In addition to being a tragedy, the Russian attack on the Ukraine has disrupted businesses around the world, caused a spike in oil prices and raised disclosure issues for public companies as we are firmly in 10-K and proxy season.. In addition to the obvious disruption of business in both the Ukraine and Russia, the U.S. and many other European countries have imposed significant sanctions against Russia that may also impact companies and U.S. capital market participants. No fewer than three of my clients have been directly affected by the conflict from the extreme of having to close an entire division to the less impactful certain non-collectability of receivables.
Disclosure requirements will depend upon the specific facts and circumstances of a particular company, but key areas that may need attention are risk factors, description of business and management’s discussion and analysis (MD&A).
In August 2020, the SEC adopted final amendments to Item 105 – Risk Factors – pushing the disclosures to a more principles-based approach (see HERE). Item 105 of Regulation S-K requires disclosure of the most material factors that make an investment in the company or offering speculative or risky and specifies that the discussion should be concise and organized logically. Effective risk factor disclosure provides investors with an appropriate amount of information to adequately understand and appreciate the context and magnitude of the risk being presented as it relates specifically to the company.
Companies that are impacted by the attack on the Ukraine, either directly or indirectly, should consider the disclosure of risks associated with these events including as they relate to business operations, results of operations and financial condition. For example, if a company (i) has business operations in either Russia or the Ukraine; (ii) depends on exports or imports to or from either country; (iii) has receivables owed by or payables owed to a business in either country; (iv) materially depends on a third party that is impacted by the crisis; (v) has a significant customer base in either country; or (vi) is materially impacted by the price of oil, additional risk disclosures would be appropriate.
In considering the potential risk disclosures and impact, companies should consider: (i) a complete loss of material operations; (ii) non-collectability of receivables; (iii) significant delays in exports or imports; (iv) supply chain interruptions in general; (v) the inability to service a customer base; (vi) the potential effect of bans and other sanction programs; (vii) additional licensing requirements; (viii) boycotts on business; and (ix) political and social ramifications.
Additional considerations would be whether a company or a significant third-party business relationship has staff, financial transactions, research and development facilities, equipment or property located in Russia or the Ukraine.
Description of Business
Along with an amendment to Item 105 dealing with risk factors, in August 2020, the SEC adopted amendments to Item 101 – Description of Business. Item 101 is also principles-based and requires disclosure of the general development of the business and business done and intended to be done. The rules contains a non-exclusive list of information that should be considered in the disclosure including: (i) material bankruptcy, receivership or similar proceeding; (ii) nature and effects of any material reclassifications, merger or consolidation; (iii) the acquisition or disposition of any material amount of assets otherwise than in the ordinary course of business; and (iv) material changes to a company’s previously disclosed business strategy; (v) revenue generating activities, products or services, and any dependence on key products, services, product families, or customers, including governmental customers; (vi) status of development efforts for new or enhanced products, trends in market demand and competitive conditions; (vii) resources material to a company’s business, including raw materials; (viii) the duration and effect of all patents, trademarks, licenses, franchises, and concessions held; (ix) a description of any material portion of the business that may be subject to renegotiation of profits or termination of contracts or subcontracts at the election of the government; (x) the extent to which the business is or may be seasonal; (xi) compliance with material government regulations, including environmental regulations to the extent they impact capital expenditures, earnings and competitive position (disclosures related to compliance with bans and sanctions for instance); and (xii) human capital disclosure.
As discussed above, the conflict in the Ukraine could have a material impact on many of these items. Over the past week, several large companies have suspended operations in Russia including Boeing, Disney, Exxon, Ford, Warner Brothers, FedEx, UPS and Apple. In addition, as a result of sanctions, all major airlines have ceased serving Russia and most countries have closed their airspace to Russian air traffic. The magnitude and speed of Russia’s actions and governmental and corporate response will make untangling the material effects and necessary disclosures difficult at best.
Management’s Discussion and Analysis (MD&A)
In November 2020, the SEC adopted amendments to the disclosures in Item 303 of Regulation S-K – Management’s Discussion & Analysis of Financial Conditions and Operations (MD&A). Like all recent disclosure effectiveness rule amendments, the rule changes were intended to modernize and take a more principles-based approach to disclosure requirements (see here for more on MD&A – HERE). Generally, MD&A requires a disclosure of (i) liquidity, capital resources, results of operations, off-balance-sheet arrangements, and contractual obligations; (ii) material cash requirements including commitments for capital expenditures as of the latest fiscal period, the anticipated source of funds needed to satisfy cash requirements and the general purpose of such requirements; (iii) known events that are reasonably likely to cause a material change in the relationship between costs and revenues; and (iv) reasons underlying material changes in net sales or revenues.
Considering the same factors as discussed above, a Company may require material disclosures in its MD&A related to the invasion of the Ukraine.
Large Accelerated and Other Early Filers
Large accelerated filers have already filed their 10-K and many other companies had voluntarily either already filed their 10-K or issued earnings releases prior to the attack on the Ukraine (for more on a large accelerated and accelerated filer including filing deadlines, see HERE). In determining whether additional disclosures are necessary, a company must consider current affirmative disclosure obligations including upcoming Exchange Act periodic reports, potential or ongoing registered securities offerings, ongoing share repurchases, or material events that trigger an 8-K filing.
Moreover, to the extent that a prior disclosure is rendered materially untrue due to a change of events, even if conditioned by a forward-looking statement disclaimer, a company should consider making a corrective filing and/or public statement to ensure public information is current and accurate. In addition to the information expressly required by SEC rules and forms, a public company is required to disclose “such further material information, if any, as may be necessary to make the required statements, in light of the circumstances under which they are made, not misleading.” The SEC considers omitted information to be material if there is a substantial likelihood that a reasonable investor would consider the information important in making an investment decision or that disclosure of the omitted information would have been viewed by the reasonable investor as having significantly altered the total mix of information available.