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E-MailJay Clayton is Chairman of the U.S. Securities and Exchange Commission. This post is based on Chairman Clayton’s recent statement at an open meeting of the SEC. The views expressed in this post are those of Mr. Clayton and do not necessarily reflect those of the Securities and Exchange Commission or its staff.
Good morning. This is an open meeting of the U.S. Securities and Exchange Commission, under the Government in the Sunshine Act. I would like start today’s meeting by welcoming Commissioner Crenshaw to her first open meeting.
Today, we are considering amendments to modernize the description of business, legal proceedings, and risk factor disclosures that companies are required to make under Regulation S-K. These amendments are part of the Commission’s broader efforts to retroactively review and improve our public company disclosure framework and related requirements.
First, I want to put this work in context. The rules we adopt today update various Regulation S-K items that essentially have not changed in over 30 years. Our economy, and the world economy, have changed markedly in that time, and many of our rules, which were well rooted in the characteristics of the economy of the 1970s and 1980s, simply have not kept up. Here, I note that in general, the longer you wait to update these regulations, particularly prescriptive regulations—I think of it like years of deferred maintenance in a home—the harder it can be to do. I applaud the staff for their years-long efforts and thoughtful approach to modernize these and other disclosure requirements as well as similar efforts they have undertaken with respect to many of our other rules.
These efforts began well before my arrival at the Commission and have included, for example, the accredited investor definition, which we comprehensively amended this morning for the first time in over 35 years. The SEC staff’s active review of the definition included a proposal in 2007 and staff report issued in 2015. I thank our various predecessors for commencing and pursuing this work.
Congress also deserves thanks, as a number of updates to our public company disclosure rules, including today’s amendments, stemmed from the Commission’s Disclosure Effectiveness Initiative launched in response to the evaluation of disclosure requirements mandated by Section 108 of the Jumpstart Our Business Startups (JOBS) Act and later directives in the Fixing America’s Surface Transportation (FAST) Act. Under this initiative, the Commission has been comprehensively reviewing the disclosure requirements in Regulation S-K and Regulation S-X and updating them to facilitate timely disclosure of material information to investors. In 2016, the Commission issued a concept release providing a broad overview of, and requesting comment on, business and financial disclosure requirements under Regulation S-K. [1]
Subsequently, the 2018 disclosure update and simplification amendments sought to eliminate requirements that were duplicative of, or overlapped with, other disclosure requirements, U.S. GAAP or other developments. [2] More recently, the Commission also updated the required financial disclosures about guarantors and guaranteed securities, [3] as well as financial disclosures about acquired and disposed businesses. [4] As I said, these modernization efforts have spanned years, involved several iterations of the Commission, and reflect the hard work and deep expertise of the SEC’s dedicated, mission-oriented staff.
The rules we adopt today build on our materiality-based disclosure framework. The effectiveness of this framework in providing the public with the information necessary to make informed investment decisions has proven its merit time and again as markets have evolved when we have faced unanticipated events. [5] This has been widely demonstrated in registrant disclosures regarding the effects of COVID-19. We have seen disclosures shift to emphasize matters such as liquidity, cash needs, supply chain risks, and the health and safety of employees and customers. This has served as a reminder that our rigorous, principles-based, flexible disclosure system, where companies are required to communicate regularly and consistently with market participants, provides countless benefits to our markets, our investors and our economy more generally.
One improvement in today’s rules I want to highlight is the topic of human capital. I fully support the requirement in today’s rules that companies must describe their human capital resources, including any human capital measures or objectives they focus on in managing the business, to the extent material to an understanding of the company’s business as a whole. From a modernization standpoint, today, human capital accounts for and drives long-term business value in many companies much more so than it did 30 years ago. [6] Today’s rules reflect that important and multifaceted shift in our domestic and global economy.
Our rules also are designed to elicit disclosure tailored to each company’s particular industry and business model, while being flexible enough to continue to allow for fulsome disclosure as businesses evolve in the future. For example, take the final rule’s approach to the use of metrics in the area of human capital. As I noted, 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. Experience demonstrates that these metrics, including their construction and their use, widely from industry to industry and issuer to issuer, depending of 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 multi-national car manufacturer will be different from that of a regional home manufacturer. [7] It would run counter to our proven disclosure system, particularly as we first increase regulatory emphasis in an area of such wide variance, for us to attempt to prescribe specific, rigid metrics that would not capture or effectively communicate these substantial differences. That said, under the principles-based approach, I do expect to see meaningful qualitative and quantitative disclosure, including, as appropriate, disclosure of metrics that companies actually use in managing their affairs. [8]
I also want to note that, on a personal level, I continue to believe that many high quality companies tend to invest in and actively manage the development of human capital. I cannot remember engaging with a high quality, lasting company that did not focus on attracting, developing and enhancing its people. To the extent those efforts have a material impact on their performance, I believe investors benefit from understanding the drivers of that performance.
As I described, the rules we’re considering today reflect a concerted effort by Commission staff, and I thank them for their dedication to modernizing our rules. I have focused in these remarks on human capital but want to be clear that all of today’s updates—the description of business, risk factors and legal proceedings—benefit from the same rigor, experience and expertise of the staff.
In particular, I would like to acknowledge the following staff members for their contribution to this effort:
From the Division of Corporation Finance: Bill Hinman, Lisa Kohl, Johnny Gharib, Betsy Murphy, Felicia Kung, Sean Harrison, Sandra Hunter Berkheimer, and John Diamandis.
From the Division of Economic and Risk Analysis: S.P. Kothari, Hari Phatak, Vlad Ivanov, and Kelvin Liu.
From the Office of the General Counsel: Bob Stebbins, Bryant Morris, and Shaz Niazi.
I will now turn it over to Bill Hinman, Director of the Division of Corporation Finance, for the staff’s presentation of their recommendation. S.P. Kothari, our Chief Economist and DERA Director, will then summarize his views on the potential economic effects of the final rules.
Endnotes
1Business and Financial Disclosure Required by Regulation S-K, Release No. 33-10064 (Apr. 13, 2016) [81 FR 23915].(go back)
2Disclosure Update and Simplification, Release No. 33-10532 (Aug. 17, 2018) [83 FR 38768].(go back)
3Financial Disclosures About Guarantors and Issuers of Guaranteed Securities and Affiliates Whose Securities Collateralize a Registrant’s Securities, Release No. 33-10762 (Mar. 2, 2020) [85 FR 21940].(go back)
4Amendments to Financial Disclosures about Acquired and Disposed Businesses, Release No. 33-10786 (May 20, 2020).(go back)
5The Importance of Disclosure—For Investors, Markets and Our Fight Against COVID-19, available at https://www.sec.gov/news/public-statement/statement-clayton-hinman(go back)
6For example, the release notes that in 1988, the largest 500 U.S. companies in Standard & Poor’s Compustat Daily Updates database had an average market capitalization of $2.42 billion and a ratio of intangible assets to market capitalization of 7.26%. In 2019, the largest 500 companies had an average market capitalization of $54.98 billion and a ratio of intangible assets to market capitalization of 22.71%. Modernization of Regulation S-K Items 101, 103, and 105, Release No. 33-10825 (Aug. 26, 2020), at note 266.(go back)
7Remarks on Telephone Call with Investor Advisory Committee Members (Feb. 6, 2019), available at https://www.sec.gov/news/public-statement/clayton-remarks-investor-advisory-committee-call-020619.(go back)
8As is the case with non-GAAP financial measures, I would also expect companies to maintain metric definitions constant from period to period or to disclose prominently any changes to the metrics used or the definitions of those metrics.(go back)
