SEC Proposal To Modernize MD&A Disclosures and Guidance on MD&A Performance Metrics

Kramer Levin Naftalis & Frankel LLP

Proposed MD&A Amendments

On Jan. 30, 2020, the SEC proposed amendments to modernize Management’s Discussion and Analysis (MD&A) financial disclosure requirements in Regulation S-K. The proposed amendments are intended to modernize, simplify and enhance the financial disclosure requirements by reducing duplicative disclosure and focusing on material information in order to improve these disclosures for investors and simplify compliance efforts for registrants. The proposal will be subject to a 60-day comment period after publication in the Federal Register. Among other things, the proposed amendments would:

  • Eliminate Item 301, Selected Financial Data, to remove the disclosure requirement of selected financial data in comparative tabular form for each of the registrant’s past five fiscal years and any additional fiscal years necessary to keep the information from being misleading.
  • Eliminate Item 302(a), Supplementary Financial Information, to remove the disclosure requirement of selected quarterly financial data of specified operating results for each quarter within the two most recent fiscal years and variances in these results from amounts previously reported on a Form 10-Q.
  • Eliminate Item 302(b), Information About Oil and Gas Producing Activities, subject to the Financial Accounting Standards Board’s amendment of U.S. GAAP to require the disclosure called for by Item 302(b).
  • Add a new Item 303(a), Objective, to clarify the principal objectives of MD&A for both full fiscal years and interim periods.
  • Amend Item 303(a), Full Fiscal Years, to explicitly require disclosure of critical accounting estimates that involve a significant level of estimation uncertainty and have had or are reasonably likely to have a material impact on the company’s financial condition or results of operations. The disclosure of critical accounting estimates should supplement, but not duplicate, the description of accounting policies in the notes to the financial statements.
  • Amend Item 303(a)(2), Capital Resources, to enhance the current requirement, which is limited to capital expenditures, to require a discussion of material cash requirements, including the anticipated source of funds needed to satisfy such cash requirements and the general purpose of such requirements.
  • Amend Item 303(a)(3)(ii), Results of Operations, to require disclosure of known events that are reasonably likely to cause a material change in the relationship between costs and revenues.
  • Amend Item 303(a)(3)(iii), Results of Operations, to enhance analysis in MD&A by clarifying that a registrant should include in its MD&A a discussion of the reasons underlying material changes from period to period in one or more line items.
  • Eliminate Item 303(a)(3)(iv), Results of Operations, which requires registrants to discuss the impact of inflation and changing prices where material, along with the related Instructions 8 and 9 to Item 303(a). Registrants would still be required to discuss these matters if they are part of a known trend or uncertainty that has had, or the registrant reasonably expects to have, a material favorable or unfavorable impact on net sales, revenue or income from continuing operations.
  • Replace Item 303(a)(4), Off-Balance Sheet Arrangements, with a principles-based instruction to prompt registrants to consider and integrate disclosure of off-balance sheet arrangements within the context of their MD&A. Under the new instruction, registrants would be required to discuss commitments or obligations, including contingent obligations, arising from arrangements with unconsolidated entities or persons that have, or are reasonably likely to have, a material current or future effect on such registrants’ financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, cash requirements, or capital resources even when the arrangement results in no obligation being reported in the registrants’ consolidated balance sheets.
  • Eliminate Item 303(a)(5), Tabular disclosure of contractual obligations, to avoid the overlap with information required in the financial statements and amended Item 303(a)(2), discussed above, and to promote the principles-based nature of MD&A.
  • Amend Item 303(b), Interim Periods, to allow registrants to compare their most recently completed quarter to either the corresponding quarter of the prior year or the immediately preceding quarter. If a company changes the comparison from the prior interim period comparison, the company would be required to explain the reason for the change and present both comparisons in the filing in which the change is announced.
  • Eliminate current Item 303(c), Safe Harbor, as a conforming change in light of the proposed replacement of Item 303(a)(4) and elimination of Item 303(a)(5).
  • Eliminate Item 303(d), Smaller Reporting Companies, as a conforming change in light of the proposed elimination of Items 303(a)(3)(iv) and 303(a)(5).

The full text of the proposed amendments is available here.

SEC Guidance on MD&A Performance Metrics

On Jan. 30, 2020, the SEC also provided interpretative guidance on disclosure of key performance indicators in MD&A. The guidance will be effective when published in the Federal Register. The SEC required registrants to disclose in the MD&A key financial metrics that facilitate investors seeing the company “through the eyes of the management.” The SEC emphasized that companies should consider “all key variables and other factors that management uses to manage the business,” as well as the materiality of those factors to investors, when drafting disclosure.

Companies “need to include such further material information, if any, as may be necessary to make the presentation of the metric, in light of the circumstances under which it is presented, not misleading.” The SEC would generally expect, based on the facts and circumstances, the following disclosures to accompany any metric presented: a clear definition of the metric and how it is calculated, a statement indicating the reasons why the metric provides useful information to investors, and a statement indicating how management uses the metric in managing or monitoring the performance of the business. Registrants should also consider whether there are material estimates or assumptions underlying the metric or its calculation that require disclosure.

If a company changes its calculation or presentation of a metric, it should consider whether disclosure is needed about the change. This disclosure, to the extent material, may include the difference between the new and prior calculation or presentation; the reasons for, and effect of, the change; and any other relevant differences in methodology and results. Depending on the significance of the changes in methodology and results, the SEC stated, registrants should also consider whether it is necessary to recast prior metrics to conform to the current presentation.

The guidance emphasized that companies are required to maintain effective controls and procedures when disclosing material key performance indicators that are derived from the companies’ information.

The full text of the SEC’s interpretative guidance is available here.

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DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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