On June 28, 2018, the United States Securities and Exchange Commission (the “SEC") approved amendments to the definition of a “smaller reporting company" (a “SRC"). These amendments will expand the number of registrants qualifying for SRC scaled disclosure accommodations in their SEC filings. These scaled disclosure accommodations include, among other things, reduced required business, financial and executive compensation disclosures. A chart briefly summarizing the SRC disclosure accommodations is attached as Exhibit A.
The amendments should benefit a number of public companies with less than $250 million of public float, as well as public companies with revenues of less than $100 million and less than $700 million of public float. One industry sector that may benefit from the amendments is the biotechnology and life sciences sector, where we believe a significant number of additional companies will now be able to qualify for SRC status. But companies across all industry sectors should benefit from these amendments. The SEC estimates 966 additional reporting companies will be eligible for SRC status in the first year under the amended definition, and approximately 48.8% of SEC registrants will now qualify as SRCs (as compared to approximately 35.7% currently).1
We provide a summary of the SEC’s SRC amendments below and the full text of the SEC’s adopting release is available here.
As revised, Rule 12b-2 under the Exchange Act of 1934, as amended (the “Exchange Act"), Rule 405 of the Securities Act of 1933, as amended, and Item 10(f) of Regulation S-K, define a “Smaller Reporting Company" as an issuer that is not an investment company, an asset-backed issuer, or a majority-owned subsidiary of a parent that is not a smaller reporting company and that meets one of the two tests outlined below.
The following chart summarizes the changes to the SRC definition:
| Criteria (Two Options) | Previous SRC Definition | Revised SRC Definition |
| Public Float Test | Public float < $75 million | Public float < $250 million |
| Revenues Test | Annual revenues < $50 million and no public float | Annual revenues < $100 million and either:
|
The Maximum Public Float Increases from $75 Million to $250 Million
The amendments increase the maximum public float of a SRC to $250 million from the current $75 million level. If a company’s public float exceeds $250 million, then it must drop below $200 million in order to qualify as a SRC. Per the SEC’s announcement, “once a registrant determines that it does not qualify as a SRC under the applicable thresholds, it will not subsequently qualify until its public float falls below another, lower threshold, set at 80% of the initial qualification threshold." This 80% relationship is consistent with the current rule. The SEC noted that these thresholds are necessary to avoid situations in which registrants frequently enter and exit SRC status due to small fluctuations in their public float.
The SEC also clarified that “[f]or purposes of the first fiscal year ending after effectiveness of the amendments, a registrant will qualify as a SRC if it meets one of the initial qualification thresholds in the revised definition as of the date it is required to measure its public float or revenues . . . , even if such registrant previously did not qualify as a SRC." For example, a public company with a December 31 fiscal year end that is not currently a SRC would qualify as a SRC for the fiscal year ending December 31, 2018 if the company had a public float of less than $250 million as of June 30, 2018 (the last business day of its most recently completed second fiscal quarter). The scaled disclosure and other requirements applicable to SRCs would be available with respect to such company’s Annual Report on Form 10-K for 2018 and its Quarterly Reports for the third and fourth quarters of 2018.2
The amendments did not change the method for calculating public float, which is computed by multiplying the aggregate world-wide number of shares of a registrant’s voting and non-voting common equity held by non-affiliates by the price at which the common equity was last sold, or the average of the bid and asked prices of common equity, in the principal market for the common equity. For registrants required to file reports under Section 13(a) or 15(d) of the Exchange Act, the determination is made as of the last business day of the registrant’s most recently completed second fiscal quarter. In connection with the filing of an initial registration statement with the SEC, a registrant must choose a date that is within 30 days of the filing to determine SRC eligibility.
The Maximum Annual Revenue Increases from $50 Million to $100 Million
The amendments permit a registrant to qualify as a SRC if such registrant (i) has less than $100 million in annual revenues during the most recent fiscal year, and (ii) either (a) has no public float or (b) a public float of less than $700 million. Under the current rules, to qualify as a SRC, registrants must have annual revenue of less than $50 million and no public float. In explaining the rule, the SEC noted that “low-revenue registrants would benefit from the cost savings of scaled disclosure accommodations and could redirect those savings into growing their businesses without significantly detracting from investor protections." As with the public float test, once a registrant exceeds these thresholds, it must meet new lower thresholds in order to re-qualify as a SRC, $80 million of annual revenue and $560 million of public float.
No Changes to the SEC’s Definition of “Accelerated Filer"
The SEC clarified that these amendments do not change the $75 million public float threshold in the “accelerated filer" definition. As a result, a SRC with a public float between $75 million and $250 million may be subject to certain requirements under Section 404(b) of the Sarbanes-Oxley Act, including accelerated reporting deadlines and auditor attestations. The SEC Chairman indicated that the staff has begun to formulate recommendations to the SEC for possible additional changes to the “accelerated filer" definition to reduce the number of companies that qualify as accelerated filers in order to further reduce compliance costs for those companies.
Increased Threshold to Exclude Older Acquisition Financials
Rule 3-05 of Regulation S-X sets forth the requirements for financial statements of an acquired or to be acquired business. As part of the SEC’s amendments relating to SRCs, the SEC also amended Rule 3-05(b)(2)(iv) of Regulation S-X to permit registrants to omit financial statements of the target business for the earliest of the three years required by the rule if net revenues of the target business were less than $100 million in its most recent fiscal year, instead of $50 million as currently provided by the rule.
Amendment to Cover Pages
The changes to the definition of SRC and the unchanged definition of accelerated filer resulted in amendments to the cover pages of registration statements and periodic reports. A registrant may now check both the Smaller Reporting Company box and the Non-Accelerated Filer box.
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The amendments will become effective 60 days after the final rule is published in the Federal Register.
Special thanks to Henry Pruitt and Jessica Annis in San Francisco, and Eric Haitz in Houston, for all their work in compiling this update on the SRC amendments.
Exhibit A
| Regulation S-K | | |
| Item | Scaled Disclosure Accommodation | |
| 101 – Description of Business | May satisfy disclosure obligations by describing the development of the registrant’s business during the last three years rather than five years. Business development description requirements are less detailed than disclosure requirements for non-SRCs. | |
| 201 – Market Price of and Dividends on the Registrant’s Common Equity and Related Stockholder Matters | Stock performance graph not required. | |
| 301 – Selected Financial Data | Not required. | |
| 302 – Supplementary Financial Information | Not required. | |
| 303 – Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A") | Two-year MD&A comparison rather than three-year comparison.
Two year discussion of impact of inflation and changes in prices rather than three years. Tabular disclosure of contractual obligations not required. |
|
| 305 – Quantitative and Qualitative Disclosures About Market Risk | Not required. | |
| 402 – Executive Compensation | Three named executive officers rather than five.
Two years of summary compensation table information rather than three. Not required:
|
|
| 404 – Transactions With Related Persons, Promoters and Certain Control Persons3 | Description of policies/procedures for the review, approval or ratification of related party transactions not required. | |
| 407 – Corporate Governance | Audit committee financial expert disclosure not required in first annual report.
Compensation committee interlocks and insider participation disclosure not required. Compensation committee report not required. |
|
| 503 – Prospectus Summary, Risk Factors and Ratio of Earnings to Fixed Charges | No ratio of earnings to fixed charges disclosure required.
No risk factors required in Exchange Act filings. |
|
| 601 – Exhibits | Statements regarding computation of ratios not required. | |
| Regulation S-X | |
| Rule | Scaled Disclosure |
| 8-02 – Annual Financial Statements | Two years of income statements rather than three years.
Two years of cash flow statements rather than three years. Two years of changes in stockholders’ equity statements rather than three years. |
| 8-03 – Interim Financial Statements | Permits certain historical financial data in lieu of separate historical financial statements of equity investees. |
| 8-04 – Financial Statements of Businesses Acquired or to Be Acquired | Maximum of two years of acquiree financial statements rather than three years. |
| 8-05 – Pro forma Financial Information | Fewer circumstances under which pro forma financial statements are required. |
| 8-06 – Real Estate Operations Acquired or to Be Acquired | Maximum of two years of financial statements for acquisition of properties from related parties rather than three years. |
| 8-08 – Age of Financial Statements | Less stringent age of financial statements requirements. |
[1] We note that where a SEC registrant qualifies as an “emerging growth company" (“EGC") under the Jumpstart Our Business Startups Act of 2012 (the “JOBS Act"), the registrant will also be able to take advantage of the accommodations available to EGCs under the JOBS Act. There are similarities between the accommodations available to SRCs and those available to EGCs, but the accommodations are not identical. The SEC estimates that 365 of the 966 registrants estimated to be newly eligible for SRC status also qualify as EGCs. For more information on EGCs, see our previous post here.
[2] Note that the registrant must reflect its SRC status starting with its first 10-Q in the subsequent year, but may begin taking advantage of the reduced disclosure burden beginning in Q3 of the current year. See Item 10(f)(2)(i)(C) of Regulation S-K, Rule 405(3)(i)(C) and section (3)(i)(C) or Rule 12b-2, “An issuer must reflect the determination of whether it came within the definition of smaller reporting company in its quarterly report on Form 10-Q for the first fiscal quarter of the next year, indicating on the cover page of that filing, and in subsequent filings for that fiscal year, whether it is a smaller reporting company, except that, if a determination based on public float indicates that the issuer is newly eligible to be a smaller reporting company, the issuer may choose to reflect this determination beginning with its first quarterly report on Form 10-Q following the determination, rather than waiting until the first fiscal quarter of the next year."
[3] Item 404 also contains the following expanded disclosure requirements applicable to SRCs: (1) rather than a flat $120,000 disclosure threshold, the threshold is the lesser of $120,000 or 1% of total assets, (2) disclosures are required about underwriting discounts and commissions where a related person is a principal underwriter or a controlling person or member of a firm that was or is going to be a principal underwriter, (3) disclosures are required about the issuer’s parent(s) and their basis of control, and (4) an additional year of Item 404 disclosure is required in filings other than registration statements.