The titans of Corporate America might grab all the headlines in their dealings with the Securities and Exchange Commission, but take heart, non-accelerated filers—the SEC has some words of wisdom for you, too.

The agency's Division of Corporation Finance has published its latest batch of guidance for small filers, a 54-slide summary of filing errors and issues common to non-accelerated filers. The guidance (formally dubbed “SEC CF Staff Review of Common Financial Reporting Issues Facing Smaller Issuers,”) is the result of a year of participating in public forums alongside the Public Company Accounting Oversight Board, and it is available on the SEC Website.

“Our goal is to help companies get it right the first time, before they file the Form 10-K. That saves time for us and for the company,” says Angela Crane, associate chief accountant at the Division of Corporation Finance. In addition to flagging troublesome areas, the slides also include information on the organizational structure of the SEC, as well as contact information. 

Smaller reporting companies, and particularly micro-cap companies, often lack in-house public company expertise, and even their outside counsel may not be used to working with public companies, says Paul Chestovich, a partner with the Minneapolis-based law firm of Maslon Edelman Borman & Brand. Moreover, many small-company executives struggle to find the time to learn the nuances of SEC filing.

One example of life at a small public company: Many such filers don't have lots of spare cash to pay executives or outside consultants, and instead use stock-based compensation. There's nothing inherently wrong in that, Chestovich notes, but it does make SEC filings more complex.

Some of the other trouble spots identified by the SEC include:

Management Discussion and Analysis. While the slides are geared to smaller companies, MD&A is an area that tends to present challenges for all sizes of companies, experts say. “Usually, it just parrots the numbers,” Chestovich says. “They don't explain what, in the future, may make the numbers go up or down.”

The SEC is looking for some sense of trends that may affect results. To be sure, making such disclosures is a double-edged sword, as it involves some element of estimating, says Jeffrey Ott, a corporate securities lawyer at the law firm of Warner Norcross & Judd, in Grand Rapids, Mich.

One approach that worked for some banks over the past few years when discussing potential loan losses: highlighting the poor economy, and then state that when the economy hits a rough patch, people tend to lose their jobs. That makes it harder for them to pay off their loans and can lead to loan losses. That sort of narrative is what the SEC is looking for, Ott says. 

MD&A discussion of liquidity is another area of SEC interest, according to the slides. “The registrant should discuss how it funds its operations by considering what its significant expenses are and how it pays those expenses.” It's not enough to state that the company has a revolving line of credit, Ott says. “The SEC wants more flavor: ‘What are the bills, and how will we pay them?' ”

Reverse Mergers and Back-Door Registrations. The SEC particularly dislikes reverse mergers and back-door registrations, as some companies have used these transactions to circumvent the initial public offering registration process, Ott says. And by the time the SEC reviews the transactions, they've already been consummated and Form 8-Ks announcing the deal have been filed. “It's not surprising that this is an area where they're super-sensitive,” Ott adds.

Moreover, company insiders, who typically have information on a merger before it occurs, often receive a large share of the resulting stock, Chestovich says. “There's an information imbalance. It's a classic situation that's ripe for fraud.”

“This is good information that the SEC is putting out. Being tapped into this information is a form of best practice.”

—Dan Noll,

Director of Accounting Standards,


The SEC has determined that investors in operating companies newly merged with shell companies should receive the same level of information as is provided by reporting companies that didn't start as shells, the presentation says. That means the companies “are required to include equivalent information as if they were registering under the Exchange Act.”

Business Combinations. Because the identity of an acquirer may not be clear from transaction terms, management is expected to fully evaluate all factors in making the determination, the SEC slides note. These include any disparity between the companies when it comes to the rights of all parties, including management, the board and shareholders, to the transaction, and how those rights interact.

If a disproportionate amount of the purchase price is allocated to goodwill, expect the SEC to ask more questions. This is particularly true when other intangible assets have been acquired, but no fair value assigned, according to the slides.

Predecessor Financial Statements. When one company assumes substantially all the operations of another business, that acquiring company is its predecessor. The SEC expects audited financial statements of both the predecessor and successor entities for the period of time required by Regulation S-X, the slides state.


The following excerpt from the SEC's report on smaller reporting companies contains best practices for resolving issues with filings.

It is helpful when registrants take the time to prepare a thorough response. A good response focuses on the specific questions asked by the CF Staff, yet is sufficiently robust to allow the CF Staff to fully understand the accounting and/or disclosure in question. If you amended your filing, please tell us where the revised disclosure is located in the filing in your response letter. If you are asked to revise your disclosure in future filings, in some situations, we may request an understanding of how you plan to revise your disclosure to satisfy our comment. If the CF Staff has asked a question on the registrant's basis for a particular accounting treatment, it is helpful for the registrant to refer to any specific literature in GAAP that it relied upon to reach its conclusions. Providing a detailed and complete explanation to the CF Staff in response to the initial comment letter may lessen the likelihood of future comments or at least narrow the scope of the issue. All of this can minimize the number off comments and comment letters issued.

Our comment letters request that you respond to the letter within ten business days. If you are unable to respond within this timeframe, please call us to discuss a potential extension. In some circumstances we may ask to have the extension request in writing and submitted to EDGAR.

It may be easier to respond to comments if you have documented your significant accounting decisions contemporaneously with the literature you relied upon, the alternatives considered, and the basis for your conclusions. Going through this process at the time of the transaction will allow you to respond more efficiently and effectively to CF Staff comments.

All correspondence must be filed on Edgar. If you don't want certain parts of your response to be released, consider discussing with your legal counsel how to request confidential treatment of a portion of your response under Rule 83. Companies are allowed to request that certain information receive confidential treatment, but you can't request that too much or all of your response be provided to us confidentially. Check our website, which includes helpful information about requesting confidential treatment.

Source: SEC.

Disclosure Controls and Procedures. Given that microcap stocks have been disproportionately involved in cases of fraud, the SEC has made a point of focusing on their disclosures, Chestovich says.

The SEC slides remind readers that the term “disclosure controls and procedures” encompasses a broader range of functions than “internal control.” Internal controls deal with whether the numbers in the financial statements are accurate, while disclosure controls refer to reporting them correctly to the SEC on a timely basis, Ott says. So, a company's internal control can be effective, while its disclosure controls are found inadequate.

Internal Control Over Financial Reporting. Companies explicitly must state whether their controls are or aren't effective; they can't include qualifiers or limitations, Ott says. For instance, saying that a company's controls are adequate doesn't cut it, he adds.

In addition, disclosures of material weaknesses should include a sense of how pervasive the problem is, the SEC presentation says. So a disclosure of a weakness in accounts receivable should address any effect this could have on other line items in the financial statements.

Form 8-K. A number of issues can prompt questions here. For instance, the SEC may ask for more information about a change in accountants and may comment if the letter signed by the former accountant isn't filed in a timely manner. And if the company has concluded that previous financial statements can't be relied on (Item 4.02), it must provide a description of the circumstances that led to the conclusion, the SEC says.

Along with a rundown of the areas of concern, the presentation includes information on ways to contact SEC via phone or an online form. Moreover, the SEC doesn't require callers to provide their names for casual phone calls, Crane says. “We want to encourage people to call, read, and watch the Website.”

“The SEC is pretty responsive,” Chestovich adds, noting that he's both called and used the online form on several occasions. Given the ease with which one can contact the SEC, it usually makes sense to run questions by them, rather than simply making assumptions, he adds.

The PCAOB is planning to issue its schedule of 2012 forums on auditing in the small-business environment for 2012 within the next week or two, according to a spokesperson; the SEC participates as a speaker. The forums are available at no cost and geared to auditors of smaller reporting companies.

“This is good information that the SEC is putting out,” says Dan Noll, director of accounting standards with the American Institute of Certified Public Accountants. A reader can review the slides fairly rapidly, he says, and get a sense for whether any of the issues apply, and whether his or her firm has the expertise needed to deal with them. “Being tapped into this information is a form of best practice,” Noll adds.