SEC proposes amending certain financial disclosures

Proposed Rule affects business acquisitions and dispositions

Magnifying  glass readerThe SEC issued a Proposed Rule, Amendments to Financial Disclosures about Acquired and Disposed Businesses, which would amend Regulation S-X, Rule 3-05, “Financial statements of businesses acquired or to be acquired;” Regulation S-X, Rule 3-14, “Special instructions for real estate operations to be acquired;” Regulation S-X, Article 11, “Pro forma financial information,” and the related forms. The proposed amendments would also make corresponding changes to the reporting requirements in Regulation S-X, Article 8, “Financial statements of smaller reporting companies.”

In addition, the proposal would, among other things, add new guidance regarding the financial reporting for acquisitions by investment companies, including business development companies.

The proposed amendments are intended to ensure that investors receive the financial information that is necessary to understand significant business acquisitions and dispositions, while reducing complexity and costs for preparers.

Proposed amendments to significance tests Regulation S-X, Rule 1-02(w), “Significant subsidiary,” includes three tests used to measure the significance of entities other than the registrant for various SEC reporting requirements.

The Commission has proposed the following revisions to simplify the investment and income tests and to facilitate more useful significance determinations.

Investment test The proposed revisions would compare the registrant’s investment in and advances to the acquired business to the aggregate worldwide market value of the registrant’s voting and non-voting common equity. If the registrant does not have this aggregate worldwide market value, the proposal would require the registrant to use the current investment test.

Income test The proposed revisions would add a new revenue component and simplify the calculation of the net income component by using income or loss from continuing operations after income taxes. The addition of the revenue component is expected to reduce the instances of anomalous significance results. Under the proposed amendments, when the registrant and the tested subsidiary have recurring annual revenue, the tested subsidiary must meet both the new revenue component and the net income component in order to be considered significant.

Other proposed changes to the income test clarify the description of the test and the use of pro forma financial information in significance tests.

S-X Rule 3-05 proposed amendments The proposed revisions would amend S-X Rule 3-05 to reduce the maximum number of periods of financial statements required from three to two years.

The proposal would no longer require S-X Rule 3-05 financial statements in Securities Act registration statements and proxy statements once the acquired business is reflected in the registrant’s filed post-acquisition financial statements for a complete fiscal year.

Certain other notable proposed amendments to S-X Rule 3-05 would:

  • Require only the most recent interim period financial statements when only one year of audited financial statements is required
  • Require registrants to provide pro forma financial information depicting the aggregate effects of all insignificant businesses acquired or to be acquired, but require only pre-acquisition historical financial statements for those businesses whose individual significance exceeds 20% but are not yet required to file financial statements
  • Permit registrants, in certain circumstances, to provide the acquired business’ audited abbreviated financial statements, along with additional proposed disclosures, without first seeking relief from the Commission
  • Codify certain current reporting practices for a significant acquired business that includes significant oil- and gas-producing activities and permit the registrant to provide an audited statement of direct revenue and expenses, if certain conditions are met
  • Expand the use of financial statements prepared in accordance with IFRS as issued by the IASB in certain circumstances

S-X Rule 3-14 proposed amendments The proposal includes amendments to conform S-X Rule 3-14 to S-X Rule 3-05 where no unique industry consideration exists that warrants different treatment for real estate operations. Among other things, the proposed amendments would increase the significance threshold for individual acquisitions to 20%, remove the requirement to provide three years of financial statements for acquisitions from related parties, and permit registrants to omit S-X Rule 3-14 financial statements in Securities Act registration statements and proxy statements once the acquired business is reflected in the registrant’s filed post-acquisition financial statements for a complete fiscal year.

S-X Article 11 proposed amendments The proposal would replace the existing pro forma adjustment criteria in S-X Article 11 with simplified requirements to depict the accounting for the transaction and permit management’s adjustments for reasonably estimable synergies and other transaction effects that have occurred or are reasonably expected to occur. Management’s adjustments would be presented in a separate column in the pro forma financial information, after the presentation of the combined historical statements and transaction accounting adjustments.

Significant business disposition The proposal would revise S-X Rule 11-01(b) to raise the significance threshold for the disposition of a business from 10% to 20% to conform to the S-X Rule 3-05 threshold. Additionally, the proposal would, to the extent applicable, conform the tests used to determine the significance of a disposed business to those tests used to determine the significance of an acquired business.

Investment company acquisitions The proposal would add a new S-X Rule 1-02(w)(2) to create a separate definition of “significant subsidiaries” for investment companies, including business development companies, which would use only an investment test and an income test to measure significance.

The Commission has also proposed new S-X Rule 6-11 to address the financial statements of funds acquired or to be acquired, which would be based on the proposed guidance in S-X Rules 3-05 and S-X 3-14, but would be modified to meet the needs of investment companies and their investors.

Furthermore, the Commission has proposed to eliminate the current pro forma financial information requirement for investment companies and to replace it with proposed S-X Rule 6-11(d), which would require investment companies to provide supplemental financial information that might be more relevant to investors.

Comment due date The comment period ends 60 days after the Proposed Rule is published in the Federal Register.


Kendra DeckerKendra Decker
SEC Regulatory Matters
T +1 202 521 1530

Rohit ElhanceRohit Elhance
SEC Regulatory Matters
T +1 202 861 4110

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