MD&A and KPI Disclosure Requirements are Being Simplified

The Securities and Exchange Commission (SEC) issued a proposal in January to streamline the disclosure requirements in management’s discussion and analysis (MD&A) of financial condition and results of operations. The proposal is part of a broader effort to overhaul the disclosure regime for public companies. The SEC published interpretive guidance on disclosing key performance indicators (KPIs) on the same day the proposal was issued.

Changes Being Proposed to MD&A

Under Reg. S-K Item 303 of the Securities Act of 1933, public companies are required to write MD&As. This requirement would be amended by a recent SEC proposal, Release No. 33-10750, Management’s Discussion and Analysis, Selected Financial Data, and Supplementary Financial Information.

The proposal specifically would:

• Add a statement about the objectives of MD&A — companies should provide material information that’s relevant in assessing the financial condition and results of operations, including an evaluation of the amounts and certainty of cash flows
• Provide principles-based instructions for off-balance sheet arrangements
• Eliminate the tabular disclosure contractual obligations

Also, the proposal would eliminate Item 301, which requires companies to provide five years of selected financial data, and Item 302, which requires companies to provide two years of selected quarterly financial data. Stakeholders interested in obtaining this information can access it through previous filings and elsewhere through the Electronic Data Gathering, Analysis, and Retrieval (EDGAR) system.

However, not all proposed requirements were about simplification. The SEC also wants companies to disclose critical accounting estimates.

The proposed changes overall reflect the view of SEC Chairman, Jay Clayton, that disclosures should be rooted in standards of materiality. He believes that because companies have different facts and circumstances, and company management knows their business operations best, the one-size-fits-all regulation and prescriptive rules don’t work well. “The proposed amendments are intended to modernize, simplify, and enhance the financial disclosure requirements by reducing duplicative disclosure and focusing on material information in order to improve these disclosures for investors and simplify compliance efforts for registrants,” Clayton said.

Comments on the proposal are due 60 days after publication in the Federal Register. Normally, this occurs a few weeks after a rulemaking document is posted on the SEC’s website.

KPIs Interpretive Guidance

The SEC, at the same time, issued a separate commission-level interpretive guidance on disclosure of KPIs in MD&A. Release No. 33-10751, Commission Guidance on Management’s Discussion and Analysis of Financial Condition and Results of Operations, says MD&A should:

• Provide clear definitions of KPIs and how they’re calculated
• Include a statement about the reasons why KPIs are relevant to investors
• Explain how management uses KPIs to manage or monitor business performance
• Evaluate whether there are estimates or assumptions underlying KPIs or their calculations and whether disclosure of such items is necessary to not be misleading

Also stated in the guidance is that if a company changes the method by which it calculates or presents the metric from one period to another, management should consider disclosing the differences in the way the metric is calculated, the reasons for such changes, the effects of the changes and other differences in methodology that would be reasonably relevant in understanding the company’s performance or prospects in the future.

The guidance reminds companies to maintain effective disclosure controls. It says, “Effective controls and procedures are important when disclosing material [KPIs] or metrics that are derived from the company’s own information. When [KPIs] and metrics are material to an investment or voting decision, the company should consider whether it has effective controls and procedures in place to process information related to the disclosure of such items to ensure consistency as well as accuracy.”

Companies have increasingly used non-GAAP metrics, which are disclosed outside of the financial statements. Many companies have been using metrics that are misleading or difficult to understand and the SEC has sought to crack down on some of the more egregious practices. Clayton urged companies to refrain from changing non-GAAP metric calculations from quarter to quarter.

Minimize Costs but Maximize Value

Together with its interpretive guidance on KPIs, the SEC’s recent proposal aims to improve the quality and accessibility of companies’ presentation of financial results. “The improved disclosures would allow investors to make better capital allocation decisions, while reducing compliance burdens and costs without in any way adversely affecting investor protection,” said Clayton in a recent statement.

If you need more information on how to craft a clear and concise MD&A that meets the latest SEC requirements, contact a Weaver professional today.

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