The Securities and Exchange Commission adopted rules Wednesday to reduce the number of disclosures of business, legal proceedings and other risk factors, including environmental and human capital risks, that public companies are required to make, in probably the biggest overhaul of Regulation S-K disclosures in more than three decades.
The move is part of the SEC’s push under chairman Jay Clayton to roll back regulations, in keeping with a Trump administration policy priority. The SEC pointed out that the disclosure requirements have not undergone significant revisions in over 30 years, and the amendments reflect the many changes in capital markets and the domestic and global economy in recent decades.
"Today we modernized our public company business disclosure rules for essentially the first time in over 30 years," said SEC Chairman Jay Clayton (pictured) in a statement Wednesday. "Building on our time-tested, principles-based disclosure framework, the rules we adopt today are rooted in materiality and seek to elicit information that will allow today's investors to make more informed investment decisions. I am particularly supportive of the increased focus on human capital disclosures, which for various industries and companies can be an important driver of long-term value. I applaud the staff for their dedication and thoughtful approach to modernizing and improving these rules and adding efficiency and flexibility to our disclosure framework."
Many of the amendments to the Regulation S-K disclosure requirements take more of a principles-based, registrant-specific approach to disclosure. The SEC said the disclosure requirements are “prescriptive in some respects,” but are “rooted in materiality and are designed to facilitate an understanding of each registrant's business, financial condition and prospects.”
The amendments also aim to improve the readability of disclosure documents, discourage repetition and decrease the disclosure of information that the SEC says is not material.
Among the changes are making more investors eligible to be considered “accredited investors” who can invest in private capital markets, such as holders of entry-level broker licenses and employees of hedge funds.
Other changes would reduce the need to make disclosures about climate change risks and human capital risks such as a lack of diversity at a company.
Clayton argued that the new human capital disclosures would be more relevant. “Today’s rules require that, in crafting their human capital disclosure, companies must incorporate the key human capital metrics, if any, that they focus on in managing the business, again to the extent material to an understanding of the company’s business as a whole,” he said in a statement. “Experience demonstrates that these metrics, including their construction and their use, [vary] widely from industry to industry and issuer to issuer, depending on a wide array of company-specific factors and strategic judgments. As I have said previously, I would expect that the material human capital information for a manufacturing company will be vastly different from that of a biotech startup, and again vastly different from that of a large healthcare provider. And the human capital considerations for a multinational car manufacturer will be different from that of a regional home manufacturer.”
One of the amendments would implement a modified disclosure threshold for certain governmental environmental proceedings resulting in monetary sanctions that increases the existing quantitative threshold for disclosure of those proceedings from $100,000 to $300,000, but that also gives a company some flexibility by allowing it to select a different threshold that it decides is reasonably designed to result in disclosure of material environmental proceedings, provided the threshold doesn’t exceed the lesser of $1 million or 1 percent of the company’s current assets.
Companies could include, as a disclosure topic, a description of their human capital resources, but just to the extent those disclosures would be considered material to an understanding of their business. That would refocus the regulatory compliance disclosure requirement by including as a topic all material government regulations, not just environmental laws.
The disclosures could also downplay any legal proceedings, allowing companies to simply say the required information is provided by hyperlink or cross-reference to a legal proceedings disclosure located elsewhere in the document to avoid duplicative disclosure.
Disclosures could also be shortened by requiring summary risk factor disclosure of no more than two pages if the risk factor section exceeds 15 pages.
Not all the SEC commissioners were on board with the changes. Commissioner Allison Herren Lee objected to the reduction in environmental, social and governance disclosures of climate risks and diversity. “Both diversity and climate risk generally fall under the rubric of Environmental, Social, and Governance or ESG risks,” she said in a statement Wednesday. “ESG investing is no longer just a matter of personal choice. Asset managers responsible for trillions in investments, issuers, lenders, credit rating agencies, analysts, index providers, stock exchanges — nearly all types of market participants — use ESG as a significant driver in decision-making, capital allocation, pricing, and value assessments. These factors have been integrated into traditional analyses designed to maximize risk-adjusted returns on investments of all types. A broad swath of investors find ESG risks to be as or more important in their decision-making process than financial statements, surpassing traditional metrics such as return on equity and earnings volatility.”
She noted that the “principles-based disclosure” approach could hide such information from investors. “In this release and elsewhere, however, the Commission takes the position that it does not need to require or specify these types of disclosures because our principles-based disclosure regime is on the job and will produce any disclosures on these topics that are material. Investors are asked to trust that each individual company has gauged materiality on these complex issues with flawless precision and objectivity,” said Lee. “On diversity then, should we assume that management at the hundreds (if not thousands) of companies that don’t provide data on workforce diversity have carefully and accurately determined that the information is not material to their business? That would be a questionable conclusion to make given the growing body of research showing the strong business case for diversity.”
Another commissioner, Caroline Crenshaw, agreed. “While I appreciate hearing the perspectives of my fellow Commissioners, I share Commissioner Lee’s views,” she said in a statement. “I am concerned that today — in the middle of a crisis affecting all aspects of our market — the majority of the Commission is failing to take the opportunity to provide investors with critical and useful information about key corporate metrics. This rule is presented as a “modernization” of certain provisions of Regulation S-K — but the rule before us today fails to deal adequately with two significant modern issues affecting financial performance: climate change risk and human capital. As Commissioner Lee noted in her statement, the final rule is also silent on diversity, an issue that is extremely important to investors and to the national conversation. The failure to grapple with these issues is, quite simply, a failure to modernize.”
