New guidance on non-GAAP measures announced at the 2022 AICPA & CIMA Conference; other disclosure advice to registrants.
Staff in the SEC’s Division of Corporation Finance explained the Commission’s priorities, disclosure trends and expectations, rulemaking and other recent developments during a panel presentation at the Conference on Tuesday morning – unveiling some surprises in the process.
Overall, the staff provided a good indication of some of the key areas for registrants to look out for in their 2022 year-end reporting. We present the highlights here, including the announcement of new guidance on non-GAAP financial measures, and timely year-end reminders on topics such as critical accounting estimates, segment reporting and crypto assets.
In an actioned-packed update from the Division of Corporation Finance, the staff highlighted the many current economic and other recent developments that registrants should consider in their upcoming year-end filings. The session continued the high-level themes from Day 1 of the Conference, with an emphasis on transparency through robust, tailored disclosures that provide decision-useful information to investors.
Erin McCloskey
KPMG Partner
Non-GAAP financial measures continue to be an area of concern to the SEC staff because in its view registrants continue to misapply the guidance. However, in introducing new and updated Compliance & Disclosure Interpretations (C&DIs), Lindsay McCord (Chief Accountant, Division of Corporation Finance) noted that the staff was not only clarifying certain questions, but also trying to be more transparent about what it considers in its reviews of non-GAAP measures.
Non-GAAP financial measures continue to be a challenging area for companies. In updating its Compliance & Disclosure Interpretations, the staff is modernizing its guidance to provide clearer and more comprehensive information – giving registrants a more effective roadmap.
Timothy Brown
KPMG Partner
McCord discussed the release of new and updated C&DIs to provide additional transparency on how the staff thinks about non-GAAP measures. The updates include recent examples and views that the staff has expressed as part of its filing reviews, including areas such as the prominence of presentation and characteristics that can make non-GAAP measures misleading.
This C&DI was updated to expand on how the staff views the prominence requirement. The updates provide additional examples of practices that result in a non-GAAP measure being featured more prominently than the GAAP measure (e.g. the non-GAAP measure preceding the GAAP measure, style of font, providing discussion and analysis on the non-GAAP measure).
Additionally, the updated C&DI provides examples of presentation practices when providing a non-GAAP reconciliation that may violate the prominence requirement (e.g. starting with the non-GAAP measure).
Lastly, the updates provide clarification that a non-GAAP income statement, which may violate prominence requirements when reconciling non-GAAP measures to the most relevant GAAP measures, is an income statement comprised of non-GAAP measures that includes all or most of the line items found in the GAAP income statement.
McCord stressed the need for registrants to be more investor-focused and specific in their disclosures of critical accounting estimates (CAE). The staff looks for both quantitative and qualitative information necessary to understand estimation uncertainty and its impact on CAEs.
She emphasized that CAE disclosures in MD&A should not be a regurgitation of accounting policies in the financial statement notes, but instead should be a thoughtful analysis that investors can understand.
She encouraged registrants to ask themselves some key questions about the disclosures, including but not limited to:
Melissa Rocha (Deputy Chief Accountant, Division of Corporation Finance) stated that the identification of operating segments continues to be an area of focus as registrants struggle to analyze these at an appropriate level of granularity. And again coming back to the needs of investors, she stressed that they want to see how management is running the business.
ASC 280 defines an operating segment as a component of a public entity that has all of the following characteristics:
In her remarks, Rocha focused on the second element of the definition of an operating segment – the operating results reviewed by the CODM. When evaluating this criterion, the staff performs actions such as listening to earnings calls and reading transcripts, and compares the segment disclosures with information provided outside of the filings. She provided two examples of registrants that purported to have a single segment, which couldn’t be supported once the staff probed the information reviewed by the CODM. She emphasized the need to consider the ‘total mix of information’ reviewed the CODM.
Based on the examples that Rocha cited, registrants should ask themselves the following questions in checking the level at which operating segments have been identified (not exhaustive):
The SEC staff addressed the crypto markets by reminding registrants of their disclosure obligations if they have experienced or are affected by events that cause:
The staff also noted the recent Dear CFO letter that provides sample comments it may issue to registrants involved in the crypto market. The sample comments relate to disclosures in several parts of a filing: business description, risk factors and MD&A. Cicely LaMothe (Acting Deputy Director of Disclosure Operations, Division of Corporation Finance) noted that registrants should use these sample disclosures to update their upcoming filings as well as shelf registration statements.
McCord re-emphasized a theme from Day 1 of the conference, namely that the appropriate accounting model(s) to apply to a crypto transaction hinges on the exact nature of the transaction and the related terms and conditions.
The Dear CFO letter is in response to the recent distress in the crypto asset markets that has caused large investor losses. Transparency is key in a distressed market, which is why the SEC expects meaningful disclosure of the impact of the market’s developments on business and exposure to potential risks.
Karmen Ward
KPMG Partner
LaMothe touched on the current economic environment – higher than normal inflation, supply chain difficulties and the effects of the Russia-Ukraine war – without it being a feature of the session. She encouraged enhanced, entity-specific disclosures that explain the effect of these pressures, and recommended that registrants revisit and update disclosures in MD&A and risks and uncertainties. Similar to remarks made on Day 1 during the cyber panel, LaMothe reminded registrants to consider whether certain risks, which may have previously been discussed hypothetically, should be framed differently given recent current events.
LaMothe spoke about two recent rulemakings that significantly impact financial reporting and involve two important elements of quality financial reporting – materiality and transparency.
This rule illustrates the continued importance of registrants appropriately applying the materiality standard. It requires registrants to have a compensation recovery policy that ‘claws back’ incentive-based compensation when an accounting restatement changes the financial reporting measures that affect the amount of such compensation received by certain executives.
The restatement that triggers a clawback can be either a ‘Big R’ or a ‘little r’. Materiality is an important concept in restatements, and registrants are reminded to evaluate the materiality of errors through the lens of a ‘reasonable investor’ – considering both qualitative and quantitative factors.
Read more about the rule here.
This rule illustrates the SEC’s emphasis on transparency in financial reporting. It requires registrants to disclose information about the relationship between executive compensation and company performance through the lens of four specified financial performance measures for the most recent five years (among other requirements).
Registrants will need to focus on providing the appropriate level of transparency to investors when preparing for these disclosures, taking into account any impact that may stem from the uncertain economic conditions.
Read more about the rule here.
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