SEC Provides Relief for Smaller Companies on Sarbanes-Oxley Internal Control Reporting

Action Also Taken on Electronic
Proxy Access

At its Open Meeting in December 2006, the Securities and Exchange Commission (SEC) acted on some matters that are of interest to our clients, especially smaller clients working to manage compliance with Section 404 internal control reporting under the Sarbanes-Oxley Act of 2002.

Relief for Smaller Companies and Newly Public Companies on Section 404 Reporting

The SEC has extended certain Section 404 compliance dates for non-accelerated filers and newly public companies. For companies that are new to reporting under the Securities Exchange Act of 1934, as amended (“Exchange Act”), the SEC has granted a transition period that will allow those companies not to have to include Section 404 reports in the first annual report that they file after becoming subject to the reporting requirements of the Exchange Act. This is a significant benefit for newly public companies that otherwise would have been required to prepare for Section 404 reporting immediately after going public. For our clients that are planning to go public in 2007, this revision will allow them to wait to include required Section 404 disclosures until their second annual report filed post-IPO.

Please note that if a company goes public early in a year (before February 15 for domestic issuers; before April 30 for foreign private issuers), using nine-month interim financial statements, that company’s first annual report, in which the Section 404 reports will not be required, will be the one that is filed shortly after going public. The company would then become subject to Section 404 reporting in the next annual report, due the following year.

The SEC has provided some additional relief for non-accelerated filers (NAFs) as well. For those companies, the SEC has bifurcated the timing for the required Section 404 reports. NAFs must now include an assessment by management (but not the auditor assessment) of internal controls in the first annual report for fiscal years ending on or after December 15, 2007 (moved back from July 15, 2007). Further, the auditor assessment (which is in most cases the more burdensome and time-consuming of the two assessments) need not be included until the first annual report for fiscal years ending on or after December 15, 2008. This is also a significant benefit for our NAF clients.

Please note, however, that if a former NAF becomes an accelerated filer during the extension period, the company would no longer be able to take advantage of this postponement, and the Section 404 reports would be required in the annual report that is filed for the fiscal year in which the company became an accelerated filer.

The text of the rule amendment is available here.

Further Guidance on Internal Control Reporting

In response to complaints from companies that they were given insufficient guidance on how to conduct the management’s assessment of internal controls as required by Section 404, the SEC has announced that it will shortly be issuing guidance specifically to management of companies on this topic. Previously, in the absence of guidance directed at management, companies had been following the extremely detailed and (some believed) inflexible guidance issued by the Public Company Accounting Oversight Board to auditors of public companies on Section 404 reporting. The SEC has heard the demands for more “scalable” guidance from smaller public companies and is responding with the interpretive guidance announced at the Open Meeting. The SEC intends companies to use this guidance to make the management’s internal control assessment more efficient, cost-effective and tailored to fit the specific facts and circumstances of each individual issuer. According to the discussion at the Open Meeting, companies will now be encouraged to engage in a review that takes into account their available resources, stage of development and the risks to and characteristics of their financial statements, instead of being forced to undertake the same procedures that are recommended for the largest and most complex companies.

A press release regarding the pending guidance is available here.

Electronic Proxy Access

Finally, the SEC voted to approve amendments to its proxy rules governing the delivery of proxy materials. Starting July 1, 2007, companies will have the option to furnish proxy materials to shareholders through a so-called “notice and access” model. Under this model, a company would post its proxy materials on an Internet site and send a notice (in paper) of the availability of the proxy materials to each shareholder. Shareholders who wish to receive paper copies of the proxy materials would have the ability to request them from the company, and a company receiving such a request would be required to mail the paper materials within three business days.

The SEC is also considering making the electronic delivery of proxies mandatory for proxy solicitations other than those relating to business combinations. That proposal is currently open for public comment.

A press release regarding these amendments is available here.

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Please contact the Mintz Levin attorney who handles
your corporate and securities law matters if you have any
questions on these new developments.

Copyright © 2007 Mintz, Levin, Cohn, Ferris, Glovsky and Popeo, P.C.

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