Recommendations of SEC Advisory Committee on Smaller Public Companies1
Scaling Securities Regulation for Smaller Companies
Internal Control Over Financial Reporting
Unless and until a framework for assessing internal control over financial reporting for such companies is developed that recognizes their characteristics and needs, provide exemptive relief from Section 404 requirements to microcap companies with less than $125 million in annual revenue, and to smallcap companies with less than $10 million in annual product revenue, that have or add corporate governance controls that include:
Unless and until a framework for assessing internal control over financial reporting for such companies is developed that recognizes their characteristics and needs, provide exemptive relief from external auditor involvement in the Section 404 process to the following companies, subject to their compliance with the same corporate governance standards as detailed in the recommendation above:
While we believe that the current costs of the requirement for an external audit of the effectiveness of internal control over financial reporting are disproportionate to the benefits, and have therefore adopted Recommendation III.P.2 above, we also believe that if the Commission reaches a public policy conclusion that an audit is required, we recommend that changes be made to the requirements for implementing Section 404’s external auditor requirement to a cost-effective standard, which we call “ASX,” providing for an external audit of the design and implementation of internal controls.
Provide, and request that COSO and the PCAOB provide, additional guidance to help facilitate the assessment and design of internal controls and make processes related to internal controls more cost-effective; also, assess if and when it would be advisable to reevaluate and consider amending AS2.
5.1 The Commission should ask COSO to provide additional guidance to help management of smaller companies assess internal controls because of the lack of practical guidance and the absence of a standard to enable management of smaller companies to address internal control. The Commission could, for example, ask COSO to:
In order to provide this clarification and encouragement, the Commission could, for example:
Determine the necessary structure for COSO to strengthen it in light of its role in the standard-setting process in internal control reporting.
Capital Formation, Corporate Governance and Disclosure
Incorporate the scaled disclosure accommodations currently available to small business issuers under Regulation S-B into Regulation S-K, make them available to all microcap companies, and cease prescribing separate specialized disclosure forms for smaller companies.
Incorporate the primary scaled financial statement accommodations currently available to small business issuers under Regulation S-B into Regulation S-K or Regulation S-X and make them available to all microcap and smallcap companies.
Allow all reporting companies on a national securities exchange, NASDAQ or the OTCBB to be eligible to use Form S-3, if they have been reporting under the Exchange Act for at least one year and are current in their reporting at the time of filing.
Adopt policies that encourage and promote the dissemination of research on smaller public companies.
10.1 Maintain policies that allow company-sponsored research to occur with full disclosure by the research provider as to the nature of the relationship with the company being covered. Entities providing such research should disclose and adhere to a set of ethical standards that ensure quality and transparency and minimize conflicts of interest.
10.2 Continue to permit “soft dollar” payments (i.e., the use of client commissions to pay for research services) under the safe harbor provisions of current Exchange Act Section 28(e), as amplified by guidance set forth in SEC Release No. 34-52635.
Adopt a new private offering exemption from the registration requirements of the Securities Act that does not prohibit general solicitation and advertising for transactions with purchasers who do not need all the protections of the Securities Act’s registration requirements. Additionally, relax prohibitions against general solicitation and advertising found in Rule 502(c) under the Securities Act to parallel the “test the waters” model of Rule 254 under that Act.
Spearhead a multi-agency effort to create a streamlined NASD registration process for finders, M&A advisors and institutional private placement practitioners.
Amend SEC Rule 12g5-1 to interpret “held of record” in Exchange Act Sections 12(g) and 15(d) to mean held by actual beneficial holders.
13.1 Do not factor in employee stock options received in compensatory transactions in determining the point an issuer becomes subject to the burdens of a reporting company under the Exchange Act.
Make public information filed under Rule 15c2-11.
Form a task force, consisting of officials from the SEC and appropriate federal bank regulatory agencies to discuss ways to reduce inefficiencies associated with SEC and other governmental filings, including synchronizing filing requirements involving substantially similar information, such as financial statements, and studying the feasibility of extending incorporation by reference privileges to other governmental filings containing substantially equivalent information.
Allow companies to compensate market-makers for work performed in connection with the filing of a Form 211, with full disclosure of such compensation arrangements.
Evaluate upgrades or technological alternatives to the EDGAR system so that smaller public companies can make their required SEC filings without the need for third party intervention and associated costs.
Make it easier for microcap companies to exit the Exchange Act reporting system.
Increase the disclosure threshold of Securities Act Rule 701(e) from $5 million to $20 million.
19.1 In the alternative, eliminate or modify significantly the financial statement disclosure requirements if (1) options are non-transferable except by law and (2) options may only be exercised on a “net” basis with no employee funds paid to the issuer/employer.
Extend the “access equals delivery” model to a broader range of SEC filings.
Shorten the integration safe harbor from six months to 30 days.
Clarify the Sarbanes-Oxley Act Section 402 loan prohibition.
Clarify the interpretation of or amend the language of the Rule 152 integration safe harbor to permit a registered initial public offering to commence immediately after the completion of an otherwise valid private offering the stated purpose of which was to raise capital with which to fund the IPO process.
Develop a “safe-harbor” protocol for accounting for transactions that would protect well-intentioned preparers from regulatory or legal action when the process is appropriately followed.
In implementing new accounting standards, the FASB should permit microcap companies to apply the same extended effective dates that it provides for private companies.
Consider additional guidance for all public companies with respect to materiality related to previously issued financial statements.
Implement a de minimis exception in the application of the SEC’s auditor independence rules.
Together with the PCAOB and the FASB, promote competition and reduce the perception of the lack of choice in selecting audit firms by using their influence to include non-Big Four firms in committees, public forums, and other venues that would increase the awareness of these firms in the marketplace.
Formally encourage the FASB to continue to pursue objectives-based accounting standards. In addition, simplicity and the ease of application should be important considerations when new accounting standards are established.
Require the PCAOB to consider minimum annual continuing professional education requirements covering topics specific to SEC matters for firms that wish to practice before the SEC.
Monitor the state of interactions between auditors and their clients in evaluating internal controls over financial reporting and take further action to improve the situation if warranted.
1 This list was prepared by the staff of the U.S. Securities and Exchange Commission based on the Final Report of the Advisory Committee. In addition to the recommendations set forth in the text, which are from the body of the Final Report, the Advisory Committee also made the following two recommendations in a letter to SEC Chairman Christopher Cox dated August 17, 2005, which is included as Appendix C to the Final Report:
(1) The Commission [should] further extend . . . compliance dates [for non-accelerated filers to comply with the filing requirements under Section 404 of the Sarbanes-Oxley Act], as follows:
A. A company that is a non-accelerated filer should begin to comply with the management report on internal control over financial reporting requirement and the related registered public accounting firm report requirement in Items 308(a) and (b) of Regulations S-K and S-B for its first fiscal year ending on or after July 15, 2007, instead of its first fiscal year ending on or after July 15, 2006.
B. If necessary, corresponding extensions should also be made to the application of Exchange Act Rules 13a-14(a) and 15d-14(a) as well as to the amended portion of the introductory language in paragraph 4 of the certification required by Exchange Act Rules 13a-14(a) and 15d-14(a).
(2) Smaller public companies [should] not be subject to any further acceleration of due dates for annual and quarterly reports under the 1934 Act; and
In implementing the foregoing recommendation, the Commission should look for guidance in defining the term “smaller public company” to the definition of that term adopted by the Advisory Committee, by a vote of 14 to 0 with one abstention, as an internal working definition to provide an umbrella definition under which the Advisory Committee’s four subcommittees can bring forth recommendations that are meaningful for their specific purposes.