THE FINANCIAL REPORTING PROCESS

Metrics and mechanisms of disclosure

1. An overarching disclosure requirement is that the information the firm releases to the public do more than comply technically with applicable reporting metrics; the report must also “fairly present” its financial position and operations

2. The supreme authority over accounting standards in the private sector is the Financial Accounting Standards Board (FASB)

3. The accounting metrics used in preparing the financial statements (GAAP) are objective, not subjective, principles and rules, thereby reducing the opportunity for manipulation of the financial statements by the managers

4. The SEC requires that financial statements filed with it be certified by an independent auditor; the auditor’s certification attests that the auditor has reviewed the financial statements according to generally accepted auditing standards (GAAS) to assure that the financial statements conform to GAAP

5. By and large the reporting processes ushered in by the securities laws are either episodic or periodic, and only in special situations can they be seen as even approaching being continuous

   1. Periodic: 10-K; 10-Q

      1. The line items that must be disclosed in an issuer’s 10-K and 10-Q are set forth in Regulation S-K

   2. Episodic: proxy statement, registration statement

      1. Report is triggered by an event, rather than the calendar

6. Section 13’s reporting obligation is triggered if the issuer meets one of the following tests (How do we get into reporting requirements?)

   1. The security is listed on a national exchange get a listing

   2. 12(g): issuers must register a class of equity securities with the SEC if, on the last day of their fiscal year, that class is held of record by 2000 or more persons and the issuer has more than $10 million in assets

      1. JOBS Act:

         1. eliminate from the count shares held by persons who acquired them pursuant to an employee compensation plan

         2. eliminate from the count those who acquired securities through the crowdfunding exemption in 4(a)(6)

         3. imposing Section 12(g) if the issuer’s shares are held by 500 or more unaccredited investors.

   3. 15(d) requires an issuer that files a registration statement under the ’33 Act in connection with a public distribution to file periodic reports thereafter. This reporting duty ceases if at the beginning of any fiscal year other than the one in which the registration statement became effective, the securities of each class to which the registration statement related came to be held of record by fewer than 300 persons

7. §18: private right of action for persons harmed as a result of misleading filing required by the Exchange Act

   1. Imposes liability on any person who makes or causes to be made a false or misleading statement in a required filing under the Act and permits recovery of damages by any person “who, in reliance upon such statement, shall have purchased or sold a security at a price which was affected by such statement” unless “the person sued shall prove that he acted in good faith and had no knowledge that such statement was false or misleading”

      1. The plaintiff must actually have relied on the particular misstatement, and the misstatement must have affected the market price of the security

      2. Good faith defense

“Fair” Presentation

8. The opinion letter of the firm’s auditor attests that the audit has been conducted pursuant to generally accepted auditing standards and as a result of such review the auditor has conducted that the financial statements have been prepared according to generally accepted accounting standards and “fairly presents” the firm’s financial position and performance

9. Simon case: The “fairly presents” language goes beyond the technical requirements of GAAP

   1. GAAP will not act as an absolute shield

   2. Must still fairly present the financial performance and position of the firm

Internal controls

10. EA §13(b)(2) requires registered or reporting companies to: (1) make and keep books and records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of assets of the issuer; and (2) have in place a system of internal accounting controls sufficient to provide reasonable assurances that (a) transactions are executed only in accordance with management’s authorization, (b) transactions are recorded so as to permit proper accounting and maintain accountability for assets, (c) access to assets is only in accordance with management’s authorization, and (d) recorded accountability for assets is compared with existing assets at reasonable internals, and corrective action taken if appropriate

    1. Absolute liability standard not based on materiality; no scienter

11. World-Wide Coin

    1. Internal controls

       1. Inventory storage adequate control over assets

       2. Separation of duties can’t have the same person doing everything

       3. Books and records no formal recordkeeping process here

12. 13b2-1 and 13b2-2 impose upon persons in the corporate hierarchy an obligation to avoid falsification of corporate books and records and require officers and directors to provide accurate information to accountants in connection with preparation of financial statements and reports to the SEC

    1. 13(b)(5): prohibition against any person knowingly circumventing or knowingly failing to implement a system of internal controls or knowingly falsifying a book or record thus, liability exposure here is not limited to the registrant alone

13. 404 (SOX)

    1. (a): CEO and CFO must certify every quarter their evaluation of internal controls

    2. (b): outside auditor must annually assess management’s assessment of...

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