COVID-19 has affected the financial conditions and operations of all public companies, most in a negative way but some in very positive ways. Regardless of the impact, all public companies must consider the anticipated scrutiny they will receive from the U.S. Securities and Exchange Commission (SEC) and the possible risk they face from SEC Enforcement if they do not proceed with caution. While the rules and landscape may continue to evolve, it seems apparent at this point that SEC scrutiny related to COVID-19 is most relevant in the following ways.
1. SEC Enforcement’s role in monitoring relief funding. In a prior article, we discussed steps health care companies can take to protect themselves against government investigations related to COVID-19. But all companies that received relief funding must be careful.
For starters, public companies that received Paycheck Protection Program (PPP) loans must ensure that they met the application requirements at the time of funding. The SEC has already initiated enforcement proceedings against companies and individuals that made false representations in PPP loan applications. While the facts of these early cases are fairly egregious, the SEC has also issued “voluntary” inquiries to other companies regarding representations made in seeking CARES Act funding in an investigation titled In the Matter of Certain Paycheck Protection Loan Recipients. For public companies involved in this “sweep,” the SEC is interested not only in whether the companies met qualification requirements but also whether the companies’ financial representations in applying for loans match their disclosures to the public in SEC filings.
Companies must also ensure that they comply with the requirements for the use of funds. Many companies that received PPP monies are curious about how the government will scrutinize their use of those funds, especially given that in its rush to quickly disburse monies, the government issued often ambiguous and evolving guidance. Complicating matters, if a new administration takes power following the November election, there could be new rules and more aggressive review.
Because this is the largest relief package in U.S. history, there may be an unparalleled number of investigations in the months and years to come. Following the 2008 credit crisis, for example, the Office of the Special Inspector General for the Troubled Asset Relief Program’s (SIGTARP) work led to over 380 criminal investigations and approximately $11 billion in recoveries. Companies would be well advised to create specific plans to “self-audit” by reviewing all financial records submitted with their loan applications to ensure the accuracy of those records, and ensure that they meet the government’s updated guidance and are consistent with representations made in public filings.
2. SEC’s role in monitoring disclosures around COVID-19. In the era of COVID-19, public companies must be particularly vigilant about what they say to investors and the market about the impact of the virus, or risk regulatory or private actions under federal and state securities laws.
The SEC’s directors have urged companies to make “high quality” disclosures surrounding COVID-19, stating that boilerplate disclosures during a global pandemic will not suffice. SEC Chairman Jay Clayton has cautioned companies to provide investors “with insight regarding their assessment of, and plans for addressing, material risks to their business and operations resulting from the coronavirus to the fullest extent practicable to keep investors and markets informed of material developments.” The SEC has similarly encouraged companies to consider material changes to operations, liquidity and capital resources when making disclosures.
Putting this guidance into action, the SEC Division of Enforcement formed a coronavirus steering committee of two dozen leaders across the division. The steering committee’s role is to ensure consistency and coordination and to respond to COVID-19-related enforcement issues, including microcap fraud, insider trading, and accounting or other disclosure improprieties. The SEC has, at the same time, seen a spike in tips and complaints regarding COVID-19.
The SEC has made clear that it is actively monitoring the markets to detect fraudsters who seek to use the COVID-19 crisis to mislead investors or initiate investment scams. The SEC has had a particularly watchful eye over the statements and actions of health care and other companies developing or expanding lines of business related to vaccines, treatments or equipment to fight against the pandemic. In fact, of the dozens of COVID-19 fraud actions the SEC has filed, most have involved companies involved in testing, treating or protecting against the virus.
Relatedly, the plaintiffs bar has been quick to act as multiple federal securities class action lawsuits have been filed asserting claims under Section 10(b) and Rule 10b-5 that relate, directly or indirectly, to COVID-19. In one case against Norwegian Cruise Lines, the plaintiffs asserted liability based on the company’s alleged “failure to disclose the deleterious effect of COVID-19 on its financial performance.” Other similar suits are sure to follow.
To address these risks, all public companies must exercise caution with disclosures about their financial condition and their plans for managing pandemic-related risks. This would include considerations of the company’s risk factors, MD&A disclosures, and any public statements about relief funding and anticipated forgiveness of loans. The SEC has made clear that it expects public disclosures to reflect transparency, candor and thoughtfulness.
3. Insider trading. The impact of COVID-19 and uncertainty about the future have caused turmoil in the stock market. Many company insiders are receiving material non-public information more frequently than normal. As we have seen in several SEC actions, the SEC is paying close attention to insider trading activity and will be quick to act when FINRA or others raise red flags about suspicious trading.
Companies should carefully follow—and maybe even reconsider—their normal policies and practices around open windows for trading and closed windows around earnings and other discussions of non-public information. Companies should also carefully maintain and follow corporate controls to keep non-public material information confidential, including reminding employees of their confidentiality obligations.
Companies must stay current on SEC guidance and must coordinate closely with their audit committees regarding COVID-19-related disclosures. SEC scrutiny is increasing even as company operations continue to be disrupted and uncertainty about the future abounds. Companies that practice vigilance and intentional action will be best positioned to ensure compliance.
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