The SEC’s order charged The Cheesecake Factory with violations of the reporting provisions of Section 13(a) of the Exchange Act and Rules 13a-11 and 12b-20 thereunder.
While the COVID-19 pandemic has caused enormous challenges to public companies’ day-to-day operations, it has also introduced new complexities to their public disclosure obligations. As the Securities and Exchange Commission’s (SEC) recent charges against a large restaurant chain make clear, regulators are monitoring public companies to ensure that they timely disclose material changes to operations and financial condition. Companies must ensure that they do not omit information that might render any public statement misleading, particularly as to the impacts of the pandemic.
On December 4, 2020, the SEC announced its first action charging a public company for alleged misleading statements to investors about the financial impacts of the pandemic. In an order imposing charges pursuant to a settlement, the SEC found that The Cheesecake Factory, Inc. made materially misleading statements regarding the impact of the pandemic on its operations and financial condition in violation of Section 13(a) of the Exchange Act and Rules 13a-11 and 12b-20 thereunder. The disclosures were included in press releases attached to Form 8-Ks filed March 23 and April 3, 2020, respectively.
The Underlying Facts: Financial Strain on the Company
As set forth in the order, on March 18, 2020, The Cheesecake Factory informed its landlords that it would not pay April rents due to severe decreases in restaurant traffic and cash flow stemming from the pandemic’s “tremendous financial blow to our business[.]” On March 23, 2020, the company drew down the last $90 million on its revolving line of credit and started the second quarter with $65 million of cash and cash equivalents. By this time, The Cheesecake Factory had ascertained that it was losing around $6 million per week and was seeking an additional $100 million in liquidity from lenders and private equity investors. The company disclosed its cash position to such investors, including a projection that it could operate for only 16 weeks under the then-current conditions.
The Problematic Public Disclosures
On March 23, The Cheesecake Factory filed a Form 8-K withdrawing its previously issued financial guidance in light of the economic conditions caused by the pandemic, but also stated in a press release that its new off-premise, i.e., delivery and to-go model, was “enabling the Company’s restaurants to operate sustainably at present[.]” The company disclosed its $90 million credit draw down and stated that it was “evaluating additional measures to preserve financial flexibility,” but did not disclose its $6 million negative weekly cash flow, 16-week projection or its decision not pay April rents.
After press coverage on March 25 concerning its letters to landlords, The Cheesecake Factory disclosed in a new Form 8-K filed March 27 that it would not pay any April rents. While disclosing other cost-cutting measures like compensation cuts and furloughs, it again did not disclose the weekly losses or 16-week projection.
Then, in a Form 8-K with attached press release filed April 2 reporting preliminary quarterly sales figures, the company again stated that its “restaurants are operating sustainably at present” but did not disclose the negative cash flow or 16-week projection.
The Commission’s Findings
Based on these alleged failures to disclose, the SEC found that The Cheesecake Factory’s March 23 and April 3 disclosures were materially false and misleading because each claimed that restaurant operations were “sustainable” without disclosing that the company was losing $6 million in cash per week and had only 16 weeks of cash remaining. The SEC found the March 23 release false and misleading for the additional reason that it generally stated that the company was “evaluating additional measures,” but omitted the fact that The Cheesecake Factory was not paying April rent.
The SEC’s order charged The Cheesecake Factory with violations of the reporting provisions of Section 13(a) of the Exchange Act and Rules 13a-11 and 12b-20 thereunder. Pursuant to a negotiated settlement, the company will pay a $125,000 civil monetary penalty.
In the early days of the pandemic, the SEC released a joint statement by Chairman Jay Clayton and Director of the Division of Corporation Finance William Hinman urging public companies to provide high-quality, detailed disclosures concerning the anticipated effects of the pandemic on their operations and financial condition. That statement, as well as this action against The Cheesecake Factory, serve to demonstrate how the commission is interpreting and applying existing regulations on public disclosures amid the financial fallout spurred by the novel COVID-19 virus. Public companies should continue to update their disclosures to reflect changes in their operations and financial condition consistent with their regulatory obligations, as the SEC may reveal or initiate similar actions against other companies in the weeks and months ahead.
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