A Déjà vu Enforcement Case – A Disclosure Control Reminder

Oct 29, 2020

By George Wilson

 

In this blog post we reviewed a “know-trend” enforcement case against HP INC., which had pushed inventory into channels, a tactic which was “reasonably likely” to result in lower revenues in the future. 

 

An additional important aspect of this case focuses on “disclosure controls and procedures.”  Unlike ICFR, companies must report on the effectiveness of their disclosure controls and procedures each quarter.  Disclosure controls are defined in Exchange Act Rule 13a-15(e):

 

(e) For purposes of this section, the term disclosure controls and procedures means controls and other procedures of an issuer that are designed to ensure that information required to be disclosed by the issuer in the reports that it files or submits under the Act (15 U.S.C. 78a et seq.) is recorded, processed, summarized and reported, within the time periods specified in the Commission's rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by an issuer in the reports that it files or submits under the Act is accumulated and communicated to the issuer's management, including its principal executive and principal financial officers, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure.

 

In the AAER for the HP INC. case the SEC stated:

 

HP lacked sufficient disclosure controls and procedures to ensure that the use of pull-ins and A-Business to meet quarterly sales targets, and their negative impact on margin and potential impact on future quarters, was provided to the HP executives responsible for the company’s disclosures in a timely manner as required by Rule 13a-15(a). Among other things, HP lacked company-wide controls over the use of discounts by regional management. Moreover, HP’s lack of visibility into channel inventory levels below Tier 1 left it without meaningful insight into its overall channel health. In addition, HP’s disclosure process lacked sufficient interaction with operational personnel who reasonably would have been expected to recognize that the known trends attributable to the pull-ins and A-Business were absent from HP’s disclosures.

 

Instead, HP’s principal financial officers and principal executive officers who were responsible for the company’s disclosures learned of the conduct in connection with HP’s planned shift from a push to a pull model quarters after the actual conduct had taken place. HP’s failure to have controls and procedures in place to ensure the timely provision of information to the officers responsible for its disclosures violated Exchange Act Rule 13a-15(a).

 

An important theme in this case is that a company’s disclosure process needs to involve persons responsible for business decisions and strategy as well as those persons who are responsible for and knowledgeable about disclosure requirements.  This dovetails nicely with the new Regulation S-K Item 101 disclosure requirement to include:

 

“Any material changes to a previously disclosed business strategy.”

 

As always, your thoughts and comments are welcome!


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