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U.S. Securities and Exchange Commission

SEC Proposes Measures to Enhance Short-Term Borrowing Disclosure to Investors


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Washington, D.C., Sept. 17, 2010 — The Securities and Exchange Commission today voted unanimously to propose measures that would require public companies to disclose additional information to investors about their short-term borrowing arrangements.

The SEC's proposal would shed a greater light on a company's short-term borrowing practices, including what some refer to as balance sheet "window-dressing." The proposed rules are aimed to enable investors to better understand whether amounts of short-term borrowings reported at the end of reporting periods are consistent with amounts outstanding throughout the reporting periods.

"Under these proposed rules, investors would have better information about a company's financing activities during the course of a reporting period — not just a period-end snapshot," said SEC Chairman Mary L. Schapiro. "Investors would be better able to evaluate the company's ongoing liquidity and leverage risks."

Many financial institutions and other companies engage in short-term borrowing in order to fund operations. These financing arrangements can range from commercial paper, repurchase agreements, letters of credit, promissory notes and factoring. They generally mature in a year or less.

The additional short-term borrowing disclosure information required under the proposed rules would be presented in the Management's Discussion and Analysis of Financial Condition and Results of Operations (MD&A) section of a company's quarterly and annual reports.

The Commission also voted to issue an interpretive release that will provide guidance about existing requirements for MD&A disclosure about liquidity and funding.

Public comments on the proposed rules should be received by the Commission within 60 days after their publication in the Federal Register.

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Short-Term Borrowing and Existing Disclosure Obligations

In order to fund operations, many financial institutions and other companies engage in short-term borrowing — that is, a financing arrangement that generally matures in a year or less. Such borrowing arrangements have become increasingly common and can take many forms, including commercial paper, repurchase agreements, letters of credit, promissory notes and factoring.

Due to their short-term nature, a company's use of these kinds of financing arrangements can fluctuate significantly during a reporting period. As such, when a company reports at the end of a reporting period the amount of short-term borrowings outstanding, that amount is not always indicative of its funding needs or activities during the full period.

Currently, SEC rules require companies to disclose short-term borrowings at the end of the period. But there is no specific requirement to disclose information about the amount of short-term borrowings outstanding throughout the reporting period. The only exception is for bank holding companies, which must disclose annually the average and maximum amounts of short-term borrowings outstanding during the year. That means investors in bank holding companies can see whether the year-end amounts of short-term borrowings are lower or higher than amounts outstanding during the year. The SEC's current rules do not require comparable disclosure by other companies, nor do they require quarterly disclosure of average and maximum amounts by bank holding companies.

Investors who lack this information may not fully appreciate a company's liquidity, leverage position and funding risks. And, because there is no reporting requirement, concerns have been expressed that companies may be masking their actual liquidity and leverage position by incurring significant short-term borrowings during reporting periods and reducing those amounts just before period-end in order to show less leverage in their reported amounts.

Recent events have suggested that investors could benefit from additional transparency about companies' short-term borrowings, and, in particular, whether those borrowings vary materially during the reporting period as compared to period-end without investor appreciation of those variations.

The Proposed Rules

The proposed rules are designed to provide investors a better understanding of a company's actual funding needs and financing activities. They also will help investors evaluate the liquidity risks faced by companies during each reporting period.

Additionally, by providing transparency about variations in borrowing levels during the reporting period, the proposed disclosure requirements should help to address concerns that companies may mask their actual liquidity positions by reducing short-term borrowings shortly before reporting dates.

How does the proposed requirement define short-term borrowings?

  • "Short-term borrowings" would mean amounts payable for short-term obligations that are:

    • Federal funds purchased and securities sold under agreements to repurchase.
    • Commercial paper.
    • Borrowings from banks.
    • Borrowings from factors or other financial institutions.
    • Any other short-term borrowings reflected on the registrant's balance sheet.
  • The proposed requirement is designed to enhance disclosure about the short-term borrowings line items in a company's balance sheet, and does not cover "off-balance sheet" financing arrangements. The SEC's existing disclosure rules cover off-balance sheet arrangements.

What would companies be required to disclose?

First, a company would be required to provide quantitative information in MD&A for each type of short-term borrowings a company uses, including:

  • The amount outstanding at the end of the reporting period and the weighted average interest rate on those borrowings.

  • The average amount outstanding during the period and the weighted average interest rate on those borrowings.

  • The maximum amount outstanding during the period.

Second, to provide context for the quantitative data, companies would be required to disclose:

  • A general description of the short-term borrowings arrangements included in each category and the business purpose of those arrangements.

  • The importance to the company of its short-term borrowings arrangements to its liquidity, capital resources, market-risk support, credit-risk support or other benefits.

  • The reasons for the maximum reported level for the reporting period.

  • The reasons for any material differences between average short-term borrowings and period-end short-term borrowings.

Would financial companies be subject to different disclosure requirements than non-financial companies?

Yes — the proposed requirements distinguish between companies that engage in financial activities as their business and all other companies:

  • Companies that are "financial companies" would be required to provide averages calculated on a daily average basis (which is consistent with existing guidance included in the SEC's bank holding company disclosure guide known as Guide 3), and to disclose the maximum amount outstanding on any day in the period.

  • All other companies would be permitted to calculate averages using an averaging period not to exceed a month and to disclose the maximum month-end amount during the period.

Which companies would meet the proposed definition of "financial company"?

The proposed rules would include a new category of companies that would be "financial companies" subject to the daily average computation requirement. The purpose of the new definition is to scope in companies beyond bank holding companies for which short-term borrowings may be a significant source of liquidity and for which liquidity and leverage information is especially important.

Under the proposal, the term "financial company" would mean a company, during the applicable reporting period, that is:

  • Engaged to a significant extent in the business of lending, deposit-taking, insurance underwriting or providing investment advice.

  • A broker or dealer as defined in Section 3 of the Exchange Act; or

  • An entity that is or is the holding company of, a bank, a savings association, an insurance company, a broker, a dealer, a business development company, an investment adviser, a futures commission merchant, a commodity trading advisor, a commodity pool operator, or a mortgage real estate investment trust.

How would a company that has both financial businesses and non-financial businesses be treated under the proposed rule?

A company that is engaged in both financial and non-financial businesses would be permitted to present the short-term borrowings information for its financial and non-financial businesses separately:

  • It would be required to provide averages computed on a daily average basis and maximum daily amounts for the short-term borrowings arrangements of its financial operations.

  • It would be permitted to follow the requirements and instructions applicable to non-financial companies for purposes of the short-term borrowings arrangements of its non-financial operations.

How do the proposed requirements address "repo" transactions?

  • Most repurchase arrangements (referred to as "repos") are accounted for as financings on the balance sheet. As such, most repos would be covered by the proposed short-term borrowings disclosure requirements.

  • If a repo is appropriately accounted for as a sale (and therefore is not reflected on the balance sheet as a liability), it must be assessed under the SEC's existing disclosure requirements for off-balance sheet arrangements. The SEC's existing rules require disclosure where the repo is reasonably likely to have an effect on the company that is material.

Details of MD&A Interpretive Release

The Commission also issued an interpretive release providing guidance on existing MD&A requirements for liquidity and funding disclosure. The guidance will be effective immediately upon publication in the Federal Register.

What issues are covered by the guidance?

The interpretive release will:

  • Reiterate long-standing MD&A principles as they apply to disclosure of critical liquidity matters, so that MD&A disclosure keeps pace with the increasingly diverse and complex financing alternatives available to companies.

  • Make clear that a registrant cannot use financing structures (whether "on-balance sheet" or "off-balance sheet") designed to mask the registrant's reported financial condition — transparent disclosure is required.

  • Emphasize that leverage ratios and other financial measures included in filings with the Commission must be calculated and presented in a way that does not obscure the company's leverage profile or reported results.

  • Address divergent practices that have arisen in the context of tabular disclosure of contractual obligations, to focus companies on providing informative and meaningful disclosure about their future payment obligations.



Modified: 09/17/2010