The Mysteries of Form 10-K Item 9 and Reporting Auditor Changes

Nov 05, 2019

By George Wilson 

As we move towards the end of the third-quarter and begin preparations for year-end reporting we are presenting a series of blog posts focused on common questions and problems in quarterly and annual reports. 

This blog post explores some complexities of Item 9 in Form 10-K and the reporting requirements for auditor changes.  To illustrate this point, Workshop Instructors Reed Wilson and Rich Alven, who lead SECI’s Form 10-K In-Depth Workshop and who review each Workshop participant’s Form 10-K as part of their Workshop preparations, noted that many of the participants’ company filings do not use Form 10-K Item 9 properly.  In a recent Workshop, two out of five companies who had auditor changes misused Item 9.

Clearly, this is a confusing disclosure requirement!

Overview and Summary

The explanation behind this confusion is long and detailed.  To help, here is a summary of how this disclosure requirement works.  You will get all the details as you read the rest of this blog post:

1.  Form 10-K Item 9 CANNOT be used to report auditor changes.

2.  ALL auditor changes MUST be reported on Form 8-K Item 4.01.

3.  Form 10-K Item 9 is only used to report certain information when there has been an auditor change previously reported on Form 8-K and the auditor change involved “disagreements or reportable events”.

4.  Auditor changes previously reported on Form 8-K where there were no “disagreements or reportable events” should not be disclosed in Form 10-K Item 9.

4.  Form 10-K Item 9 disclosure is only required when there was an auditor change that involved “disagreements or reportable events” that was previously reported on Form 8-K, the accounting issue that was the subject of the “disagreements or reportable events” continues to affect the company’s financial statements, AND the company’s new auditor does not require the company to account for these matters in the way the former auditor thought was in accordance with GAAP.

5.  In the event Item 9 disclosure is required, the company must disclose what the financial statements would have looked like had it followed the treatment the former auditor thought was GAAP.

The Details

One reason for this confusion is the Item 9 title in Form 10-K: “Item 9. Changes in and Disagreements With Accountants on Accounting and Financial Disclosure.”

From simply reading this description it might seem that auditor changes and /or disagreements with the former auditor should be reported here. 

That is not the case. 

Another issue that creates confusion in this area is the articulation of Form 10-K and 8-K.  Form 10-K  Item 9B can (generally!) be used to report information that would normally be reported on Form 8-K if the deadline for a Form 10-K falls in the period that an 8-K would be required.

However, a change in auditor cannot be reported on Form 10-K Item 9B.  Because auditor changes are such an important watch area for the SEC they issued this Compliance and Disclosure Interpretation.  Confusingly perhaps, the C&DI is not in the 8-K section, but in the overall General Guidance section:

Section 101. Form 8-K — General Guidance

Question 101.01

Question: If a triggering event specified in one of the items of Form 8-K occurs within four business days before a registrant's filing of a periodic report, may the registrant disclose the event in its periodic report rather than a separate Form 8-K? If so, under what item of the periodic report should the event be disclosed? Item 5 of Part II of Form 10-Q and Item 9B of Form 10-K appear to be limited to events that were required to be disclosed during the period covered by those reports.

Answer: Yes, a triggering event occurring within four business days before the registrant's filing of a periodic report may be disclosed in that periodic report, except for filings required to be made under Item 4.01 of Form 8-K, Changes in Registrant's Certifying Accountant and Item 4.02 of Form 8-K, Non-Reliance on Previously Issued Financial Statements or a Related Audit Report or Completed Interim Review. The registrant may disclose triggering events, other than Items 4.01 and 4.02 events, on the periodic report under Item 5 of Part II of Form 10-Q or Item 9B of Form 10-K, as applicable. All Item 4.01 and Item 4.02 events must be reported on Form 8-K. Of course, amendments to previously filed Forms 8-K must be filed on a Form 8-K/A. See also Exchange Act Form 8-K Question 106.04 regarding the ability to rely on Item 2.02 of Form 8-K. [April 2, 2008]

So, it is clear that neither Item 9B nor Item 9 in Form 10-K should be used to report auditor changes.  All changes in auditors must be reported on Form 8-K because this is such a sensitive issue given the risk of opinion shopping.

So, what exactly is supposed to be reported in Item 9?  The S-K reference in Item 9 is to S-K Item 304(b).  This part of S-K requires the following disclosures:

(b) If: (1) In connection with a change in accountants subject to paragraph (a) of this Item 304, there was any disagreement of the type described in paragraph (a)(1)(iv) or any reportable event as described in paragraph (a)(1)(v) of this Item;

(2) During the fiscal year in which the change in accountants took place or during the subsequent fiscal year, there have been any transactions or events similar to those which involved such disagreement or reportable event; and

(3) Such transactions or events were material and were accounted for or disclosed in a manner different from that which the former accountants apparently would have concluded was required, the registrant shall state the existence and nature of the disagreement or reportable event and also state the effect on the financial statements if the method had been followed which the former accountants apparently would have concluded was required.

These disclosures need not be made if the method asserted by the former accountants ceases to be generally accepted because of authoritative standards or interpretations subsequently issued.

This disclosure requirement begins to unravel the mystery, but to fully understand Item 9 we need to review exactly what “a change in accountants subject to paragraph (a) of this Item 304” is about, and understand what the disclosures about a “disagreement of the type described in paragraph (a)(1)(iv) or any reportable event as described in paragraph (a)(1)(v) of this Item” are about.

It turns out these are the normal requirements for disclosures about a change in auditors required in Form 8-K.  The instructions for Item 4.01 in Form 8-K state:

Item 4.01 Changes in Registrant’s Certifying Accountant.

(a) If an independent accountant who was previously engaged as the principal accountant to audit the registrant’s financial statements, or an independent accountant upon whom the principal accountant expressed reliance in its report regarding a significant subsidiary, resigns (or indicates that it declines to stand for re-appointment after completion of the current audit) or is dismissed, disclose the information required by Item 304(a)(1) of Regulation S-K (17 CFR 229.304(a)(1) of this chapter), including compliance with Item 304(a)(3) of Regulation S-K (17 CFR 229.304(a)(3) of this chapter) .

So, any change in auditors will be covered by S-K Item 304(a).  However not all auditor changes will include the disclosures about a “disagreement of the type described in paragraph (a)(1)(iv) or any reportable event as described in paragraph (a)(1)(v) of this Item”.

These disclosures will only be required when there has been an auditor change where there were reportable events or disagreements.

(As a side note, don’t forget that retaining a new auditor also requires an Item 4.01 8-K.)

So, this means that disclosure in Form 10-K Item 9 is only required if there has been an auditor change that was previously reported on Form 8-K and as part of the change the company disclosed disagreements with the auditor or reportable events.

But the decision process does not end here.  As the instructions to Item 9 refer to S-K Item 304(b) this item provides that disclosure has to be made when the company’s new auditor agrees with the company’s position and does not make the company account for the transactions or other matters involved in the disagreement the way the former auditors thought was appropriate.

Conclusion and Summary

1.  Form 10-K Item 9 CANNOT be used to report auditor changes.

2.  ALL auditor changes MUST be reported on Form 8-K Item 4.01.

3.  Form 10-K Item 9 is only used to report certain information when there has been an auditor change previously reported on Form 8-K and the auditor change involved “disagreements or reportable events”.

4.  Auditor changes previously reported on Form 8-K where there were no “disagreements or reportable events” should not be disclosed in Form 10-K Item 9.

4.  Form 10-K Item 9 disclosure is only required when there was an auditor change that involved “disagreements or reportable events” that was previously reported on Form 8-K, the accounting issue that was the subject of the “disagreements or reportable events” continues to affect the company’s financial statements, AND the company’s new auditor does not require the company to account for these matters in the way the former auditor thought was in accordance with GAAP.

5.  In the event Item 9 disclosure is required, the company must disclose what the financial statements would have looked like had it followed the treatment the former auditor thought was GAAP.

Given the complexity of this decision process, it is not surprising that this disclosure requirement creates confusion.  That said, given the more or less “confessing to opinion shopping” orientation of this disclosure, it is really best to not use Item 9 unless it is really required!

As always, your thoughts and opinions are welcome, and if you know of a particularly interesting auditor change please put it in a comment to this post!


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