Many people are putting pen to paper in response to the SEC’s recent solicitation of comment about the entirety of Regulation S-K. SEC Chairman Paul Atkins delivered some related commentary on this project just yesterday. Here are the comments from the public submitted so far.
One possible approach for the SEC to pursue rulemaking in this area is to embrace more principles-based disclosure – something that the agency did when it modernized parts of S-K back in 2000. Does a principles-based regulatory framework draw good disclosure out of companies? As most things in life, I imagine most would say “it depends.” Here is some commentary to that effect excerpted from this memo by Gibson Dunn in response to the SEC’s 2000 S-K modernization:
“The amendments represent an important step towards modernizing the disclosure framework in the United States, removing detailed and prescriptive standards that are either duplicative of other disclosure requirements or, for many registrants, simply not material. While the principles-based approach could lead to a lack of comparability for investors among registrants’ reports, it also could fail to achieve the goal of providing more informative disclosures if the absence of technical guidance or requirements results in excessive disclosures. How the new framework is applied by registrants will evolve and develop over time and be shaped by guidance from the Commission and its staff, the demands of the capital markets, and developments in securities litigation.
The increased regulatory reliance on principles-based standards could prove to be a double-edged sword. On the one hand, registrants will have greater license to adapt their disclosures to reflect their particular business model and operations, which is increasingly important in an innovative and dynamic economy where many aspects of companies’ operations defy simple classifications.
Moreover, permitting registrants to omit disclosure of information when it is not material may reduce registrant compliance costs. While some commenters are concerned that the move away from prescriptive disclosure standards will allow registrants to avoid addressing some topics, advocates for principles-based standards view that concern as ignoring the pressures of the capital markets and investor demands, which are sophisticated and already lead registrants to address topics not specifically identified in the Commission’s existing rules. As noted by the Commission, this has been borne out by many registrants’ disclosures during the COVID-19 pandemic.
On the other hand, the Commission noted that a principles-based disclosure framework relying on registrants’ determinations of the importance of information to investors could result in increased information asymmetries between registrants and investors if registrants misjudge what information is material. While it said that such asymmetries may increase the cost of capital, reduce capital formation, and hamper efficient allocation of capital across companies, the Commission viewed the risk as being reduced by mitigants such as corporate internal controls and the risk of antifraud litigation.
A principles-based system may also make it more difficult for a registrant to demonstrate its compliance with the Commission’s rules, presenting the risk of questioning and second-guessing by Commission staff in hindsight, either through the comment or enforcement processes, and by class action plaintiffs. While materiality has been and remains the overriding standard, the prescriptive list of topics contained in Item 101 prior to these amendments has served as a useful touchstone for registrants.
As registrants consider changes to their disclosure, it will be important for registrants to assess and potentially adjust their disclosure controls and procedures, including examining their processes for assessing materiality and documenting determinations regarding disclosures and ensuring that disclosure committees and others involved in their disclosure processes are mindful of the need to focus on the principles-based standards.
This principles-based set of requirements also could lead, over time, to inconsistent discretion on the part of the Commission staff when determining whether registrants have complied with the requirements of Regulation S-K. This could increase the cost and length of a review process (whether routine or for a capital markets transaction, which have become increasingly streamlined in recent years), which is inconsistent with the Commission’s stated policy position of lowering the burden of being a public company and promoting capital raising.”
