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MD&A DISCLOSURES CHECKLIST

As of December 31, 2008

How to Use the MD&A Disclosures Checklist

This MD&A Disclosures Checklist is for registrant MD&As included in SEC 1934 and 1933 Act domestic filings, such as Form 10-K,
10-Q, and S-1. This checklist addresses SEC requirements and is divided into the sections noted in the table of contents below.

This checklist prompts you with questions on SEC requirements. The checklist provides background material and references to
the SEC source material. The references include both the official positions of the SEC and SEC staff practice and guidance. The
official positions of the SEC include Regulation S-K, the codified Accounting Series Releases (ASRs) and Financial Reporting
Releases (FRRs), and Accounting and Auditing Enforcement Releases (AAERs). SEC staff practice and guidance includes Staff
Accounting Bulletins (SABs), uncodified FRRs, Summaries by the Division of Corporation Finance, Current Issues and Rulemaking
Projects by the Division of Corporation Finance, SEC FAQ documents, SEC views expressed at Emerging Issues Task Force
Meetings (EITF), minutes of AICPA committees with SEC staff, SEC staff letters, and SEC staff speeches. Official positions of the
SEC and staff practice and guidance should be followed in all SEC filings.

The checklist also provides a column for you to note that the requirements have been met and to enter a workpaper reference.
The completed checklist can be placed in annual or quarterly workpapers to provide support for your review and compliance
procedures.

This checklist is designed primarily for domestic registrants.

“Smaller reporting companies” as the SEC has defined this term in Item 10(f)(1) of Regulation S-K generally means a company
that has a public float of less than $75 million or, if a company does not have a calculable public equity float, having revenues of
less than $50 million in the last fiscal year. Such companies have scaled disclosure and reporting requirements. The concept of
smaller reporting companies was finalized on February 4, 2008, and replaces the concept of “small business issuers” that the
SEC previously used. The SEC has issued the following two resources for smaller reporting companies on the transition to the
new rules (both available on Accounting Research Manager):

• Smaller Reporting Company Compliance and Disclosure Interpretations; and


• Changeover to the SEC’s New Smaller Reporting Company System by Small Business Issuers and Non-Accelerated Filer
Companies: A Small Entity Compliance Guide.

Table of Contents Page

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MD&A DISCLOSURES CHECKLIST
As of December 31, 2008

A MD&A GENERAL DISCLOSURES....................................................................................................................................................3


1 INTRODUCTION.........................................................................................................................................................................3
2 GENERAL...................................................................................................................................................................................5
3 CLARITY AND USEFULNESS.......................................................................................................................................................7
B MD&A RESULTS OF OPERATIONS AND FINANCIAL CONDITION...................................................................................................10
1 INTRODUCTION.......................................................................................................................................................................10
2 GENERAL.................................................................................................................................................................................12
3 IMPAIRMENT AND RESTRUCTURING........................................................................................................................................19
4 BUSINESS COMBINATIONS......................................................................................................................................................23
5 FINANCIAL INSTRUMENTS AND FOREIGN CURRENCIES...........................................................................................................26
6 BENEFIT PLANS, ESOPS, AND STOCK COMPENSATION............................................................................................................27
7 INTANGIBLE ASSETS AND DEFFERED TAX ASSETS..................................................................................................................31
8 ENVIRONMENTAL & PRODUCT LIABILITIES AND LEASE COMMITMENTS...................................................................................32
9 CONTINGENCIES, LOSS RESERVES AND UNCERTAIN TAX POSITIONS......................................................................................33
C MD&A LIQUIDITY AND CAPITAL RESOURCES...............................................................................................................................35
1 INTRODUCTION.......................................................................................................................................................................35
2. GENERAL................................................................................................................................................................................37
3. LIQUIDITY...............................................................................................................................................................................39
4. CAPITAL RESOURCES.............................................................................................................................................................44
D MD&A OFF-BALANCE SHEET ARRANGEMENTS............................................................................................................................47
1 INTRODUCTION.......................................................................................................................................................................47
2 DISCLOSURE REQUIREMENTS.................................................................................................................................................47
E MD&A INFLATION AND CHANGING PRICES..................................................................................................................................52
1 INTRODUCTION.......................................................................................................................................................................52
2 DISCLOSURE REQUIREMENTS.................................................................................................................................................52
F MD&A FORWARD-LOOKING DISCLOSURES..................................................................................................................................54
1 INTRODUCTION.......................................................................................................................................................................54
2 DISCLOSURE REQUIREMENTS.................................................................................................................................................56
G MD&A INTERIM DISCLOSURES....................................................................................................................................................61
H SPECIALIZED INDUSTRIES...........................................................................................................................................................62
1 BANK HOLDING COMPANIES...................................................................................................................................................62
2 REGULATED INDUSTRIES........................................................................................................................................................64
3 FINANCIAL INSTITUTIONS........................................................................................................................................................65
4 OIL AND GAS...........................................................................................................................................................................67
5 INSURANCE COMPANIES.........................................................................................................................................................69
6 RESEARCH AND DEVELOPMENT COMPANIES..........................................................................................................................71
7 DEFENSE CONTRACTORS........................................................................................................................................................73

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A MD&A GENERAL DISCLOSURES


1 INTRODUCTION
Regulation S-K requires that management's discussion and analysis of financial
condition and results of operations (MD&A) provide material historical and
prospective textual disclosure to enable investors to assess the financial
condition and results of operations of the registrant, with particular emphasis on
the registrant's prospects for the future. MD&A should give investors the
opportunity to look through the eyes of management by providing a historical
and prospective analysis of the registrant's financial condition and results of
operations. To assist registrants in fully complying with the requirements of Item
303 of Regulation S-K, in May 1989 the Commission published an interpretive
release, Financial Reporting Release No. 36 (Section 501). Although this release
does not amend the Regulation S-K requirements, it uses examples and narrative
discussion to highlight areas where the SEC staff believed improvement in
registrants' disclosures was necessary. The release also provides additional
guidance on certain required forward-looking information. To further assist
registrants, in December 2003 the Commission published another interpretive
release, Financial Reporting Release No. 72 (Section 501): Interpretation –
Commission Guidance Regarding Management’s Discussion and Analysis of
Financial Condition and Results of Operations. Like the 1989 release, the 2003
release does not amend Item 303 – it reminds registrants of existing
requirements and provides additional guidance on making MD&A more
informative and comprehensible.

Specifically, MD&A should cover information about a registrant's liquidity,


capital resources, and results of operations. The MD&A also must discuss: (a)
material events and uncertainties known to management that would cause the
reported historical financial information not to be necessarily indicative of future
operating results or of future financial condition, and (b) the impacts of inflation.
Financial and non-financial information included in MD&A must be consistent with
other information included in the filing. MD&A is presented for annual financial
statements as well as interim financial statements. Special requirements apply to
interim periods.

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Many registrants with more than one segment prepare MD&A on a


segment basis as well as on a consolidated basis. The SEC has strongly
encouraged a segment approach, particularly when discussing results of
operations. To the extent that any segment contributes (or is expected to
contribute in the future) in a materially disproportionate way to revenues,
profitability, or cash needs, or when discussion on a consolidated basis would
present an incomplete and misleading picture of the enterprise, segment
discussion must be included.

A line-by-line analysis of the financial statements is not required but may


be appropriate in certain situations. The MD&A should not merely duplicate the
numerical data contained in the financial statements, nor should the registrant
merely recite changes in amounts from year to year that are readily computable
from the statements or cover information that is obvious from the financial
statements. However, this does not mean that significant matters disclosed in the
financial statements should not be covered in the MD&A. For example, if the
effect of a significant LIFO inventory liquidation is noted in the financial
statements, it also should be pointed out in the MD&A.

The MD&A must cover all the periods for which financial statements are
presented. This includes interim financial statements when presented in an SEC
filing, either alongside the annual financial information or separately in the
document. When earlier trend information is relevant, reference to the five-year
selected financial data may be necessary. The discussion should compare the
current year to the most recent preceding year and, except for the balance
sheet, that year to the previous preceding year. There is no requirement to
compare the earliest year for which financial statements are presented to the
next preceding year. For example, a calendar-year company in its 2008 MD&A
would have to discuss results of operations for 2008 in relation to 2007, and 2007
in relation to 2006, but not 2006 in relation to 2005. Specific subheadings or
captions, such as liquidity, capital resources, and results of operations, although
helpful in some situations, are not required. However, a separate heading is
required for off-balance sheet arrangements.

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Although Regulation S-K is silent with respect to location of the MD&A,


the SEC staff strongly prefers that it either immediately precede or follow the
financial statements. The SEC staff also prefers that the discussion be included in
its entirety in one place. This placement facilitates incorporation by reference of
the MD&A in Form 10-K from shareholder annual reports. The MD&A should not
be included in or combined with the notes to the financial statements since much
of the data may not be subject to audit verification. Although cross-referencing
from the MD&A to other parts of the filing for further details is appropriate, the
substance of the matter must still be discussed in the MD&A.

The disclosure requirements of Item 303 of Regulation S-K can be


subdivided into the following topics:

• Results of Operations and Financial Condition


• General
• Impairment and Restructuring
• Business Combinations
• Financial Instruments and foreign Currencies
• Benefit Plans, ESOPs, and Stock Compensation
• Intangible Assets and Deferred Tax Assets
• Liabilities and Commitments—Environmental, Product, and
Leases
• Liquidity and Capital Resources
• Off-Balance Sheet Arrangements
• Inflation and Changing Prices
• Forward-Looking Disclosures - Required and Voluntary
• Interim-Period MD&A

The sections following this general section are divided into these topics. The final
MD&A section addresses industry specific topics.

2 GENERAL

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1. Is the MD&A should:


company’s 1. Describe known trends, demands, events, and uncertainties that are
business reasonably likely to have material effects in the future.
subject to
known trends, 2. Disclose, if there are trends, demands, events, or uncertainties for which
demands, management cannot predict whether they will occur, the facts and an
events, and indication that management cannot assess whether they will occur (i.e., if
uncertainties? management does not know if the events will occur then MD&A should
disclose the uncertainty). MD&A should disclose, if known, the range of
likely effects on future results. Management can avoid the requirement to
disclose these matters only when it determines that (a) matters are not
reasonably likely to occur or (b) if the matters occurred they would not
have a material effect.

References: Regulation S-K, Item 303; FRR No. 36 - 501.02; FRR No. 72 - 501.12;
and Summary by the Division of Corporation Finance of Significant Issues
Addressed in the Review of the Periodic Reports of the Fortune 500 Companies
2. Does the MD&A should focus on each relevant reportable segment or other subdivision of
company the company’s business when it would be appropriate for an understanding of the
have business. MD&A should focus on segments when:
reportable
segments? • A segment contributes in a materially disproportionate way to revenues,
profitability, or cash needs, OR
• Discussion only on a consolidated basis would present an incomplete and
misleading picture of the enterprise.

References: Regulation S-K, Item 303(A); FRR No. 54 - 501.06; AAER 1061 and
1062

3. Does the FASB Statement No. 157, Fair Value Measurements, applies in various
company applications when a company measures fair value. The SEC staff believes that
have assets companies should explain why it has changed how it determines fair value when
or liabilities that change goes from a Level 2 to a Level 3 measurement as those terms are
subject to used in Statement 157. For example, companies should consider disclosing the

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the types of instruments reclassified and the nature of the inputs no longer
reporting observable.
requirement
s in FASB
In late March 2008, the SEC staff issued guidance in the form of a
Statement
sample letter to public companies regarding suggested disclosures in
157or has it
MD&A on the application of Statement 157. Companies that have
changed
assets or liabilities (e.g., asset backed securities, derivatives, etc.)
how it has
covered by Statement 157 should consider the guidance in this
been
release. The guidance includes commentary on reporting on Forms 10-
applying key
K and 10-Q. The SEC staff issued further guidance in September 2008
attributes of
with another sample letter to public companies regarding disclosures
measuring
in MD&A relating to Statement 157. Further, the staffs of the SEC and
fair values
FASB issued guidance in the form of a press release dated September
as
30, 2008. Subsequently, on October 10, 2008, FASB Staff Position 157-
prescribed
3, Determining the Fair Value of a Financial Asset When the Market for
by
That Asset Is Not Active, was issued that refers to these letters and
Statement
press release adding further support for this SEC guidance.
157?
On December 9, 2008, the SEC staff provided its “best practices” on
Statement 157 disclosures in MD&A. These SEC staff views were
expressed at the 2008 National Conference on Current SEC and PCAOB
Developments.

References: SEC Speech Hunsaker 2007, Sample Letters Dated March 2008 and
September 2008 Sent to Public Companies Regarding the Application of
Statement 157, FASB Staff Position 157-3, Press Release dated September 30,
2008— SEC Office of the Chief Accountant and FASB Staff Clarifications on Fair
Value Accounting, December 9, 2008 Hunsaker presentation “Fair Value: Best
Practices for MD&A Disclosures” (slides 34-60); SEC Speech Carr December 8,
2008
3 CLARITY AND USEFULNESS
1. Is the MD&A The SEC’s rules do not mandate a set or standard format. Rather, management

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well should tailor its presentation so that the most important information receives
organized prominence. MD&A should be organized in a clear, understandable, and concise
and manner utilizing both narrative and graphic presentation. In drafting MD&A, the
comprehensi following should be considered:
ble? • The format should be easy to grasp or understand.
• Placement should emphasize importance.
• Tables should be used to increase clarity and save text.
• The discussion and analysis should be clear and understandable.
• Avoid unnecessary information that does not promote understanding.

Reference: FRR No. 72 – 501.12

2. Does the Although not required, management should consider using an overview or
MD&A introduction to establish a context that will enhance the reader’s understanding
include an of the sections that follow. For example, the following should be considered:
overview or • Establish the context for the company’s operations.
an executive • Set the stage for MD&A as a whole.
summary? • Provide senior management’s perspective.

Reference: FRR No. 72 – 501.12

3. Does MD&A In addition to providing a context for investors, the discussion in MD&A should
help the help investors understand the variables and factors (quantitative and qualitative)
investor that management uses to evaluate the company’s performance. The following
understand should be considered:
the • Short and long-term analysis should be provided.
business? • Material information from "nonfiled" sources such as earnings releases and
publicly accessible analysts’ calls should be included.
The view of the business should be balanced, including key successes AND
failures.

Reference: FRR No. 72 – 501.12

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4. Does the An essential element of MD&A is the identification - and assessment – of trends,
MD&A focus uncertainties, commitments and events that are reasonably likely to materially
on the affect the business. This aspect of MD&A should be highlighted rather than
analysis of obscured. Management is in the best position to provide the investor with
material analytical information about the effects of known trends and uncertainties by
events and considering issues such as the following:
uncertainties • MD&A should explain what happened by providing an analysis for investors.
? The "why" and "how" should take precedence over the "what."
• Reasons for events and uncertainties should be discussed. The substantive
reasons underlying the effects of trends, events, demands, commitments and
uncertainties should be provided.
• Material events and uncertainties should be discussed when they occur.
• Material trends, uncertainties, or events should be given prominence.
Discussion of items that are immaterial, duplicative, or that do not promote
understanding of MD&A should be eliminated.
• Expected future operating performance should be discussed.

Reference: FRR No. 72 – 501.12

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B MD&A RESULTS OF OPERATIONS AND FINANCIAL CONDITION


1 INTRODUCTION
The discussion of results of operations must cover the effects of any unusual or
infrequent events or transactions or significant economic changes that
materially affected income from continuing operations. In addition, discussion
of the impact of discontinued operations and extraordinary items is also
required when these items have had or are reasonably likely to have a material
effect on the reported or future financial condition or results of operations. An
analysis of changes in line items is required when material and when the
changes diverge from related line items of the financial statements, when
identification and quantification of the extent of contribution of each of two or
more factors is necessary to an understanding of a material change, or when
there are material increases or decreases in net sales or revenues.

RESULTS OF OPERATIONS

The SEC staff believes that the effects of offsetting developments or events
should be disclosed. Material increases in net revenues must be explained as
being attributable to price or volume changes or new products. If the changes
are a result of several factors, disclosure of the relative extent of each factor
contributing to the increase must be made.

The registrant must discuss all periods presented in the financial


statements, even when some of those periods:

• Relate to predecessor operations;

• Are for periods shorter than a full 12-month period (e.g., when a 9-, 10-,
or 11- month period is presented in lieu of a full 12-month period, as
permitted under Rule 3-06 of Regulation S-X); or

• Do not reflect a significant business combination.

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The fact that these periods are not "comparable" with the subsequent
periods presented does not eliminate the requirement to discuss the periods
and the reasons for the changes in the registrant's results of operations.

The discussion should focus specifically on material events and


uncertainties known to management that would cause reported financial
information not to be necessarily indicative of future operating results. This
would include descriptions and amounts of:

• Matters that are expected to have a material impact on future


operations but that have not had an impact in the past,

• Matters that have had a material impact on reported operations but are
not expected to have an impact upon future operations, and

• Matters that have had a material impact on past operating results and
involve prospective effects.

FINANCIAL CONDITION

In addition to the discussion about the results of operations, a registrant should


discuss significant changes in its balance sheet. When the consolidated
financial statements reveal material changes from year to year in one or more
line items, the causes for the changes must be described to the extent
necessary to an understanding of the registrant's businesses as a whole.
However, if the causes for a change in one line item also relate to other line
items, no repetition is required and a line-by-line analysis of the financial
statements as a whole is not required or generally appropriate. The discussion
should focus specifically on material events and uncertainties known to
management that would cause reported financial information not to be
necessarily indicative of future financial conditions.

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2 GENERAL
1. Have there MD&A should include a discussion of all material matters that have affected
been material financial condition and results of operations, including those arising from
matters that disclosures provided elsewhere in the document.
have affected
the company’s MD&A should:
financial 1. Describe material changes to the extent necessary to understand the
condition and company’s business as a whole. Quantification should be as precise as
results of reasonably practicable. The discussion should not merely repeat numerical
operations? data contained in the consolidated financial statements and it is not
necessary to recite amounts readily computable from the financial
statements.

2. Describe the causes of each material change to financial statement items to


the extent necessary to understand the business as a whole. Explanations
that apply to several lines do not have to be repeated.

3. A registrant that has an investment(s) or is otherwise involved in


nonconsolidated conduits (sometimes known as structured investment
vehicles) and collateralized debt obligations (CDOs) should consider
disclosure of its related exposure to risk.

References: Regulation S-K, Item 303(A) Instruction 4 and (B) Instruction 3; FRR
No. 36 - 501.01; FRR No. 72 – 501.12 and Sample Letter Dated December 2007
Sent by SEC staff to Public Companies with Structured Investment Vehicles.

2. Are there MD&A should:


matters that 1. Disclose all matters that did not have a material effect in past periods
are reasonably but are reasonably likely to have a material effect on future periods.
likely to have
a material 2. Disclose all matters that had a material effect on past periods and have
effect on prospective effects. (For example, adoption of an accounting method

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future periods? whose future effect on income will be different from that in the current
period.)

Reference: Regulation S-K, Item 303(A) Instruction 3

3. Are there MD&A should disclose these matters.


matters that
had a material Reference: Regulation S-K, Item 303(A) Instruction 3
effect on past
periods that
are not
expected to
materially
affect future
periods?
4. Did the MD&A should disclose all unusual or infrequent events or transactions that
company have materially affected income from continuing operations and the extent to which
unusual or income was affected.
infrequent
events or Reference: Regulation S-K, Item 303(A)(3)(i)
transactions?
5. Did the MD&A should disclose any significant economic changes that materially
company have affected income from continuing operations and the extent to which income
significant was affected.
economic
changes? Reference: Regulation S-K, Item 303(A)(3)(i)

6. Did the MD&A should include a discussion of unusual or infrequent transactions, known
company have trends or uncertainties that have had, or might reasonably be expected to
any unusual have, a favorable or unfavorable material effect on revenue, operating income
revenue or net income and the relationship between revenue and the costs of the
transactions? revenue. Changes in revenue should be discussed in terms of the reasons and
factors contributing to the increase or decrease. Examples of revenue
transactions or events that the SEC staff has asked to be disclosed and

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discussed include:
1. Shipments of product at the end of a reporting period that significantly
reduce customer backlog and that reasonably might be expected to
result in lower shipments and revenue in the next period.
2. Granting of extended payment terms that will result in a longer
collection period for accounts receivable (regardless of whether revenue
has been recognized) and slow cash inflows from operations, and the
effect on liquidity and capital resources.
3. Changing trends in shipments into, and sales from, a sales channel or
separate class of customer that could be expected to have a significant
effect on future sales or sales returns.
4. An increasing trend toward sales to a different class of customer, such
as a reseller distribution channel that has lower gross profit margin than
existing sales that are principally made to end users. Also, increasing
service revenue that has a higher profit margin than product sales.
5. Seasonal trends or variation in sales.

Reference: SAB Topic 13B, Current Accounting and Disclosure Issues in the
Division of Corporation Finance 11/30/06, IIF3 Revenue - Disclosure

7. Are there MD&A should describe these other significant components.


other
significant Reference: Regulation S-K, Item 303(A)(3)(i)
components of
revenues and
expenses
necessary to
understand
the results of
operations?
8. Are there MD&A should disclose known significant trends or uncertainties that materially
significant affect, or are reasonably likely to materially affect, revenue (price or volume),
trends or net sales, or income from continuing operations and the extent of the effect.
uncertainties Examples include, but are not limited to, competitor changes, new products,

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that affect change in demand, or a change in customer base.


revenue, net
sales, or Reference: Regulation S-K, Item 303(A)(3)(ii)
income from
continuing
operations?
9. Did the MD&A should attribute increases or decreases in net revenue among price
company have changes, volume changes (due to change in demand or change in market
material share), introduction of new products, effect of purchased businesses and
increases or disposals of assets not accounted for as discontinued operations. The
decreases in discussion may be narrative.
net revenue
resulting from References: Regulation S-K, Item 303(A)(3)(iii) and FRR No. 36 - 501.04
changes in
price, volume
or
product/servic
e mix?
10. Are there MD&A should disclose these events.
known events
that are Reference: Regulation S-K, Item 303(A)(3)(ii)
reasonably
likely to cause
a material
change in the
relationship
between costs
and revenues?
11. Did the MD&A should:
company have 1. Analyze material changes in line items that are inconsistent with
material changes in other financial statement line items.
changes in
financial 2. Identify and quantify the contributing factors when two or more
statement line contribute to the material change in a line item.

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items?
Reference: FRR No. 36 - 501.04

12. Has the MD&A should include a transparent, plain English discussion of the changes and
company had their effect on the trends and operations of the company
material
changes in Reference: Current Issues and Rulemaking Projects, Other Current Accounting
estimates? and Disclosure Issues, Disclosure, Accounting and Auditing Alerts, Point 7, 2001

13. Did the MD&A should disclose the impact of all discontinued operations and
company have extraordinary items that had – or are reasonably likely to have in the future – a
discontinued material effect on reported results of operations and financial condition.
operations and Disclosure should include discussion of the impact on the company’s results of
(or) operations, financial condition, and liquidity of changes in the plan of disposal
extraordinary or changes in circumstances related to the plan.
items?
References: FRR No. 36 - 501.04; SAB Topic 5Z5

14. Is the MD&A that includes non-GAAP financial information must be accompanied by
company the following disclosures:
disclosing 1. The most directly comparable financial measure determined in
non-GAAP accordance with GAAP presented with equal or greater prominence than
financial the non-GAAP measure;
measures? 2. A quantitative reconciliation of the differences between the non-GAAP
measure and the associated comparable GAAP measure. When the non-
GAAP measure applies to forward-looking information, a quantitative
reconciliation should be presented if available without unreasonable
effort;
3. The reasons that management believes the presentation of the non-
GAAP information is useful for an investor’s understanding of the
registrant’s financial condition and results of operations; and
4. The additional purposes, if any, for which management uses non-GAAP
measures.
These latter two disclosures should be specific to the non-GAAP measure, the

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Question Y N Disclosure Requirements Met?

For all YES answers, respond to the disclosure requirements and provide a reference.

registrant, the registrant’s industry and management’s use of the information


in its decision-making process. Presenting non-GAAP information solely because
management believes it is used by analysts is not sufficient.

At the 2006 Annual AICPA Conference on Current SEC and PCAOB


Developments, a staff member of the SEC’s Division of Corporation Finance
made a presentation on the use of non-GAAP measures and effectively
reiterated the staff’s view discussed in its 2003 FAQ document, notably
Question 8. However, at the 2006 conference, the SEC staff indicated that
certain registrants were presenting a complete reconstructed income statement
(line-by-line) using non-GAAP measures. The SEC staff member indicated the
staff would object to such a presentation whether in MD&A or elsewhere in a
registrant’s filing, press releases that have been included in a Form 8-K filing,
etc.

References: Regulation S-K, Item 10, Frequently Asked Questions Regarding the
Use of Non-GAAP Financial Measures – June 13, 2003; Division of Corporation
Finance Presentation at the 2006 Annual AICPA Conference on Current SEC and
PCAOB Developments, Slide 7

15. Did the MD&A should discuss material related-party transactions to the extent
company have necessary so that investors can gain an understanding of the effects of related-
any material party transactions on the registrant’s current and prospective financial position
related-party and operating results. The term "related-party" is defined in both the
transactions? accounting literature (FASB Statement No. 57, Related Party Disclosures) and in
the SEC’s literature (Item 404 of Regulation S-K). However, registrants should
also consider disclosing information about certain parties that fall outside the
definition of "related-parties." These parties are those with a relationship to the
company (e.g., former senior management member of the registrant) that
enables them to negotiate terms of material transactions that may not be
available from other, more clearly independent parties on an arm’s-length
basis.

Reference: FRR No. 61, II C

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16. Has a MD&A should disclose:


subsidiary of • The impact of the transaction.
the company • The likelihood of similar transactions occurring in future years.
issued its own
stock? Reference: SAB Topic 5H

17. Does the FASB Interpretation (FIN) No. 46 (Revised December 2003) Consolidation of
company have Variable Interest Entities, requires a beneficiary of a VIE (other than its primary
an investment beneficiary) to disclose its maximum exposure to loss. The SEC staff believes
in a variable that when management makes this disclosure, companies could better explain
interest entity how it determined this maximum.
but (VIE) but
is not the SEC Speech Hunsaker 2007
primary
beneficiary?
18. Has the The SEC staff believes that there will be situations when comparisons other
company than those of the historical financial information may provide valuable
considered supplemental and in certain cases, more relevant analysis, to fully discuss
whether its trends and changes. For example, a registrant may consummate a large
MD&A business acquisition during the period that impacts the comparability of the
disclosure most recent year's results to the prior year. In another example, a registrant
might be may have applied push-down accounting due to a change in control in a
enhanced with reporting period through the application of EITF Topic D-97, “Push Down
the use of Accounting,” or where a ”newco” with no substantive operations acquires an
certain pro operating company in a leveraged buyout transaction accounted for under EITF
forma Issue No. 88-16, “Basis in Leveraged Buyout Transactions.” When determining
disclosures? whether a supplemental discussion based upon pro forma information should
be included, registrants should consider all of the facts and circumstances
surrounding the transaction, the nature of the pro forma adjustments to be
made, and the overall meaningfulness of any such supplemental pro forma
discussion. The SEC staff set forth its views of the appropriateness of certain
pro forma disclosures in MD&A at the SEC Regulations Committee of April 9,

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2008.

SEC Speech Jacobs 2007, April 9, 2008, SEC Regulations Committee-Discussion


Document C
3 IMPAIRMENT AND RESTRUCTURING
1. Did the Impairment Charge Assumptions Disclosures
company MD&A should:
record an 1. Identify key assumptions used in the development of cash flow
impairment projections and the implication of those assumptions.
charge? 2. Indicate if the company is likely to violate debt covenants in the future.
3. Discuss the ramifications to the cash flow projections used in the
impairment analysis.
4. If growth rates used in the impairment analysis are lower than those
used by outside analysts, indicate if the company had discussions with
analysts regarding their overly optimistic projections.
5. If reduced expectations for the future are sufficient to cause an
impairment charge, indicate if the company has appropriately informed
the market and its shareholders of its reduced expectations for the
future.
6. Identify material assets analyzed for impairment for which an
impairment charge has not yet been recorded.
Note: The SEC staff believes that cash flow projections used in the impairment
analysis must be both internally consistent with the company’s other
projections and externally consistent with financial statement and other public
disclosures.

Asset Impairment Charge Disclosures


MD&A should:
1. Describe the assets and the segments affected.
2. Identify reasons a write-down became necessary.
3. Disclose the amount of loss for each material asset category:
a. Property, plant and equipment
b. Intangible assets

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4. Describe the method of determining fair value.


5. Classify the loss in the statement of operations.

Assets Held for Sale Disclosures


MD&A should:
1. Disclose the carrying amount of assets held for sale and subsequent
changes in carrying amount.
2. Identify expected disposal dates.
3. Disclose the results of operations for the assets to the extent that those
results are included in the period and can be identified.
4. Disclose the effect of suspending depreciation.
5. Disclose whether further losses may result because of how the registrant
evaluated any impairment charge when a group of assets is being sold
that consisted of long-lived assets as well as other assets such as trade
receivables and inventory.

References: SAB Topic 5CC ; Summary by the Division of Corporation Finance


of Significant Issues Addressed in the Review of the Periodic Reports of the
Fortune 500 Companies; December 8, 2008 Adam Brown Speech

2. Did the MD&A should include:


company have 1. Amount of the charge.
an other-than- 2. Reasons for the charge and its timing;
temporary 3. Segment the charge relates to;
impairment 4. The risks and uncertainties regarding future declines; and
charge for a 5. The estimated effects that material declines would have on the
marketable registrant’s liquidity.
debt or equity
security? The SEC staff expects these disclosures that go beyond the requirements of
EITF Issue No. 03-1, “The Meaning of Other-Than-Temporary Impairment and Its
Application to Certain Investments” that were carried forward in FASB Staff
Position (FSP) No. FAS 115-1 and FAS 124-1, “The Meaning of Other-Than-
Temporary Impairment and Its Application to Certain Investments.”

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References: SEC Speech, Alkema, 2003 and Current Accounting and Disclosure
Issues in the Division of Corporation Finance 11/30/06, IIH1, Investments –
Other-Than-Temporary Declines in Value; October 14, 2008 Letter to FASB
chairman (Robert H. Herz) from chief accountant (Conrad Hewitt)
3. Did the MD&A should:
company 1. Discuss the events and decisions that gave rise to the restructuring exit
report a costs and exit plan.
restructuring 2. Describe the likely effects of management’s plans on financial position,
charge for any future operating results and liquidity unless it is determined that a
period material effect is not reasonably likely to occur.
presented? 3. Quantify and disclose the likely effects of the restructuring (e.g.,
reduced depreciation, employee expenses, etc.) and identify the initial
period in which those effects are expected to be realized, including any
offsetting effect of anticipated increases in other expenses or decreases
in revenues. Additionally, identify the income statement line items to be
impacted (e.g., cost of sales, marketing, selling, general, and
administrative [SG&A] etc.)
4. Identify the periods in which material cash outlays are anticipated and
the expected source of their funding.
5. Disclose and explain the types and amounts of discretionary or decision-
dependent costs of a period such as exit costs, including their income
statement classification.
6. Disclose the nature and amount of additional types of exit costs and
other types of restructuring charges that appear quantitatively or
qualitatively material.
7. Identify losses relating to asset impairment separately from charges
based on estimates of future cash expenditures.
8. If the company has multiple exit plans, present separate information for
each individual exit plan that has a material effect on the balance sheet,
results of operations, or cash flows.
Note: The SEC staff often finds that, because of the discretionary nature of exit
plans and the components thereof, presenting and analyzing material exit and
involuntary termination charges in tabular form, with the related liability
balances and activity (e.g., beginning balance, new charges, cash payments,

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other adjustments with explanations, and ending balances) from balance sheet
date to balance sheet date, is necessary to explain fully the components and
effects of significant restructuring charges. The staff believes that such a
tabular analysis aids a financial statement user’s ability to disaggregate the
restructuring charge by income statement line item in which the costs would
have otherwise been recognized, absent the restructuring plan, (e.g., cost of
sales, SG&A, etc.)

References: SAB Topics 5P3 and 5P4

4. Does the MD&A should discuss evolving events that could cause the company to consider
company have a restructuring. Whether or not currently recognizable in the financial
trends and statements, material exit or involuntary termination costs that could affect a
uncertainties known trend, demand, commitment, event or uncertainty to management,
developing should be disclosed in MD&A.
that could
cause the The SEC has noted that economic events that lead to a restructuring occur over
company to time. The staff believes that as these events evolve, they often meet the
consider a requirement for disclosure in MD&A prior to the period in which the exit costs
restructuring? and liabilities are recorded based on GAAP.

After a restructuring charge is taken, the SEC staff believes that MD&A should
include discussion of the events and decisions that gave rise to the exit costs
and exit plans. The staff will look to previous MD&As for information on the
evolution of these events and decisions.

Reference: SAB Topic 5P4

5. Does the Depending on the nature and materiality of the charge, it will likely be
company have necessary to discuss the nature of the restructuring charge in MD&A. Whether a
recurring or restructuring charge should be discussed in MD&A is a different question from
nonrecurring whether it can be eliminated in connection with a non-GAAP financial measure.
restructuring The SEC staff has noted that whether recurring charges, such as restructuring
charges that charges, can be eliminated in non-GAAP financial measures largely depends on

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are eliminated whether the charge will disappear or become immaterial in the near-term. If a
in non-GAAP company has a past history of restructuring charges, it will be difficult for the
financial company to support that the charges are nonrecurring, and to meet the burden
measures? of disclosing why a non-GAAP financial measure that excludes these charges is
useful to investors.

See additional discussion above in question 14 in the General section.

References: Frequently Asked Questions Regarding the Use of Non-GAAP


Financial Measures, Questions 8 and 9

6. Did the MD&A should:


company 1. Discuss material revisions to exit plans, exit costs, or the timing of the
recognize a plan’s execution, including the nature and reasons for the revisions.
restructuring 2. Identify reasons why savings expected to result from the restructuring
charge in a were not achieved (if not achieved as expected) and the likely effect on
prior reporting future operating results and liquidity.
period? 3. Discuss material activity in the liability balances of each significant type
of exit cost and involuntary employee termination benefits that occurs
subsequent to the initiation of the restructuring, either as a result of
expenditures or changes in/reversals of estimates or the fair value of
the liability. The SEC staff recommends presentation in tabular form.

Reference: SAB Topic 5P4

4 BUSINESS COMBINATIONS
1. Did the MD&A should disclose the following:
company 1. Specific nature and fair value of each significant in-process research and
record an in- development project acquired.
process 2. Completeness, complexity and uniqueness of the projects at the
research and acquisition date.
development 3. Nature, timing, and estimated costs of the efforts necessary to complete
write-off the projects, and the anticipated completion dates.

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resulting from 4. Risks and uncertainties associated with completing development on


a business schedule, and consequences if it is not completed timely.
combination? 5. Appraisal method used to value projects.
6. Significant appraisal assumptions, such as:
a. Period in which material net cash inflows from significant projects
are expected to commence;
b. Material anticipated changes from historical pricing, margins and
expense levels; and
c. The risk adjusted discount rate applied to the project’s cash
flows.
7. In periods after a significant write-off, the status of efforts to complete
the projects, and the impact of any delays on the company’s expected
investment return, results of operations, and financial condition.

Reference: SEC Letter Dated 1/12/99

2. Has the MD&A should:


company been 1. Disclose when the registrant began formulating exit plans for which
involved in a accrual may be necessary.
business 2. Describe the types and amounts of liabilities recognized for exit costs
combination and involuntary employee termination benefits and included in the
and incurred acquisition cost allocation.
exit costs or 3. Identify any unresolved contingencies or purchase price allocation issues
employee and the types of additional liabilities that may result in an adjustment of
termination the acquisition cost allocation.
costs for
acquiring the Reference: SAB Topic 5P4
business?
3. Has the MD&A should include an appropriate disclosure regarding any unrecognized
company been preacquisition contingency and its reasonably likely effects on operating
involved in a results, liquidity, and financial condition
business
combination in Reference: SAB Topic 2A7
which it has

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assumed
certain
contingent
liabilities of
the acquired
company?
4. Is the If the company is a physician practice management company (i.e., contractual
company a arrangements between entities that are in business to practice and dispense
physician medicine (physician practices) and entities that are in business to manage the
practice operations of those physician practices), MD&A should:
management 1. Discuss the financial terms of the management contracts. If there are
company or a several types of contracts, discuss the financial terms of each type.
similar 2. Detail the financial terms of individually material agreements.
management
arrangement? Reference: Current Issues and Rulemaking Projects, Guidance About
Disclosures, 1999

5. Is the MD&A should describe the transactions, loans, and (or) investments that have
company had, or are reasonably likely to have, a material effect on financial condition or
involved with results of operations, and the effects resulting from such participation.
high yield or Registrants should consider the following for disclosure:
highly 1. Relevant lending and investing policies, including credit and risk
leveraged management policies.
transactions or 2. Amounts of holdings stated separately by type if individually material,
non- including guarantees and repurchase or other commitments to lend or
investment acquire such loans and investments, and the potential risks inherent in
grade loans the holdings.
and (or) 3. Information regarding the level of activity during the period.
investments 4. Amount of holdings, if any, giving rise to significantly greater risks than
related to similar transactions and instruments.
corporate
restructurings Reference: FRR No. 36 -501.06(b)
(e.g., LBOs,
recapitalizatio

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ns)?
5 FINANCIAL INSTRUMENTS AND FOREIGN CURRENCIES
1. Does the MD&A should discuss the reasons for entering into these economic hedges.
company have
derivatives
that represent
an economic References: SEC Speech, Faucette, 2003; and Current Accounting and
hedge but do Disclosure Issues in the Division of Corporation Finance 11/30/06, IIM3, Issues
not qualify for Associated with SFAS 133, Accounting for Derivative Instruments and Hedging
hedge Activities
accounting
under FASB
Statement No.
133,
Accounting for
Derivative
Instruments
and Hedging
Activities?
2. Does the MD&A should completely disclose contracts that are recorded at fair value but
company do not have quoted market prices. Regarding the disclosure of fair value
materially considerations related to these types of contracts, registrants should provide
engage in information that:
trading • Disaggregates realized and unrealized changes in fair value;
commodity • Identifies changes in fair value attributable to changes in valuation
contracts that techniques;
are not traded • Disaggregates estimated fair values at the latest balance sheet date based
on an on whether fair values are determined directly from quoted market prices
exchange? or are estimated; and
• Indicate the maturities of contracts at the latest balance sheet date.

Reference: FRR No. 61, II B

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3. Did the MD&A should describe any material effects of changes in currency exchange
company enter rates on reported revenues, costs, and business practice and plans. The
into material company should quantify the extent to which material trends in amounts are
transactions attributable to changes in the value of the reporting currency relative to the
denominated functional currency of the underlying operations. Any materially different trends
in currencies in operations or liquidity that would be apparent if reported in the functional
other than the currency should be analyzed.
currency in
which its Reference: Current Issues and Rulemaking Projects, 1996
financial
statements
are reported?
4. Does the FASB Statement No. 52, Foreign Currency Translation, requires the assets,
company have liabilities, and operations of a foreign operation to be measured using the
foreign functional currency of that foreign operation.
operations
with a change While FASB Statement 52 does not prescribe specific disclosures about a
in functional change in functional currency, the SEC staff believes that the company should
currency? discuss the change in MD&A. The MD&A should include a discussion of:
• The foreign operations and their impact on results of operations,
liquidity, and cash flows;
• The nature and timing of the change in functional currency;
• The actual and reasonably likely effects of the change;
• The economic facts and circumstances that led management to
conclude that the change was appropriate; and
• The effects of these underlying economic facts and circumstances on
the company’s business.

Reference: Current Issues and Rulemaking Projects, 11/24/99, IIIG

6 BENEFIT PLANS, ESOPS, AND STOCK COMPENSATION


1 MD&A should discuss:
.

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D • The significant assumptions and estimates and how those assumptions


and estimates are determined;
• The effect that pension plans had on results of operations, cash flow and
liquidity, including the amount of expected pension returns included in
earnings and the amount of cash outflows used to fund the pension
plan;
• Any expected change in pension or other postemployment benefit plan
trends, including known changes in the expected return assumption and
discount rate to be used during the next year and the reasonably likely
impact of the known change in assumption on future results of
operation and cash flows;
• Material trends or patterns of amounts reflected in the financial
statements, significant assumptions, and any material variations
between the results based on these assumptions and the company’s
actual experience. This discussion should include any material
deviations between actual and expected long-term rates of return on
plan assets;
• Amounts of material funding obligations, material known trends or
uncertainties related to paying such amounts, the effect of future
payments on future cash flows, and any material uncertainty in the
funding obligation itself;
• The amount of current unrecognized losses on pension assets and the
estimated effect of those losses on future pension expense; and
• A sensitivity analysis that expresses the potential change in expected
results that would result from hypothetical changes to pension or other
postemployment benefit assumptions and estimates.

References: Summary by the Division of Corporation Finance of Significant


Issues Addressed in the Review of the Periodic Reports of the Fortune 500
Companies; Current Accounting and Disclosure Issues in the Division of
Corporation Finance, 11/30/06, IIJ, Pension, Post Retirement, and Post
Employment Plans

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2. During 2006, the Pension Protection Act of 2006 was enacted. Passage of this
Have the act may materially affect a company’s funding obligations with respect to its
company’s benefit plans. Registrants should provide transparent disclosure in MD&A of the
funding act’s anticipated impact on the company’s liquidity and capital resources. The
requirements SEC staff recognizes that in some circumstances it will be difficult to forecast
as a result of precise funding requirements as a result of the annual recomputation required
the Pension by the act; however, it will often be possible to provide disclosure of the
Protection Act magnitude of cash commitments for future annual periods assuming present
of 2006 been market value conditions remain constant.
considered for
disclosure? Reference: SEC Speech, Ucuzoglu 2006

3. The company should consider the need to discuss the potential impact of
Does the leveraged ESOPs in the MD&A Results of Operations and Liquidity section.
company have
a leveraged Reference: EITF Issue 89-8
employee
stock
ownership
plan (ESOP)?
4. Once a company adopts FASB Statement No. 123 (Revised 2004), Share-Based
Has the Payment, the financial statements will not be comparable with prior years. Staff
company Accounting Bulletin (SAB) Topic 14M, “Share-Based Payment — Disclosures in
adopted FASB MD&A Subsequent to Adoption of Statement 123R,” (SAB 107) advises
Statement No. companies that MD&A should discuss the noncomparability and assist users in
123R, Share- understanding the effects of the accounting change. SAB 107 recommends that
Based companies discuss the following items:
Payment? • Prior method used to record compensation (APB Opinion No. 25,
Accounting for Stock Issued to Employees, or FASB Statement No. 123,
Accounting for Stock-Based Compensation);
• Transition method used to adopt 123R (modified prospective or modified
retrospective);

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• One-time effects of adoption, if any;


• Changes in option valuation models or assumptions previously disclosed;
• Changes in mix of employee compensation;
• Changes in the terms of share-based payment awards; and
• Total fair-value-based compensation expense associated with prior
awards that are not vested at the adoption of Statement 123R and the
weighted average period over which that compensation will be recorded
in earnings.
• [Editor’s Note: Conrad Hewitt, Chief Accountant of the SEC, issued a letter
dated September 19, 2006 discussing the views of the SEC staff relating to the
accounting required by companies that followed APB Opinion No. 25, Accounting
for Stock Issued to Employees, prior to the effective date of FASB Statement
No.123 (Revised 2004), Share-Based Payment. In this letter, the SEC staff
addresses the accounting consequences under Opinion 25 of dating an option
award to predate the actual award date, option grants with administrative
delays, uncertainty as to the validity of prior grants, and other related
circumstances. On January 16, 2007, the SEC's Division of Corporation Finance
(Corp Fin) issued a sample letter to companies requesting guidance related to
filing restated financial statements for errors when accounting for stock option
grants. During 2006, certain registrants discovered that they had improperly
complied with the accounting requirements relating to company-issued stock
options – a problem that includes "back-dating" as it is sometimes referred to.
This problem is most acute in years before a company was required to adopt the
accounting prescribed in Statement 123R. A registrant that has identified errors
relating to its stock option grants and concludes that it should amend prior
filings should carefully review and consider the guidance in this SEC release.]

References: SAB Topic 14M; Letter from SEC Chief Accountant Dated
September 19, 2006; Current Accounting and Disclosure Issues in the Division
of Corporation Finance 11/30/06, IB2 Employee Stock Options - Staff Accounting
Bulletin 107, SEC Speech Albert 2006, SEC Speech Ucuzoglu 2006, January 16,
2007 Corp Fin letter

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7 INTANGIBLE ASSETS AND DEFFERED TAX ASSETS


1. Did the Companies should consider the need for more extensive narrative and
company have quantitative information about the intangibles that are important to their
recorded and business in the MD&A.
(or)
unrecorded Reference: Current Issues and Rulemaking Projects, Other Current Accounting
intangible and Disclosure Issues, Disclosure about Intangible Assets, 2001
assets?
2. Did the MD&A should disclose the factors assumed that:
company have 1. Make the deferred tax asset realizable.
a deferred tax a. For example, the minimum annualized rate by which taxable
asset? income must increase during a tax net operating loss (NOL)
carryforward period should be disclosed if realization of the
benefit is dependent on taxable income higher than currently
reported.
2. Make the valuation allowance for the deferred tax asset appropriate.
a. The amount of the allowance should be consistent with
management’s view of the realization of the deferred tax asset,
and
b. Consistent with other narrative disclosure in the financial
statements.
i. If the company has a history of earning pretax income but
has provided a valuation allowance for deferred tax
assets, the negative factors that support the allowance
should be discussed.
ii. If the company has a history of pretax operating losses
but has not provided any valuation allowance for deferred
tax assets, the positive factors that support the lack of
allowance should be disclosed.

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References: Current Issues and Rulemaking Projects, 11/16/98; SEC Speech,


Overton, 1996

8 ENVIRONMENTAL & PRODUCT LIABILITIES AND LEASE COMMITMENTS


1. Does the General -
company have The SEC staff urges companies to provide in their MD&A a meaningful analysis
environmental of the environmental and (or) product liability expenses charged in each period
and (or) and how the amounts were determined.
product
liabilities? Environmental -
MD&A should discuss, to the extent material, historical and anticipated
environmental expenditures, including:
• Recurring costs associated with managing hazardous substances and
pollution in on-going operations;
• Capital expenditures to limit or monitor hazardous substances or
pollutants;
• Mandated expenditures to remediate previously contaminated sites;
and
• Other infrequent or non-recurring clean-up expenditures that can be
anticipated but which are not required in the present circumstances.
For individually material environmental sites, disaggregated disclosure of
accruals and reasonably likely losses may be necessary. If different sites are at
different stages of remediation, the effect of the differences should be
discussed in the context of amounts accrued and disclosed.

Product liability-
MD&A should discuss, to the extent material, historical and anticipated liability
costs, including:
• The nature of personal injury or property damages alleged by claimants;
• Aggregate settlement costs by type of claim; and
• Related costs of administering and litigating claims.
For particular claims that are individually material, disaggregated disclosure of
accruals and reasonably likely losses may be necessary.

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MD&A Results of Operations and Financial Condition Disclosure Referen
Requireme ce
nts
Question Y N Disclosure Requirements Met?

For all YES answers, respond to the disclosure requirements and provide a reference.

MD&A should discuss the following, if the contingency involves a large number
of relatively small individual claims of a similar type:
• Number of claims pending at each balance sheet date;
• Number of claims filed for each period presented;
• Number of claims dismissed, settled, or otherwise resolved for each
period;
• Average settlement amount per claim;
• Historical and expected trends in these amounts and their reasonably
likely effects on operating results and liquidity.

References: SAB Topic 5Y, Question 3; Summary by the Division of Corporation


Finance of Significant Issues Addressed in the Review of the Periodic Reports of
the Fortune 500 Companies

2. Does the MD&A should discuss known likely trends or uncertainties in future rent or
company have amortization expense that could materially affect operating results.
lease
commitments? Reference: SEC Letter, February 7, 2005

9 CONTINGENCIES, LOSS RESERVES AND UNCERTAIN TAX POSITIONS


1. Does the General -
company have The SEC staff has stated that registrants, their auditors and advisors have a
possible loss responsibility to critically assess the claims against the company in order to
contingencies, identify those for which losses should be accrued and those that are not
including those accrued because the success of the claim is only reasonably possible.
related to income
tax claims? The requirement to discuss uncertainties in MD&A encompasses both financial
and non-financial factors that may influence the business, either directly or
indirectly. In many cases, there will be current or immediate accounting

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implications associated with an uncertainty, as occurs when the likelihood of a


loss contingency becomes probable and the amount of loss is reasonably
estimable. However, the need to discuss such matters in MD&A will often
precede any accounting recognition when the registrant becomes aware of
information that creates a reasonable likelihood of a material effect on its
financial condition or results of operations, or when such information is
otherwise subject to disclosure in the financial statements.

Reference: Current Accounting and Disclosure Issues in the Division of


Corporation Finance, 11/30/06, III, Contingencies, Loss Reserves, and Uncertain
Tax Positions, April 17, 2007 SEC Regulations Committee Discussion Document
E

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MD&A Liquidity and Capital Resources Disclosure Referen
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For all YES answers, respond to the disclosure requirements and provide a reference.

C MD&A LIQUIDITY AND CAPITAL RESOURCES


1 INTRODUCTION
Liquidity

The discussion of liquidity, which may be combined with the discussion


of capital resources, must identify any known trends or demands,
commitments, events, or uncertainties that are expected to impact
liquidity. "Liquidity" has been defined by the SEC as the ability of a
company to generate adequate amounts of cash to meet the company's
needs for day-to-day operating expenses and material commitments on
both a long- and short-term basis. "Short-term" is defined in Financial
Reporting Release No. 36 as up to 12 months into the future.
Discussions about liquidity should not be overly general. Disclosures
should adequately describe the sources of short-term funding and
circumstances that are reasonably likely to affect those sources of
liquidity.

The discussion also must describe internal and external sources


of liquidity, including any material unused sources of liquid assets; and
restrictions, including impact, on the ability of subsidiaries to transfer
funds to the registrant if these disclosures are required in the financial
statements.

When a material deficiency (a term that is not defined by the


SEC) in liquidity exists or is expected to exist, the registrant must either
indicate the course of action it has taken or proposes to take to remedy
the deficiency, or state that it is currently unable to address the
deficiency. The registrant must furnish any information (e.g., related to
cash flow or working capital) that it believes is an indicator of its
liquidity.

Registrants are expected to use the statement of cash flows


presented in accordance with FASB Statement No. 95, Statement of

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Cash Flows, and other appropriate indicators in analyzing their liquidity


and are expected to present a balanced discussion dealing with cash
flows from investing and financing activities as well as from operations.

Although liquidity, by definition, relates to the future, members


of the SEC staff have indicated that the discussion of liquidity should
cover all the years presented from a trend standpoint and point out
matters that make past results indicative or not indicative of future
results.

Capital Resources

The discussion of capital resources must cover commitments for


capital expenditures as of the end of the latest fiscal year and the
anticipated sources of funds needed to fill those commitments. As
indicated in the Codification of Accounting Series Releases (ASRs) and
Financial Reporting Releases (FRRs), Section 501.03, registrants are
expected to address material capital expenditures, significant balloon
payments, and other demands or commitments, including any off-
balance-sheet items to be incurred beyond the next 12 months, as well
as the proposed sources of funding required to satisfy these obligations.

Any known material trends, favorable or unfavorable, in the


registrant's capital resources as well as expected changes in the mix of
equity, debt, and off-balance-sheet financing and the relative cost of
those resources must be described. The Codification of Accounting
Series Releases (ASRs) and Financial Reporting Releases (FRRs), Section
501.03, indicates that matters that have materially affected the most
recent period but are not expected to have short- or long-term
implications, as well as matters that currently are not material but are
expected to affect future liquidity and capital resources significantly,
must be disclosed. Examples of these types of matters include
advertising, R&D, debt refinancings or redemptions, and levels of

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financing provided either by suppliers or to customers.

The SEC staff also encourages registrants to discuss factors that


are relevant to the company's future plans and objectives. This
information may be of particular importance to capital-intensive
enterprises (for which planned expenditures generally are more
meaningful than legally committed expenditures) and highly leveraged
companies (for which the cost of capital may be high and the availability
limited). This topic is discussed further in the Codification of Accounting
Series Releases (ASRs) and Financial Reporting Releases (FRRs), Section
501.03.

2. GENERAL
1. Are there matters that MD&A should:
are reasonably likely to 1. Discuss matters affecting liquidity or capital resources in the
have a material effect most recent period that are reasonably likely to have future
on future periods? implications. MD&A should discuss liquidity and capital resources
on both a long-term (over 12 months) and short-term (12 months
or less) basis.

2. Discuss matters that are not currently material but are


reasonably likely to significantly affect future liquidity or capital
resources.

3. On December 9, 2008, the SEC staff identified “Ten


Considerations for Preparing the Liquidity & Capital Resources
Section of MD&A in 2008 Annual Reports.” The 2008 global
financial crisis was the focus of this presentation.

References: Regulation S-K, Item 303(A) Instructions 2, 3, and 5; FRR


No. 36 - 501.03; and FRR No. 72 – 501.13, April 17, 2007 SEC
Regulations Committee Discussion Document E; Michael Fay
presentation at the 2008 National Conference on Current SEC and

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PCAOB Developments (slides 75-88).

2. Are there MD&A should discuss matters that are currently material but are not
matters that had a expected to significantly affect future liquidity or capital resources.
material effect on past
periods? References: Regulation S-K, Item 303(A) Instructions 2, 3, and 5; FRR
No. 36 - 501.03

3. Are there MD&A should identify liquidity or capital resource factors that are
liquidity or capital relevant to future plans and objectives. The SEC staff encourages this
resource factors disclosure, particularly for highly leveraged companies and capital-
relevant to future plans intensive enterprises.
and objectives?
Reference: FRR No. 36 - 501.03(b)

4. Does the MD&A The company should present a clear picture of its ability to generate
evaluate the company’s cash sufficient to meet its reasonably likely future cash needs. In
cash flow, capital particular, a company that presents its cash flow statement using the
resources, capital indirect method permitted by FASB Statement 95, should discuss the
requirements, and factors that drive cash flows rather than simply describe the line items
liquidity? that appear on the cash flow statement. In drafting the this section, the
following should be considered:
• Material cash requirements should be identified – The SEC staff
notes that a good starting point for this is the tabular disclosure of
contractual obligations. The tabular disclosure should be
supplemented with additional information about cash requirements
such as interest, taxes, or amounts to be funded to cover
postretirement benefits that may not be included in the tabular
disclosure. The MD&A should also:
o Identify funds needed to operate, complete projects, and
implement business plans;
o Explain commitments for capital or other expenditures; and

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o Provide the reasonably likely exposure to future cash


requirements from known trends or uncertainties, and timing
on when the uncertainties will be resolved.
• The primary factors driving the company’s current and future cash
flows should be provided.
• Material covenants related to outstanding debt should be discussed
and analyzed.
• Cash management policies should be discussed.

Reference: FRR No. 72 – 501.13

3. LIQUIDITY
1. Are there known and MD&A should identify known and anticipated trends, demands,
(or) anticipated trends, commitments, events, or uncertainties reasonably likely to materially
demands, increase or decrease liquidity. Liquidity is defined as the company’s
commitments, events, ability to generate cash adequate to meet its needs for day-to-day
or uncertainties? operations and material long- and short-term commitments. MD&A
should discuss liquidity in the context of the company’s own business.
For example, a discussion of working capital might be appropriate for a
manufacturer but not for a bank.

The SEC staff recommends that management should consider the


following in identifying trends, demand, commitments, events and
uncertainties that require disclosure:
• Provisions in financial guarantees or commitments, debt or lease
agreements or other arrangements that could trigger a
requirement for an early payment, additional collateral support,
changes in terms, acceleration of maturity, or the creation of an
additional financial obligation, such as adverse changes in the
company’s credit rating, financial ratios, earnings, cash flows, or
stock price, or changes in the value of underlying, linked or
indexed assets;
• Circumstances that could impair the company’s ability to

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continue to engage in transactions that have been integral to


historical operations or are financially or operationally essential,
or that could render that activity commercially impracticable,
such as the inability to maintain a specified investment grade
credit rating, level of earnings, earnings per share, financial
ratios, or collateral;
• Factors specific to the registrant and its markets that the
registrant expects to be given significant weight in the
determination of the registrant’s credit rating or will otherwise
affect the registrant’s ability to raise short-term and long-term
financing;
• Guarantees of debt or other commitments to third parties; and
• Written options on non-financial assets (e.g., real estate puts).

References: Regulation S-K, Item 303(A) Instructions 2, 3, and 5; FRR


No. 61; and FRR No. 72 – 501.13; Current Accounting and Disclosure
Issues in the Division of Corporation Finance 11/30/06, III2
Contingencies, Loss Reserves, and Uncertain Tax Positions – Discussion
in MD&A, SEC Speech, Stokes 2006

2. Are there financial MD&A should:


indicators of the 1. Make clear the balance sheet conditions or income or cash flow
company’s liquidity items that are indicators of the company’s liquidity condition.
condition? MD&A should enhance the discussion by an explanation of the
reason why a particular indicator was considered appropriate.

2. Explain liquidity issues arising from all components of cash flow:


operating, investing, and financing.

3. Disclose, separately, internal and external sources of liquidity,


including:
a. Material unused sources of liquid assets.
b. Known and anticipated trends, demands, commitments,

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events or uncertainties that would impact the sources of


liquidity.
c. Nature and extent of restrictions on – and the resulting
effects on past and future liquidity of – the ability of
subsidiaries to transfer funds to the parent company
when Regulation S-X Rule 4-08(e) requires disclosure of
such restrictions in the financial statements.

4. Include a balanced discussion of historical cash flows for all


periods presented. Discuss trends and identify matters that
make past results indicative or not indicative of future results.

References: Regulation S-K, Item 303(A) Instructions 5, 6, and (A)(1);


FRR No. 36 - 501.03; and FRR No. 72 – 501.13

3. Are there significant MD&A should highlight the significant variations between operating
variations between income and operating cash flows. The implications of the variance
operating income and should be explained in terms of the implications for liquidity and
operating cash flow? earnings trends.

Reference: Current Issues and Rulemaking Projects, 11/24/99, III.J

4. Does a material liquidity MD&A should describe, if there is a material liquidity deficiency, or one
deficiency exist or is one is expected to exist:
expected? 1. The deficiency.
2. The course of action proposed to remedy the situation or if none,
a statement that the company has not decided on a remedy or a
statement that it is unable to address the deficiency.
3. If the auditor’s report is modified for a going-concern
uncertainty, MD&A should contain appropriate and prominent
disclosure of the difficulties and viable plans to overcome them.

Reference: FRR No. 36 - 501.03

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5. Does the company have MD&A should:


decreasing liquidity? 1. Address decreasing liquidity.
2. How the decrease results in uncertainties about the company’s
future liquidity.
3. The course of action that the company plans to take to remedy
the liquidity problems, or alternatively, indicate that the
company has no such plan.

Reference: AAER 561

6. Does the company have MD&A should:


cash flow from 1. Describe how cash flows from discontinued operations are
discontinued reported in the cash flow statements.
operations? 2. Quantify cash flows from discontinued operations if they
are not disclosed separately in the cash flow statement.
3. Describe how the absence of cash flows from discontinued
operations is expected to affect future liquidity and capital
resources. For example, provide the effect on financing
levels, terms, and covenants.

References: Division of Corporation Finance Presentation at the 33rd


Annual AICPA National Conference on Current SEC and PCAOB
Developments, Slide 26, Current Accounting and Disclosure Issues in
the Division of Corporation Finance 11/30/06, IIC1 Statement of Cash
Flows – Discontinued Operations

7. In connection with an MD&A should address the effects of dilutive issuances on the company’s
IPO, did the company liquidity, capital resources and results of operations.
issue for "nominal
consideration" common Reference: SAB Topic 4D, Question 1
stock, options or
warrants to purchase
common stock or other
potentially dilutive

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securities?
8. Are future cash outlays MD&A should disclose the effect on liquidity, if future cash outlays for
for income taxes income taxes are expected to substantially exceed income tax expense.
expected to exceed
income tax expense? Reference: ASR No. 280 - 204.03, April 17, 2007 SEC Regulations
Committee Discussion Document E

9. Does the company MD&A should disclose, if the company engages in repurchase or reverse
engage in repurchase or repurchase agreements:
reverse repurchase 1. Any material impact on liquidity and operations or the risk that
agreements? results. Consider the entire period, not just the ending position,
in assessing the impact on operations.
2. Material deviations from a stated policy regarding taking
possession of assets under reverse repos.
3. Provisions to ensure the sufficiency of market value of
underlying assets in the event of counterparty default.

Reference: FRR No. 24 - 501.10

10. Does the company have MD&A should discuss the effects of off-balance sheet arrangements and
off-balance-sheet other commitments in a separately captioned section of MD&A.
arrangements and other
commitments? Reference: See Off-Balance Sheet Arrangements Below

11. Did the company MD&A should address:


receive a material 1. What was received;
insurance settlement? 2. Why it was received;
3. What the company plans to do with the settlement;
4. Classification of the settlement in the cash flow statement; and
5. The effect of the settlement on reported earnings.

References: Division of Corporation Finance Presentation at the 33rd


Annual AICPA National Conference on Current SEC and PCAOB
Developments, Slide 33, Current Accounting and Disclosure Issues in

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the Division of Corporation Finance 11/30/06, IIC2 Statement of Cash


Flows – Insurance Proceeds

12. Does the company have MD&A should address known likely trends or uncertainties in future rent
lease commitments? or amortization expense that could materially affect cash flows.

Reference: SEC Letter, February 7, 2005

13. Does the company have To the extent the registrant can make reasonably reliable estimates of
FIN 48 liabilities that will the amount and timing of cash settlement, liabilities arising from FASB
require cash settlement Interpretation (FIN) No. 48, Accounting for Uncertainty in Income Taxes,
sometime in the future? should be included in the contractual obligations table required by
Regulation S-K, Item 303 (a)(5). FIN 48 obligations not included in the
table, should be disclosed in either a footnote to the table or in an
“other” category along with the basis for exclusion.

For interim reporting purposes, Instruction 7 to Regulation S-K, Item


303(b) requires the table only when “material changes outside the
ordinary course of the registrant’s business in the specified contractual
obligations” occur during the interim period. Accordingly, when such
criteria are met for FIN 48 liabilities, the registrant should either provide
a complete updated contractual obligations table or provide narrative
disclosures discussing the impact on prior disclosures.

Reference: April 17, 2007 SEC Regulations Committee Discussion


Document E

4. CAPITAL RESOURCES
1. Does the company have MD&A should:
material commitments 1. Disclose material commitments for capital expenditures as of the
for capital expenditures? end of the latest fiscal year. Even if no legal or contractual
commitments have been made, disclosure is required if material
planned expenditure result from a known demand, such as a
growth trend. If the company decides not to incur the

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expenditures in this instance, a known uncertainty would exist


regarding continuation of the trend/growth that MD&A should
disclose.

2. Describe the material commitments for capital expenditures as


of the latest fiscal period and indicate the general purpose of the
commitments.

3. Disclose anticipated sources of funds to fulfill the commitments


described above.

4. Discuss material capital expenditures, significant balloon


payments, and other demands or commitments, including off-
balance sheet items to be incurred beyond the next fiscal year
and their proposed sources of funding.

References: Regulation S-K, Item 303(A)(2)(i); FRR No. 36 - 501.02 and


501.03

2. Does the company have MD&A should:


known capital resource 1. Disclose known material favorable and unfavorable trends in
trends? capital resources.
2. Disclose expected changes in the mix of equity, debt, and off-
balance sheet components of capital.
3. Disclose expected changes in relative cost of capital resources.
4. Disclose the nature, extent, and impact of regulatory assistance
in connection with financial assistance from a federal regulatory
agency related to an acquisition of a troubled financial
institution, a transfer of nonperforming assets to a newly formed
entity, or other organization.

References: Regulation S-K, Item 303(A)(2)(ii); FRR No. 36 - 501.06(c)

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3. Does the company have The SEC staff encourages companies to disclose in MD&A the sources of
sources of financing for financing for planned expenditures that are not actual commitments.
planned expenditures This disclosure is not required.
that are not actual
commitments? Reference: FRR No. 36 – 501.03(b)

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MD&A OFF-BALANCE SHEET ARRANGEMENTS Disclosure Referen
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D MD&A OFF-BALANCE SHEET ARRANGEMENTS


1 INTRODUCTION
MD&A should discuss the key terms, risks and uncertainties associated with
material off-balance sheet arrangements, including:
• Key terms of the off-balance sheet arrangements such as guarantees,
certain derivatives, retained interests and variable interests; and
• The material effect of the arrangements on financial condition changes in
financial condition, revenues and expenses, results of operations, liquidity,
capital expenditures, and capital resources.

The disclosure should cover the most recent fiscal year, but it also should
address changes from the previous year. In quarterly reports, MD&A should
discuss material changes in the year-end disclosures.

2 DISCLOSURE REQUIREMENTS
1. Does the Disclose in a separately captioned section of MD&A the material facts and
company circumstances of off-balance-sheet arrangements such as guarantees, certain
have off- derivatives, retained interests, and variable interests. The purpose of this
balance- disclosure is to provide investors with a clear understanding of the arrangements
sheet and their material effects on financial condition, changes in financial condition,
arrangement revenues and expenses, results of operations, liquidity, capital expenditures, and
s? capital resources. MD&A also should include other information that the company
believes is necessary for an understanding of its off-balance-sheet arrangements
and the specified material effects. The disclosure should cover the most recent
fiscal year, but it should also address changes from the previous year. MD&A in
quarterly reports should inform investors about material changes in the year-end
disclosures. More specifically, a company must disclose all of the following:

• The nature and business purpose of the off-balance-sheet arrangements;


• The importance of off-balance-sheet arrangements to liquidity, capital
resources, market risk support, credit risk support, or other benefits;
• The overall magnitude of a company’s off-balance-sheet activities, the

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specific material impact of the arrangements on a company, and the


circumstances that could cause material contingent obligations or liabilities to
come to fruition; and
• Any known event, demand, commitment, trend, or uncertainty that will, or is
reasonably likely to, result in the termination, or material reduction in
availability to the company, of its off-balance-sheet arrangements that
provide the company with material benefits.

In order to assist registrants in identifying their business activities that may have
off-balance sheet implications, Item 303 explicitly defines the off-balance sheet
arrangements that are required to be disclosed. The definition focuses on the
common types of structures that may result in a registrant obtaining or retaining
risk of loss that is not transparent to investors. The definition of off-balance sheet
arrangements employs concepts in accounting literature in order to define the
categories of arrangements with precision. Generally, the definition includes the
following categories of contractual arrangements:
1 • Certain guarantee contracts,
2 • Retained or contingent interests in assets transferred to an
unconsolidated entity,
3 • Derivative instruments that are classified as equity,
4 • Material variable interests in unconsolidated entities that conduct
certain activities, or
• A registrant that has an investment(s) or is otherwise involved
in nonconsolidated conduits (sometimes known as structured
investment vehicles) and collateralized debt obligations (CDOs)
should consider disclosure of its related exposure to risk.

In 2007, several companies determined that they were exposed (more than
expected) from off-balance-sheet-structures because of their involvement with
“subprime mortgages.” Registrants should ensure that such exposure has been
discussed and quantified in their MD&A. In addition, on January 8, 2008, the SEC
staff issued disclosure guidance for registrants that have transferred subprime
adjustable rate mortgage loans to a Qualifying Special-Purpose Entity (as defined

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in FASB Statement No. 140, Accounting for Transfers and Servicing of Financial
Assets and Extinguishments of Liabilities). Registrants that have made such
transfers should carefully review the disclosure guidance by the SEC staff.

References: Regulation S-K, Item 303(A)(4), Item 303; Form 20-F, Item 5; Form
40-F, General Instruction B; Current Accounting and Disclosure Issues in the
Division of Corporation Finance, 11/30/06, IIN, Disclosure of Off-Balance Sheet
Arrangements; SEC Speech, Stokes 2006; Sample Letter Dated December 2007
Sent by SEC staff to Public Companies with Structure Investment Vehicles; SEC
Speech Hunsaker 2007; Conrad Hewitt Letter Dated January 8, 2008
2. Does the
company Except for smaller reporting companies, disclose in a tabular format the amounts
have of payments due under specified contractual obligations. The amounts are to be
payments aggregated by category of contractual obligation, for specified time periods. The
due under company must present the information in a table, but can determine where
contractual within the MD&A to include the table.
obligations?
The information should be as of the latest fiscal year-end balance sheet date,
and the table should be in the following format:

Contractual Payments due by


Obligations period
<1 1-3 3-5 >5
Total yr yrs yrs yrs
Long-term
debt

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Capital
lease
obligations
Operating
lease
obligations
Purchase
obligations
Other long-
term
liabilities
reflected on
the
company’s
balance
sheet under
GAAP
Total
The SEC staff believes that judgment will be necessary in preparing the table.
Preparers should use footnotes to clarify the content of the table. The staff
addressed three specific issues about the table’s content: (1) purchase orders;
(2) pension and other postretirement benefit obligations (OPEB); and liabilities
arising from FASB Interpretation (FIN) No. 48, Accounting for Uncertainty in
Income Taxes.
1. Purchase orders – The SEC staff believes that open purchase orders should be
aggregated and reported in the line item "purchase obligations." If the
company’s internal reporting system does not aggregate certain purchase
orders (for example, those below a specified dollar amount), those exclusions
from the amount disclosed should be explained in a footnote to the table.
Additional disclosures to clarify the significance of missing open purchase
order information could include:
a. Prior year actual spending; or
b. Amount employees are authorized to spend.

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The staff also observed that management should consider whether the
inability to gather this information represents an internal control deficiency.
2. Pension and OPEB – The staff stated that judgment should be exercised when
determining how to present these obligations in the table. However, material
funding requirements for both pension and OPEB should be included in the
table along with a footnote describing the basis of presentation.
3. FIN 48 – The staff indicated that FIN 48 liabilities should be included in the
contractual obligations table to the extent the registrant can make reasonably
reliable estimates of the amount and period in which these liabilities will be
paid. FIN 48 obligations not included in the table should be disclosed in either
a footnote to the table or in an “other” category along with the basis for
exclusion.

Companies, other than smaller reporting companies, must include the table of
known contractual obligations in registration statements, annual reports, and
proxy or information statements that are required to include financial
statements. MD&A in quarterly reports should update the year-end discussions of
off-balance-sheet arrangements and disclose material changes in the tabular
presentation of contractual payments.

References: Regulation S-K, Item 303; Form 10-K Item 7; Form 20-F, Item 5; Form
40-F, General Instruction B; SEC Presentation, Division of Corporation Finance,
Slides 14-17, 2003; April 17, 2007 SEC Regulations Committee Discussion
Document E

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E MD&A INFLATION AND CHANGING PRICES


1 INTRODUCTION
If material, the impact of inflation and changing prices must be covered in the
MD&A. The discussion need not include any specific numeric financial data;
rather, a qualitative discussion will suffice. For example:
• "The revenue increase was primarily due to inflation."
• "Most of the company’s property and equipment was acquired in recent
years, so recorded depreciation approximates depreciation based on
current dollars."
No comment is necessary if inflation has no material impact on the financial
statements.

Although generally accepted accounting principles no longer require publicly


traded companies to disclose supplemental information on the effects of
changing prices, the SEC continues to encourage registrants to voluntarily
present quantified supplemental disclosures on the effects of inflation and other
price changes. Companies that elect to disclose the supplementary information
specified by FASB Statement No. 89, Financial Reporting and Changing Prices,
may combine their explanations with the MD&A. Alternatively, the discussion
may be omitted from the MD&A, but in this case a cross-reference should be
provided to any supplemental disclosures related to the effects of inflation.

2 DISCLOSURE REQUIREMENTS
1. Has MD&A should:
inflation had 1. Discuss the impact of inflation and changing prices on net sales or revenue
a material and income from continuing operations, if inflation has a material effect on
effect on the the financial statements for the three most recent fiscal years. MD&A need
financial not quantify the impact and may consist of a brief presentation of
statements management’s views.
for the three
most recent 2. Cross-reference the disclosures or combine the explanations, if the company
fiscal years? makes voluntary disclosures under FASB Statement 89. The SEC encourages
voluntary disclosure of changing price information

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3. Interim periods only – MD&A need not cover inflation and changing prices for
interim periods.

A smaller reporting company may provide disclosure of the impact of inflation


and changing prices for the last two most recent fiscal years if the registrant
provides information on net sales and income from continuing operations for only
two years.

References: Regulation S-K, Item 303(A)(3)(iv), (A) Instruction 8, and (A)


Instruction 9, Regulation S-K, Item 303(d)

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F MD&A FORWARD-LOOKING DISCLOSURES


1 INTRODUCTION
Forward-Looking Disclosures

The MD&A requirements distinguish between certain prospective information that


must be discussed and forward-looking disclosures that may be made voluntarily.
Disclosure is required for the future impact of presently known trends, demands,
events, or uncertainties. Disclosure is optional for forward-looking information
(e.g., projections).

The distinction between the two types rests with the nature of the prediction
required, although both are covered by the SEC's safe-harbor rules, Rule 175,
Liability for Forward-Looking Statements by Issuers. The required disclosures are
based on currently known trends, events, and uncertainties that are reasonably
expected to have material effects (e.g., reduction in product prices, changes in
insurance coverage, or the likely nonrenewal of a material contract). Optional
forward-looking disclosures involve anticipating a future trend or event or
anticipating a less predictable impact of a known event, trend, or uncertainty.
This topic is discussed further in the Codification of Accounting Series Releases
(ASRs) and Financial Reporting Releases (FRRs), Section 501.02.

When a known trend, demand, commitment, event, or uncertainty exists,


management must make two assessments:

• Is the known trend, demand, commitment, event, or uncertainty likely


to come to fruition? If management determines that it is not
reasonably likely to occur, no disclosure is required.
• If management cannot make that determination, it must evaluate
objectively the consequences of the known trend, demand, event,
commitment, or uncertainty on the assumption that it will come to
fruition. Disclosure is then required unless management determines
that a material effect on the registrant's financial condition or results

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of operations is not reasonably likely to occur. Each final determination


resulting from the assessments made by management must be
objectively reasonable at the time the determination is made. The
disclosure in this latter case could be limited to a discussion of the
facts and an indication that management is unable to assess the likely
impact on future results, etc.

Application of these principles is demonstrated in the following example,


which is presented in the Codification of Accounting Series Releases (ASRs) and
Financial Reporting Releases (FRRs), Section 501.02:

A registrant has been correctly designated a PRP (potentially responsible


party) by the EPA (Environmental Protection Agency) with respect to
cleanup of hazardous waste at three sites. No statutory defenses are
available. The registrant is in the process of preliminary investigations of
the sites to determine the nature of its potential liability and the amount
of remedial costs necessary to clean up the sites. Other PRPs also have
been designated, but the ability to obtain contribution is unclear (since
the liability is joint and several), as is the extent of insurance coverage, if
any. Management is unable to determine that a material effect on future
financial condition or results of operations is not reasonably likely to
occur. Based upon the facts of this hypothetical case, MD&A disclosure of
the effects of the PRP status, quantified to the extent reasonably
practicable, would be required. For MD&A purposes, aggregate potential
cleanup costs must be considered. Facts regarding whether insurance
coverage may be contested, and whether and to what extent potential
sources of contribution or indemnification constitute reliable sources of
recovery, may be factored into the determination of whether a material
future effect is not reasonably likely to occur.

Critical Accounting Policies

Registrants should disclose information about their critical accounting

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policies. A critical accounting policy is one that is both very important to the
portrayal of a company's financial position and its results of operations and
requires management's most difficult, subjective or complex judgments. The
purpose of disclosing information about critical accounting policies is to:

• Communicate to investors and other financial-statement users the


level of imprecision inherent in the financial statements;

• Provide an understanding about how management forms its


judgments about future events; and

• Explain how these judgments and future events could affect the
financial statements.

The key points to identify for investors in these disclosures are:

• Types of assumptions that underlie the most significant and subjective


estimates;
• Sensitivity of those estimates to deviations of actual results from
management's assumptions; and
• Circumstances that have resulted in revised assumptions in the past.

2 DISCLOSURE REQUIREMENTS
1. Does the If management cannot determine if the event is likely to come to fruition, it must
company have evaluate objectively the consequences of the known trend, demand, event,
a known commitment, or uncertainty on the assumption that it will come to fruition.
trend, Disclosure is then required unless management determines that a material effect
demand, on the registrant's financial condition or results of operations is not reasonably
event, likely to occur. Each final determination resulting from the assessments made by
commitment management must be objectively reasonable at the time the determination is
or made. The disclosure in this latter case could be limited to a discussion of the
uncertainty?

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facts and an indication that management is unable to assess the likely impact on
future results, etc.

Reference: Regulation S-K, Item 303(A) Instruction 3

2. Has the Although the SEC’s proposed rules regarding the discussion of critical accounting
company policies has not yet been finalized, MD&A should nonetheless address the role
identified its significant accounting policies and estimates have in understanding the
critical company’s results. For example, the following should be considered:
accounting • Identify and evaluate critical accounting policies
policies? • Identify the riskiness of the critical accounting policies, analyzing to the
extent possible factors such as:
- How the company arrived at the estimate;
- How accurate the estimate/assumption has been in the past;
- Whether the estimate/assumption is reasonably likely to change in
the future; and
- Evaluate the sensitivity to change of critical accounting policies.
For example, discuss and quantify the sensitivity of the company’s
pension plan long-term rate of return and the effect of reasonably
possible changes on the company’s financial condition and
operating performance

The SEC staff has asked companies to enhance their disclosure of critical
accounting policies in one or more of the following areas:
• Revenue recognition;
• Restructuring charges;
• Impairments of long-lived assets, investments and goodwill;
• Depreciation and amortization expenses;
• Income tax liabilities;
• Pension income and expense;
• Environmental liabilities;
• Repurchase obligations under repurchase commitments;
• Stock based compensation;

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• Insurance loss reserves;


• Inventory reserves and allowance for doubtful accounts;
• Lease accounting; and
• Changes in valuing financial instruments.

A company that has significant assets or liabilities subject to the valuation


requirements in FASB Statement No. 157, Fair Value Measurements, should
include as a critical accounting estimate a discussion on how it applied Statement
157 particularly if Level 3 inputs were involved.

References: FRR No. 60; FRR No. 72 – 501.14; Summary by the Division of
Corporation Finance of Significant Issues Addressed in the Review of the Periodic
Reports of the Fortune 500 Companies; SEC Letter February 7, 2005; and
Current Accounting and Disclosure Issues, 11/30/06, IIE2 Leasing – Disclosure, IIF
Revenue- Disclosure, IIH1 Investments-Other-Than-Temporary Declines in Value,
III Contingencies, Loss Reserves, and Uncertain Tax Positions, IIJ2 Pension, Post
Retirement, and Post Employment Plans - Disclosure, IIL5 Segment Disclosure -
Operating Segments and Goodwill Impairment, IIM1 Issues Associated with SFAS
133, Accounting for Derivative Instruments and Hedging Activities – Formal
Documentation under SFAS 133, SEC Speech, Stokes 2006, SEC Speech,
Hunsaker 2007, Sample Letter March 27, 2008; Slides 61-74 of Steven C. Jacobs
December 9, 2008 presentation; SEC Speech Carr December 8, 2008

3. Is the MD&A should:


company 1. Disclose the impact of adoption on future financial condition and results
going to adopt of operations. Disclosure does not have to be made if the future effect is
a recently not expected to be material. The SEC staff believes the following should
issued be disclosed:
accounting a. Description of the new standard.
standard in a b. Date adoption is required or, if earlier, expected.
future period? c. Methods of adoption allowed by the standard and, if determined,
the method to be used.
d. Description of the standard’s impact on the financial statements

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unless not known or reasonably estimable (in which case MD&A


should make a statement to that effect).
e. Disclosure of the related potential impact of other significant
matters (such as technical violations of debt covenants).

On September 13, 2006, the SEC staff issued Staff Accounting Bulletin (SAB)
Topic 1N, “Financial Statements — Considering the Effects of Prior Year
Misstatements when Quantifying Misstatements in Current Year Financial
Statements” (SAB 108), SAB 108 addresses how a registrant should evaluate
whether an error in its financial statements is material. The SEC staff concludes
in SAB 108 that materiality should be evaluated using both the “rollover” and
“iron curtain” methods. Registrants are required to comply with the guidance in
SAB 108 in financial statements for fiscal years ending after November 15, 2006.
Registrants that have evaluated financial statement errors contrary to the views
of the SEC staff and have not adopted the provisions of SAB 108 should consider
disclosure of same following the guidance in SAB Topic 11M, “Miscellaneous
Disclosure — Disclosure of the Impact That Recently Issued Accounting Standards
Will Have on the Financial Statements of the Registrant When Adopted in a
Future Period” (SAB 74).

References: SAB Topic 11M, SAB 108

4. Is MD&A should discuss the impact of the transaction. If not disclosed in a previous
disclosure of a MD&A, the current MD&A need not discuss the impact of the negotiations if
prospective including that information would jeopardize completion of the transaction.
acquisition or
disposition of Reference: FRR No. 36 - 501.06(d)
a business
required by
GAAP,
securities
regulation, or
was such a

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disclosure
made by or on
behalf of the
company?
5. Is the The SEC staff believes that MD&A should disclose events or circumstances that
company may determine whether a forecasted transaction, such as an issuance of debt
accounting for that is hedged, will occur. Also, the MD&A should disclose the gain or loss that
a derivative may result if such a transaction is no longer probable.
gain or loss
related to a Reference: SEC Speech, Pierce, 2000
forecasted
transaction?

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G MD&A INTERIM DISCLOSURES

See ARM’s SEC Form 10-Q Checklist, Item 2 – MD&A Interim Disclosures

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H SPECIALIZED INDUSTRIES
1 BANK HOLDING COMPANIES
1. If the MD&A should explain fully the reasons for changes in each of the elements and
company is a components of the loan loss allowance, even if the total provision for loan losses
bank holding did not change materially from period to period, so that a reader can understand
company, has how changes in risks in the portfolio during each period relate to the loan loss
it had changes allowance established at period-end. Quantify and explain:
in any of the 1. How changes in loan concentration, quality and terms that occurred
elements and during the period are reflected in the allowance.
(or) 2. How changes in estimation methods and assumptions affected the
components of allowance.
the loan loss 3. Why reallocations of the allowance among different parts of the portfolio
allowance, or different elements of the allowance occurred.
even if the 4. How actual changes and expected trends in nonperforming loans affected
total provision the allowance.
for loan losses 5. How actual changes and expected trends in risks associated with cross
did not border outstanding amounts affected the allowance.
change 6. How the level of the allowance compares with historical net loss
materially experience.
from period to
period? References: SEC Letter Dated 1/12/99, Current Issues and Rulemaking Projects,
11/24/99, IIIE, Allowance for Loan Losses, and Current Accounting and Disclosure
Issues in the Division of Corporation Finance, 11/30/06, IIP1, Allowance for Loan
Losses - Disclosure

2. Does the MD&A should disclose any known trend and (or) uncertainty likely to impact
company have future operations, such as concentrations of higher risk assets or commitments
known that are significant in relation to shareholder equity. Guide 3 (Loan
uncertainties Concentrations) requires disclosure of any concentration of loans exceeding 10%
relating to a of total loans. Companies should consider whether such uncertainties are
significant reasonably likely to materially impact future operations so as to require
concentration disclosure under MD&A even though such concentration of loans may not meet
of the threshold for disclosure under Guide 3.
commitments

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or loans? Reference: Current Issues and Rulemaking Projects, 1996

3. Does the Provide the following, as appropriate:


company • Disaggregated information about residential mortgage loans with features
originate that may result in higher credit risk;
residential loan • Descriptions of risk mitigation activities used to reduce exposure to credit
products? risk related to residential mortgage loans;
• Disclosure of trends related to residential mortgage loans with features
that may result in higher credit risk that are reasonably likely to have a
material favorable or unfavorable impact on net interest income after
provision for loan loss.

Reference: Current Accounting and Disclosure Issues in the Division of


Corporation Finance, 11/30/06, IIQ5, Loans and Other Receivables – Disclosure
about Residential Loan Products

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2 REGULATED INDUSTRIES
1. Is the Many utilities are responsible for alleged contaminated sites. Estimates of the
company a financial impact of environmental contingencies can be complicated by the
utility with a utilities’ insurance coverage and by the utility’s ability to recover environmental
potential costs from ratepayers through future rates.
environmental
contingency MD&A should discuss potential environmental contingencies and relate the
loss? contingencies to liquidity, capital resources, construction programs, the expected
action of regulators, and insurance coverage.

Reference: Minutes of the AICPA Public Utility Committee Meeting with the SEC
staff April 19, 1991

2. Is the MD&A should discuss the specific risks and uncertainties that are reasonably
company likely to affect the company. Many utilities are facing increasing competition and
facing a changing regulatory environment. MD&A should discuss, and quantify as
competitive practicable, the consequences of the competitive and regulatory changes,
and (or) including:
regulatory • Description of plans submitted to regulators to implement special rate
changes? and/or depreciation plans;
• Amount of potentially "stranded" costs identified in those plans;
• Specific segments or customer classes most likely to be affected by
regulatory or competitive changes;
• How specific assets, revenues, and operating margins may be affected;
• How cost of capital may be affected; and
• Other reasonably likely material effects.

Reference: Current Issues and Rulemaking Projects, Industry-Specific Issues,


11/16/98, IIIA, Disclosure by Electric Utilities

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3 FINANCIAL INSTITUTIONS
1. Did the MD&A should disclose the assistance if it has had a material effect or is
company reasonably likely to have a material effect on results of operations, the nature,
receive amounts, and effects of such assistance.
financial
assistance in Reference: FRR No. 36 - 501.06(c)
connection
with federally
assisted
acquisitions or
restructurings
?
2. Is the MD&A should address the capital requirements and plans for compliance.
company out
of compliance Reference: Current Issues and Rulemaking Projects, 1996, Financial Institutions -
with Disclosure of Regulatory Capital Requirements
applicable
regulatory net
capital
requirements?
3. Does the MD&A should assess the significance of unrealized loss in its debt securities
company have portfolio carried at amortized cost. This assessment should be made relative to
an investment the company’s net worth and regulatory capital requirements. Also, MD&A should
portfolio with analyze and, to the extent practicable, quantify:
debt securities • The likely effects on current and future earnings and investment yields
carried at and on liquidity and capital resources of material unrealized losses in the
amortized cost portfolio;
as specified in • Material sales of securities at gains; and
FASB • Material shifts in average maturity.
Statement No. A similar analysis should be provided if a material portion of fixed rate mortgages
115, maturing beyond one year carries rates below current market.
Accounting for
Certain If a material proportion of the portfolio consists of securities that are not traded
Investments

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in Debt and actively in a liquid market, MD&A should:


Equity • Disclose the proportion;
Securities? • Describe the nature of the securities and the source of market value
information; and
• Discuss any material risks associated with the investment relative to
earnings and liquidity.
Similar disclosure should be furnished if the portfolio includes instruments the
market values of which are highly volatile relative to small changes in interest
rates and this volatility may materially affect operating results or liquidity.

Reference: Current Issues and Rulemaking Projects, 11/16/98, IIID, Accounting


for Investment Securities

4. Has the MD&A should discuss material changes in items of revenue or expense and
company had should explain the changes in textual discussion and statistical tables.
material Companies may want to present yields on a tax equivalent basis. If appropriate,
changes in MD&A should include a comment on material changes in investment securities
investment that affect tax-exempt interest income.
securities
positions that
affect tax- Reference: SAB Topic 11G
exempt
interest
income?

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4 OIL AND GAS


1. Did the If the company’s hedging activity had a material impact on average oil and gas
company hedge prices received during the year, MDA should discuss and quantify the impact.
oil and gas
prices? Reference: Current Issues and Rulemaking Projects, 11/24/99, IIIS7, Issues in the
Extractive Industry - Hedging Transactions
2. Does the
Oil and gas producing companies following the full cost accounting method
company follow
should disclose the effect of the adoption of FASB Statement No. 143,
the full cost
Accounting for Asset Retirement Obligations, in MD&A. This disclosure should
method
address each area of accounting that is affected or that is expected to be
of accounting
affected. This disclosure should specifically address changes in the company’s
under Rule 4-
application of full cost accounting, including, but not limited to, how the
10(c) of
company’s calculation of the full cost ceiling and depreciation, depletion, and
Regulation S-X?
amortization (DD&A) are affected by the adoption of Statement 143. The SEC
staff also notes that following the adoption of Statement 143, a registrant’s
calculation of DD&A under Rule 4-10(c) should continue to include an amount
for estimated dismantlement and abandonment costs, net of estimated
salvage values that are expected to result from future development activities.
All registrants are expected to apply the accounting and disclosures described in
Staff Accounting Bulletin (SAB) Topic 12D4, “Oil and Gas Producing Activities —
Application of Full Cost Method of Accounting — Interaction of Statement 143 and
the Full Cost Rules,” (SAB 106) prospectively as of the beginning of the first fiscal
quarter beginning after October 4, 2004. [Editor’s note: While most companies
should have already adopted the guidance in Statement 143, companies may
find the guidance in SAB Topic 12D4 useful when explaining and disclosing the
interaction of the full cost method of accounting and Statement 143.]

Reference: SAB Topic 12D4


3. Does the If reported volumes and revenue reflect material activity arising from these
company transactions, the company should include quantification of the effects and
engage in address any related material trends and uncertainties in MD&A.
activity related
to buy/sell References: SEC Sample Letter, February 11, 2005, Current Accounting and

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arrangements Disclosure Issues in the Division of Corporation Finance 11/30/06, IID Oil and Gas
for oil and gas
commodities?
4. Does the MD&A disclosures should address the trends and uncertainties related to
company exploration expenses, and the extent to which they were affected by the deferral
capitalize of exploratory drilling costs.
exploratory
drilling costs? Reference: SEC Sample Letter, February 11, 2005

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5 INSURANCE COMPANIES
1. Did the MD&A should discuss the implications of significant unrealized losses in the
company have company’s investment portfolio.
significant
unrealized Reference: ASR 301 - FRR 403.03
losses in its
investment
portfolio?
2. Is the MD&A should address the effects of trends related to losses and reinsurance that
company a are reflected in Guide 6 information and the notes to the financial statements.
property and The effects on results of operations, liquidity, and capital resources should be
casualty discussed. The SEC staff believes that the better presentation of the Guide 6
insurance tables is a gross presentation of losses and reinsurance recoveries, but the staff
company that will accept net basis information as long as disclosures in the tables and MD&A
carries are adequately informative.
reinsurance?
Reference: SEC Speech, Barber, 1995

3. Is the The company should consider providing disclosure of the loss contingency in
company a MD&A. The SEC staff also expects companies to disclose the nature of the loss
property and contingency and the impact on trends in their loss reserve development
casualty discussion provided pursuant to Property-Casualty Industry Guides 4 and 6.
insurance
company that References: SAB Topic 5W , Current Accounting and Disclosure Issues in the
recently had Division of Corporation Finance 11/30/06, IIR Disclosure of Liability for Unpaid
significant Claims and Claim Adjustment Expenses and Reinsurance Recoveries on Paid and
unfavorable Unpaid Claims
claims
experience
that the
company
considers to
be
nonrecurring

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and
abnormal?

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6 RESEARCH AND DEVELOPMENT COMPANIES


1. Does the Biotechnology companies and others engaged in research and development
company activities often provide services and transfer rights under complex arrangements
engage in that present many accounting and disclosure issues. The arrangements may
research and include payment terms that include receipt of up-front fees and milestone
developmen payments. If these arrangements comprise a significant portion of revenues,
t (R&D) clear and balanced disclosure should be provided about the terms of the
activities arrangements, the methods of accounting for them, the specific risks and
and transfer uncertainties associated with them, and their historical and expected effects on
rights to the operations and financial position.
R&D under
complex MD&A should discuss:
arrangement • The historical and expected effects of material new contracts and the
s? achievement of revenue recognition milestones on operations and
financial position;
• The amounts of material up-front and milestone fees scheduled to be
received and to be recognized as revenue over each of the next five
years;
• Material uncertainties affecting realization of fees.

Reference: Current Issues and Rulemaking Projects, 8/31/01, Research and


Development Expenses

2. Does the MD&A should discuss for major R&D projects or groups of related projects:
company • The costs incurred to date;
incur • The current status;
significant • The estimated completion dates;
R& • If costs are not reasonably certain, discuss those uncertainties; and
D expenses? • The risks and uncertainties associated with completing development
projects on schedule and the consequences if they are not completed
timely.

Reference: Current Issues and Rulemaking Projects, 8/31/01, Research and

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MD&A INDUSTRY DISCLOSURES Disclosure Referen
Requireme ce
nts
Question Y N Disclosure Requirements Met?

For all YES answers, respond to the disclosure requirements and provide a reference.

Development Expenses

Page 72 of 73
© 2007 CCH INCORPORATED. All Rights Reserved.
A WoltersKluwer Company.
MD&A INDUSTRY DISCLOSURES Disclosure Referen
Requireme ce
nts
Question Y N Disclosure Requirements Met?

For all YES answers, respond to the disclosure requirements and provide a reference.

7 DEFENSE CONTRACTORS
1. Is the MD&A should discuss the potential effects of the government's inquiry into the
company a defense contract procurement process if the effects may be material to the
defense company. Such a discussion should be included where the registrant reasonably
contractor or expects that the government's inquiry will have a material adverse effect on a
does it company's financial condition, liquidity, capital resources, net sales, revenues or
invest in income from continuing operations, or such inquiry otherwise would cause a
defense material change in the relationship between costs and revenues. Disclosure also
contractors? should be provided where, in light of the uncertainty regarding the government's
inquiry, reported financial information would not necessarily be indicative of the
company's future operating results or financial condition.

The Commission's rules also require disclosure of any additional material


information, beyond information specifically required to be disclosed that is
necessary to make the required statements not misleading, as to the business,
financial results and condition, and the management of the company. In this
regard, consideration should be given to disclosing the effects of the
government's inquiry where management reasonably believes that existing
disclosure may be materially deficient because of the investigation's potential
impact upon company expenditures, earnings, or competitive position within the
industry. Moreover, if a company has a policy or approach towards defense
contract procurement that is likely to be affected as a result of the inquiry, it may
be-necessary to disclose such effects, including the resulting costs, in the
description of the company's business, MD&A, or financial statements as
appropriate.

Reference: FRR No. 32

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