Foreign private issuers (“FPIs”) with a calendar year end must file their annual report on Form 20-F with the U.S. Securities and Exchange Commission (the “SEC”) no later than May 1, 2023.
This memorandum provides an overview of recent developments, trends and topics that are relevant to FPIs preparing their 2022 Form 20-F.
Approaching the 2022 Form 20-F
Last year, FPIs had to implement a number of new disclosure requirements that became effective for the 2021 Form 20-F. In contrast, while a range of disclosure focus areas should be considered this year, there are relatively few new mandatory disclosure requirements in effect for the 2022 Form 20-F.
The focus areas for the 2022 Form 20-F relate to the impact of events that occurred during 2022, such as the macroeconomic developments impacting companies around the world and the impacts of Russia’s invasion of Ukraine, as well as the areas covered by public statements made by SEC officials, SEC guidance, SEC comment letter trends and sample comment letters. Companies can seek to minimize future SEC comments and improve their overall disclosure by being sensitive to these areas of focus as part of the 2022 Form 20-F. Companies should also consider new SEC rules that are not yet in effect or are in the proposal stage to ensure the possible future disclosures are considered as part of the drafting process for the 2022 Form 20-F.
Disclosure Focus Areas
Many companies are currently being impacted by, or may potentially be impacted in the future by, a number of macroeconomic developments, including:
- rising inflation;
- increasing interest rates;
- supply chain disruptions;
- tight labor market conditions;
- volatility in commodity markets and exchange rates; and
- other direct or indirect ongoing impacts of the COVID-19 pandemic and Russia's invasion of Ukraine.
Companies should discuss in MD&A and as part of risk factors how macroeconomic developments have materially impacted or may materially impact their business, operations and financial performance, including impacts on liquidity, capital resources, business outlook, strategies and goals. Companies should also identify any material actions taken or planned to mitigate macroeconomic challenges and how these have impacted or may impact the company’s performance.
As part of that discussion, it is best to avoid describing currently prevailing conditions as future risks and uncertainties. Therefore, in preparing the 2022 Form 20-F, companies should review existing risk disclosures, which may have been previously discussed in the hypothetical, and update such disclosures to address the factors that have already had a material impact in 2022 and are expected to continue to be experienced in 2023 and to increase the specificity of such risk disclosures.
Another aspect of the increasing macroeconomic uncertainty and heightened volatility is that it may be more challenging for management to make the required critical accounting estimates and judgments in the preparation of a company’s financial statements, and such uncertainty and volatility may reduce the predictive value of historical financial statements. Companies should consider providing more detailed qualitative and quantitative disclosures on the underlying basis for their key judgments and estimates to enable investors to better evaluate the impact that estimation uncertainties had or may have on a company’s reported financial position and results of operations.
The disaggregation of income statement data to increase the granularity of information provided either on the face of the financial statements or in the notes thereto is currently a key priority of the Financial Accounting Standards Board and the International Accounting Standards Board, prompted in part by increasing stakeholder demands for enhanced decision-useful information in financial reporting. Therefore, companies should avoid conflating different drivers in the qualitative and quantitative discussion of the impacts of macroeconomic developments and should discuss each material factor separately.
After much anticipation, on March 21, 2022, the SEC released its proposed climate-related disclosure framework which, if adopted, would represent a sweeping overhaul of the current, materiality-based climate change disclosure requirements and would substantially expand the reporting obligations for public companies. The proposed disclosures are modeled in part on the disclosure framework recommended by the Task Force on Climate-Related Financial Disclosures and would require companies to include significant climate-related disclosure in both the body of periodic reports and registration statements as well as in the notes to the financial statements. The proposed rules would apply to both domestic issuers and FPIs (other than MJDS filers). For more information on the proposed rules, please refer to our related client publication.
In addition to this proposed rulemaking, the Staff of the Division of Corporation Finance (the “Staff”) has been focused on how companies comply with existing disclosure requirements, including the interpretative guidance published by the SEC in February 2010 and the sample letter to companies regarding climate change disclosures published by the SEC on September 22, 2021. As noted by SEC officials in December 2022 at the 2022 AICPA & CIMA Conference on Current SEC and PCAOB Developments (the “2022 AICPA Conference”), the SEC expects companies to take this interpretative guidance and the sample comment letter into account when preparing their 2022 year-end reporting.
The SEC issued a number of comment letters focused on climate-related disclosure matters during 2022, and these comments have frequently required multiple rounds of correspondence with the SEC examiners reviewing the filing. In preparing the 2022 Form 20-F, companies should consider how their own disclosures may be informed by the following typical themes and trends that can be identified in SEC comment letters:
Companies should consider whether the information included in their corporate social responsibility report or sustainability report (a “CSR Report”) should be included in their Form 20-F. Companies could take the view that not all of the information in a CSR Report is material to investors. The content of a CSR Report is intended for an audience that is broader than investors in the company’s securities and includes employees, customers, suppliers, non-governmental organizations and governments who may use CSR Reports for different purposes. Companies taking this view should be prepared to support the conclusion that the effects of climate-related matters, including the related costs and expenses, are not material, as the SEC may ask companies to quantify such effects, costs and expenses and provide detailed explanation of the materiality analysis.
Companies should focus on whether climate-related disclosures are required in respect of (i) the impact of pending or existing climate change-related legislation, regulations and international accords, (ii) the indirect consequences of regulation or business trends (such as transition risks relating to low/net zero carbon emissions), and (iii) the physical impacts of climate change.
Companies should disclose whether they have experienced or may experience a material increase in capital expenditures or operating costs associated with climate-related matters, including costs and expenditures incurred to mitigate the physical effects of climate change or incurred in connection with any plans they may have to reduce emissions or their reliance on carbon-based energy. Companies should consider whether any such increased costs or expenditures may represent a known material trend or uncertainty that should be disclosed as such
As further discussed in our related client publication, as companies prepare for reporting under a potential climate-related disclosure framework, companies should start the process of building the necessary internal controls and disclosures controls necessary for any climate-related disclosures. Early engagement is central to being ready for climate-related reporting as contemplated by the proposed climate disclosure rule, including to ensure that the underlying climate-related data captured by a company is reliable and is capable of being subject to any assurance requirements to which companies may become subject.
Updates to Non-GAAP Financial Measures Compliance & Disclosure Interpretations
The use of financial measures that do not conform either to U.S. GAAP or IFRS (“non GAAP financial measures”) continues to be a focus area for the SEC in its review of Form 20-F annual reports and other disclosures by FPIs.
On December 13, 2022, the SEC posted an update to its Non-GAAP Financial Measures Compliance & Disclosure Interpretations (“C&DIs”) Questions 100.01, 100.04 to 100.06, and 102.10(a), (b) and (c). As explained by the Chief Accountant within the SEC’s Division of Corporation Finance at the 2022 AICPA Conference, these updates are intended to reflect the previously communicated views of the Staff.
Companies should take the opportunity to review their use of non-GAAP financial measures, particularly in light of the updated C&DIs, including considering the following points:
Normal, recurring, cash operating expenses: The SEC expanded CD&I 100.01 to include the factors that the Staff considers when evaluating whether a non-GAAP financial measure excludes normal, recurring, cash operating expenses necessary to operate a company’s business (which is one example of a measure that could be misleading). The Staff considers the nature and effect of the non-GAAP adjustment and how it relates to a company’s operations, revenue-generating activities, business strategy, industry and regulatory environment. The Staff would view an operating expense that occurs repeatedly or occasionally (including repeating at irregular intervals) as being recurring.
Disclaimers cannot remedy a materially misleading non-GAAP financial measure: Newly inserted CD&I 100.06 explains that a non-GAAP financial measure could mislead investors to such a degree that even extensive, detailed disclosure about the nature and effect of each adjustment would not prevent the non-GAAP financial measure from being materially misleading.
Equal or greater prominence of comparable GAAP measures: CD&I 102.10(a) includes an updated list of examples of non-GAAP financial measures that are impermissibly more prominent than the corresponding GAAP measure. Updated examples include (i) presenting a ratio calculated using a non-GAAP financial measure without presenting the ratio calculated using the most directly comparable GAAP measure with equal or greater prominence, and (ii) presenting charts, tables or graphs of non-GAAP financial measures without presenting corresponding charts, tables or graphs of the comparable GAAP measures with equal or greater prominence.
Non-GAAP financial measures labeled “pro forma”: Newly inserted CD&I 100.05 provides examples of non-GAAP measures that would be misleading and therefore violate Rule 100(b) of Regulation G. One such example of a prohibited measure is a non-GAAP financial measure labeled “pro forma” that is not calculated in a manner consistent with the pro forma requirements in Article 11 of Regulation S-X.
In addition, companies that have recently made changes to the way in which they calculate non-GAAP financial measures (such as changes to “normalize” the impact of changes in their business or to remove the impact of foreign exchange fluctuations) should review the SEC’s guidance and any comments issued by the Staff on similar non-GAAP financial disclosures by other companies.
Russia’s Invasion of Ukraine
Companies should evaluate whether they have been or may be materially impacted by the direct and indirect effects of Russia’s invasion of Ukraine. Companies should review the sample letter to companies regarding disclosures pertaining to Russia’s invasion of Ukraine and related supply chain issues that the SEC published on May 3, 2022. Even if a company does not have operations in Russia, Belarus or Ukraine, disclosures may be required on the indirect consequences of the conflict, including supply chain disruptions, volatility in the trading prices of commodities and heightened cybersecurity risks.
On March 9, 2022, the SEC proposed rules that would require disclosure of the occurrence of, and developments related to, material cybersecurity incidents. The proposed rules would also require annual disclosure by public companies of their cybersecurity risk management policies, procedures and strategy, including the role of the board and whether the directors on the board have cybersecurity expertise. The proposed rules, with limited exceptions, would also apply to FPIs. The proposal significantly expanded upon the current SEC interpretative guidance related to cybersecurity disclosures issued in 2018. The comment period for the proposed rules was reopened, and the reopened comment period ended on November 1, 2022. For more information on the proposed rules, please refer to our related client publication.
In advance of any cybersecurity disclosure rules being finalized, companies should review the contents of the SEC interpretive guidance issued in 2018. In meeting their disclosure obligations, in certain circumstances, companies may need to disclose previous or ongoing cybersecurity incidents or other past events in order to provide the appropriate contextual disclosure necessary to effectively communicate cybersecurity risks to investors. Therefore, companies that have recently experienced a cybersecurity incident should carefully consider updating their cybersecurity disclosures, as disclosures that refer to purely hypothetical risks of a cybersecurity incident occurring would often not be sufficient in the face of such significant events having materialized.
Furthermore, even in the absence of finalized cybersecurity disclosure rules, companies should continue to establish and maintain procedures to ensure that cybersecurity incidents are communicated within the organization to individuals at appropriate levels of seniority and with the appropriate legal and technical experience in order to make materiality and disclosure determinations.
On December 8, 2022, the SEC published a sample letter to companies regarding recent developments in crypto asset markets. The letter highlighted the type of comments the Staff may issue in relation to a company’s evaluation of their exposure to, or the potential impact of, recent bankruptcies and financial distress among crypto asset market participants that caused widespread disruption in those markets. For example, companies should provide disclosure of any significant crypto asset market developments that are material to understanding or assessing such company’s business, financial condition and results of operations, or its share price since its last reporting period, including any material impact from the price volatility of crypto assets. Companies should consider both direct and indirect effects of recent crypto market events, including (i) a company’s exposure to counterparties and other market participants, (ii) risks related to a company’s liquidity and ability to obtain financing, and (iii) risks related to legal proceedings, investigations, or regulatory impacts in the crypto asset markets.
Recent Trends in SEC Comment Letters
The SEC issued significantly more comment letters on Form 20-Fs in 2022 than in prior years. In 2022, the SEC issued comment letters in respect of Forms 20-F filed by 101 companies, in contrast to 51 companies in 2021, 81 companies in 2020 and 78 companies in 2019.
In the 2021 fiscal year reporting season, in line with recent years, the most frequently occurring comments on annual reports related to:
MD&A (comments relating to results of operations and liquidity being the most prevalent),
non-GAAP financial measures
segment reporting, and
Comments on climate-related disclosures represented the most notable increase in the volume of comments on Form 10-K annual reports for domestic issuers, and climate-related comments on average required the largest number of rounds of comments to resolve compared to the most frequently occurring topics for SEC comments. While the Staff issued only a small number of climate-related disclosure comments on the annual reports of FPIs in 2022, we may see an increasing prevalence of comments directed at FPIs following the 2022 reporting season.
SEC and Nasdaq Updates
EDGAR Filing of "Glossy" Annual Reports and Form 144
On June 2, 2022, the SEC adopted amendments to its rules governing the electronic filing and submission of documents.
“Glossy” Annual Reports: Item 10J of Form 20-F has been amended to require FPIs to satisfy their Form 6-K obligation to furnish any “glossy” annual report by submitting the report electronically in PDF form on EDGAR, in accordance with the EDGAR Filer Manual, no later than the date on which the annual report is first sent to shareholders.
Form 144: When an affiliate of a company sells securities in the U.S. public markets in reliance on Rule 144, the affiliate is required to file Form 144 with the SEC, which is currently permitted to be filed in paper format. Starting on April 13, 2023, Form 144 filings relating to sales of securities of an SEC reporting company must be filed electronically on EDGAR. Unlike their counterparts of U.S. domestic issuers, directors and officers of FPIs are not subject to Section 16 filing obligations and therefore may not already have EDGAR filing codes. Therefore, directors, officers and other affiliates seeking to sell securities in reliance on Rule 144 should obtain EDGAR filing codes from the SEC in sufficient time to permit timely electronic filing of their required forms.
Nasdaq Board Diversity Disclosure Requirements
On August 6, 2021, the SEC approved the Nasdaq Stock Market’s proposal to amend its listing rules in order to advance greater board diversity through the combination of a “comply or explain” board diversity requirement to have a specified number of diverse directors and requirements to disclose additional board diversity statistics using a standardized matrix template. In contrast to many other Nasdaq corporate governance rules, the new board diversity requirements also apply to Nasdaq-listed FPIs. Companies can choose whether to disclose their board diversity matrix on their website or in their Form 20-F. Nasdaq has published a board diversity matrix template and illustrative examples.
Unless a company elects to provide disclosure on its website, Nasdaq-listed FPIs should include the board diversity matrix in the 2022 Form 20-F.
On December 14, 2022, the SEC issued a notice of an immediately effective change to extend and simplify the deadlines for Nasdaq-listed companies to comply with the “comply or explain” board diversity requirement and the annual deadline to provide board diversity matrix disclosures. The updated compliance deadlines are summarized as follows:
Companies listed on the Nasdaq Global Select Market or Nasdaq Global Market are required to have, or explain why they do not have, at least one diverse director by December 31, 2023, and at least two diverse directors by December 31, 2025.
Companies listed on the Nasdaq Capital Market are required to have, or explain why they do not have, at least one diverse director by December 31, 2023, and at least two diverse directors by December 31, 2026.
If a company elects to explain rather than comply with the diversity objectives (when compliance is required as described above), the company is required to identify the applicable requirements and explain the reasons why it did not satisfy them either (i) in any proxy statement or any information statement (or, if the company does not file a proxy statement, in its Form 10-K or Form 20-F, as applicable), or (ii) on the company’s website.
Nasdaq-listed companies are now required to comply with the board diversity matrix disclosure requirements, because this requirement became effective in 2022. This disclosure must be provided on an annual basis or before December 31 of each year either (i) in any proxy statement or any information statement (or, if the company does not file a proxy statement, in its Form 10-K or Form 20-F, as applicable), or (ii) on the Company’s website.
- If the company provides either of the above disclosures on its website, it is required to submit the disclosure concurrently with its proxy statement, Form 10-K or Form 20-F (as applicable) and submit a URL link to the disclosure through the Nasdaq Listing Center (or by emailing a specified email address), within one business day after the website posting.
The rule changes did not make any amendments to the underlying substance of the disclosure requirements. Therefore, companies with five or fewer board members can meet the board diversity objective by having only one instead of two diverse directors, and the transition periods for newly listed companies are unchanged. For more information on the Nasdaq requirements, please refer to last year’s edition of this client publication.
The SEC’s approval of Nasdaq’s board diversity requirements is currently being challenged before the U.S. Court of Appeals for the Fifth Circuit, which heard oral argument on August 29, 2022 (Alliance for Fair Board Recruitment v. SEC, 5th U.S. Circuit Court of Appeals, No. 21-60626).
Disclosure Regarding Foreign Jurisdictions That Prevent Inspections
The Holding Foreign Companies Accountable Act of 2020 (“HFCAA”) limits access to the U.S. capital markets for public companies that are audited by registered public accounting firms that are not subject to inspection by the Public Company Accounting Oversight Board (“PCAOB”). Among other provisions of the HFCAA, companies that file annual reports with financial statements audited by an auditor that did not permit PCAOB inspection will be required to include the disclosures specified in Item 16I of Form 20-F. For more information on the HFCAA, please refer to last year’s edition of this client publication.
On December 15, 2022, the PCAOB announced that it had determined that it has secured complete access to inspect and investigate registered public accounting firms headquartered in mainland China and Hong Kong. The PCAOB is required to make this determination at least annually and is able to make a further determination at any point. Therefore, unless and until the PCAOB determines that it is no longer able to completely inspect or investigate any registered public accounting firms headquartered in mainland China or Hong Kong because of a position taken by one or more authorities in such jurisdictions, the annual report disclosures referred to above are not required.
The SEC is required to prohibit trading on any U.S. national securities exchange and in the over-the-account market if the PCAOB is unable to inspect an SEC reporting company’s auditor for two consecutive years (Congress reduced this period from three years to two years in the 2022 omnibus spending legislation). Therefore, the PCAOB’s 2022 determination “resets the clock” on the two-year period.
SEC Filing Fees
As announced by the SEC on August 26, 2022, commencing on October 1, 2022 through September 30, 2023, the SEC filing fee for registration statements increased to $110.20 per $1 million of securities registered.
What is Coming Next?
SEC Regulatory Agenda
On January 4, 2023, SEC Chair Gary Gensler issued a Statement on Fall 2022 Regulatory Flexibility Agenda noting that the Office of Information and Regulatory Affairs had released the Fall 2022 Unified Agenda of Regulatory and Deregulatory Actions. This Unified Agenda is published twice a year and includes regulations that government agencies and departments are working on, including anticipated release dates. Submissions by agencies and departments to the Unified Agenda and indicated timetables are not binding, and departments and agencies can issue rules that are not listed on the Unified Agenda.
The Unified Agenda indicates that the Division of Corporate Finance is considering recommending that, among others, the SEC adopt the following rules with an expected timetable of April 2023:
disclosure of climate-related risks and opportunities (previously discussed in our related client publication),
cybersecurity risk management, strategy, governance and incident reporting disclosure rules (previously discussed in our related client publication),
modernization of share repurchase disclosures (previously discussed in our related client publication), and
modernization of beneficial ownership reporting (previously discussed in our related client publication).
Each of these rulemakings is expected to have a meaningful impact on FPIs.
The Unified Agenda also indicates that that the Division of Corporate Finance is considering recommending that the SEC propose rule amendments to enhance registrant disclosures regarding human capital management (“HCM”). If the SEC takes an approach that is consistent with its proposed climate and cybersecurity disclosure rules, any proposed HCM rules would also apply to FPIs. Therefore, companies should remain mindful of this focus area and our Corporate Governance & Executive Compensation Survey 2022 includes an analysis of HCM disclosure trends of domestic issuers.
Looking to the 2023 Fiscal Year Reporting Season
In addition to the potential rulemakings during 2023, companies should note that the following rules will be relevant for the 2023 fiscal year reporting season:
Clawback standards: By February 26, 2023, the NYSE and Nasdaq are required by SEC rules to issue listing standards with respect to the clawback of incentive-based compensation in connection with an accounting restatement due to material noncompliance with securities laws. These listing standards are required to become effective by November 28, 2023. Within 60 days after the relevant listing standards become effective, listed companies (including FPIs) must adopt a compliant clawback policy and subsequently filed Form 20-Fs will need to include information about the application of the policy as well as including the policy as an exhibit to Form 20-F. Therefore, companies should prepare to put in place clawback policies during 2023 and to comply with the new disclosure requirements in their 2023 Form 20-F.
Insider trading policies: In connection with the SEC’s amendments to Rule 10b5-1 plans, all FPIs (other than MJDS filers) will be required to disclose in their Form 20-F whether they have adopted insider trading policies (and if not, why not) and companies will be required to file their insider trading policies as an exhibit to Form 20-F. For FPIs with a calendar year end, these requirements will apply with effect from the Form 20-F for the year ending December 31, 2023 that is filed in 2024. Companies may want to take the opportunity to review and refresh their insider trading policies prior to public disclosure. For more information, please refer to our related client publication.
Resource extraction payments: Resource extraction companies (including FPIs) will be required to disclose on an annual basis any payments made to the U.S. federal government or foreign governments for the commercial development of oil, natural gas or minerals. Companies will be required to furnish to the SEC the required disclosure annually on Form SD. For companies with a calendar year end, the first Form SD is due by September 30, 2024 with respect to the 2023 fiscal year, as previously discussed in our related client publication