days after
the end of each of their first three quarters
– No Form 10-Q is filed for the fourth quarter
because that is when the Form 10-K is filed

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 Periodic Reporting Requirements

• Form 10-Q has two parts

– Part I includes comparative financial
statements prepared in accordance with APB
28
– Part II is an update on significant matters
occurring since the last quarter
• Form 8-K is used to disclose unscheduled
material events
– Companies must file a Form 8-K within four
business days of the occurrence of a
“triggering event”
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 Periodic Reporting Requirements

• Schedule 13D
– Filed by those who acquire a beneficial ownership of
more than 5 percent of a class of registered equity
securities and must be filed within 10 days after such
an acquisition
– Beneficial ownership - Directly or indirectly having the
power to vote the shares or investment power to sell
the security
• Proxy statements
– Materials submitted to shareholders for votes on
corporate matters
– In many cases, voting on these matters takes place at
the annual meeting but it may also occur at a special
meeting
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 Periodic Reporting Requirements

• Accountants’ legal liability in periodic

reporting
– The 1934 Securities Exchange Act provides
for a limited level of legal exposure from
involvement in the preparation and filing of
periodic reports
– Civil liability is imposed for filing materially
false or misleading statements
– Accountants are provided with due diligence
defenses
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 Foreign Corrupt Practices Act of 1977

• Congress passed the Foreign Corrupt

Practices Act of 1977 (FCPA) as a major
amendment to the Securities Exchange Act
of 1934
• The FCPA has two major sections:
– Part I prohibits foreign bribes
– Part II requires publicly held companies to
maintain an adequate system of internal
control and accurate records

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 Sarbanes-Oxley Act of 2002

• Signed into law on July 30, 2002

– Gained impetus after the revelations about
accounting and financial mismanagement at
Enron, WorldCom, and others
– The legislation (broadly known as SOX) has a
number of major implications for accountants

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 Sarbanes-Oxley Act – Major Sections
• Title I: Public Company Accounting Oversight Board
• Title II: Auditor Independence
• Title III: Corporate Responsibility
• Title IV: Enhanced Financial Disclosures
• Title V: Analyst Conflicts of Interest
• Title VI: Commission Resources and Authority
• Title VII: Studies and Reports
• Title VIII: Corporate and Criminal Fraud Accountability
• Title IX: White-Collar Crime Penalty Enhancements
• Title X: Sense of Congress Regarding Corporate Tax Returns
• Title XI: Corporate Fraud and Accountability

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 Disclosure Requirements

• Management Discussion and Analysis

– MD&A of a company’s financial condition and
results of operations is part of the basic
information package required in all major
filings with the SEC
– The items now required in the MD&A are:
liquidity, capital resources, results of
operations, off-balance sheet arrangements,
tabular disclosure of contractual obligations

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 Disclosure Requirements

• Pro forma disclosures

– Essentially “what-if ” financial presentations
often taking the form of summarized financial
statements
– They show the effects of major transactions
that occur after the end of the fiscal period or
that have occurred during the year but are not
fully reflected in the company’s historical cost
financial statements

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