SEC Proposes Change to Definition of Smaller Reporting Company

Overview

The U.S. Securities and Exchange Commission (the “SEC”) recently proposed changes to expand the number of U.S. public companies that would qualify as a “smaller reporting company” (a “SRC”) and who therefore would be eligible to provide more limited disclosures under Regulation S-K and Regulation S-X.  The proposal seeks to amend Rule 405 of the Securities Act of 1933, as amended (the “Securities Act”), Rule 12b-2 of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), and Item 10(f) of Regulation S-K.  The proposed amendments are intended to reduce the reporting burden, and the associated costs, for smaller companies while maintaining investor protections. If adopted, approximately 780 additional US public companies (out of approximately 7,550 total SEC reporting companies) would qualify as a SRC. 

Background

A company that qualifies as a SRC is permitted to avail itself of scaled disclosure requirements under certain registration forms, periodic reports and Regulations S-K and S-X.  These scaled disclosure items include, among other things, the ability to provide only two years of audited financial statements and complete relief from the Compensation Discussion & Analysis.

Under current SEC rules, a U.S. public company may qualify as a SRC if it either (i) has a public float of less than $75 million, or (ii) annual revenues of less than $50 million, and once a company exceeds a public float of $75 million or annual revenues of $50 million (for companies without a public float), it may not re-qualify as a SRC unless its public float falls below $50 million, or  its annual revenue falls below $40 million, as applicable. Public float is defined as the market value of a company’s securities held by non-affiliates of the company. 

The Proposed Rules

Under the proposed rules, a company would qualify as a SRC if it either (i) has a public float of less than $250 million, or (ii) has annual revenues of  less than $100 million for companies that do not have a public float. Under the proposed rules, a company that did not qualify as a SRC could do so if its public float falls below $200 million or its annual revenue falls below $80 million, as applicable. 

Notably, companies with more than $75 million in public float that elect SRC status under the proposed rules would continue to be categorized as “accelerated filers” and remain subject to the accelerated filer deadlines for their periodic reporting requirements.  That means Form 10-Qs would be due 40 days after quarter-end instead of 45 days for SRCs under current rules, and Form 10-Ks would be due 75 days after fiscal year end instead of 90 days for SRCs.  Perhaps more importantly, these companies also would be required to provide the auditor attestation report in respect of internal control over financial reporting under Section 404(b) of the Sarbanes-Oxley Act of 2002 (“SOX”), unless otherwise exempt as an emerging growth company.

In addition, the proposed rules would not change the public float thresholds for use of Form S-3.  Currently, General Instruction I.B.6. of Form S-3 limits the amount of securities that can be sold in any 12 month period to 1/3 of a company’s public float for a company with a public float less than $75 million.  Although these Form S-3 limits were originally adopted to provide relief for SRCs, increasing this threshold under Form S-3 would be contrary to the intent of the proposed rules to provide regulatory relief for SRCs.

The proposed rules would substantially implement the September 2015 recommendations of the SEC Advisory Committee on Small and Emerging Companies, except for the Committee’s recommendation to provide relief from the requirements of SOX Section 404(b) for all SRCs, which the SEC declined to adopt.

Comments on the proposed rules are due August 30, 2016.