Regulation FD—Coping in the Trenches.

CFOs tell how the SEC’s stricter disclosure rules have changed the way they release financial information about their companies.

THE SEC HAS TAKEN ITS FIRST ENFORCEMENT ACTIONS against companies that violated regulation FD by selectively disclosing material nonpublic information about themselves to certain parties, such as investment analysts, before sharing it with the public.

CPAs CAN PLAY AN IMPORTANT ROLE for their public-company clients and their employers—if they work for an SEC registrant—by ensuring those companies understand what regulation FD requires of them and how they can most easily and effectively comply with it.

CLEAR DISCLOSURE GUIDELINES are the starting point for an effective strategy for complying with regulation FD. CPAs should advocate documentation that spells out what kinds of information the rules govern and to whom, when and under what circumstances company officials are permitted or obligated to release it.

A COMPREHENSIVE COMMUNICATIONS REVIEW procedure is an essential complement to disclosure guidelines. CPAs should recommend that such procedures provide for knowledgeable vetting of all company announcements to ensure they conform with regulation FD’s provisions and, when necessary, for initiating corrective actions within prescribed time frames.

COMPANIES MUST ENSURE WIDESPREAD DISTRIBUTION to avoid selective disclosure when they release material nonpublic information. CPAs can recommend several ways to achieve this. One method is to file a Form 8-K with the SEC. Others include issuing a press release through a news or wire service or hosting a webcast—an Internet-based live or delayed version of a sound or video broadcast.

IF A COMPANY MAKES A SELECTIVE DISCLOSURE of material nonpublic information, the time frame within which it must share those data with the public depends on whether the disclosure was intentional or unintentional. If the company did it deliberately, it must make a public statement at the same time as the selective disclosure. But if it inadvertently disclosed the information, it must make a public announcement by the later of 24 hours afterward or the beginning of the next trading day on the New York Stock Exchange.

ED McCARTHY is a freelance writer in Warwick, Rhode Island, who specializes in finance and technology. His e-mail address is .

o one knew how stringently the SEC would apply regulation FD, which requires public companies to share earnings data and related information equally with all interested parties. But last November the commission instituted its first enforcement actions against a number of companies and, in the process, gave many others a wake-up call. Here’s how several CPAs, drawing on their own experiences and those of companies caught violating regulation FD, say you can help keep your clients or your employer—if you work for an SEC registrant—in compliance. (Also, see “ After Regulation FD: Talking to Your Constituents, JofA , Feb.01, page 28.)

This article examines the cases of four companies (referred to below as A, B, C and D) the SEC cited for inequitable disclosure practices. While three were the SEC’s first regulation FD enforcement actions, the agency’s regional offices have been actively monitoring potential violations.

Boris Feldman, a partner and securities litigator in law firm Wilson Sonsini Goodrich & Rosati’s Palo Alto, California, office, advises publicly traded companies on regulation FD. He reports the SEC contacted a number of his clients with disclosure-related questions since the regulation became effective. “Several of our clients received calls from, for example, the SEC’s San Francisco regional office saying, ‘We noticed such and such a comment triggering a stock reaction,’” Feldman says. “‘Would you mind bringing the CFO in? We want to talk to her about what happened.’”

By making such inquiries, the commission sought to determine whether a sudden movement in the price of a company’s stock was precipitated by the actions of a small group of investors to whom the company—intentionally or not—had selectively disclosed nonpublic material information about itself. In instances where this happened, a privileged few had acted on their exclusive knowledge and bought the company’s stock before its price rose or sold the stock short before its price fell. In either case the “insiders” profited when the information became public and the stock’s price moved in the direction they had anticipated, producing the profits they had expected.

Playing It Safe
When regulation FD took effect in October 2000, companies began making public “preannouncements” or advance statements of their earnings. The number of such press releases doubled in 2001 and has continued to grow rapidly.

Source: Thomson Financial/First Call, .

When a company releases such information to everyone simultaneously, however, the playing field is level and no one has an advantage. Since that was the SEC’s goal in issuing regulation FD, companies actually or seemingly not complying may attract the attention of the commission’s enforcement division.

So how do you avoid regulation FD violations? Feldman and the CPAs interviewed for this article recommend companies create a compliance program that

Establishes clear disclosure guidelines.

Follows a stringent communications review procedure.

Uses multiple channels to disseminate information.

Ensures the company responds quickly and effectively after nonpublic disclosures.

The next four sections of the article explain how to implement these compliance objectives.

Feldman urges his clients to adopt bright-line rules—precise limits—that provide clear guidance to staff members on what they safely can disclose. Such procedures help prevent errors in judgment that can lead to inadvertent violations during, for instance, an unscripted conference call or presentation. “You don’t want to have to weigh different factors when you’re on a call with an analyst or a reporter,” he says. “Instead, you need red-light and green-light rules,” meaning unambiguous instructions that indicate whether releasing information in a given situation is forbidden or permitted under regulation FD. “For example, after you give your outlook in an earnings release or in a conference call, you could make it a standard practice that you don’t update it during the quarter unless you find your estimate was so far off that you have to put out another release preannouncing a quarterly miss. That’s a bright-line rule,” Feldman says.

Such a precept might have prevented company A from violating regulation FD. On two occasions its CEO disclosed information to two portfolio managers about a significant sales contract the company had not announced publicly. If the company’s policy had prohibited the CEO from discussing the contract until the company had publicly announced it in a press release, it could have avoided the violation. But since the company had no such protocol, it broke the SEC rule and in November the commission issued a public cease-and-desist order prohibiting the company from continuing its illegal practices but imposing no penalty.

Earnings projections between scheduled announcements are an area where it’s easy to violate regulation FD. Feldman advises his clients to provide forecasts at the beginning of the quarter and then to avoid any subsequent confirmation or denial of analysts’ estimates. “Don’t give updates, even casual ones such as, ‘We’re on track,’” he says. “If you must provide an update, do it through a press release.”

Some experts offer even more conservative advice. Susan M. Barnard, a partner of law firm Sullivan & Worcester in Boston, says her firm tells its clients “to eliminate private analyst calls. Now everything goes out over a simulcast—a live broadcast on, for example, the Web and television—or a conference call. Our clients no longer correct analysts’ forecasts, either,” she adds. “They rectify errors only in reports of historical facts.”

At Ross Systems Inc., a software developer in Atlanta, Verome M. Johnston, CFO and CPA, follows a procedure similar to the one Feldman advocates. According to Johnston, the company issues earnings projections annually but not quarterly and limits its quarterly press releases to initial estimates followed by confirmed numbers. “As soon as possible after the quarter has ended and we have discussed our revenues with our external auditors, we issue a preliminary revenue and earnings outlook in the form of a press release,” he says. “We advise the public that it is preliminary and subject to a routine evaluation. After the external auditors have completed their review, we confirm the earnings estimate in a detailed press release.”

Reg FD Tool Kit
CPAs should ensure these essential resources are available for corrective action when an official representing their employer or client reveals material nonpublic information.

Contact list. Companies should designate an emergency response team with the knowledge and authority to make supplemental announcements that can counter the effects of a selective disclosure. Each person on that team and all company officials who discuss significant topics with external parties should exchange cell phone numbers and e-mail addresses to ensure timely communication in a crisis.

Communications capability. All company spokespersons and members of the company’s emergency response team should have cell phones and keep them on at all times. E-mail can serve as a backup communications medium, especially when circulating documents for review.

Procedures. CPAs should help their employers and clients prepare a comprehensive plan that clearly identifies necessary actions, responsible parties and deadlines for completion. All members of management and the emergency team should maintain a copy of the plan for reference.

Designated coordinator. The company should identify a senior manager—and at least one backup person—to oversee the ongoing appropriateness of the emergency plan and the readiness of those responsible for executing it.

—Robert Tie

Robert Tie is a senior editor with the JofA . His e-mail address is .

Johnston also points out the need to control disclosures to internal audiences. “In the past, during a company-wide meeting, we might have given some casual indications of our current financial performance. But we’ve definitely curtailed that practice and now treat all parties the same. We disclose any new information in a press release, and we disseminate it through the proper channels to make sure we comply with regulation FD.” Besides sending information to the SEC, companies can distribute their announcements through Business Wire ( ) and other services that deliver corporate press releases to the media, financial markets, investors and other public audiences.

With the help of compliance experts, a company can review its internal and external communications practices—to see whether they comply with regulation FD—and reduce the likelihood of its violating the rule, as company B did. During a public conference call, the CEO said the company had a negative business outlook. But three weeks later, at an invitation-only technology conference, he presented attendees with a positive view of the company’s prospects, and the price of its stock immediately rose 20%. In fining the company $250,000, the SEC said the public did not have access to the technology conference and was unable to benefit from the information disclosed there. Clearly, if a process—for example, a prior review by in-house counsel—for vetting the CEO’s planned remarks had been in place, it might have revealed the discrepancy and saved the company a quarter of a million dollars.

At Ross Systems, Johnston’s staff members collect data—such as descriptions of recently added customers—for use in reports and news releases. The company then combines the information with that from other departments and makes an announcement. If management believes the announcement is nonmaterial—for example, a routine statement about a new account or employee—it is reviewed internally only. But notices regulators might consider material, such as the loss of a major account, undergo an external review as well. “In those cases we also let our accountants, corporate counsel and securities-law attorneys take a look at them,” Johnston says.

W.R. Grace & Co., a chemical products manufacturer in Columbia, Maryland, also follows a thorough communications review procedure. The company circulates draft press releases by e-mail through its financial, executive and legal groups, the last of which includes SEC counsel. “This gives key managers and each division a chance to contribute to the document’s language,” says Robert M. Tarola, CFO and CPA. “We don’t send anything outside the company without going through that process. We can accomplish this within hours if necessary, but it usually takes a few days when the release is about a complex subject such as quarterly earnings.”

Many of the violators made the same mistake: Each of their cases involved a material disclosure from corporate management to a select audience via private conversations or an invitation-only meeting. For example, the SEC cited company C for material nonpublic disclosures to securities analysts following one of its investor conferences. The commission said the company’s CFO selectively had disclosed quarterly and semiannual earnings projections during one-on-one talks with analysts about the accuracy of their estimates of the company’s first-quarter earnings. Following these discussions, the analysts revised their calculations to align them more closely with the company’s estimates—the outcome management had sought so that the company’s performance would be consistent with expectations and its shares would appear to be safe investments.

Like company A, company C discontinued such illegal practices, settled with the SEC and received no penalty.

Since regulation FD prohibits behind-the-scenes maneuvers, CPAs should advise companies to simultaneously communicate all potentially material information through many different channels. Toward that end CPA Thomas A. Nardi, CFO of Peoples Energy Corp., a distributor of natural gas based in Chicago, says that his company now files Form 8-K more frequently with the SEC (for a list of the most common corporate filings, go to ). In addition Peoples conducts its quarterly earnings conference calls by means of webcasts—Internet-based live or delayed versions of sound or video broadcasts—which it then archives and makes available for replay by interested parties. According to Nardi, the company still meets face-to-face with analysts; but, he says: “We’re careful to operate within the requirements of regulation FD. We don’t disclose any material information that has not been publicly disseminated.”

The Easiest Way to Comply
A lthough the SEC cited four companies for violating regulation FD, its actions toward them varied. What lay behind the SEC’s different treatment of these companies? Reflecting the complexity of the circumstances prompting the enforcement actions, the five SEC commissioners were unable to agree on whether a fine was appropriate as part of each case.

The vote was 4-1 against a penalty for company A and company C and 3-2 in favor of one for company B. The commission unanimously opposed enforcement action against company D. Since it’s so difficult to predict the SEC’s reaction to a particular form of disclosure violation, the moral for CPAs and CFOs is to advise clients and/or employers that it’s easier and less expensive to be conservative. In short: When in doubt, issue a press release.

—Robert Tie

Webcasts are gaining in popularity—and for good reason. Feldman says that since many investors have Internet access, almost every company he advises uses the Internet-based programs to publicize the announcements and presentations they make at analyst meetings and investor conferences. He wholeheartedly endorses the practice because webcasts distribute information immediately to everyone and allow it to be saved for future reference. Plus, “they give the company a cushion if, for example, its management says too much in response to an analyst’s question,” Feldman says. “Because the webcast is out there for the world to see, it can prevent the company’s disclosure from being selective and violating regulation FD.”

If an SEC registrant releases nonpublic material information, it must act quickly to correct its error. The SEC requires that in such a case the company “must publicly disclose the information promptly after it knows (or is reckless in not knowing) the information selectively disclosed was both material and nonpublic.” The time frame within which the company must make a public announcement depends on whether the selective disclosure was intentional or unintentional. If it was deliberate, the press release or other public statement must be simultaneous with the nonpublic disclosure. But if it was unintentional, the regulation allows the company 24 hours to recognize the violation and disseminate the inadvertently disclosed information through public channels.

To take effective action within 24 hours, the company must have a corrective procedure in place. “You need a clear chain of command in the communications channel,” Feldman says. “The key is being able to track down a spokesperson, such as the company’s CEO, CFO, investor relations officer or attorney.”

And while it’s important to have “backup” contact staff, together they must deliver a coordinated message. “Determine who will say what,” Barnard advises. To that end, the CPA should ensure that company officials with the knowledge and authority to make public announcements work together as part of a well-thought-out communications strategy. In this way they can address an unintentional disclosure on a timely basis.

The case of company A demonstrated the importance of having a plan for rapid corrective action. The company’s CEO, working from his home, participated in a conference call with a portfolio manager and a salesperson from an investment advisory group. From her office, the company’s director of investor relations also took part in the conversation. During the call, the director realized the CEO unwittingly disclosed nonpublic information, but she didn’t interrupt him. As soon as the conference call ended, she tried to reach him by telephone but was able to leave him only a voice-mail message expressing her concern over his inadvertent selective disclosure. Not until an hour later did the CEO get her message. He then asked the other call participants to keep the information confidential, but took no further action that day.

At the time the CEO learned of his disclosure error, he had 24 hours to publicly disseminate the material information. That much time was available because his selective release was unintentional . But that time frame became irrelevant the next day, when the CEO again selectively disclosed—this time intentionally —the material information without issuing a press release. He divulged the news only to analysts because he wanted them to know of a large purchase order his company had won, but he didn’t issue a statement to the public because the buyer wanted to gather more information before it consented to a company A press release announcing the deal. Unfortunately for the company and the CEO, his second disclosure triggered a more stringent regulation FD requirement. Under it, his intentional selective disclosure had to be accompanied by a simultaneous public announcement. But the company did not meet this requirement. Instead, it issued a press release three hours later and thus violated the rule. By then its stock had risen nearly 15% since the CEO’s first nonpublic disclosure. Still, the company’s effort to comply, albeit tardy, may have been a factor in the commission’s decision not to impose a fine as part of its ensuing enforcement action.

To simplify compliance with regulation FD, CPAs should recommend that their clients or their employer—if they work for an SEC registrant—have a compliance program that

Establishes clear guidelines for determining the extent of disclosure required.

Entails rigorous review of disclosures by a team formally identified, properly qualified and fully empowered to perform it.

Requires the use of several mass communications media, including submissions to the SEC, press releases and Internet-based sound and video presentations.

Provides resources and procedures necessary to take appropriate corrective action as soon as possible after a selective disclosure of nonpublic material information.

Although W.R. Grace hasn’t had any problems related to regulation FD, its management has implemented a corrective procedure. According to Tarola, in the event of a suspected violation, the company would convene a review team of executives, attorneys and other professionals and then decide on the method and content of the follow-up communication. “We would execute the correction within the day, consulting or advising our board of directors if the matter warranted their advanced attention,” he says.

Of the four companies the SEC cited for violating regulation FD, company D was the single one for which the commission issued only a Report of Investigation, a less serious enforcement action than it took against the others.

The company started off on the right foot when it issued a press release announcing “significant” weakness in its quarterly sales and orders. Soon afterward, the company’s investor relations director decided that, based on equity analysts’ research notes he had seen, the analysts had not understood the true extent of the decline in business. So, he selectively informed them “significant” meant “25% or more.” The director did so with the approval of in-house counsel, which concluded that his clarification was not material and had already been announced to the public. Consequently, the company did not issue a second press release when it recontacted the analysts, and it thus violated regulation FD.

Despite this infraction, the SEC determined the company’s counsel had made an honest error in viewing the director’s clarification as nonmaterial and previously publicized. So the commission issued the report as a reminder of the company’s obligations under regulation FD. At the same time the SEC said it would no longer be as lenient in similar situations.

Although the number of enforcement actions is small, financial executives, in general, don’t treat regulation FD lightly. One CPA and CFO who requested anonymity characterized the commission’s actions as warning shots. “The SEC wanted to remind us it’s actively enforcing these rules,” he said. “I’m sure we’ll hear more.”

But that’s no reason for pessimism. “It’s not that difficult to stay out of trouble with regulation FD,” Barnard says. “Make sure your spokespersons understand the rules and, whenever possible, prepare your comments in advance.”

An SEC official declined to offer advice on avoiding violations of the disclosure rules. He said the regulation itself and recent enforcement actions related to it provide sufficiently clear guidance. And so, a word to the wise: To help their clients and employers stay out of disclosure-related trouble, CPAs should advise them to retain legal counsel who follows the SEC’s regulation FD-related activities. The days are over when a good-faith effort is enough to avoid a substantial fine.

Learn More
For additional give-and-take on financial reporting requirements, attend the AICPA Spring Business and Industry Conference in Las Vegas, June 19-20, 2003, or the AICPA Fall Business and Industry Conference in Lake Buena Vista, Florida, October 13-14. To register go to and click on the CPE & Conferences tab.


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