FAQs Regarding Voluntary Disclosure

By Price D. Finley, William T. Conard II
Bricker & Eckler LLP

In response to the COVID-19 pandemic, state and local government issuers of securities, and others generally obligated to support the payment of such securities, who entered into continuing disclosure undertakings or agreements (CDAs) in accordance with Securities and Exchange Commission (SEC) Rule 15c2-12, may have questions concerning their continuing disclosure responsibilities. The following information provides guidance with respect to some commonly asked questions many issuers and “obligated persons” currently face. (Note that its purpose is to provide information of a general nature on this topic and should not be construed as legal advice.)

Q: Do I have to make voluntary disclosure of the effects of the pandemic on my organization?

A: As the name implies, “voluntary disclosure” is not required under Rule 15c2-12 or the standard provisions of CDAs with which we are familiar. An issuer is under no obligation to speculate as to the potential impacts of the pandemic. The SEC issued a public statement on May 4, 2020, encouraging issuers of municipal securities (and by implication any other “obligated person” with respect to a continuing disclosure undertaking) to provide updated financial and other disclosures regarding the effects of COVID-19 on their financial status. As a result, some issuers may now reach a different conclusion regarding the advisability of making a voluntary disclosure than they would have reached before the release of the SEC statement.

Q: Should I make some type of disclosure via the Electronic Municipal Market Access (EMMA) website even if I’m not required to do so?

A: There are a number of factors to be considered when deciding whether to make a voluntary filing with EMMA, and every issuer’s situation is different. So, there’s no one right answer to the question. (For more discussion of the considerations relating to voluntary disclosure, see “voluntary disclosure considerations during the COVID-19 pandemic.”)

Q: What, then, are the factors that should be considered in deciding whether to make a voluntary EMMA filing?

A: Because a voluntary filing is not required, issuers should approach making any such statements to the marketplace with caution. This is because any statements an issuer makes to the marketplace are subject to the so-called “antifraud” provisions of federal securities laws, which are essentially embodied in Section 10(b) of the Exchange Act of 1934 and Rule 10b-5 of the SEC. This is commonly referred to as the “10b-5” standard.

Q: What does the 10b-5 standard require?

A: Statements made in connection with initial offerings and in the secondary market must not contain an untrue statement of a material fact or omit any material fact necessary in order to make the statements, in light of the circumstances under which those statements were made, not misleading. Essentially, it means that an issuer and its officials shouldn’t say something that’s not true about something investors will think is important. Additionally, if an issuer does disclose information about something investors think important, then the issuer should not omit information when that omission would make the statement misleading.

Q: What if the offending statement was made without the intention to deceive anyone, that is, it’s just incorrect?

A:  In order for an issuer to be subject to potential 10b-5 liability, the law requires “scienter,” which means an intention to deceive. However, the SEC and courts have considered recklessness – an extreme departure from ordinary standards such that the danger of misleading others was known or so obvious that it had to be known – enough to meet the scienter requirement. What constitutes “an extreme departure” is also a very fact-sensitive question, so in all events, care must be taken with respect to any statements likely to reach the secondary market.

Q: But how does that all relate to whether I should make a voluntary filing with EMMA?

A: Basically, any statements made that are likely to reach investors must satisfy the 10b-5 standard. If an issuer makes a voluntary filing, it needs to exercise extreme care to make sure nothing is stated that is not true and that information is not omitted if it would cause the statement to be misleading.

Q: Is that any different from the standard that applies to my obligations to make filings as required by my CDA?

A: No, but with this additional consideration: If an issuer makes a voluntary filing, there is a risk of violating the antifraud rules if that statement doesn’t comply with the 10b-5 standard. Stated differently, a voluntary filing must receive the same thoughtful attention as any other filing required by a CDA.

Q: What about statements on my website or in a press release? Are those subject to the 10b-5 standard as well?

A: The SEC takes the position that any statement likely to reach the secondary market is subject to the antifraud provisions because it can affect the total mix of information available to holders.  That can include website postings, press releases, reports and statements by public officials likely to reach the secondary market and be considered important to the total mix of information.  For that reason, we advise that issuers cautiously approach statements to the public through their websites, press releases, etc. In all cases, issuers should avoid “selective disclosures” where information is provided to a particular investor and not to all investors.

Q: If I do put something on my website, does that mean that it has to be disclosed on EMMA?

A: Not necessarily. While it’s not unreasonable to consider “telling the world” via a voluntary filing on EMMA, it’s not an automatic requirement.

Q: What are the areas that the SEC suggests for voluntary disclosure?

A: The broad categories are (i) information regarding the impact of COVID-19 on operations and financial condition; (ii) information regarding sources of liquidity; (iii) information regarding the availability of federal, state and local aid; and (iv) reports prepared for other governmental purposes.

Q: What sort of information regarding the COVID-19 impact is relevant?

A: The SEC statement suggests including descriptions of current operational and financial status with respect to decreases in revenues and delays in the collection of revenues. Also recommended is a description of the issuer’s COVID-19 response, including how efforts to protect the health and well-being of residents and employees have impacted the issuer’s operational and financial condition, including un-budgeted costs. Additionally, the SEC statement suggests a description of how an issuer’s operational and financial condition may change in connection with its response to the evolution of the pandemic, as well as any factors that make determinations of any of the foregoing uncertain or difficult to project.

Q: What other items does the SEC suggest are relevant?

A: The SEC statement deems an issuer’s liquidity to be important information. A thorough description would include an evaluation of cash on hand, access to available reserves and liquidity facilities (and, if applicable, the material terms of any liquidity facility the issuer has used or expects to use), and whether such liquidity is expected to be adequate to fund essential services and provide for the timely payment of debt service charges on existing debt.

Q: What if I don’t know how we’re going to be affected by the pandemic?

A: A statement that “we don’t know how we’re going to be affected by the pandemic” may comply with the antifraud provisions. However, it may be of questionable value unless the reasons for that uncertainty can also be stated, such as uncertainty regarding future tax collections because greater delinquencies may occur. A mere statement of uncertainty might not add to the mix of information and might, instead, suggest that some relevant information has been omitted and, thus, cause a violation of the antifraud rules.

Q: What should be said about any assistance from another governmental entity?

A: The SEC statement recommends a description of any assistance sought or to be sought, as well as the timing for receipt of any aid. The nature, amount and terms, if those terms are likely to materially affect the issuer’s operational or financial condition, should also be included.

Q: Even with disclosure of the issuer’s operational and financial condition, there’s likely to be much unknown about the future effects an issuer may experience. What if any projections vary from what an issuer thought would be the case?

A: As discussed, the key element of any disclosure is to comply with anti-fraud rules. There is a legal doctrine with respect to disclosure known as “bespeaks caution” with respect to so-called “forward looking statements.” Essentially, if projections and estimates are coupled with cautionary language that certain facts or assumptions may cause the actual results to vary from the estimates and projections, that could negate any potentially misleading statements. Further, the SEC statement provides that it “would not expect good faith attempts to provide appropriately framed current and/or forward-looking information to be second guessed by the SEC.”

Q: What if the issuer needs to make some significant budget cuts or layoffs? Should a voluntary filing be made?

A: The key point is that any statements of that nature must comply with the antifraud provisions.  Certain large issuers whose securities are widely held or who are followed nationally may consider it a part of good investor relations to make a voluntary filing even though not required.  A smaller, infrequent issuer may determine that a press release on its website is sufficient.  Again, the question of whether to file is very fact-specific. The one constant is that statements that are likely to find their way to the secondary market must comply with the antifraud rules.

Q: What should be done about information prepared for others, such as rating agencies, governmental bodies, public statements etc.?

A: The SEC statement recommends a description of such items that detail the response to the pandemic. Issuers should still take care to avoid selective disclosure of non-public information, as well as information the dissemination of which is subject to other contractual or legal restrictions.

For additional information on the COVID-19 pandemic, visit our resource page at www.bricker.com/covid19.