Alerts and Updates
SEC Extends Section 404 Compliance Date for Non-Accelerated Filers and Proposes Changes in Accelerated Filing Structure
October 4, 2005
On September 21, 2005, at the first open meeting under new Chairman Christopher Cox, the Securities and Exchange Commission (SEC) approved a one-year extension of the deadline for non-accelerated filers to file an audit of internal control as required by Section 404 of the Sarbanes-Oxley Act (SOX). In addition, the SEC proposed to modify the filing deadlines for annual and quarterly reports for accelerated filers; create a new category of "large" accelerated filers, which would be the only filers subject to the final phase-in of the accelerated filing deadlines, as modified; and make it easier for certain filers to transition from accelerated filer to non-accelerated filer status.
Section 404
Under Section 404 of SOX and the SEC's rules, a public company (other than a mutual fund) is required to include in its annual report a report by management, and an audit report by the company's independent auditors, on the company's internal control over financial reporting. Prior to the most recent action (and after two prior extensions), accelerated filers other than foreign issuers were required to file their first internal control reports with their annual reports for the first year ending on or after November 15, 2004. Non-accelerated filers and foreign issuers were required to file those reports with their annual reports for the first year ending on or after July 15, 2006.
Despite the prior two extensions, smaller public companies continued to express substantial concerns about their ability to meet the July 15, 2006, deadline. The SEC noted that even larger companies had difficulty meeting their deadline. Moreover, the Committee of Sponsoring Organizations of the Treadway Commission (COSO), which established the framework the vast majority of companies used to evaluate their internal controls, has said it will provide further guidance for smaller public companies; however, COSO has not yet published that guidance, and the SEC stated that final conclusions on such guidance will not be reached for some months. In addition, the SEC's Advisory Committee on Smaller Public Companies recommended a delay in the compliance date for non-accelerated filers.
Accordingly, the SEC determined to further extend the filing date, by one year. Non-accelerated filers, including foreign issuers that are not accelerated filers, will thus be required to file management and audit reports under Section 404 with their annual reports for the first year ending on or after July 15, 2007. (For example, a non-accelerated filer with a December 31 year will be required to include the reports in its annual report filed in early 2008, for the year ended December 31, 2007.) Foreign issuers that are accelerated filers will continue to be subject to the July 15, 2006, deadline. The change is effective immediately upon publication in the Federal Register.
Change in Accelerated Filer Structure
The SEC also proposed a package of changes to its accelerated filer structure. In 2002, the SEC, in furtherance of the requirements of SOX, adopted rules requiring accelerated filers to file annual and quarterly reports on an accelerated schedule. The accelerated deadlines were phased in, initially over three years; the final phase-in was extended in November 2004. Under current rules, after that previous extension, accelerated filers will be required to file their annual reports, for fiscal years ending on or after December 15, 2005, within 60 days after fiscal year-end. Their subsequent quarterly reports will be due within 35 days after the end of each fiscal quarter.The SEC has now proposed to create a third category of issuer, to be known as a "large accelerated filer." A large accelerated filer would be an issuer that (1) has a public float (market value of its common equity held by non-affiliates) of $700 million or more; (2) has been subject to the reporting requirements of the Securities Exchange Act for at least one year; (3) has filed at least one prior annual report; and (4) is not eligible to use the "small business issuer" forms (Forms 10-KSB and 10-QSB). (The $700 million public float threshold is the same threshold the SEC used for the definition of "well-known seasoned issuer" in its recent amendments to the rules for offerings registered under the Securities Act of 1933, although the float for that purpose is measured at a date near the time of filing of a registration statement.) An accelerated filer would be an issuer with a public float of between $75 million and $700 million that meets the other conditions above, and an issuer that is neither a large accelerated filer nor an accelerated filer would be a non-accelerated filer. At each level, the float would be measured as of the end of the issuer's most recently completed second fiscal quarter. The proposed rules would also clarify, in each case, that the public float is measured on a worldwide basis.
Using the new category, the SEC would apply the final phase-in of the annual report deadline, 60 days, only to large accelerated filers. Accelerated filers that are not large accelerated filers would continue to be subject to a 75-day deadline for their annual reports. In response to comments that even very large companies have had difficulty meeting the accelerated deadlines for quarterly reports, the SEC proposed to eliminate the current acceleration of that deadline to 35 days, leaving the deadline for quarterly reports at 40 days for both accelerated filers and large accelerated filers. As under current rules, the deadlines for non-accelerated filers would remain at 90 days after year-end for annual reports and 45 days after quarter-end for quarterly reports.
In addition, the SEC proposed to modify the rules for exiting accelerated filer (or, under the proposal, large accelerated filer) status. Under current rules, an issuer that is an accelerated filer continues to be an accelerated filer until it becomes eligible to file annual and quarterly reports on the small business issuer forms. That, in turn, requires the issuer to meet the definition of small business issuer - in particular, to have a public float, as of a date within 60 days prior to year-end, of less than $25 million - for two years. Further, even when an issuer becomes eligible to exit accelerated filer status, it must still file its annual report for the second of those years on an accelerated basis; it only becomes subject to the non-accelerated filing deadlines with its first quarterly report for the year after that second year.
The proposed rules would smooth this transition significantly. Under the proposed rules, an issuer that has been an accelerated filer (or a large accelerated filer) would become a non-accelerated filer if, as of the end of its second quarter - the same date used for determining accelerated filer status - it has a public float of less than $25 million. In similar fashion, an issuer that has been a large accelerated filer would become an accelerated filer if, as of the end of its second quarter, it has a public float of less than $75 million. (The thresholds for exiting accelerated filer or large accelerated filer status are lower than those for entering those statuses to minimize movements in and out due to fluctuations in market prices.) In either case, that determination would govern the issuer's annual report for the year and all subsequent reports (until another change in status was required). For example, if an issuer that reports on a calendar year basis has been an accelerated filer - and thus required to file annual reports within 75 days of year-end - but, on June 30, 2006, has a public float of less than $25 million, the issuer would have 90 days after December 31, 2006, to file its annual report for the year then ending.
Also, in addition to other modifications to conform various rules to these changes, the SEC proposes to add check-boxes to Forms 10-K and 10-Q to indicate whether the issuer is a large accelerated filer, accelerated filer, or non-accelerated filer.
The SEC has set a relatively short 30-day period (from the date of publication in the Federal Register) for comments on the proposed rules. It seems likely that the SEC will act on the proposals promptly after the comment period ends.
For Further Information
If you have any questions regarding the new rules and proposals, including how they may affect your company, please contact one of the attorneys of our Securities Law Practice Group or the lawyer in the firm with whom you are regularly in contact.
Disclaimer: This Alert has been prepared and published for informational purposes only and is not offered, nor should be construed, as legal advice. For more information, please see the firm's full disclaimer.
