Public Company Advisory Recent developments governing public companies and their officers, directors and investors

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1 November 27, 2002 Public Company Advisory Recent developments governing public companies and their officers, directors and investors SEC Proposes Mandatory Filing of Earnings Announcements and Restrictions on Use of Non- GAAP Financial Information The Securities and Exchange Commission has proposed amendments to Form 8-K and additional new rules that, if adopted as proposed, will require U.S. and foreign public companies to comply with new disclosure requirements when they disclose financial information, including obligations to: file all press releases and other public announcements that contain material non-public information concerning the company s results of operations or financial condition for completed quarterly or annual periods with the SEC as an exhibit to a Form 8-K within two business days after release or announcement, subject to a limited exception for information disclosed orally (e.g., in telephone conference calls and Webcasts), and provide, under proposed Regulation G, additional disclosure concerning any non-gaap financial measures, such as EBITDA or FFO, contained in any public disclosure, such as a press release or telephonic conference, including the most comparable GAAP financial measure and a quantitative reconciliation of the two measures, and comply with additional disclosure requirements and restrictions when non-gaap financial measures are included in an SEC filing. The SEC proposals are subject to a comment period that expires on December 9, The Sarbanes-Oxley Act requires the SEC to adopt final rules concerning non-gaap financial information on or before January 26, 2003; there is no deadline for adoption of the amendments to Form 8-K that would require filing earnings releases and related disclosures with the SEC. The proposals can be found on the SEC s Web site at: Form 8-K Filing of Financial Press Releases and Similar Disclosures Proposed Filing Requirement The SEC has proposed amendments to Form 8-K that will require companies to file a Form 8-K within two business days after any public announcement or release that includes material non-public information concerning the company s results of operations or financial condition for a completed quarterly or annual period. The Form 8-K must briefly identify the announcement or release and file a copy of the text of the announcement or release as an exhibit. There is a limited exception for oral, telephonic, Webcast or similar announcements, described below. Although the proposal would not require companies to issue earnings releases or similar announcements, companies that do Boston New York New Jersey Washington DC

2 so will be required to satisfy the proposed filing requirement. The proposed filing requirement would apply regardless of whether the release or announcement included any non-gaap financial measures, which are the subject of SEC proposals discussed in the next section of this Advisory. The proposed filing requirement would not apply to announcements that merely repeat information previously disclosed to the public, even if issued in a different form or accompanied by non-material information. However, the proposals would require companies to file any additional or updated material non-public financial information concerning completed fiscal periods within two business days after public release. The proposal would not apply to disclosure of financial information for completed periods that companies make only in a Form 10-K or Form 10-Q. Limited Exception for Oral, Telephonic or Webcast Announcements As proposed, the new filing requirements would not apply to oral, telephonic, Webcast, broadcast or similar disclosures that include material non-public information concerning the company s results of operations or financial condition for a completed quarterly or annual period if the following conditions are satisfied: the disclosure occurs within 48 hours of a written release or announcement filed by the company on a Form 8-K pursuant to the proposed filing requirement, the presentation is publicly accessible by conference call, Webcast or similar method, the information in the presentation is publicly available on the company s Web site and, if the information contains non-gaap financial measures, complies with the requirements of proposed Regulation G (discussed below), and the presentation was announced by a widely disseminated press release that included access instructions for the presentation and the information posted on the company s Web site. Forward-Looking Information The proposed filing requirement would apply only to material non-public financial information concerning completed quarterly or annual fiscal periods. Where a company s announcement includes both historical and prospective financial information, the company would be permitted to designate specific forward-looking statements as furnished (rather than filed ). This would avoid liability under some provisions of the federal securities laws, although the antifraud provisions of Rule 10b-5 would potentially apply in any case. Relation to Regulation FD Under Regulation FD, any disclosure of material non-public information must generally be made publicly and may not be made selectively. Although Regulation FD requires broad public dissemination of the information, companies can satisfy this requirement without filing the information with the SEC. For example, companies can issue a press release or furnish the information under Item 9 of Form 8-K, both of which avoid the information being treated as filed under SEC rules. Information required to be filed under the proposed amendments to Form 8-K, on the other hand, may be filed up to two business days after the announcement, but will be subject to additional liability provisions under the Securities Exchange Act of 1934 and, potentially, the Securities Act of Incorporation by Reference and Securities Act Liability The proposed filing requirement would result in earnings releases and other public announcements of financial information for completed periods being incorporated by reference into Form S-3 and other registration statements under the Securities 2

3 Act that incorporate the company s filings under the Securities Exchange Act. This will subject the information in the release or announcement to potential liability under the Securities Act, in addition to existing liability under Rule 10b-5. In light of this increased potential liability, some companies may reconsider what information they include in quarterly and annual earnings releases or other public announcements concerning historical financial information that are not currently filed with the SEC. Companies Subject to the Proposed Filing Requirement The proposed filing requirement would apply to all domestic public companies. Foreign private issuers and registered investment companies would not be subject to the proposed requirement, although foreign private issuers will remain subject to the requirements of Form 6-K, which requires them to file a Form 6-K furnishing any material information publicly issued in their home jurisdictions. Disclosure Requirements and Restrictions for Non-GAAP Financial Measures The SEC is proposing to adopt a two-part approach to regulate the public disclosure of material financial information that includes a non-gaap financial measure. The first part, proposed Regulation G, will apply to any public disclosure, whether made in writing or orally and whether or not it is filed with the SEC. The second part, proposed amendments to Regulation S-K, Regulation S-B and Form 20-F, will apply additional and more stringent requirements to periodic reports and other documents filed with the SEC that include non-gaap financial measures. Regulation G All Public Disclosures of Non-GAAP Financial Measures Whenever a company publicly discloses or releases material information that includes a non-gaap financial measure, which would be defined as described below, proposed Regulation G would require the company to: present the most comparable financial measure, calculated and presented in accordance with GAAP, and provide a quantitative reconciliation (by schedule or other clearly understandable method) of the differences between the non-gaap financial measure presented and the comparable financial measure or measures calculated and presented in accordance with GAAP. In addition, Regulation G contains a general prohibition on presenting non-gaap financial measures that, taken together with the information accompanying the presentation and any other accompanying disclosure, contains a material misstatement or material omission necessary to make the non-gaap information presented not misleading, in light of the circumstances in which the information is presented. Non-GAAP Financial Measure Defined. The SEC proposal defines a non-gaap financial measure as a numerical measure of a company s historical or future financial performance, financial position or cash flow that: excludes amounts, or is subject to adjustments that have the effect of excluding amounts, that are included in the comparable measure calculated and presented in accordance with GAAP in the company s income statement, balance sheet or statement of cash flows (or equivalent statements), or includes amounts, or is subject to adjustments that have the effect of including amounts, that are excluded from the comparable GAAP measure. The term non-gaap financial measures would include any financial measures that differ from GAAP measurements or calculations. For example, this would include: 3

4 EBITDA (earnings before interest, taxes, depreciation and amortization), FFO (funds from operations), commonly disclosed by real estate investment trusts (REITs), operating income presentations that exclude non-recurring expense or revenue items, performance or liquidity measures that are different from GAAP measures, and ratios that include components that are not calculated in accordance with GAAP. The definition of non-gaap financial measures would not include financial information that does not have the effect of providing numerical measures that are different from comparable GAAP measures. Examples given in the SEC release include: amounts of expected indebtedness or debt repayments, estimated revenues or expenses of a new product line, if the estimate is made in accordance with GAAP, and measures of profit or loss and total assets for business segments that are required to be disclosed in accordance with GAAP. Non-GAAP financial measures would also not include operating and other statistical measures (such as unit sales, numbers of employees, numbers of subscribers, or numbers of advertisers), or ratios or measures such as same-store sales or sales per square foot if they are calculated using only GAAP financial measures or are not defined as non- GAAP financial measures. Forward-Looking Information. Regulation G will require companies to provide a quantitative reconciliation for forwardlooking non-gaap financial measures if they can do so without unreasonable efforts. If this is not possible, the company must disclose that fact, explain why it cannot provide the reconciliation, provide any reconciling information that is available without unreasonable effort, and identify any unavailable information and disclose the probable significance of that information. Limited Exception for Oral, Telephonic or Webcast Announcements. If a company announces a non-gaap financial measure orally, by telephone, or by Webcast or other similar means, the company can satisfy the requirements of Regulation G by posting the required disclosure and reconciliation on its Web site, provided that the required disclosure and reconciliation is available on the company s Web site at the time the non- GAAP financial measure is made public and the location of the Web site is made public in the same presentation. Companies Subject to Regulation G. Regulation G would apply to all domestic and foreign public companies. Regulation G would provide a limited exception for foreign private issuers if (i) the securities of the issuer are listed or quoted on a securities exchange or inter-dealer quotation system outside the United States; (ii) the non-gaap financial measure and the most comparable GAAP financial measure are not calculated and presented in accordance with generally accepted accounting principles in the United States; and (iii) the disclosure is made by or on behalf of the issuer outside the United States, or is included in a written communication that is released by or on behalf of the issuer only outside the United States. Regulation G would not apply to registered investment companies. SEC Filings Additional Disclosure and Restrictions on Non-GAAP Financial Measures The SEC also proposes to amend Item 10 of Regulation S-K to require additional disclosures when companies include non- GAAP financial measures in SEC filings. The proposed amendments would apply to the same non-gaap financial measures as 4

5 proposed Regulation G, but contain additional disclosure requirements and prohibitions. The SEC proposes to adopt similar amendments to Regulation S-B, which applies to small business issuers, and Form 20-F, which applies to foreign private issuers. Required Disclosure Concerning Non-GAAP Financial Measures. The proposed Item 10 amendments would require companies that include non-gaap financial measures in SEC filings to include the following disclosure, in addition to the disclosure required by Regulation G: a presentation, with equal or greater prominence, of the most comparable GAAP financial measure, a quantitative reconciliation by schedule or other clearly understandable method of the differences between the non- GAAP financial measure and the comparable GAAP measure, a statement disclosing the purposes for which management uses the non-gaap financial measure, and a statement of the reasons why management believes the non-gaap financial measures provide useful information to investors. Prohibited Non-GAAP Financial Disclosure. In addition to these new disclosures, the proposed Item 10 amendments will prohibit specific uses and presentations of certain non-gaap financial measures, including the following: measures in a manner that gives them greater authority or prominence than the comparable GAAP financial measures, excluding charges or liabilities that required, or will require, cash settlement from non-gaap liquidity measures, adjusting non-gaap performance measures to eliminate or smooth items described as non-recurring, infrequent or unusual if the nature of the charge or gain is such that it is reasonably likely to recur, measures on the face of the company s GAAP financial statements or in the accompanying notes, measures on the face of any pro forma financial information required by Article 11 of Regulation S-X (for example, for material acquisitions and dispositions of assets and businesses), using titles or descriptions of non-gaap that are the same as, or confusingly similar to, GAAP titles or descriptions, and measures on a per share basis, such as EBITDA or FFO per share. Differences Between Proposed Regulation G and Rules for SEC Filings. There are several differences between the requirements of proposed Regulation G and the proposed Item 10 requirements for SEC filings that contain non-gaap financial measures. As currently proposed, the principal differences include the following: the requirement under item 10 to provide a quantitative reconciliation between the non-gaap financial measure and the comparable GAAP financial measure does not provide the exception included in Regulation G for instances where the reconciliation would require unreasonable efforts, Regulation G does not require companies to present the GAAP financial measure with equal or greater 5

6 prominence than the comparable non- GAAP financial measure, and Regulation G does not require companies to disclose the purposes for which management uses the non-gaap financial measure, nor why management believes the non-gaap financial measure provides useful information to investors. Effect on Earnings Press Releases. The relationship between the proposed Form 8-K filing requirement for earnings announcements and Regulation G may affect how some companies disclose non-gaap financial measures. The proposed Form 8-K amendments would require companies to file quarterly and annual earnings releases. If an earnings release contains non-gaap financial measures, the company must comply with Regulation G as well as with the proposed amendments to Item 10, either by including the additional disclosure required by Item 10 in the body of the Form 8-K or in the press release itself, which must be filed as an exhibit to the Form 8-K. However, as currently proposed, the exceptions to Regulation G and the Form 8- K filing requirement would permit a company to disclose non-gaap financial measures orally during earnings conference calls or Webcasts and post the non-gaap financial measures, together with the Regulation G disclosure and reconciliations, on its Web site. Under these circumstances, the company would be required to (i) file the earnings release with the SEC and (ii) comply with Regulation G when it disclosed the non-gaap financial measures, but it would not be required to file the non-gaap financial information with the SEC and therefore would not be required to comply with the additional restrictions on non- GAAP financial measures required by Item 10. Of course, as described above, companies must still comply with Regulation FD when they conduct conference calls, Webcasts or other similar presentations at which material non-public information may be disclosed. It is not clear whether the final rules will retain the differences in treatment of non-gaap financial measures contained in SEC filings compared to non-filed materials. Companies Subject to the Proposed Disclosure Requirements. The proposed disclosure requirements and restrictions on non-gaap financial measures in SEC filings would apply to all domestic and some foreign companies. The exception for foreign private issuers is different from the exception provided in Regulation G, and more limited. The proposed disclosure requirements would apply to non-gaap financial measures in filings by foreign private issuers unless the non-gaap financial measure is (i) expressly permitted by the generally accepted accounting principles used in the company s primary financial statements and (ii) contained in the company s annual report for its home jurisdiction or market. The proposed amendments would not apply to Canadian filers that file Form 40-F, nor would they apply to registered investment companies. The Corporate Governance, Securities Litigation and M&A attorneys at Goodwin Procter keep current on these matters. We are available to help advise public companies and their officers and directors on specific issues as well as to provide educational presentations to help them understand and meet their responsibilities under both current and proposed rules and regulations. Please feel free to contact us either directly or through your regular Goodwin Procter contact if we may be of assistance. An index of all articles on Sarbanes-Oxley prepared by Goodwin Procter is available at: Stephen W. Carr, P.C. scarr@goodwinprocter.com John T. Haggerty, Esq. jhaggertt@goodwinprocter.com James A. Matarese, P.C. jmatarese@goodwinprocter.com John O. Newell, Esq. jnewell@goodwinprocter.com This publication, which may be considered advertising under the ethical rules of certain jurisdictions, is provided with the understanding that it does not constitute the rendering of legal advice or other professional advice by Goodwin Procter LLP or its attorneys Goodwin Procter LLP. All rights reserved.