SEC comment letter trends for Industrial products

The SEC Division of Corporation Finance's filing review process is a key function utilized by the SEC staff to monitor the critical accounting and disclosure decisions applied by registrants. Our analysis of SEC comment letters identifies the frequency of topical areas addressed by the SEC staff and how their focus areas changed over time. In addition to providing our insights on the nature of the SEC staff comments, we provide sample text from the SEC staff’s comments and links to where you can learn more about the accounting and disclosure requirements addressed in each topical area.

Revenue recognition

The new revenue standard (ASC 606) requires more quantitative and qualitative disclosure than prior guidance. The following areas have been addressed in the SEC staff's comments:

  • Performance obligations – the nature of performance obligations, why goods or services are distinct, and disclosure of remaining performance obligations. Also, comments related to information provided in other parts of the filing that appear inconsistent with the number of performance obligations in a contract.
  • Variable consideration – the determination of the transaction price and how a company estimates variable consideration.
  • Recognizing revenue – the timing of when control transfers, the method of recognizing revenue over time, and accounting for licensing arrangements.
  • Costs to obtain a contract – the determination of the appropriate costs to capitalize, the amortization period, and related disclosures (including election of practical expedients).
  • Gross versus net presentation – judgments related to gross versus net presentation of revenue, including an assessment of whether the company controls the good or service being provided to the end customer.
  • Disaggregated revenue – disaggregation disclosures that appear inconsistent with information provided in other parts of the filing or in other forums, such as investor presentations.

  • Please provide us with your analysis regarding how you determined you had one performance obligation in your revenue arrangements.
  • Please tell us how you considered the requirements in ASC 606-10-50-13 through 50-15 to disclose information about remaining performance obligations or application of optional exemptions.
  • It appears from your description of the contract that you perform a variety of activities under a customer contract. Please tell us your consideration of ASC 606-10-50-17 related to the disclosure of significant judgments involved in determining that all of the contracts have a single performance obligation.
  • Please explain to us, in detail, how you account for variable consideration when determining the transaction price. In your response please address each specific circumstance that causes variability in the consideration; how you estimate variable consideration; and your basis for concluding that it is probable a significant revenue reversal will not occur. Refer to ASC 606-10-32-11.
  • We note your disclosure that revenue contracts requiring customization is generally recognized at a point in time. Please explain to us why you believe these contracts do not meet the criteria for over time recognition, specifically the criteria that they have no alternative use and you have enforceable right of payment. See guidance at ASC 606-10-25-27. For those contracts that meet over time recognition criteria, please disclose the nature of the input method you utilize to recognize revenue and why this provides a faithful depiction of the transfer of goods. See ASC 606-10-50-18.
  • We note that you utilized the practical expedient to avoid capitalizing incremental costs of obtaining the contract. Given your disclosure that you sell product to your largest customer under a long term contract and other customers under contracts that could be one to two years in duration, please further tell us how you considered the guidance under ASC 340-40-25-4.
  • Please explain to us your consideration of the guidance in ASC 606-10-55-36 through 55-40 when determining whether you are acting as a principal or as an agent when providing your products / services.
  • We note your disclosure of sales disaggregated by each reportable segment. How did you consider your discussions of sales by end market within your investor presentation and earnings call.

Non-GAAP measures

Non-GAAP financial measures result in frequent comments regarding compliance with Item 10(e) of Regulation S-K and the related compliance and disclosure interpretations, sometimes resulting in requests to remove or substantially modify non-GAAP metrics. Focus areas have included:

  • Presentation with equal or greater prominence of the most directly comparable GAAP financial measure;
  • Reconciliation to the most comparable GAAP financial measure;
  • Appropriateness of adjustments to eliminate or smooth items identified as non-recurring, infrequent or unusual; and
  • Disclosure of why management believes the non-GAAP presentation provides useful information to investors regarding the financial condition or results of operations of the registrant.

  • You disclose non-GAAP measures without presenting the comparable GAAP measures with equal or greater prominence. Please ensure any discussion regarding non-GAAP measures is preceded by an equal or more prominent discussion of the comparable GAAP measure.
  • Please include a reconciliation of core earnings that begins with the most directly comparable GAAP measure. Your revised reconciliation should provide disaggregated disclosure of all the adjustments necessary to arrive at core earnings from the most directly comparable GAAP measure.
  • The disclosure characterizes restructuring charges and impact of foreign currency translation as unusual, though these items appear to be recurring. Please revise your disclosures as appropriate as Item 10(e) prohibits adjusting a non-GAAP financial performance measure to eliminate or smooth items identified as unusual when the nature of the charge or gain is such that it is reasonably likely to recur within two years or there was a similar charge or gain within the prior two years.
  • Your current disclosure discusses management's use, but not how the presentation of the measure is useful to investors. Please revise your disclosure to include a discussion of investor's use of these measures.

Segment reporting

SEC staff frequently question how registrants have identified operating segments and aggregated them into reportable segments, often due to events reported by companies in press releases or Form 8-K disclosures. SEC staff may expect to see changes in segments when the company has disclosed significant acquisitions or dispositions, changes in organizational structure, or changes in key personnel. To resolve segment questions, the SEC staff may request a copy of the reporting package utilized by the chief operating decision maker, or other documents, to evaluate its consistency with management’s reporting conclusions.

The lack of entity-wide information required to be disclosed under ASC 280 has also been highlighted by the SEC staff. Required disclosures include:

  • Revenues from external customers for each group of similar products and services; and
  • Geographic disclosures of revenues from external customers and long-lived assets attributable to the public entity’s country of domicile and individual foreign countries that are material.

  • Please explain how you concluded you have only one reportable segment. Please address whether Operations A and Operations B represent separate operating segments. Please compare and contrast your operating segments relative to the areas listed in ASC 280-10-50-11(a) to (e). Regarding any differences, tell us why you determined disaggregation was not warranted.
  • Given the disclosures about your core products as well as the impact on your gross margin driven by shifts in product mix, please expand your disclosure to include revenue for each group of similar products to comply with FASB ASC 280-10-50-40.
  • We are not able to reconcile your total tangible assets as disclosed to the face of the balance sheet. Please tell us and revise to disclose what is included in the composition of total tangible assets. Please revise your future filings to exclude any intangible assets from this disclosure, as applicable. Refer to ASC 280-10-50-41 and ASC 280-10-55-23.

Fair value measurement

Fair value measurements often require the application of significant judgment. The SEC staff has focused on the quality of disclosure around those significant judgments and estimates, frequently commenting on:

  • The valuation techniques and key inputs used to determine the fair value for each significant class of asset or liability, whether determined by management or a third party (e.g., independent pricing service).
  • The quantitative information provided for significant unobservable inputs used in Level 3 fair value measurements, including the sensitivity of the fair value measurement to changes in those significant unobservable inputs.
  • The sufficiency of disclosure related to non-recurring fair value measurements, such as impairments.

Certain of the fair value disclosure requirements, and consequently the nature of the SEC staff’s comments may be impacted by ASU 2018-13, Changes to the Disclosure Requirements for Fair Value Measurements, which can be early adopted.

  • You indicate the securities included in Level 2 of the fair value hierarchy are valued utilizing inputs obtained from an independent pricing service. Please tell us what consideration was given to disclosing a description of the valuation techniques and inputs used in the fair value measurements. In addition, tell us what consideration you gave to separately disclosing the valuation techniques and inputs for each class of assets. We refer you to ASC 820-10-50-2 and ASC 820-10-50-2(bbb).
  • Please disclose quantitative information about the significant unobservable inputs used in developing the fair value of your Level 3 assets and liabilities. Also, tell us what consideration was given to providing a narrative description of the sensitivity of the fair value measurement to changes in unobservable inputs. Please refer to ASC 820-10-50-2(bbb) and (g).
  • Please tell us how you complied with the non-recurring fair value measurement disclosures related to the impairment charge, as required by ASC 820-10-50-2(a). Also refer to the example of these disclosures at ASC 820-10-55-100.

Goodwill and other intangibles

The SEC staff has focused on the quality of the disclosure around significant judgments and estimates associated with goodwill and intangible assets, including impairment assessments, frequently commenting on:

  • The identification of reporting units, including factors considered when multiple components have been combined into a single reporting unit due to economic similarities;
  • At risk reporting units, including information about the amount of goodwill and headroom at the reporting unit, discussion of the key assumptions used to determine the reporting unit’s fair value and their associated degrees of uncertainty, and a description of potential events or changes in circumstances that could negatively affect the key assumptions; and
  • The timing of goodwill and intangible asset impairment charges.

  • Please clarify for us if you aggregate multiple components into your reporting units. If so, tell us the components you have aggregated and provide us with your analysis that supports aggregation is appropriate pursuant to ASC 350-20-35-35.
  • Please tell us whether you have any reporting units with material goodwill at risk of failing your goodwill impairment test. For each such reporting unit, please provide the following disclosures:
    • Percentage by which fair value exceeded carrying value as of the date of the most recent test; 
    • Amount of goodwill allocated to the reporting unit;
    • Description of the methods and key assumptions used and how the key assumptions were determined;
    • Discussion of the degree of uncertainty associated with the key assumptions. The discussion regarding uncertainty should provide specifics to the extent possible (e.g., the valuation model assumes recovery in a particular business from a downturn within a defined period of time); and
    • Description of the potential events and/or changes in circumstances that could reasonably be expected to negatively affect the key assumptions.
  • In light of the current year interim period results of your reportable segment, which appear to be negatively impacted by the referenced business unit, management changes, and a shift in the primary focus of the business unit, please help us further understand how you determined that none of the impairment indicators outlined in ASC 350-20-35-3 existed in the current year interim period.

Management's discussion and analysis

The SEC staff's comments on management’s discussion and analysis have emphasized the requirements in Item 303 of Regulation S-K and the related disclosure objectives, including a focus on:

  • The discussion and analysis of results of operations, including the description and quantification of unusual or infrequent events or any significant economic changes;
  • Critical accounting estimates, including the judgments made in the application of significant accounting policies, and the likelihood of materially different reported results if different assumptions or conditions were to prevail; and
  • Liquidity and capital resources, including clear discussion of drivers of cash flows and the trends and uncertainties related to meeting known or reasonably likely future cash requirements.

  • In future filings, please provide additional information about the components of operating expenses, such as quantifying the components and the factors driving the increase and the extent to which you expect this trend to continue.
  • To the extent any of your reporting units have estimated fair values that are not substantially in excess of their carrying values, please provide the following:
    • Amount of goodwill allocated to the reporting unit;
    • Description of the methods and key assumptions used;
    • Discussion of the degree of uncertainty associated with the key assumptions; and
    • Description of events or changes in circumstances that could reasonably be expected to negatively affect the assumptions.
  • Revise future filings to disclose the amount of cash and cash equivalents held by foreign subsidiaries and quantify any amounts that would not be available for use in the United States without incurring US income taxes. Provide a discussion of any known trends, demands or uncertainties relating to your liquidity as a result of your policies of indefinitely reinvesting earnings outside the United States.

Income taxes

Accounting for income taxes requires the application of significant judgment and the use of estimates. The SEC staff has focused on the quality of the disclosures around these judgments and estimates, frequently commenting on:

  • Effective tax rate reconciliations and uncertain tax positions (UTPs), including the nature of the reconciling items and UTPs, the drivers behind significant changes between periods, and whether those changes are expected to impact future periods;
  • Valuation allowances, specifically when no valuation allowance was recorded despite clear negative evidence, when a full valuation allowance was recorded despite cumulative profitability, and the timing of a full or partial valuation allowance release; and
  • The indefinite reinvestment assertion, including the amount of cash held by foreign subsidiaries, the potential tax impact of repatriating undistributed earnings of those subsidiaries, and the facts and circumstances that led to changes in indefinite reinvestment conclusions.

  • In regard to your effective income tax reconciliations, please disclose and more fully explain to us the factors that resulted in significant changes in foreign income taxed at rates other than the US statutory rate and changes in valuation allowances during each period presented.
  • You disclose that you have received tax assessments in excess of established reserves. Please tell us the amount of tax assessments received, the amount of established reserves, and how you determined the amounts accrued. If you believe a material loss in excess of amounts accrued is reasonably possible, please clarify that fact and disclose the potential loss or a range of loss in excess of amounts accrued as required by ASC 450-20-50, or explain why you are unable to provide such an estimate.
  • Your disclosures indicate that you have recorded cumulative losses for the last three years domestically. We further note that you have recognized US Federal NOLs as deferred tax assets without a valuation allowance. Please provide us with your comprehensive analysis of the specific positive and negative evidence management evaluated in arriving at the conclusion that a valuation allowance is not needed.
  • We note your disclosure regarding legal restructuring that resulted in a change in your indefinite reinvestment assertion and a tax benefit. Please provide us with additional details regarding these events including the factors that led to a change in your indefinite reinvestment assertion and whether the tax benefit is expected to be recurring. Additionally, if material disclose the expected impact of the change in your reinvestment assertion on future tax expense and cash flows in MD&A.

Terrorist nation sponsor reporting

SEC staff comments asked registrants to disclose quantitative and qualitative information about business knowingly conducted with state sponsors of terrorism. For all such business activity, the SEC staff has requested disclosure of:

  • The nature and extent of the activity;
  • The related gross revenues and net profits; and
  • Whether the company intends to continue the activity.

The list of countries that are subject to US sanctions and/or are identified as state sponsors of terrorism is dynamic and subject to change. Registrants can reference the US Department of State and the Office of Foreign Assets Control websites for the most recent listing of such countries.  

  • Your website has a list of time zone abbreviations, which includes information for Iran Standard Time and Tehran, and for Syria Standard Time and Damascus. Iran and Syria are designated by the State Department as state sponsors of terrorism and are subject to US economic sanctions and export controls. You do not provide disclosure about those countries. Please describe to us the nature and extent of any past, current, and anticipated contacts with Iran and Syria, whether through subsidiaries, affiliates, partners, customers, or other direct or indirect arrangements.
  • You should describe any products, technology or services you have provided, directly or indirectly, and any agreements, arrangements or other contacts you have had with the governments of state sponsors of terrorism or entities they control.

Liabilities and accrual estimates

The SEC staff comments for liabilities, payables, and accrual estimates focused on:

  • The disclosure of restructuring charges and the related liabilities;
  • The nature of the accounts payable balance and the appropriate disclosure of components of such balance;
  • How the company determined that netting of receivables and liabilities was appropriate;
  • The amount of contingent consideration recognized, including where that amount was reflected in the financial statements; and
  • The accounting literature referenced to either include or exclude a liability from the accounting records.

  • Revise the disclosures of your restructuring activities in future filings to also provide the information required by ASC 420-10-50-1(a), (b), and (d).
  • Please separately disclose, either on your balance sheet or in your footnotes, any elements of accounts payable and other accrued payables that exceed 5% of total current liabilities or explain to us why it is not required. Refer to Rule 5-02(20) of Regulation S-X.
  • Please tell us how you determined it was not necessary to record a liability as of the period end date. Within your response, please reference the authoritative accounting literature management relied upon.
  • We note that you have recorded a liability for a call right. Please tell us the authoritative accounting literature management relied upon to account for this call right.
  • Please provide the legal opinion that supports your view that you have been released from the liabilities related to the agreement.
  • We note your disclosure that you evaluate where partial insurance coverage exists in determining the net expected liability to the Company. Please explain to us how you determined that offsetting such amounts is appropriate and complies with ASC 210-20-45-1.
  • In future filings please disclose, as required by ASC 805-30-50-1(c), the amount of contingent consideration recognized as of the acquisition date and an estimate of the range of outcomes (undiscounted) or, if a range cannot be estimated, that fact and the reasons why you cannot estimate a range.

Debt, quasi-debt, warrants and equity

Debt, quasi-debt, warrants and equity securities continue to be a source of restatements and revisions due to errors in the application of the relevant guidance. The accounting for such items often include critical accounting estimates that require significant judgment. The SEC staff has focused on the transparency and quality of the disclosures around these judgments and estimates, frequently requesting:

  • The registrant's consideration of conversion and redemption options in determining debt or equity classification;
  • Support for the classification of financing transactions as extinguishments or modifications of debt; and
  • Expanded disclosures of the material terms of debt agreements, including an indication of compliance with financial covenants and the sensitivity associated with such measures.

  • We are unable to agree with your conclusion that the amounts under the agreement were appropriately classified as equity. We believe that since the agreement is not legal form equity, is titled as a loan agreement and contains some debt-like features, liability classification of the instrument is required. Further, we note that the instrument has no features that would indicate that it is indexed to the Company’s equity. As a result, please advise how you evaluated the identification and correction of the apparent error in the previously-issued financial statements in accordance with ASC 250-10-05.
  • You note that you may be required to repurchase your convertible notes for cash if you undergo a fundamental change, and that the convertible notes may become due and payable under certain events of bankruptcy, insolvency or reorganization. Please provide us with your analysis of the applicable accounting guidance supporting your classification of the equity component of the notes as equity. Explain your consideration of ASC 815 and ASC 480 in this analysis.
  • Please explain to us why a portion of the refinancing transaction was accounted for as an extinguishment and a portion accounted for as a modification. In your response, please discuss the guidance in ASC 470-50-40.
  • We note that you are subject to negative and project-specific covenants. Summarize for us the nature and computation of the covenants you are subject to. Please tell whether any of such covenants could impact your ability to obtain additional debt financing to a material extent. If so, please discuss the covenants in question and the consequences of any limitations to the company's financial condition and operating performance. See Sections I.D and IV.C of the SEC Interpretive Release No. 33-8350. 

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Kathy Nieland

US Industrial Products Assurance Leader, PwC US

Meta Wendt

Partner, National Professional Services Group, PwC US

David Mandelbaum

Partner, National Professional Services Group, PwC US

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