SEC INFLUENCE ON ACCOUNTING

Size: px

Start display at page:

Download "SEC INFLUENCE ON ACCOUNTING"

Jayson Hawkins
6 years ago
Views:

A P P E N D I X A SEC INFLUENCE ON ACCOUNTING Accountants recognize the influence of the Securities and Exchange Commission (SEC) on the development of accounting and reporting principles.

1 A P P E N D I X A SEC INFLUENCE ON ACCOUNTING Accountants recognize the influence of the Securities and Exchange Commission (SEC) on the development of accounting and reporting principles. Congress gave the SEC authority to establish accounting principles when it passed the Securities Exchange Act of 1934, which created the SEC. Initially, Congress assigned the administration of the Securities Act of 1933 to the Federal Trade Commission. But a year later, the 1934 act created the Securities and Exchange Commission and made it responsible for establishing regulations over accounting and auditing matters for firms under its jurisdiction. Thus, the SEC has the authority to prescribe accounting principles for entities that fall under its jurisdiction. 1 A combination of inadequate regulation of securities at the federal and state levels, the stock market crash of 1929, and the Great Depression of the 1930s contributed to the enactment of new securities legislation in the early 1930s. THE 1933 SECURITIES ACT A primary objective of the Securities Act of 1933 was to provide full and fair disclosure of the character of securities sold in interstate and foreign commerce and the mails, and to prevent fraud in the sale thereof (Securities Act of 1933). Another objective of the 1933 act was to protect investors against fraud, deceit, and misrepresentation. There have been many amendments, but these objectives still constitute the primary thrust of the 1933 act. The Securities Act of 1933 is often called the truth in securities act. This is because the SEC s objective is to prevent the issuers of securities from disclosing false, incomplete, or otherwise misleading information to prospective buyers of their securities. The SEC emphasizes that its objective is not to pass judgment on the merits of any firm s securities. The SEC imposes severe penalties on firms and individuals that violate its disclosure requirements. Issuance of Securities in Public Offerings The Securities Act of 1933 regulates the issuance of specific securities to investors in public offerings. Public offerings of securities must be registered with the SEC and be advertised in a prospectus before being offered for sale to the public. EXEMPT SECURITY ISSUES Certain security issuances are exempt from the 1933 act. A partial list of exempt securities includes those issued by governmental units, not-for-profit organizations, firms in bankruptcy and subject to 1 For example, in 1993 the SEC issued Staff Accounting Bulletin No. 93, which requires discontinued operations that have not been divested within one year of their measurement dates to be accounted for prospectively as investments held for sale.

2 court order, firms in stock splits or in direct sales to existing shareholders (private placements), and firms issuing intrastate securities with sales limited to residents of that state. ISSUES OF $5,000,000 OR LESS Regulation A provides less-restrictive registration procedures for security issuances not exceeding $5,000,000. Regulation A permits firms to use an offering circular rather than the prospectus required for full registration. THE PROSPECTUS The prospectus is a part of the registration statement that provides detailed information about the background of the registrant firm, including its development, its business, and its financial statements. An offering circular is like a prospectus but has fewer disclosure requirements. A copy of the prospectus must be presented to prospective buyers before offering the securities for sale. A preliminary prospectus (also known as a red herring prospectus) is a communication that identifies the nature of the securities to be issued, states that they have not been approved or disapproved by the SEC, and explains how to obtain the prospectus when it becomes available. THE SECURITIES EXCHANGE ACT OF 1934 The Securities Exchange Act of 1934 created the Securities and Exchange Commission and gave it authority to administer the 1933 act as well as regulate the trading of securities on national exchanges. Subsequently, the 1934 act was amended to include securities traded in over-thecounter markets, provided that the firms have total assets of more than $10 million and at least 500 stockholders. Firms that want their securities traded on the national exchanges, or in over-thecounter markets subject to the net-asset and stockholder limitations, must file registration statements with the SEC. Form 10 is the primary form used for registering securities on national stock exchanges or in over-the-counter markets. This registration for trading purposes is required in addition to the registration prepared for new security issuances under the 1933 act. ADDITIONAL PERIODIC REPORTING REQUIREMENTS Companies covered by the 1934 act also have periodic reporting responsibilities. These include filing 10-K annual reports, 10-Q quarterly reports, and 8-K current material event reports with the SEC. The information in these reports is publicly available so that company officers, directors, and major stockholders (insiders) will not be able to use it to gain an unfair advantage over the investing public. In other words, the objective is to provide full disclosure of all material facts about the company and thereby contribute to a more efficient and ethical securities market. THE SEC AND NATIONAL EXCHANGES In addition to the registration and periodic reporting rules for publicly traded companies, the Securities Exchange Act contains registration and reporting requirements for the national securities exchanges. The SEC has responsibility for monitoring the activities of the national exchanges and ensuring their compliance with applicable legal provisions. The 1934 act also gave the SEC broad enforcement powers over stockbrokers and dealers and over accountants involved in SEC work. Additional Responsibilities of the SEC Subsequent to the Securities Exchange Act of 1934, the SEC acquired regulatory and administrative responsibilities under the Public Utilities Holding Company Act of 1935, the Trust Indenture Act of 1939, the Investment Company Act of 1940, the Investment Advisers Act of 1940, the Securities Investor Protection Act of 1970, and the Foreign Corrupt Practices Act of These acts are listed for identification purposes, but this appendix does not discuss the SEC s responsibility under them. THE REGISTRATION STATEMENT FOR SECURITY ISSUES The Securities Act of 1933 requires firms issuing securities to the public to provide full and fair disclosure of all material facts about those securities. The disclosures are provided in a registration statement filed with the SEC at least 20 days before the securities are offered for sale to the public. The SEC may extend the 20-day waiting period if it finds deficient or misleading information in A-2 APPENDIX A

3 the registration statement. In addition, if a firm files an amendment to the registration statement, the SEC treats the amended statement as a new one for purposes of applying the 20-day rule. Security Registration The registration of securities with the SEC is ordinarily a major undertaking for the registrant company. The process includes developing a registration team consisting of financial managers, legal counsel, security underwriters, public accountants, and other professionals as needed. The team plans the registration process in detail, assigns responsibility for each task, coordinates the efforts of all team members, and maintains a viable timetable throughout each phase of the project. Because of its complexity, the coordination of efforts is sometimes referred to as a balancing act. REGISTERING SECURITIES UNDER THE INTEGRATED DISCLOSURE SYSTEM In 1980 the SEC changed the process of registering securities when it adopted an integrated disclosure system for almost all reports required by the 1933 and 1934 securities acts. The integrated system revised the registration forms and streamlined the process for filing with the SEC. As a result, the registration statement is now completed in accordance with instructions for the particular registration form deemed appropriate for a specific registrant company. For example, Form S-1 is a general form to be used by firms going public (issuing securities to the public for the first time) and by firms that have been SEC registrants for fewer than three years. It is also a default form to be used unless another form is specified. Forms S-2 and S-3 are forms with fewer disclosure requirements than S-1. They are used primarily for registrations of established firms that have been SEC registrants for more than three years and that meet certain other criteria. Form S-4 is used for registering securities issued in a business combination. Firms issuing securities under Regulation A use Form 1-A. A number of other registration forms are applicable to selected types of security issues and firm situations. THE INTEGRATED DISCLOSURE SYSTEM The basic regulations of the Securities and Exchange Commission are found in Regulation S-X, which prescribes rules for the form and content of financial statements filed with the SEC, and Regulation S-K, which covers the nonfinancial statement disclosures of the registration statements and other periodic filings with the SEC. Before the 1980s, the two regulations sometimes had conflicting requirements, and firms often had difficulty in identifying the appropriate rules and procedures for reporting to the SEC. From 1933 to 1980 the SEC issued numerous Accounting Series Releases (ASRs) official supplements to AICPA and FASB pronouncements and Staff Accounting Bulletins (SABs) informal interpretations by the SEC staff on GAAP and S-X provisions. The issuance of these ASRs and SABs often increased the difficulty of complying with SEC regulations because their provisions were sometimes inconsistent with GAAP or other SEC regulations. Codification of SABs and ASRs In implementing the integrated disclosure system, the SEC issued SAB No. 40 to codify SABs 1 through 38. This was done to revise the content of the SABs to conform to GAAP, to eliminate duplicate material contained in some SABs, and in some cases to recognize FASB pronouncements as meeting the SEC s requirements. The SEC also codified the relevant accounting-related ASRs into Financial Reporting Release (FRR) No. 1. Thus, the current series consists of FRRs rather than ASRs. Objectives of Integrated Disclosure System The objectives of the integrated disclosure system are to simplify the registration process, to reduce the cost of compliance with SEC regulations, and to improve the quality of information provided to investors and other parties. Under the integrated system, the disclosures included in SEC filings and those distributed to investors via prospectuses, proxy statements, and annual reports are essentially the same. SEC Influence on Accounting A-3

Standardization of Audited Financial Statements The integrated disclosure system amended Regulation S-X in order to standardize the financial statement requirements in most SEC filings.

4 Standardization of Audited Financial Statements The integrated disclosure system amended Regulation S-X in order to standardize the financial statement requirements in most SEC filings. For example, Regulation S-X, which prescribes the form and content of financial statements filed with the SEC, was amended in 1992 to conform certain of its accounting and disclosure requirements to those contained in FASB statements, including FASB Statement No. 109, Accounting for Income Taxes (effective December 15, 1992), FASB Statement No. 95, Statement of Cash Flows (effective July 15, 1988), FASB Statement No. 91, Accounting for Nonrefundable Fees and Costs Associated with Originating or Acquiring Loans and Initial Direct Costs of Leases (effective December 15, 1987), and FASB Statement No. 69, Disclosures about Oil and Gas Producing Activities (effective December 15, 1982). This permits the financial statements included in annual reports to shareholders to be the same as those included in the prospectus, the 10-K, and other reports filed with the SEC. Note that the SEC s proxy rules govern the content of annual reports to shareholders. Under current rules, the content of the annual report to shareholders is the same as in 10-K filings. Form 10-K is the general form for the annual report that registrants file with the SEC. It is required to be filed within 90 days after the end of the registrant company s fiscal year. The 10-K report must be signed by the chief executive officer, the chief financial officer, the chief accounting officer, and a majority of the company s board of directors. Exhibit A-1 summarizes the 10-K disclosures required by the SEC for public companies. As shown in the exhibit, the SEC divides the disclosures into four groups. This is done to distinguish the information required to be disclosed in annual reports to shareholders from the complete 10-K information package required for filings with the SEC. For example, the information included in Part II of the exhibit is primarily accounting information that is required for annual reports filed with the SEC as well as the annual reports distributed to the company s shareholders. The disclosure requirements summarized in Parts I, III, and IV of the exhibit are only required for SEC filings, but they may be included in annual reports to shareholders. SUMMARY OF REQUIRED DISCLOSURES UNDER SEC FORM 10-K Part I Item 1: Business (nature and history of the business, industry segments, etc.) Item 2: Properties (location, description, and use of property, etc.) Item 3: Legal proceedings (details of pending legal proceedings) Item 4: Voting by security holders (items submitted to shareholders for voting) Part II Item 5: Market for common equity (place traded, shares, dividends, etc.) Item 6: Selected financial data (five-year trend data for net sales, income from continuing operations including EPS, total assets, long-term debt, cash dividends, etc.) Item 7: Management s discussion and analysis (discussion of the firm s liquidity, capital resources, operations, financial condition, etc.) Item 8: Financial statements and supplementary data (requirements include audited balance sheets for two years and audited income statements and statements of cash flows for three years; threeyear and five-year summaries are required for selected statement items) Item 9: Changes in accountants and disagreements on accounting matters (changes in accountants and accounting changes, disagreements, disclosures, etc.) Part III Item 10: Directors and executive officers (names, ages, positions, etc.) Item 11: Executive compensation (names, positions, salaries, stock options, etc.) Item 12: Security ownership of beneficial owners and management (listing of insider owners of securities) Item 13: Certain relationships (business relations and transactions with management, etc.) Part IV Item 14: Exhibits, financial statement schedules, and 8-K reports (supporting schedules of securities, borrowings, subsidiaries, ratios, etc.) Exhibit A-1 Summary of Required Disclosures Under Form 10-K A-4 APPENDIX A

5 In implementing its integrated disclosure system, the SEC eliminated a number of differences between reports filed with the SEC and those contained in annual reports to shareholders. This permitted public companies to meet many of the SEC filing requirements by reference by disclosures made in the annual reports to shareholders. That is, companies can include copies of their annual shareholder reports in their 10-K filings and satisfy many SEC disclosure requirements with one report. The SEC encourages the incorporation of information by reference to other reports and does not require that information to be duplicated. This incorporation by reference ruling resulted in a substantial increase in the size of corporate annual reports and a corresponding decrease in the size of 10-K reports filed with the SEC. FORM 8-K Form 8-K is a report that requires registrants to inform the SEC about significant changes that take place regarding firm policies or financial condition. Firms must submit the report within 15 days (5 days in some cases) of the occurrence of the event. Items that might be disclosed in Form 8-K include changes in management, major acquisitions or disposals of assets, lawsuits, bankruptcy filings, and unexpected changes in directors. FORM 10-Q Form 10-Q contains quarterly data prepared in accordance with GAAP and must be filed within 45 days of the end of each of the registrant s first three quarters. Chapter 14 of this text describes and illustrates the SEC requirements for quarterly reports. SEC DEVELOPMENTS REGULATION S The SEC issued Regulation S in 1990 to clarify the applicability of U.S. securities laws across national boundaries. Generally, the regulation provides that sales of securities outside the United States are not subject to the 1933 Securities Act. The regulation also provides safe harbor rules to exempt any U.S. companies that sell securities offshore from SEC registration requirements. THE EDGAR SYSTEM The Securities and Exchange Commission introduced a massive new computerized system to facilitate the process of filing, reviewing, and disseminating corporate information to the public in [URL: EDGAR is an abbreviation for the SEC s system, entitled Electronic Data Gathering Analysis and Retrieval System. One of the SEC s goals under the integrated disclosure system is to provide investors, analysts, and other interested parties with instant access to corporate information on file with the SEC. SMALL BUSINESS Although most SEC registrants are large public companies, the capital needs of small business issuers (under $25 million in both revenue and public float) have been addressed by the SEC, and new financial rules for small business enterprises were adopted in 1992 and Those rules provide new opportunities for small firms to raise capital to start or expand their businesses. Rule 504 relating to certain tax-exempt private offerings was amended to allow issuers other than development-stage enterprises to raise up to $1,000,000 in any 12-month period without registering under the 1933 Securities Act. Also, safe-harbor rules for information or trends and future events that may affect future operating results have been revised. SUMMARY This appendix provides an overview of securities legislation related to financial accounting and reporting. It also explains the function of the Securities and Exchange Commission and its authority to prescribe accounting principles. SEC requirements that are relevant to particular topics are integrated into the chapters throughout this book. For example, Chapters 3 and 11 discuss and illustrate the SEC s requirement to push down the purchase price of a subsidiary to the subsidiary s financial statements. Chapter 8 discusses the SEC s position on recognizing gain on a subsidiary s stock sales, and Chapter 14 traces the history of the SEC s efforts in requiring segment disclosures and SEC requirements for interim reports. SEC Influence on Accounting A-5

A-6 APPENDIX A SELECTED READINGS American Accounting Association s Securities and Exchange Commission Liaison Committee. Mountaintop Issues: From the Perspective of the SEC.

6 A-6 APPENDIX A SELECTED READINGS American Accounting Association s Securities and Exchange Commission Liaison Committee. Mountaintop Issues: From the Perspective of the SEC. Accounting Horizons (March 1995), pp IANNACONI, TERESA E. The SEC s Expanded Role in Small Business Capital Formation. Journal of Accountancy (August 1993), pp JAYSON, SUSAN. EDGAR Update: No More Fear of Filing. Management Accounting (March 1994), pp SKOUSEN, K. FRED. An Introduction to the SEC, 5th ed. Cincinnati: South-Western Publishing Co., 1991.

U.S. Securities Laws Presentation. November 29, 2010 Horace Nash

U.S. Securities Laws Presentation November 29, 2010 Horace Nash hnash@fenwick.com Securities Act of 1933 Laws and Regulations Regulates sales of securities Securities Exchange Act of 1934 Regulates public