Securities and Exchange Commission
DIVISION OF CORPORATION FINANCE

CURRENT ISSUES AND RULEMAKING PROJECTS

IX. ACCOUNTING ISSUES

NOVEMBER 14, 2000

    A. Initiative to Address Improper Earnings Management

Many in the financial community have expressed concern that market pressures are driving more public companies to use improper earnings management tricks. In remarks made to the NYC Center for Law and Business in September 1998, Chairman Levitt identified several areas where accounting rules have been abused by some companies to manage earnings: "big bath" restructuring charges, "creative" acquisition accounting, miscellaneous "cookie jar" reserves, intentional "immaterial" errors, and manipulative revenue recognition. The Chairman outlined a plan to address the threat to the integrity of financial reporting posed by improper earnings management. The Chairman's speech can be found at www.sec.gov/news/spchindx.htm.

The Division of Corporation Finance established an Earnings Management Task Force that focused staff resources on the review of filings where potential improper earnings management issues could be present. A primary objective of the reviews has been to elicit improved disclosure in financial statements and MD& A about charges involving asset impairments, restructuring charges, purchased in-process research and development, and similar items. Disclosure sought by the staff has included explanation of the types and amounts of restructuring liabilities and valuation reserves, the timing and amount of increases and decreases in these accounts, and the nature and amount of any changes in estimates. The Task Force also examined filings for indicia of earnings management and other accounting abuses involving revenue recognition, unreasonable valuations of purchased in-process research and development, and manipulation of loss allowances and estimated liabilities. Also, as part of its proactive disclosure program, the Division of Corporation Finance sent letters alerting companies, before their filing 1998 annual reports, of disclosures that are often needed to give transparency to significant charges. Samples of those letters are available at the SEC web site.

In further response to the Chairman's earnings management initiative, the AIPCA published Issues in Revenue Recognition, available at www. aicpa. org, to help auditors evaluate assertions about revenue. The Office of the Chief Accountant is working closely with the FASB to establish clearer standards concerning liability recognition. The Public Oversight Board has established a distinguished committee to review the way audits are performed today and assess the impact of recent trends in business and the accounting profession on the effectiveness of the audit. Other actions taken in connection with the Chairman's earnings management initiative include issuance of staff interpretive guidance and rulemaking proposals discussed elsewhere in this outline.

B. New Rules for Audit Committees and Reviews
of Interim Financial Statements

On December 15, 1999, the Commission adopted new rules to improve public disclosure about the functioning of corporate audit committees and to enhance the reliability and credibility of financial statements of public companies. Exchange Act Release No. 42266 (December 22, 1999). The new rules became effective on January 31, 2000. The Commission's actions are part of a broader effort by the securities exchanges and the accounting profession to improve the oversight of financial reporting by corporate boards. Proposals for action by each of the different groups were set forth in the Report and Recommendations of the Blue Ribbon Committee on Improving the Effectiveness of Corporate Audit Committees. The Blue Ribbon Committee is a prestigious group of business, accounting, and securities professionals led by John Whitehead and Ira Millstein. The committee's report is available at www. nasd. com. The Commission's new rules coincide with rule changes by the New York Stock Exchange, the American Stock Exchange, and the National Association of Securities Dealers.

In brief, the rules require that:

companies' interim financial statements must be reviewed by independent auditors before they are filed on Forms 10-Q or 10-QSB with the Commission;

companies, other than small business issuers filing on small business forms, must supplement their annual financial information with disclosures of selected quarterly financial data under Item 302(a) of Regulation S-K;

companies must disclose in their proxy statements whether the audit committee reviewed and discussed certain matters specified in the ASB's Statements of Auditing Standards No. 61 (concerning the accounting methods used in the financial statements) and the Independence Standard Board's Standard No. 1 (concerning matters that may affect the auditor's independence) with management and the auditors, and whether it recommended to the Board that the audited financial statements be included in the Annual Report on Form 10-K or 10-KSB for filings with the Commission;

companies disclose in their proxy statements whether the audit committee has a written charter, and file a copy of their charter every three years; and

companies whose securities are listed on the NYSE or AMEX or are quoted on Nasdaq disclose certain information in their proxy statements about any audit committee member who is not "independent." All companies must disclose, if they have an audit committee, whether the members are "independent." Independence is defined in the listing standards of the NYSE, AMEX and NASD.

Under the new rules, interim auditor reviews must begin with the first fiscal quarter ended after March 15, 2000, and compliance with the other new requirements begin after December 15, 2000. Foreign private issuers are exempt from requirements of the new rules. The new rules include a "safe harbor" for the disclosures.

The Commission's new rules build upon rule changes proposed by the NYSE and the AMEX and the NASD and approved by the Commission on December 15, 1999, which were also part of the recommendations of the Blue Ribbon Committee. Those rules:

define "independence" more rigorously for audit committee members;

require audit committees to include at least three members and be comprised solely of "independent" directors who are financially literate;

require companies to adopt written charters for their audit committees;

give the audit committee the right to hire and terminate the auditors; and

require at least one member of the audit committee to have accounting or financial management expertise.

In December 1999, the AICPA's Auditing Standards Board issued the Statement of Auditing Standard No. 90 which requires independent auditors to discuss with the audit committee the auditor's judgment about the quality, and not just the acceptability under generally accepted accounting principles, of the company's accounting principles as applied in its financial reporting.

    C. Materiality in the Preparation or Audit of Financial Statements (SAB 99)

On August 12, 1999, the staff published Staff Accounting Bulletin No. 99. That SAB expressed the staff's view that exclusive reliance on certain quantitative benchmarks to assess materiality in preparing or auditing financial statements is inappropriate. The SAB states that the staff has no objection to the use of a percentage threshold as an initial assessment of materiality, but exclusive use of such thresholds has no basis in law or in the accounting literature. The staff stresses that evaluations of materiality require registrants and auditors to consider all of the relevant circumstances, and that there are numerous circumstances in which misstatements below that percentage threshold could be material. Some of the circumstances listed in the SAB that should be considered are:

whether the misstatement masks a change in earnings or other trends,

whether the misstatement hides a failure to meet analysts' consensus expectations for the enterprise,

whether a misstatement changes a loss into income or vice versa,

whether the misstatement concerns a segment of the registrant's business that plays a significant role in the registrant's present or future operations or profitability,

whether the misstatement affects compliance with loan covenants or other contractual requirements,

whether the misstatement has the effect of increasing management's compensation.

The SAB observes that managers should not direct or acquiesce to immaterial misstatements in the financial statements for the purpose of managing earnings. The SAB indicates that investors generally would consider significant an ongoing practice to over-or understate earnings up to an amount just short of some percentage threshold in order to manage earnings.

The SAB also notes that even though a misstatement of an individual amount may not cause the financial statements to be materially misstated, it may, when aggregated with other misstatements, render the financial statements taken as a whole to be materially misleading. The SAB, therefore, provides guidance on when and how to aggregate and net misstatements to see if they materially misstate the financial statements.

The SAB advises that, even if management and auditors find that a misstatement is immaterial, they must consider whether the misstatement results in a violation of the books and records provisions in Section 13(b) of the Exchange Act. Section 13(b) requires that public companies make and keep books, records, and accounts, which, in reasonable detail, accurately and fairly reflect transactions and the disposition of assets of the registrant, and that they maintain internal accounting controls that are sufficient to provide reasonable assurances that financial statements are prepared in conformity with GAAP. In this context, what constitutes "reasonable assurance" and "reasonable detail" are not based on a "materiality" standard but on the level of detail and degree of assurance that would satisfy prudent officials in the conduct of their own affairs.

The SAB sets forth various factors, in addition to those used to evaluate materiality, that a company may consider in deciding whether a misstatement violates its obligation to keep books and records that are accurate "in reasonable detail." Some of these factors are:

the significance of the misstatement,
how the misstatement arose,
the cost of correcting the misstatement, and
the clarity of the authoritative accounting guidance with respect to the misstatement.

Finally, the SAB reminds auditors of their obligations under Section 10A of the Exchange Act and auditing standards to inform management and, in some cases, audit committees of illegal acts, such as violations of the books and records provisions of the Exchange Act, coming to the auditor's attention during the course of an audit.

    D. Restructuring Charges, Impairments and Related Issues (SAB 100)

On November 24, 1999, the staff published Staff Accounting Bulletin No. 100, which provides guidance on the accounting for and disclosure of certain expenses and liabilities commonly reported in connection with restructuring activities and business combinations, and the recognition and disclosure of asset impairment charges.

The Emerging Issues Task Force addressed Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred in a Restructuring) in Issue No. 94-3. Generally, that consensus limits costs that may be recognized solely pursuant to management's plan to incur them to those costs which result directly from an exit activity, are not associated with and do not benefit continuing activities, and for which there is appropriate authorization, specification, and commitment to execute. SAB 100 discusses the EITF criteria and related disclosure requirements in particular circumstances encountered by the staff in its review of filings by public companies. The SAB expresses the staff's view that a company's exit plan should be at least comparable in its level of detail and precision of estimation to the company's other operating and capital budgets, and should be accompanied by controls and procedures to detect and explain variances and adjust accounting accruals. The SAB discusses disclosures in financial statements and MD& A that are often necessary to make the effects of restructuring activities on reported results sufficiently transparent to investors.

SAB 100 also addresses issues that arise in the application of FASB Statement No. 121, Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of. The SAB reminds registrants that the operational requirement to continue to use an asset disallows accounting for the asset as held for sale. If the asset is held for use, its carrying value must be systematically amortized to its salvage value over its remaining economic life. If management contemplates the removal or replacement of assets more quickly than implied by their depreciation rates, the useful lives of the assets and rates of depreciation must be re-evaluated. The SAB also provides the staff's views regarding the assessment and measurement of any impairment of enterprise level goodwill, and it specifies the accounting policy disclosures that should be provided.

The SAB also highlights the staff's concerns when a registrant records liabilities assumed in a business combination at amounts materially greater than historically reported by the acquired company. That circumstance could indicate that costs incurred before or after the merger were not properly recognized in the reported results of one or the other combining company. The SAB reminds registrants that, if the acquired company's historical accounting for a liability is based on reasonable estimates of undiscounted future cash flows, the estimated undiscounted cash flows underlying the liability recorded by the acquiring company would not be expected to differ materially from those estimates unless the acquirer intends to settle the liability in a manner demonstrably different from that contemplated by the acquired company.

E. Interpretive Guidance on Revenue Recognition
(SAB 101, SAB 101A and SAB 101B)

On December 3, 1999, the staff published Staff Accounting Bulletin 101 to provide guidance on the recognition, presentation and disclosure of revenue in financial statements (www. sec. gov/ rules/ acctreps/ sab101. htm). The SAB draws on the existing accounting rules and explains how the staff applies those rules, by analogy, to transactions that the accounting literature does not otherwise address specifically. On October 12, 2000 the staff published Frequently Asked Questions and Answers which responds to inquiries received from auditors, preparers and analysts about how the accounting literature and guidance in SAB 101 should be applied (www. sec. gov/ offices/ account/ sab101fq. htm).

SAB 101 identifies basic criteria that must be met before registrants can record revenue:

persuasive evidence of an arrangement exists;

delivery has occurred or services have been rendered;

the seller's price to the buyer is fixed or determinable; and

collectibility is reasonably assured.

In the absence of authoritative literature addressing a specific arrangement or a specific industry, the staff believes preparers and auditors should assure that the company's revenue recognition policy satisfies all of these criteria.

Specific fact patterns discussed in the SAB include bill-and-hold transactions, long-term service transactions, refundable membership fees, contingent rental income, and up-front fees when the seller has significant continuing involvement. The SAB also addresses whether revenue should be presented at the full transaction amount or on a fee or commission basis when the seller is acting as a sales agent or in a similar capacity. Finally, the SAB provides guidance on the disclosures registrants should make about their revenue recognition policies and the impact of events and trends on revenue.

The Q& A provides additional interpretive guidance about the significance of title transfer, the meaning of substantial performance and customer acceptance, the effect of undelivered elements on nonrefundable payments, the conditions for recognition of refundable service revenue, and various SAB 101 implementation questions.

Registrants may need to change their accounting policies to comply with the SAB. Provisions of the SAB addressing the period in which the new policies should be adopted were amended by Staff Accounting Bulletin 101B, which was issued June 26, 2000. Provided the registrant's former policy was not an improper application of GAAP, registrants may adopt a change in accounting principle to comply with the SAB no later than the last fiscal quarter of the fiscal year beginning after December 15, 1999.

F. Mandatorily Redeemable Securities of
Subsidiaries Holding Debt of Registrant

Registrants should consider the adequacy of disclosures about mandatorily redeemable securities issued by a finance subsidiary of a parent company when the financial subsidiary holds only debt instruments issued by the parent, particularly if the outstanding security of the finance subsidiary is guaranteed by the parent and mirrors the cash flows of the debt of the parent held by the finance subsidiary. The staff believes that disclosures in these situations often must be expanded to provide investors with a fair and balanced picture of the registrant's effective capitalization and leverage. Inclusion of the outstanding public security in minority interest with minimal disclosure of its characteristics is not adequate, particularly when Section 12(h) reporting relief is requested by registrants for the finance subsidiary. In those situations, the parent should disclose the subsidiary's outstanding securities as a separate line item in the parent's balance sheet captioned "Company-obligated mandatorily redeemable security of subsidiary holding solely parent debentures," "Guaranteed preferred beneficial interests in Company's debentures," or similar descriptive wording. Notes to the financial statements should describe fully the terms of the securities and explain that those terms parallel the terms of the company's debentures which comprise substantially all of the assets of the consolidated trust or subsidiary.

    G. Accountant's Refusals to Re-issue Audit Reports

Some accounting firms have adopted risk management policies that lead them to refuse to re-issue their reports on the audits of financial statements that have been included previously in Commission filings. In some cases, accountants whose reports on acquired businesses were included in a registrant's Form 8-K have declined to permit that report to be included in a registrant's subsequent registration statement. In other cases, accountants have declined to reissue their reports on the registrant's financial statements after the registrant engaged a different auditor for subsequent periods. The Commission's staff is not in a position to evaluate the reasons for an accountant's refusal to re-issue its report and will not intervene in disputes between registrants and their auditors. Moreover, the staff will not waive the requirements for the audit report or the accountant's consent to be named as an expert in filings. If a registrant is unable to re-use the previously issued audit report in a current filing, the registrant must engage another accountant to re-audit those financial statements. A registrant that is unable to obtain either re-issuance of an audit report or a new audit by a different firm may be precluded from raising capital in a public offering.

When registrants engage an accountant to perform audit services, they should consider the need for the accountant to re-issue its audit report in future periods. It may be appropriate to address in the audit services contract the registrant's expectations regarding the use of the audit report in filings that it or its successors may make under either the Exchange Act or the Securities Act and the circumstances under which the accountant may decline to permit its re-use.

    H. Market Risk Disclosures

On January 28, 1997, the Commission adopted amendments to Regulation S-K, Regulation S-X, and various forms (Securities Act Release No. 7386) to clarify and expand existing requirements for disclosures about derivatives and market risks inherent in derivatives and other financial instruments. Derivative financial instruments are defined in FASB Statement No. 119 to include futures, forwards, swaps, and options. Derivative commodity instruments are defined in the Release to be commodity contracts that are permitted by contract or business custom to be settled in cash or with another financial instrument (e. g., commodity futures, commodity forwards, commodity swaps, and commodity options). Other financial instruments are defined in FASB Statement No. 107 to include, for example, investments, including structured notes, loan receivables, debt obligations, and deposit liabilities. The requirements for quantitative and qualitative information about market risk apply to all registrants except registered investment companies and small business issuers.

In general, the release:

requires enhanced descriptions of accounting policies for derivatives in the footnotes to the financial statements;

requires quantitative and qualitative disclosures about market risk inherent in derivatives and other financial instruments outside the financial statements; and

provides a reminder to registrants to supplement existing disclosures about financial instruments, commodity positions, firm commitments, and other anticipated transactions with related disclosures about derivatives.

On July 31, 1997, the staff released Questions and Answers about the New "Market Risk" Disclosure Rules. The interpretive answers were prepared by the staffs of the Office of the Chief Accountant and the Division of Corporation Finance. This publication is posted at the Commission's Internet site; http:// www. sec. gov.

Based on the Division's reviews of filings by some registrants required to provide the disclosures about derivatives and market risks inherent in derivatives and other financial instruments, we have the following suggestions:

        1. Accounting policies for derivatives

Remember to provide all of the disclosures regarding accounting policies for certain derivative financial instruments and derivative commodity instruments, to the extent material, as required by Rule 4-08(n) of Regulation S-X and SFAS 119. Include clear disclosure of the method used to account for each type of derivative financial instrument and derivative commodity instrument. 8

        2. General

Remember to cite the new Item specifically (e. g., Item 7A for Form 10-K or Item 9A for Form 20-F) in the form. Registrants can include the quantitative and qualitative disclosures under the Item reference, cross-reference from the Item reference to the disclosures elsewhere in the filing, or indicate under the Item reference that the disclosures are not required (See Rule 12b-13).

Registrants may need to discuss a material exposure under the Item even though they do not invest in derivatives. For example, registrants that have investments in debt securities or have issued long-term debt should discuss risk exposure if the impact of reasonably possible changes in interest rates would be material. Likewise, registrants that have invested or borrowed amounts in a currency different from their functional currency should discuss risk exposure if the impact of reasonably possible changes in exchange rates would be material.

The market risk disclosures can refer to the financial statements but disclosures required by the new rules should be furnished outside the financial statements. The "safe harbor" established under the new rules does not extend to information presented in the financial statements.

        3. Quantitative disclosures

            a. Tabular presentation

Include all relevant terms of the related market sensitive instruments. In addition, disclose the method and assumptions used to determine estimated fair value, cash flows and future variable rates. In addition, segregate instruments by common characteristics and by risk classification.

    b. Sensitivity analysis and Value at Risk (VAR)

Disclose the types of instruments (e. g., derivative financial instruments, other financial instruments, derivative commodity instruments) included in the sensitivity analysis and VAR analysis and provide an adequate description of the model and the significant assumptions used, such as the magnitude and timing of selected hypothetical changes in market prices, method for determining discount rates, or key prepayment or reinvestment assumptions. Indicate whether other instruments are included voluntarily, such as certain commodity instruments and positions outside the required scope of the rule, cash flows from anticipated transactions, etc.

        4. Qualitative disclosures

Explain clearly how the company manages its primary market risk exposures, including the objectives, general strategies and instruments, if any, used to manage those exposures. Explain clearly the changes in how the company manages its exposures during the year in comparison to the prior year and any known or expected changes in the future.

    I. Financial Statements in Hostile Exchange Offers

In registration statements that require financial statements of a company other than the registrant (such as when the registrant acquires or will acquire another entity), the audit report of the target's independent accountants must be included in the registration statement. The consent of the target's auditor to the inclusion of its report in the registration statement is required pursuant to Rule 436 of Regulation C.

A registrant offering its own securities in a hostile exchange offer for the target's stock may seek and not be able to obtain the target's cooperation in providing either its audited financial statements or the target auditor's consent to the use of its report in the required registration statement. In this situation, the registrant should follow the guidance in SAB Topic 1A. If the target is a public company, SAB Topic 1A requires that any publicly filed financial information of the target, including its financial statements, be included in the registrant's filing or incorporated by reference into, and therefore made a part of, that filing.

The acquirer/ registrant should use its best efforts to obtain the target's permission and cooperation for the filing or incorporation by reference of the target's financial statements, and the target auditor's consent to including its report on the financial statements. At a minimum, a registrant is expected to write to the target requesting these items and to allow a reasonable amount of time for a response prior to effectiveness of the filing. The target may, however, fail to cooperate with the registrant.

Under Rule 437 of Regulation C, a registrant may request a waiver of the target auditor's consent by filing an affidavit that states the reasons why obtaining a consent is impracticable. The affidavit should document the specific actions taken by the registrant to obtain the cooperation of the target for the filing of its financial statements as well as the efforts made to obtain the target auditor's consent. As stated in SAB Topic 1A, the staff will request copies of correspondence between the registrant and the target evidencing the request for and the refusal to furnish financial statements.

If the registrant uses its best efforts but is still unsuccessful in obtaining the target's permission and cooperation on a timely basis, the staff will generally agree to waive the requirement to include or incorporate by reference the target auditor's audit report, but not the target's financial statements. If target financial statements are incorporated by reference into the acquirer's registration statement from the target's public filings, disclosure should be made that, although an audit report was issued on the target's financial statements and is included in the target's filings, the auditor has not permitted use of its report in the registrant's registration statement. The auditor should not be named. Any legal or practical implication for shareholders of either the registrant or the target of the inability to obtain the cooperation of the target or consent of the target's auditor should be explained. No disclosure in the registration statement should expressly or implicitly purport to disclaim the registrant's liability for the target's financial statements. In the event that circumstances change, for example, if the deal turns friendly, the registration statement should be amended to include the audited financial statements and the auditor's consent required by the form.

J. Proposed Rule for Disclosure about
Valuation and Loss Accruals and Long-Lived Assets

On January 21, 2000, the Commission proposed rule amendments to reposition certain schedule information about valuation and loss accruals that is currently required in exhibits to certain periodic reports and registration statements (Securities Act Release No. 33-7793). Under the proposed rule, this information would be required by new Item 302(c) of Regulation S-K and be included within the main body of reports and registration statements. Also, a proposed new Item 302(d) of Regulation S-K would require certain information concerning tangible and intangible long-lived assets and related accumulated depreciation, depletion, and amortization. Amendment of Form 20-F also is proposed to include a new Item 8C soliciting identical information in filings by foreign private issuers. The rule proposals are intended to provide investors with (1) more transparent, better detailed disclosures concerning changes in valuation and loss accrual accounts and in the underlying accounting assumptions, and (2) more detailed information to assess the effects of useful lives assigned to long-lived assets.

Under the proposed rule, registrants would be required to provide beginning and ending balances and additions to and deductions from accounts established for each major class of valuation or loss accrual. Examples of accounts for which the disclosure would be required include allowances for doubtful trading accounts or notes receivable; allowances for sales returns, discounts and contractual allowances; unamortized discount or premium; excess of estimated costs over revenues on contracts (losses accrued under SFAS 5); liabilities for costs of discontinued operations; liabilities for exit and employee termination relating to a restructuring or business combination; contingent tax liabilities recorded under SFAS 5; product warranty liabilities, and probable losses from pending litigation. Disclosures provided in response to this item would not be audited, and would not be duplicated if they are presented in the financial statements.

Similarly, the proposed rule would require provision of unaudited information depicting beginning and ending balances and additions to and deductions from accounts established for each major long-lived asset classification and its corresponding accumulated depreciation, depletion and amortization account. Major long-lived asset classifications are those for which separate presentation is made on the balance sheet and include land, buildings, equipment, leaseholds, brand names, non-compete agreements, customer lists, and goodwill.

    K. Recent Enforcement Action America Online, Inc.

On May 15, 2000, America Online, Inc. consented to the entry of an Order by the Commission making findings about the company's accounting for certain advertising costs, and directing AOL to cease and desist from causing any violations of Sections 13(a) and 13(b)(2)(A) of the Exchange Act and rules thereunder. (Accounting and Auditing Enforcement Release No. 1257). In addition, AOL agreed to pay a $3.5 million civil penalty.

During the two fiscal years ending June 30, 1996, AOL capitalized certain direct response advertising costs --primarily the costs associated with sending disks to potential customers. AOL reported those costs as an asset which was amortized over 12 months until July 1, 1995, when the amortization period was increased to 24 months. On a quarterly basis, the effect of capitalizing those costs was that AOL reported profits for six of the eight quarters in the two years ended June 30, 1996, rather than losses that it would have reported had the costs been expensed as incurred.

The AICPA's Statement of Position 93-7, Reporting on Advertising Costs, permits the capitalization and amortization of direct response advertising costs only when persuasive historical evidence exists that allows the entity to reliably predict future net revenues that will be obtained as a result of the advertising. Further, that rule specified that the realizability of the amounts reported as assets must be evaluated at each balance-sheet date on a cost-pool-by-cost-pool basis. Paragraph 70 of the SOP observes that the conditions under which direct response advertising may be capitalized "are narrow because it is generally difficult to determine the probable future benefits of advertising with the degree of reliability sufficient to report the results of the advertising as assets."

AOL based its capitalization of the advertising costs on a model which assumed stability of customer retention rates over an extended period, as well as the maintenance of the company's gross profit margin percentage. The Commission found that AOL did not meet the essential requirements of SOP 93-7 because its unstable business environment precluded reliable forecasts of future net revenues. Moreover, AOL did not assess recoverability of the capitalized cost on a cost-pool-by-cost-pool basis.

    L. Segment Disclosure

SFAS 131 defines an operating segment, in part, as a component of an enterprise whose operating results are regularly reviewed by the chief operating decision maker to make decisions about resources to be allocated to the segment and assess its performance. Segments may be aggregated in the disclosure only to the limited extent permitted by the standard. If segments are aggregated, that fact must be disclosed. Under SFAS 131, the chief operating decision maker is not necessarily a single person, but is a function that may be performed by several persons.

If the chief operating decision maker receives reports of a component's operating results on a quarterly or more frequent basis, the staff may challenge a registrant's determination that the component is not a segment for purposes of SFAS 131 unless reports of other overlapping sets of components are more clearly representative of the way the business is managed. On a few occasions, the staff has requested copies of all reports furnished to the chief operating decision maker if the reported segments did not appear realistic for management's assessment of a company's performance or conflicted with that officer's public statements describing the company. The staff also has reviewed analysts' reports, interviews by management with the press, and other public information to evaluate consistency with segment disclosures in the financial statements. Where that information revealed different or additional segments, amendment of the registrant's filings to comply with SFAS 131 was required.

MARCH 31, 2001

Auditor Association with Interim Financial Statements

Rule 10-01(d) of Regulation S-X and Rule 310(b) of Regulation S-B require the review of interim financial statements by an independent public accountant prior to their filing in Form 10-Q or 10-QSB. The registrant is not required to state in the filing that the interim financial statements have been reviewed. A report of the independent public accountant is required to be included in the filing only if the registrant states that the financial statements have been reviewed. The interim review should be conducted in accordance with SAS 71. The AICPA's Professional Issues Task Force issued Practice Alert No. 2000-4, which provides auditors with important information they will need to consider for quarterly reviews of financial statements of public companies.

If the registrant fails to obtain a review of the interim financial statements prior to their filing in Form 10-Q or 10-QSB, the filing is deficient and the registrant is deemed not to be current or timely in its Exchange Act filings. If a review was not obtained, the staff believes the registrant should disclose in a headnote, under Item 1 of Part I and preceding the quarterly financial statements, that it did not obtain a review of the interim financial statements by an independent accountant using professional review standards and procedures, although such a review is required by the form. Completion of a review after the interim financial statements have been filed with the Commission will make the filing current, although it will not be deemed timely.

Auditors have professional responsibilities to consider when the registrant files interim financial statements in a Form 10-Q or 10-QSB that have not been reviewed. Unless otherwise disclosed in the filing, investors are likely to presume that the review required by the form has been performed by the auditor of record. If financial statements with which the independent accountant would be associated are included in a Form 10-Q or 10-QSB without the accountant's timely review, the auditor should consider Practice Alert 2000-4, AU§504 and Exchange Act Section 10A. Practice Alert 2000-4 advises that the auditor should consider discussing that failure with the company's audit committee and the company's legal counsel. If the deficiency is not immediately addressed through the accountant's completion of a review, the accountant should request that the client promptly amend the filing to disclose that the financial statements have not been reviewed by an independent accountant as required by the form. In addition, the auditor has a responsibility to follow the guidance in Section 10A. Under that section, if the company and its board fail to take appropriate remedial action with respect to an illegal act that is material to the financial statements, and the auditor reasonably expects to modify its report or resign due to the illegal act, then the auditor should report the violation of the law to the SEC.

SEPTEMBER 30, 2001

Pooling-of-Interests Accounting

Following the tragic events of September 11, 2001, the Commission took temporary action in a series of emergency orders and interpretive releases to respond to market developments.

On September 14, 2001, the Commission issued an emergency order pursuant to Section 12(k)(2) of the Exchange Act with respect to several different matters, including a registrant's repurchase of its own securities under Exchange Act Rule 10b-18 (see Section XI below). One aspect of the order affects the Commission's accounting rules. In connection with registrant repurchases, the Commission ordered that, notwithstanding the current accounting literature, acquisitions by registrants of their own equity securities during the period from September 17, 2001 until September 21, 2001 will not affect the availability of pooling-of-interests accounting. (See Release No. 34-44791.)

On September 21, 2001, the emergency order was extended until September 28, 2001. (See Release No. 34-44827.) On September 28, 2001, similar relief was granted from October 1, 2001 until October 12, 2001 under Section 36(a)(1) of the Exchange Act. (See Release No. 34-44874.)

Auditor Independence

On September 14, 2001, the Commission also issued Release No. 33-8004. This interpretive release expresses the Commission's view that, for purposes of Rule 2-01 of Regulation S-X (which addresses auditors' independence from their audit client), an accounting firm with audit clients that had offices in and around the World Trade Center may assist these clients in recovering their records and systems destroyed in the events of September 11, 2001, without impairing the firm's independence from these clients. (See Release No. 33-8004.)

For further information, see Commission Press Releases Nos. 2001-91, 2001-97 and 2001-106.