Chapter 17 - § 17.11 • SELECTIVE FINANCIAL DISCLOSURE — SEC REGULATION FD

• Jurisdiction: Colorado

§ 17.11 • SELECTIVE FINANCIAL DISCLOSURE — SEC REGULATION FD

In August 2000, the Securities and Exchange Commission adopted Regulation FD²³⁴ to stem selective disclosure by corporations to financial market professionals. The SEC's stated goal was to establish a clear rule against selective disclosure and encourage broad-based public disclosure while not impeding normal and legitimate business communications or exposing companies to liability for selective disclosure arising from mistaken (but good faith) judgments about the materiality of the information disclosed selectively.

Selective disclosure occurs when companies release material non-public information to a limited number of persons before disclosing the information publicly. Generally, the recipients of selective disclosure have been securities analysts and institutional investors, and the forum for selective disclosure can be conference calls or one-on-one meetings. The SEC raised the concern that selective disclosure of material non-public information gave the recipients an unfair advantage and further weakened investor confidence in the fairness of the securities markets. The SEC also raised the concern that selective disclosure might bias securities analysts who receive selective disclosure — they may no longer be willing to publish negative information for fear of losing their access to future selective disclosure.

The SEC designed Regulation FD to address these issues. Regulation FD only limits a company's communications with market professionals and with holders of the company's securities under circumstances when it is reasonably foreseeable that the shareholders will trade on the basis of the information. Consequently, Regulation FD does not apply to communications with employees, the press, rating agencies, and ordinary business communications with customers and suppliers.²³⁵ Moreover, Regulation FD applies only to communications by the company's senior management, its investor relations professionals, and others who regularly communicate with market professionals and shareholders on the company's behalf.

In October 2010, Office Depot and two of its senior executive officers settled Regulation FD charges that it had selectively advised certain financial analysts and the company's top 20 institutional investors that it would not meet financial expectations for the second quarter of 2007.²³⁶ Office Depot did not announce its expectation until six days after this disclosure when it filed a Form 8-K. The SEC said that these one-on-one calls disclosing non-public information violated Regulation FD. Office Depot agreed to pay a $1 million fine, and each of the two officers $50,000.²³⁷

The SEC adopted Regulation FD pursuant to the authority granted under § 13(a) of the 1934 Act. Consequently, there is no private right of action for its violation. Moreover, Regulation FD also does not add to anti-fraud liability when selective disclosure includes material misstatements or omissions. When a company violates Regulation FD, the SEC can bring an administrative action seeking a cease and desist order, or a civil action seeking an injunction and civil penalties.

Regulation FD includes an express provision stating that a failure to make a disclosure required solely by Regulation FD will not result in a violation of Rule 10b-5. However, when a company makes a press release to meet the requirements of Regulation FD, that press release itself will be subject to Rule 10b-5 and — even if being issued hurriedly to meet the Regulation FD requirements of "simultaneous" or "within 24 hours" — must be as carefully crafted as all press releases by a public company.

Regulation FD differentiates the timing of public disclosures based on the distinction between intentional and unintentional selective disclosure. When a company makes an intentional disclosure of material non-public information to a selective audience, it must also make public disclosure simultaneously. The regulation provides that disclosure is "intentional" when the person making the disclosure either knew or was reckless in not knowing that he or she would be communicating information that was material and non-public. This would most likely occur in a conference call or a meeting with analysts or other similar venues. Disclosure is also intentional when company officials confirm projections or analysts' reports, or when they "communicate in code" to analysts or other market participants. The SEC staff has said that, because of the global market and 24-hour trading, "simultaneous means simultaneous."²³⁸ The Wall Street Journal²³⁹ said, "We are in a regulatory climate right now where a CEO can appear in front of analysts and state, 'Nothing's changed since yesterday,' and technically be in violation of Regulation FD."

In SEC v. Flowserve Corp.,²⁴⁰ the SEC charged Flowserve with violating Regulation FD when, on November 19, 2002, its CEO reaffirmed guidance on earnings that Flowserve issued on October 22, 2002. Flowserve's policy was to advise that earnings guidance was effective as of the date given and would not be updated until the company publicly updated guidance. On November 20, an analyst who attended the meeting issued a report to his subscribers stating that Flowserve reaffirmed its earnings guidance. After the market closed on November 21, 2002, Flowserve issued a Form 8-K admitting that it had reaffirmed its estimated earnings. Flowserve and its CEO settled the litigation, consenting to a $350,000 civil penalty for Flowserve and $50,000 civil penalty for the CEO.

"Unintentional disclosure" is disclosure made through an honest "slip of the tongue" or because the person making the disclosure mistakenly believed that the information was already public. When unintentional disclosure of material non-public information occurs, the company must make public disclosure "promptly," which generally means as soon as reasonably practicable after selective disclosure has been made, but no later than 24 hours after a senior company official learns that there has been unintentional selective disclosure. The outer limits for public disclosure of unintentional...