On October 17, 2017, the staff of the Division of Corporation Finance (Staff) of the US Securities and Exchange Commission (SEC) updated its compliance and disclosure interpretations (CDIs) on the use of non-GAAP financial measures in disclosures relating to business combination transactions.1 Specifically, the Staff added new CDI 101.01 specifying that financial measures included in forecasts provided to a financial advisor and disclosed in connection with a business combination transaction are not considered to be non-GAAP financial measures if and to the extent that the following two conditions are met:
- The financial measures are included in forecasts provided to the financial advisor for the purpose of rendering an opinion that is materially related to the business combination transaction; and
- The forecasts are being disclosed in order to comply with Item 1015 of Regulation M‑A or requirements under state or foreign law, including case law, regarding disclosure of the financial advisor’s analyses or substantive work.
Disclosure of these financial measures under other circumstances may require compliance with Regulation G and/or Item 10(e) of Regulation S‑K, as applicable.
This new CDI eliminates an ambiguity that has been the subject of litigation regarding the status of financial projections disclosed in communications relating to business combination transactions, including SEC filings such as registration statements, proxy statements and tender offer statements.
At the same time, the Staff renumbered the CDI that previously was numbered 101.01 so that it is now CDI 101.02 and modified that CDI by removing the reference to an exemption from Regulation G and Item 10(e) of Regulation S-K for non-GAAP financial measures disclosed pursuant to Item 1015 of Regulation M-A (which is now addressed in new CDI 101.01) and making a few clarifying revisions.
The clarifications provided by the new and revised CDIs provide helpful guidance for merger and acquisition (M&A) practitioners. Federal courts, instead of state courts, are increasingly becoming the forum of choice for stockholder class action suits filed in connection with public company M&A transactions.2 This trend is primarily due to two changes in Delaware law. First, the Delaware Chancery Court’s decision in In re Trulia, Inc. Stockholder Litigation3 in January 2016 sharply curtailed the ability of plaintiffs’ lawyers to be awarded attorneys fees by Delaware courts for “disclosure-only” settlements of stockholder class actions for state law claims brought in connection with public company M&A transactions. Second, Delaware’s endorsement of forum selection provisions, which Delaware corporations can adopt to require such suits to be brought in Delaware, together with the willingness of courts of other states to enforce such provisions, has left class action plaintiffs without the option of bringing such suits in other states. Recent suits in connection with public company M&A transactions that have been brought in federal courts typically allege disclosure violations under federal securities laws, including Section 14 of the Securities Exchange Act of 1934. Such suits often allege, among other things, that the disclosure of projected financial information set forth in the target company’s proxy statement or tender offer materials violates federal securities laws because it does not include a presentation of the most directly comparable GAAP financial measure and a reconciliation of such financial measure to the projected financial information, as required under Regulation G for non-GAAP financial measures. The new and revised CDIs make clear that the projected financial information prepared by management and used by financial advisors that is typically included in filings for public company M&A transactions does not require Regulation G disclosure. Therefore, the new and revised CDIs are expected to curb what has become a common allegation in the recent federal securities class action suits filed in connection with public company M&A transactions.
1 Available at https://www.sec.gov/divisions/corpfin/guidance/nongaapinterp.htm.
2 According to one source, the number of federal securities class action suits filed in connection with public company M&A transactions in the first six months of 2017 exceeded the number of such suits filed in all of 2016. See Cornerstone Research’s Securities Class Action Filings - 2017 Midyear Assessment (p.5).