Defining Issues | April 2021

 

Insight

SEC adopts interim amendments under the HFCA Act

Amendments to set form and manner of requirements for entities with audit firms in countries restricting PCAOB inspections.

In December 2020, Congress enacted the Holding Foreign Companies Accountable (HFCA) Act.  The SEC has released interim final amendments that begin to address the components of this Act.

Applicability

  • Public companies that file an annual report on Form 10-K, 20-F, 40-F or N-CSR; and
  • For which an audit report is issued by a registered public accounting firm located in a foreign jurisdiction that the PCAOB has determined it is unable to inspect.

Relevant dates

  • Interim final amendments become effective 30 days after publication in the Federal Register.
  • Comments on the amendments are due 30 days after publication in the Federal Register.
  • Registrants will not be required to comply with the amendments until the Commission has identified them as having a non-inspection year under a process that is still to be established.

Key impacts

Among other things, the HFCA Act requires the SEC to:

  • Identify registrants that have retained a registered public accounting firm to issue an audit report, and that firm has a branch or office located in a foreign jurisdiction that the PCAOB has determined it is unable to inspect or investigate completely because of a position taken by an authority in that jurisdiction. These are ‘Commission-Identified Issuers’.
  • Implement a process for Commission-Identified Issuers to submit documentation and disclose certain information.
  • Establish the form and manner of these requirements.

To identify Commission-Identified Issuers, the following needs to take place:

  • First, the PCAOB will need to develop a process for determining which registered public accounting firms it is unable to inspect or investigate completely because of a position taken by an authority in a foreign jurisdiction.
  • Then, the SEC must implement a process to identify registrants that are audited by such firms, and determine how often that process occurs. After the identification process is developed, a Commission-Identified Issuer will be required to comply with the submission and disclosure requirements (see below) in its annual report for each non-inspection year.
  • For example, a registrant is determined to be a Commission-Identified Issuer based on the audit report in its Form 10-K filed in 2022 for the year ended December 31, 2021. The identified issuer would be required to comply with the interim framework in its Form 10-K covering the year ended December 31, 2022, to be filed in 2023.

For each non-inspection year, Commission-Identified Issuers will be required to comply with the following submission and/or disclosure requirements in the interim framework:

  • Submit documentation to the SEC establishing that the company is not owned or controlled by a governmental entity in the foreign jurisdiction of the audit firm that the PCAOB is unable to inspect.
  • The documentation must be submitted electronically through EDGAR on or before the due date of the relevant annual report form.
  • The types of documentation to be submitted are not specified, providing flexibility in the initial form of the requirements. However, the SEC has requested comments regarding whether additional guidance or specified types of documentation should be outlined.
  • Commission-Identified Issuers that are owned or controlled by a governmental entity in the jurisdiction of the audit firm that the PCAOB is unable to inspect are not required to submit affirmative documentation. However, the SEC has requested comment as to whether such issuers should nonetheless provide a positive affirmation.

Disclose the following in the foreign issuer’s annual report covering the non-inspection year identified by the SEC:

  • That during the year covered in the annual report the registered public accounting firm has prepared an audit report.
  • The percentage of shares of the issuer that are owned by governmental entities in the foreign jurisdiction where the issuer is incorporated or organized.
  • Whether governmental entities in the applicable foreign jurisdiction of the audit firm have a controlling financial interest in the issuer.
  • The name of each official of the Chinese Communist Party (CCP) who is a member of the board of directors of the issuer (or the operating entity of the issuer).
  • Whether the issuer’s articles of incorporation (or similar document) contain any charter of the CCP, including the text of any such charter.

The SEC has also requested comments related to the following topics:

  • Process and timing to be used by the SEC for purposes of determining Commission-Identified Issuers.
  • Guidance and definitions that may be necessary or helpful for the implementation of the disclosure and submission requirements.
  • Timing and method of providing documentation under the submission requirements.

Additionally, if an issuer is determined to be a Commission-Identified Issuer for three consecutive years, the HFCA Act includes a directive for the SEC to prohibit trading in its securities. The SEC is separately assessing how to implement this requirement.

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