Emerging from EGC Status: Transition Periods for Former EGC Issuers to Comply with Reporting and Corporate Governance Requirements

March 12, 2014

Nearly two years ago, on April 5, 2012, President Obama signed the Jumpstart Our Business Startups Act ("JOBS Act") into law.  As part of the law’s effort to encourage U.S. initial public offerings, the JOBS Act loosened restrictions on a new category of issuer, the Emerging Growth Company ("EGC"), which generally is an issuer that had less than $1 billion in annual revenues in its most recently completed fiscal year and that conducted its initial public offering after December 8, 2011.  For as long as an issuer remains an EGC, it benefits from a number of exemptions from certain reporting and corporate governance requirements that apply to public companies that are not EGCs.[1]

On January 1, 2014 some calendar fiscal year EGC issuers lost their EGC status, and additional EGC issuers will lose their EGC status going forward as their fiscal year-ends pass.[2]  These issuers will no longer qualify for certain exceptions and will be required to transition to more extensive disclosure obligations and expanded corporate governance requirements.  This Client Alert discusses the transition times for an issuer that ceases to be an EGC to comply with the reporting and corporate governance requirements that apply to non-EGCs.

Under Section 2(a)(19) of the Securities Act of 1933 and Section 3(a)(80) of the Securities Exchange Act of 1934, as amended (the "Exchange Act"), an EGC will lose its EGC status upon the earliest of:

  • the last day of the first fiscal year in which the company’s annual gross revenues exceed $1 billion;
  • the date on which the company is deemed to be a large accelerated filer (as defined in Rule 12b-2 under the Exchange Act);[3]
  • the date on which the company has, during the previous three-year period, issued more than $1 billion in non-convertible debt; and
  • the last day of the fiscal year in which the fifth anniversary of the company’s first sale of equity securities pursuant to an effective registration statement occurs.

In most instances, the JOBS Act does not directly address the transition periods for an issuer that was an EGC to comply with the reporting and corporate governance requirements that apply to non-EGCs, and the transition periods described below may be subject to differing interpretations.

REQUIREMENT

TRANSITION PERIOD

Auditor’s Opinion on Effectiveness of Internal Controls  (pursuant to Item 404(b) of the Sarbanes-Oxley Act of 2002) ("Attestation Report")

  • If the issuer is an accelerated filer or a large accelerated filer (as defined in Rule 12b-2 under the Exchange Act), then it must include an Attestation Report in the next Form 10-K it files after ceasing to be an EGC. 
  • If the issuer is neither an accelerated filer nor a large accelerated filer, then it will continue to be exempt from including an Attestation Report.

CD&A and Other Executive Compensation Disclosure Required of Non-EGC Public Companies

  • If the issuer is not a "smaller reporting company" as defined in Item 10(f) of Regulation S-K, full executive compensation disclosure may be required in public filings as early as the first filing that requires executive compensation disclosure after the issuer ceases to be an EGC.[4]  
  • If the issuer is a "smaller reporting company," then it will continue to be entitled to provide "scaled" executive compensation disclosures.

Say-on-Pay Vote

  • If the issuer is an EGC for less than two years following the first registered sale of equity securities, the first say-on-pay vote must be held prior to the third anniversary of such registered sale of equity securities.
  • If the issuer is an EGC for at least two years, the first say-on-pay vote must be held prior to the first anniversary of the date the issuer ceases to be an EGC.

Say-on-Frequency Vote

This say-on-frequency vote may be required as early as the first annual meeting that takes place after the issuer ceases to be an EGC.[5]

Golden Parachute Advisory Vote

At any stockholders’ meeting that takes place after the issuer ceases to be an EGC at which stockholders are asked to approve an acquisition, merger, consolidation, or a proposed sale or other disposition of all or substantially all the issuer’s assets.  However, in lieu of holding this vote at a stockholders’ meeting in connection with a particular transaction, an issuer may seek advance stockholders consent to these arrangements at any earlier time.[6]  

Presentation of Five Years of Selected Financial Data in Form 10-K

An EGC may include as few as three years of selected financial data in its initial Form 10-K filing (including the most recently completed fiscal year and all prior fiscal years for which audited financial statements were presented in its first effective registration statement) and subsequently will present an additional year of selected financial data in each Form 10-K filing until a full five years are presented.  The Staff has stated that, when an issuer ceases to be an EGC, the Staff will not object if the issuer does not present selected financial data in its Form 10-K filings for periods prior to the earliest audited period presented in its initial registration statement.[7]

Compliance with New or Amended Accounting Standards Issued by the FASB[8]

If the issuer ceases to be an EGC during the extended transition period for adopting the financial accounting standard (i.e., after the beginning of the fiscal year or period with respect to which it would have first been required to adopt the standard if it were not an EGC, but before the fiscal year or period with respect to which it would first be required to adopt the standard if it had remained an EGC):

  • Although the Staff has not provided transition guidance, it appears that adoption would be required in the issuer’s first periodic report after it ceases to be an EGC; and
  • Absent transition guidance from the Staff, the issuer would likely be required to apply the accounting standard retrospectively to the beginning of the fiscal year if such standard requires adoption as of the beginning of an entity’s fiscal year.

If the issuer ceases to be an EGC prior to the effective date that applies to public companies, adoption would be required following the effective date that applies to non-EGC public companies.

Note that, if the new or amended accounting standard requires retrospective application, the issuer would also be required to apply the accounting standard retrospectively to financial statements and financial information for prior fiscal years (and interim periods within those fiscal years) that it presents in its periodic reports.

Pay-Ratio Disclosure[9]   

To be determined based on transition periods set forth in the final pay-ratio disclosure rules adopted by the SEC, but not earlier than the first periodic report required to include pay-ratio disclosure after the issuer ceases to be an EGC.

Pay-Versus-Performance Disclosure[10]

To be determined based on transition periods set forth in the final pay-versus-performance disclosure rules adopted by the SEC, but not earlier than the first proxy statement filed after the issuer ceases to be an EGC.

New PCAOB Rules

To be determined based on transition provisions in any such final rule; provided that, while the issuer is an EGC:

  • any rule requiring a supplement to the auditor’s report in which the auditor would be required to provide additional information about the audit and the financial statements will not apply to an audit of the issuer; and
  • any rules not described in the previous bullet point will apply to the issuer only if the SEC determines that the application of such requirements to the audit of EGCs is necessary or appropriate in the public interest.

   [1]   For a more complete discussion of the JOBS Act and these exemptions, see our alert of March 28, 2012, which is available at the following link: http://www.gibsondunn.com/publications/Pages/JOBSActChangesPublic-PrivateCapitalMarketsLandscape.aspx

   [2]   In most cases, an EGC will lose its EGC status at the end of its fiscal year.  As noted below, however, an EGC may also lose its EGC status mid-year if it issues non-convertible debt securities in an aggregate principal amount that, together with all issuances of non-convertible debt securities during a rolling three-year period, exceeds $1 billion.

   [3]   A company qualifies as a large accelerated filer if: (a) the company’s public float of its common equity was $700 million or more as of the last business day of its most recently completed second fiscal quarter, (b) the company has been subject to the reporting requirements of Section 13(a) or 15(d) of the Exchange Act for at least twelve calendar months, (c) the company has filed at least one annual report to stockholders under Section 13(a) or 15(d) of the Exchange Act and (d) the company is not able to use the smaller reporting company requirements for its annual and quarterly reports.

   [4]   Notably, this transition is more accelerated than the transition that applies to issuers that cease to be smaller reporting companies, which need only provide the full executive compensation disclosure with respect to the fiscal year that begins after the issuer ceases to be a smaller reporting company.

   [5]   Unlike with respect to the say-on-pay vote, the statute does not provide an explicit transition period for the first say-on-frequency vote, so it appears that the say-on-frequency vote would be required at the first annual meeting taking place after the issuer ceases to be an EGC.

   [6]   Because an EGC may choose to forego some or all of the exemptions available to it under Section 14A of the Exchange Act, it appears that the issuer may seek advance stockholder consent to these arrangements while it remains an EGC.

   [7]   See Generally Applicable Questions on Title I of the JOBS Act, Question 50 (available at: http://www.sec.gov/divisions/corpfin/guidance/cfjjobsactfaq-title-i-general.htm#q42).

   [8]   Assuming the issuer has not opted out of the extended accounting transition relief afforded to EGCs.

   [9]   The SEC is required by the Dodd-Frank Act to adopt rules requiring "pay-ratio" disclosure.  The SEC issued a rules proposal on Sept. 18, 2013 (available at: http://www.sec.gov/rules/proposed/2013/33-9452.pdf), but has not yet adopted final rules.  The proposed rules would not apply the pay ratio disclosure requirements to smaller reporting companies, so an issuer that loses its EGC status but is a smaller reporting company would continue to be exempt from this disclosure obligation.

  [10]   The SEC is required by the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (the "Dodd-Frank Act") to adopt rules requiring "pay-versus-performance" disclosure.  However, the SEC has not yet proposed or adopted such implementing rules. 

Gibson, Dunn & Crutcher LLP  

Gibson, Dunn & Crutcher’s lawyers are available to assist in addressing any questions you may have regarding the issues discussed above.  Please contact the Gibson Dunn lawyer with whom you usually work, or any of the following:

Stewart L. McDowell – San Francisco (415-393-8322, smcdowell@gibsondunn.com)
Glenn R. Pollner – New York (212-351-2333, gpollner@gibsondunn.com)
Blaise F. Brennan – Washington, D.C. (202-887-3700, bbrennan@gibsondunn.com)
Sean Sullivan – San Francisco (415-393-8275, ssullivan@gibsondunn.com
)

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