Staff Legal Bulletin No. 5 (CF/IM)
Revised January 12, 1998
Action: Publication of Divisions of Corporation Finance and Investment Management Staff Legal Bulletin
Summary: The Divisions remind public operating companies, investment advisers, and investment companies to consider their disclosure obligations relating to anticipated costs, problems and uncertainties associated with the Year 2000 issue. This Bulletin, originally issued on October 8, 1997, is revised to provide more specific guidance under the existing Commission rules and regulations due to the importance of the Year 2000 issue and some uncertainty expressed by members of the accounting and legal professions regarding what should be disclosed.1
Supplementary Information: This legal bulletin represents the Divisions' staff views. This bulletin is not a rule, regulation, or statement of the Securities and Exchange Commission. Further, the Commission has not approved or disapproved its content.
Contact Person: For further information, please contact Broc Romanek regarding public operating companies at (202) 942-2900 and Anthony Vertuno regarding investment companies and investment advisers at (202) 942-0591.
I. The Year 2000 Issue
Many existing computer programs use only two digits to identify a year in the date field. These programs were designed and developed without considering the impact of the upcoming change in the century. If not corrected, many computer applications could fail or create erroneous results by or at the Year 2000. The Year 2000 issue affects virtually all companies and organizations.2
II. Disclosure by Public Companies Regarding the Year 2000 Issue
Many companies must undertake major projects to address the Year 2000 issue. Each company's potential costs and uncertainties will depend on a number of factors, including its software and hardware and the nature of its industry. Companies also must coordinate with other entities with which they electronically interact, both domestically and globally, including suppliers, customers, creditors, borrowers, and financial service organizations. If a company does not successfully address its Year 2000 issues, it may face material adverse consequences. Companies should review, on an ongoing basis, whether they need to disclose anticipated costs, problems and uncertainties associated with Year 2000 consequences, particularly in their filings with the Commission. Public companies may have to disclose this information in Commission filings because:
The following is a discussion of certain requirements.
Management's Discussion and Analysis of Financial Condition and Results of Operations
Companies should include disclosure in their "Management's Discussion and Analysis of Financial Condition and Results of Operations" 4 if:
Description of Business
If Year 2000 issues materially affect a company's products, services, or competitive conditions, companies may need to disclose this in their "Description of Business."5 In determining whether to include disclosure, companies should consider the effects of the Year 2000 issue on each of their reportable segments.
A company's Year 2000 costs or consequences may reach a level of importance that prompts it to consider filing a Form 8-K. At their option, companies would file these reports under Item 5 of Form 8-K. In considering whether to file a Form 8-K, companies should be particularly mindful of the accuracy and completeness of information in registration statements filed under the Securities Act that incorporate by reference Exchange Act reports, including Form 8-Ks.6
The Emerging Issues Task Force considered the issue of how to properly reflect the costs of modifying computer software for Year 2000 projects in the financial statements. In July 1996, the EITF concluded that these costs should be charged to expense as they are incurred.7
Specific Disclosure Considerations
If a company determines that it should make Year 2000 disclosure, the applicable rules or regulations should be followed. If a company has not made an assessment of its Year 2000 issues or has not determined whether it has material Year 2000 issues, the staff believes that disclosure of this known uncertainty is required. In addition, the staff believes that the determination as to whether a company's Year 2000 issues should be disclosed should be based on whether the Year 2000 issues are material to a company's business, operations, or financial condition, without regard to related countervailing circumstances (such as Year 2000 remediation programs or contingency plans). If the Year 2000 issues are determined to be material, without regard to countervailing circumstances, the nature and potential impact of the Year 2000 issues as well as the countervailing circumstances should be disclosed. As part of this disclosure, the staff expects, at the least, the following topics will be addressed:
The disclosure must be reasonably specific and meaningful, rather than standard boilerplate.
Foreign private issuers also should follow this guidance. In particular, these issuers should consider the disclosure requirements of Form 20-F, Item 1 ("Description of Business") and Item 9 ("Management's Discussion and Analysis of Financial Condition and Results of Operations").
III. Disclosure by Investment Companies and Investment Advisers Regarding the Year 2000 Issue
Under the Investment Advisers Act of 1940 and the Investment Company Act of 1940, investment advisers and investment companies may be required to make appropriate disclosure to clients and shareholders if operational or financial obstacles are presented by the Year 2000 issue. Disclosure of the Year 2000 issue is necessary if it is materially misleading to shareholders to omit the information.
The Investment Company Act provides that it is unlawful for investment companies to omit from registration statements and other public filings "any fact necessary in order to prevent the statements made therein, in light of the circumstances under which they were made, from being materially misleading."8 Open-end investment companies ("mutual funds") are required by Item 5(b) of Form N-1A to describe in their registration statements the experience of their investment advisers and the services that the advisers provide. In response to this item, investment companies may need to disclose the effect that the Year 2000 issue would have on their advisers' ability to provide the services described in their registration statements.
The anti-fraud provisions of the Investment Advisers Act generally impose on investment advisers an affirmative duty, consistent with their fiduciary obligations, to disclose to clients or prospective clients, material facts concerning their advisory or proposed advisory relationships. 9 If the failure to address the Year 2000 issue could materially affect the advisory services provided to clients, an adviser that will not be able to or is uncertain about its ability to address Year 2000 issues has an obligation to disclose such information to its clients and prospective clients. This disclosure must be made in a timely manner so that the clients and prospective clients may take steps to protect their interests.
Investment companies and investment advisers that determine that Year 2000 disclosure is required also should follow the guidelines under "Specific Disclosure Considerations" discussed above.