Foreign Private Issuers

Author Yuliya Guseva in her paper titled “The SEC and Foreign Private Issuers: A Path to Optimal Enforcement,” reviews SEC enforcement actions against foreign private issuers between 2005 and 2016 and considers developments following the Supreme Court’s Morrison decision.  Guseva notes that following Morrison, federal courts have narrowed the application of Exchange Act Section 10 to instances involving securities listed on US exchanges and domestic transaction wherein either title to the securities passes in the United States or the parties become irrevocably bound to purchase the securities in the United States.   It is unclear how courts will react to the Tenth Circuit decision in Traffic Monsoon.  In the immediate aftermath of Morrison, the author notes a decline in the number of class actions filed against foreign issuers.  Guseva also looks at SEC proceedings in the five years before and roughly five years since the Morrison decision.  During this period, there were 151 actions brought against foreign issuers.  Approximately 8% of these involved Exchange Act Section 10(b) and Securities Act Section 17 violations, and delinquent filing violations accounted for 77% of the actions brought.  During this time period, the SEC may have referred to foreign regulators’ enforcement matters, which would not be reflected in the statistics cited in the paper and above.

On January 10, 2019, the staff of NYSE Regulation released its annual memorandum detailing important rules and policies applicable to listed companies. The memorandum provides helpful reminders for issuers (noting important rule differences for domestic and foreign private issuers) with securities listed on the NYSE and also highlights new compliance items. In particular, as previously announced, the memorandum notes that NYSE-listed companies are now required to provide notice to the NYSE at least ten minutes before making any public announcement with respect to a dividend or stock distribution, including when the notice is outside of NYSE trading hours. Additionally, NYSE-listed companies are now no longer required to provide physical copies of proxy materials to the NYSE if such proxy materials are publicly filed with the Securities and Exchange Commission (“SEC”) on EDGAR. The memorandum also provides important reminders specific to foreign private issuers, including with respect to semi-annual reporting. NYSE-listed foreign private issuers are required to submit a Form 6-K to the SEC containing semi-annual unaudited financial information no later than six months following the end of the company’s second fiscal quarter. The memorandum also includes the latest NYSE staff contact information for purposes of complying with notification requirements and contacting the NYSE in the event material news is released. A copy of the full memorandum can be obtained by clicking here.

On December 10, 2018, Representative K. Michael Conway introduced H.R. 7234, a new bill entitled “Holding Foreign Companies Accountable Act” that seeks to amend the Sarbanes-Oxley Act of 2002.  The bill requires each “covered issuer” to disclose annually to the SEC the (1) provisions of laws or rules in foreign jurisdictions that prevent the PCAOB from performing its inspections of auditors located in such foreign jurisdictions and (2) date when such provisions no longer prevent said PCAOB inspections.  A “covered issuer” is a reporting company with a registered public accounting firm that (i) is located in a foreign jurisdiction and (ii) the PCAOB is unable to inspect because of the applicability of laws or rules of such foreign jurisdiction.  If the PCAOB is prevented from carrying out an inspection of the auditor for three consecutive years, the SEC is authorized to prohibit the covered issuer’s securities from being traded on a national securities exchange, unless such covered issuer certifies to the SEC that it will retain a registered public accounting firm that the PCAOB is able to inspect.

The bill follows a joint statement issued earlier this month by SEC Chairman Jay Clayton, SEC Chief Accountant Wes Bricker and PCAOB Chairman William Duhnke that highlighted the significant challenges the SEC and the PCAOB currently face in overseeing the financial reporting for U.S.-listed companies whose operations are based in China.  See our earlier post on this topic here.

A copy of H.R. 7234 is available here.

On Friday, the Chair of the Securities and Exchange Commission Jay Clayton, the Commission’s Chief Accountant Wes Bricker, and the Chairman of the PCAOB William Duhnke issued a statement reaffirming the significance to the capital markets of high quality and reliable financial statements, which, in turn, depend on the reliability of financial statements, quality audit services and effective regulatory oversight.  The statement notes the particular responsibility of U.S. regulatory agencies in monitoring audit-related information and in overseeing the regulatory framework for financial reporting.  The statement notes that U.S.-listed companies accounted for approximately 40% of the market capitalization of global public companies in 2017.

The Chairs of the Commission and the PCAOB and the Chief Accountant noted the formal cooperative arrangements that are in place between the Commission and foreign regulators and enforcement agencies, as well as the cooperative agreements in place between the PCAOB and foreign regulators allowing for the PCAOB to conduct joint inspections with such regulators or providing for the sharing of information.  Perhaps because of the increase in the number of China-based IPOs, the remarks focus on difficulties associated with obtaining access to information that would allow the PCAOB to do its work.  The remarks note that the laws of various countries include blocking statutes and data protection, privacy, confidentiality, bank secrecy, state secrecy, and national security laws that may create obstacles to cross-border flows of information between regulators and foreign-domiciled registrants.  In addition, the statement notes that the positions taken by some foreign authorities currently prevent or impair the PCAOB’s ability to inspect non-U.S. audit firms in certain countries.  The remarks then go on to address the issues affecting China-based companies:

“The Commission and the PCAOB currently face significant challenges in overseeing the financial reporting for U.S.-listed companies whose operations are based in China.  The business books and records related to transactions and events occurring within China are required by Chinese law to be kept and maintained there.  China also restricts the auditor’s documentation of work performed in the country from being transferred out of China.  China’s state security laws are invoked at times to limit U.S. regulators’ ability to oversee the financial reporting of U.S.-listed, China-based companies.  In particular, Chinese laws governing the protection of state secrets and national security have been invoked to limit foreign access to China-based business books and records and audit work papers.  As a result, for certain China-based companies listed on U.S. stock exchanges, the SEC and PCAOB have not had access to the books and records and audit work papers to an extent consistent with other jurisdictions both in scope and timing.”

The statement also alerts market participants that the PCAOB publishes on its website a list of companies whose auditors are located in jurisdictions where there are obstacles to PCAOB inspections, which currently includes 224 issuers of which 213 have auditors based in China or Hong Kong.  The statement concludes with an expression of frustration regarding the inability to have made more progress in reaching agreements with China that would provide the Commission and the PCAOB access to the information needed for information sharing, inspections, and oversight.  Finally, the Chairs and the Chief Accountant note that the failure to enter into such arrangements results in investor protection issues.  In order to address these investor protection issues, the Commission may be required to adopt measures mandating additional disclosures or even to restrict new issuances.

A recent E&Y report notes strong IPO activity in the first nine months of 2018, with 166 completed IPOs, which raised $44.4 billion.  This compares to 179 for the full year in 2017, which raised $40.4 billion.  AXA Equitable Holdings was the largest IPO of the first nine months of 2018.  For the first nine months of 2018, VC and sponsor-backed IPOs represented only 29 percent of all IPOs, which is a five-year low for financial sponsor-backed IPOs.  During this nine-month period, financial sponsor-backed IPOs accounted for 38 percent of total capital raised in the public market, which is down from 72 percent over the prior five years.  Foreign private issuer IPOs were at an all-time high in 2018.  There were 46 IPOs during the nine-month period.  Median IPO proceeds for IPO issuers during the period was $142 million.  Healthcare remained the most active sector for IPOs.  Approximately $6.2 billion was raised in Healthcare IPOs in the first nine months of the year.  Tech companies were the second most active and raised $13.7 billion.

The report also addresses the usage of EGC IPO accommodations.  Approximately 91 percent of the EGCs that have filed since the JOBS Act became effective have relied on confidential submission.  The median number of days for EGCs from IPO Registration statement submission date to IPO was 112 days.  A notable change cited in the E&Y report is that in 2018, 56 percent of new EGCs chose to adopt new accounting standards using private company effective dates.  This may be a result of perceived challenges associated with the new standards for revenue recognition, leases, and credit losses. For the period from 2013 through 2018 (9/30), 96 percent of EGCs provided reduced executive compensation disclosures, 80 percent provided two years of audited financials, and 24 percent adopted new accounting standards based on private company effective dates.

Wednesday, October 17, 2018
1:00 p.m. – 2:00 p.m. EDT

During this session, Partners Michael L. Hermsen and Anna T. Pinedo will review the accommodations available to foreign private issuers, or non-U.S. domiciled companies, that choose to access the U.S. capital markets. We will discuss assessing a company’s status as a foreign private issuer, the initial registration and ongoing disclosure requirements for foreign private issuers, liability considerations, and related topics. The speakers also will address recent developments significant to foreign private issuers, including:

  • Staff guidance regarding the foreign private issuer definition;
  • Areas of focus for SEC comments in anticipation of upcoming 20-Fs and 40-Fs, including cyber security matters;
  • Disclosure simplification;
  • Exhibits, HTML and XBRL for foreign private issuers and IFRS filers; and
  • Areas of likely SEC focus in the coming months.

Wolters Kluwer will provide CLE credit. For more information, or to register for this session, please visit the event website.

In an interesting paper titled “The Power of Words in Capital Markets:  SEC Comment Letters on Foreign Issuers and the Impact of Domestic Enforcement,” authors Daniel Giamouridis, Kleopatra Koulikidou and Stergios Leventis review the tone of comment letters issued to foreign private issuers and its effect on stock market activity.  The study is based on 1,324 comment letters issued and released on EDGAR from 2005 through 2014.  The comment letters include principally negative information about the registrants’ financial reporting quality.  The study assesses stock returns based on the EDGAR comment letter releases.  The findings show that there is a significantly higher negative market reaction related to foreign private issuers that prepare their financial statements in accordance with US GAAP, versus IFRS.