SEC Securities Disclosure: Background and Policy Issues

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June 25, 2019
Securities Disclosure: Background and Policy Issues
Disclosure requirements are the cornerstone of federal
Source: CRS.
securities regulation. One of the key federal securities laws,
the Securities Act of 1933 (P.L. 73-22), is often referred to
Nonpublic SEC-Only Disclosure
as the “truth in securities” law. As this name suggests, the
The SEC also requires companies to make certain
1933 act focuses on disclosure, specifically requiring
nonpublic, SEC-only disclosures, which allow the SEC to
companies offering securities, such as stocks or bonds, for
monitor risks and inform certain research, while keeping
public sale to provide truthful information about these
the information confidential. The SEC normally does not
securities and the risks associated with investing in them.
make nonpublic information identifiable to any particular
Similarly, the Securities Exchange Act of 1934 (P.L. 73-
registrant, although it could release certain information in
291), requires companies with publicly traded securities to
the aggregate and use the information in enforcement
periodically report certain information on an ongoing basis.
actions.
The disclosure-based regulatory philosophy is consistent
with Supreme Court Justice Louis Brandeis’s famous quote,
Principles of SEC Disclosure
“sunlight is said to be the best of disinfectants; electric light
Requirements
the most efficient policeman.” In practice, transparency
In remarks to the SEC Investor Advisory Committee on
through disclosure seeks to inform investors and
February 6, 2019, SEC Chair Jay Clayton summarized five
policymakers and enables market mechanisms to price risk
principles in which he believes the SEC’s disclosure
and deter fraud. This In Focus provides background on the
requirements must be rooted:
Securities and Exchange Commission’s (SEC’s) disclosure

regime and analyzes selected relevant policy issues.
Materiality—In 1976, the Supreme Court in TSC
Industries, Inc. v. Northway, Inc
. defined information as
Background
material if “there is a substantial likelihood that a
The SEC is the primary regulator overseeing the securities
reasonable shareholder would consider [the information]
important in deciding how to vote.”
markets, including enforcing securities disclosure
requirements. The SEC requires issuers offering and selling

securities to either register with the SEC and comply with
Comparability—standardized financial reporting
requirements.
disclosure requirements (i.e., public offerings), or obtain an
exemption from certain registration requirements (i.e.,

private offerings). The SEC also requires issuers to make
Flexibility—the view that requirements that are too
rigid can lead to “superfluous, and in some cases,
certain nonpublic disclosures. For more details, see CRS
misleading disclosure.”
Report R45221, Capital Markets, Securities Offerings, and
Related Policy Issues
, by Eva Su.
Efficiency—generally, finding the rule that is “most
Public Disclosure
effective with the least cost.”
Public disclosures are publicly accessible through the
Responsibility (or liability)—the view that rules have
SEC’s online portals. When companies fundraise through
little long-term value if they cannot be effectively
public securities offerings, the SEC requires that the
enforced.
companies disclose certain information, including financial
statements, business risks and prospects, a description of
Materiality is one of the most important principles
the stock to be offered for sale, and the management team
and their compensation. Table 1 lists three types of forms
governing public securities disclosure. In general, federal
securities laws require that issuers disclose to investors all
that the SEC requires publicly traded companies to file
periodically and as major events occur.
material information they need to make sound investment
decisions. Federal securities laws provide that investors
Table 1. Examples of Public Company Disclosure
harmed by misleading statements or the omission of
material facts can seek a remedy through litigation. To be
Form
Content
effective, securities disclosures would neither be so
10-K
Annual reports of a company’s business and financial
restrictive that they omit essential information, nor be so
conditions and audited financial statements.
voluminous that they create information overload or
exhaust resources with irrelevant information.
10-Q
Quarterly reports for the first three fiscal quarters of
the year that include a company’s unaudited financial
The concept of materiality has posed challenges for
statements and financial conditions.
regulators and companies, as it can be difficult to apply
consistent standards at the individual company level in
8-K
Current reports to announce major events
some circumstances. The SEC affords some discretion to
shareholders should know about.
companies through a principles-based approach to
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Securities Disclosure: Background and Policy Issues
materiality, which provides some flexibility for companies
Disclosure requirements for smaller firms. Some
to make decisions on what to disclose on a case-by-case
question whether disclosure requirements should be the
basis. Nevertheless, the lack of a “bright line” about what
same or different for firms of different sizes and with
exactly must be disclosed across all situations can present
varying capabilities to absorb compliance costs. The IPO
challenges for both investors and companies. From a
Task Force, an independent group of financial
regulatory perspective, it is difficult, if not impossible, to
professionals, estimated that, in 2011, public companies
provide a clear rule as to what information might be
spent an average of about $2.5 million to comply with SEC
material in all situations. As such, companies may struggle
disclosure and other IPO compliance requirements, with
at times in determining what to disclose.
annual ongoing compliance costs of $1.5 million per
company. Reports suggest that such high costs disadvantage
Policy Issues
smaller companies. The Jumpstart Our Business Startups
This section discusses several selected ongoing policy
Act (JOBS Act; P.L. 112-106), enacted in 2012, reduced
debates over securities disclosure. Some characterize the
disclosure requirements for certain types of securities
central issue as striking a balance between requiring
offerings. However, concerns exist that smaller companies
disclosure that is consistently material and useful on the one
continue to face challenges in accessing capital. To address
hand, and that can be provided in a cost-effective and
these concerns, Congress has considered numerous
justified manner on the other.
legislative proposals to further customize disclosure
requirements for offerings of different sizes and purposes,
Disclosure content. Policy debates often relate to the
with some proposals building on existing JOBS Act
content of securities disclosures. For example, attention has
provisions. The most notable of these proposals was the
recently focused on what types of disclosures companies
JOBS and Investor Confidence Act of 2018 (JOBS Act 3.0;
should make related to environmental, social, and
House amended S. 488 in 115th Congress).
governance (ESG) issues, particularly workers’ rights and
diversity. Thus, several proposals discussed in the 116th
Disclosure style and format. Investors’ preferences for
Congress would require a public company to disclose, for
disclosure may differ depending on whether they are retail
example, its total number of domestic and foreign
or institutional investors. One important trend in the asset
employees; human capital management; executive and
management industry relates to how investors have shifted
nonexecutive pay raises; policies on whether executives
from investing directly for themselves to investing
bear the costs of company fines; board diversity (H.R. 3279
indirectly through the use of institutional money managers.
and H.R. 1018); cybersecurity (S. 592); and financial
Because the current investor base is mostly institutional,
relationships with firearms or ammunitions activities (H.R.
some argue that the SEC’s disclosure requirements should
2364).
move toward data standardization and machine readability.
Others argue that public disclosure should be in plain
Disclosure quality and information overload. As
English for retail investors. In the 116th Congress, the SEC
disclosure requirements and related costs have generally
Disclosure Effectiveness Testing Act (H.R. 1815) would
increased over time, questions have arisen over whether
require the SEC, when developing rules and regulations
disclosed information is readable and understandable to
about disclosures to retail investors, to conduct investor
investors. For example, Walmart’s initial public offering
testing, including a survey and interviews of retail
(IPO) prospectus in 1970 totaled fewer than 30 pages,
investors.
compared with Uber’s 2019 IPO filing of around 420 pages.
Current policy debates question whether the current
Disclosure delivery method. A final policy question
disclosure regime leads to information overload—that is,
concerns whether securities disclosure materials should be
whether the high volume of disclosure makes it difficult for
distributed digitally or on paper by default. After long-
investors to find the most relevant information. The SEC
standing policy debate, in 2018, the SEC adopted Rule 30e-
has launched recent initiatives to simplify disclosure, for
3 to allow certain investment funds to transmit shareholder
example, issuing a final rule regarding “Disclosure Update
reports digitally as the default option. Opponents, including
and Simplification,” effective November 15, 2018.
the paper industry, voiced concerns that the rule
disadvantages elderly and rural investors, who they argue
Disclosure frequency. Policy debates have also focused on
are more accustomed to paper reading and may have less
how frequently public companies are required to file reports
access to the internet. Supporters highlighted the
with the SEC. The frequency of reporting could affect
environmental and economic benefits, including that the
investors’ access to information as well as companies’
Investment Company Institute estimated the move would
ongoing compliance costs. In the 115th Congress, bills were
save $2 billion in printing and mail costs over a 10-year
introduced that would have directed the SEC to study the
period, and they would like to see such digital-first options
costs and benefits of 10-Q quarterly reporting, especially to
applied more broadly.
smaller issuers (S. 488 and H.R. 5970). Proponents of
reducing the frequency of quarterly reporting argue that in
Eva Su, Analyst in Financial Economics
addition to the costs involved, it distracts from companies’
longer-term strategies. Opponents of reduction are
IF11256
concerned about potential negative effects on financial
transparency and investor protection. In December 2018,
the SEC issued a request for public comment on the nature
and timing of 10-Q reporting.
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Securities Disclosure: Background and Policy Issues


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