Despite what your parents may have taught you, “please” is not always a magic word. When Securities and Exchange Commission (or any other regulator, for that matter) asks for information, even the most polite letter or casual phone call can be problematic.
That is all the more true with the SEC’s “informal” requests for information, such as the agency’s latest inquiries asking companies to provide any non-disclosure agreements they may have with employees. The SEC is nosing around to determine whether any such agreements could be considered the threat of retaliation against whistleblowers. Similar data hunts have focused on how companies use general solicitation for private offerings and internal cyber-security efforts.
Nothing is formal; the SEC hasn’t disclosed which companies might have received an inquiry or how even many there are. Technically, informal requests don’t even presume the existence of any problem in the first place—they are ostensibly intended to help the SEC assess and develop rulemaking.
Such is life with SEC informality, and its guidance can fall into that same grey area as well. When Chairman Mary Jo White recently issued a moratorium on no-action letters addressing competing proxy access proposals, the move underscored what many knew but may have lost sight of: These staff opinions are little more than that—an opinion—and are trumped by the courts.
Expect more of these information requests in the future because of the SEC’s increasing reliance on data gathering. "The SEC and FINRA are taking a more data-driven approach to regulation,” says Eliza Sporn Fromberg, counsel with the law firm Day Pitney. “It’s easier now because companies are getting more sophisticated when it comes to archiving their records. It is less burdensome than it used to be to collect policies and procedures for multiple years instead of looking for paper files when people were throwing away old versions. You can now track the evolution of policies more easily.””
Fromberg’s advice is to treat any request by a regulator as if it were formal. “You simply don’t know where things may go,” she says. “It is certainly better to be safe than sorry. Certainly, the regulator would prefer a more organized, thoughtful response than just dumping tons of non-disclosure agreements on them and saying, ‘Here you go.’”
When receiving a request, a company should survey anyone who has a connection to the sought-after data to understand what it will take to comply and if there are any pitfalls. If questions arise, contact the regulator.
“It is easier to collect policies and procedures for multiple years instead of looking for things on paper when people were throwing away old versions. You can now track the evolution of policies more easily.”
Eliza Sporn Fromberg, Counsel, Day Pitney
“If it is something that is very burdensome or very broad, you should feel comfortable discussing it with them and consider how you propose to get them the information they are seeking in a narrower fashion,” Fromberg says. If a potential red flag is discovered when gathering the data, swift action should be taken to remedy the problem and communicate what you found to the SEC. “Don’t wait for the regulators to come in and say there is a problem,” she says, “show them that you are trying to fix the problem before they have identified it for you.”
Cooperation with the SEC may be in a company’s best interest, but compliance has to be carefully planned and considered, says Marc Powers, the national leader of the Securities Litigation & Regulatory Enforcement practice at the law firm BakerHostetler. No matter how friendly the voice on the other end of the phone may be, or how cordial a letter is, regulators are not paid to be your friend. “If it is an enforcement group, their primary goal is to ferret out wrongdoing from whatever the situation," he says.
“The bottom line is that if you are a regulated entity [such as a bank or broker-dealer],you need to give them what they ask for,” Powers adds. “But give them exactly what they ask for. It is no different than if you were asked to testify. You don’t needlessly volunteer things that haven’t been asked about unless, under exceptional circumstances, there is a necessity to fully explain a matter that might otherwise appear to be some sort of violation and to demonstrate that it is not.”
Powers’ roadmap for compliance: discern whether it is an informal request or a formal investigation; involve counsel; gather information on the nature of the inquiry; narrow the request; and negotiate the timeline. The last item is particularly important, he says. The SEC may want to start scheduling a call or meeting within 48 hours when a reasonable timeline from the company’s point of view is several weeks.
“You want to be thoughtful and deliberative and not just automatically react and say things,” he says. “This is not because you are trying to hide anything or because you want to be untruthful. You need time to collect your thoughts, review documents, and refresh your recollection. You want to be able to answer the questions truthfully and properly.”
BE CAUTIOUS WITH SPEECHES
Daniel Murdock, the Securities and Exchange Commission’s deputy chief accountant, also addressed the topic of staff speeches at the American Institute of CPAs’ annual conference in December. The following is a an excerpt from those remarks.
Just as we remain focused on enhancing financial reporting transparency, we acknowledge that speeches are one avenue for providing transparency into our current thinking around some of the more complex and judgmental areas of accounting. In addition, as issues are brought to our attention through consultations, it is possible that our views will evolve as we consider them.
With that being said, some of you may nevertheless be tempted to apply our speeches to your fact pattern without a thoughtful consideration for the context for our remarks and how your specific facts and circumstances may be different. I caution you, however, in placing too much reliance on staff speeches at a conference in arriving at your accounting conclusions. At the risk of stating the obvious, you are responsible for your accounting and your judgments. Just as accounting firm manuals are updated as authoritative literature changes and new fact patterns are evaluated, the staff’s thoughts also evolve over time as issues are brought to our attention or circumstances change. And when they do, we have a responsibility to provide transparent communication of these views.
Non-authoritative guidance is just that–non-authoritative; we will continue to challenge non-authoritative guidance that we feel is inconsistent with GAAP as we become aware of it. Remember, there is no substitute for a thoughtful, researched analysis that, when available, includes an understanding of what the standard setters sought to achieve.
Just as an SEC request for information may be informal, the guidance it provides can also straddle the line between the suggestive and actionable. On a weekly basis, commissioners and staff speak at a variety of conferences and events, their words prefaced by a standard disclaimer that what they say is of their own accord and may not reflect the views of the agency. The intent of these speeches is often to help companies understand a rule, regulation, or desired practice better. So is the advice all that useful if it comes with an upfront caveat?
Public statements and conference speeches, despite their nebulous nature, are important, Frozberg says. “The informal guidance we get from regulators is very helpful in providing a sense of how far a firm can feel comfortable going beyond the black-letter guidance or law,” she says.
When a company bases a decision on something gleaned from a speech, make sure the rationale for doing so is documented. “Since it is certainly a grey area, I think the regulators may be more forgiving if a firm has thought through an issue, sought the advice of counsel, and in reasonable reliance upon this guidance made a decision,” she says, “as opposed to simply going off and being a cowboy.”
At the recent SEC Speaks conference sponsored by the Practising Law Institute, Daniel Murdock, the SEC’s deputy chief accountant, addressed the conundrum. “We understand that people want to know what we are working on and what we are thinking,” he said. “But with that comes a risk … When speeches tend to illustrate how we think the literature works, how sections work with one another, and certain key things to look at, those are all good and will probably stand the test of time.”
To the extent a speech may lay out what some perceive as a bright line, everyone should understand that the facts and circumstances may not uniformly apply to all, he added.
Murdock’s suggestion is, first and foremost, that speeches should have a shelf life of only five years. Any perceived guidance contained within them should be disregarded after that expiration date. He also stressed that there is a time and a place to rely on speeches, and accounting procedures may not be one of them. “They are intended to be educational; they are not intended to be, by any means, something to rely upon for your accounting.”
“Our objective in sharing these views is not to provide absolute answers,” he added.