Securities Act Release No. 6359

Exchange Act Release No. 18244

Public Utility Holding Company Act Release No. 22261

Investment Company Act Release No. 12021

Accounting Series Release No. 302

November 6, 1981

Separate Financial Statements Required by Regulation S-X

ACTION: FINAL rules.

SUMMARY: The Commission announces the adoption of final rules which amend Regulation S-X to significantly modify requirements to include in filings with the Commission separate financial statements of the parent company only and of unconsolidated subsidiaries and 50 percent or less owned persons accounted for by the equity method. In addition, certain related amendments are being adopted to revise the definition of a significant subsidiary. Also, the requirement to provide separate financial statements of consolidated subsidiaries engaged in diverse financial-type businesses has been eliminated from the final rules. These changes are a part of the Commissions reexamination of its requirements for presentation of financial statements in connection with its efforts to simplify and improve the current disclosure system. These rules reduce the number of instances where separate financial statements are required and are designed to place greater reliance on summarized and condensed financial information.

EFFECTIVE DATE: Effective for companies with fiscal years ended after March 15, 1982, with earlier implementation encouraged Where early application is elected, full application of the new rules is required.

FOR FURTHER INFORMATION CONTACT: Marc D. Oken (202-272-2130) or John W. Albert (202-272-2133), Office of the Chief Accountant, Securities and Exchange Commission, Washington, D. C. 20549.

SUPPLEMENTARY INFORMATION: The Securities and Exchange Commission is adopting final rules which amend Regulation S-X (17 CFR Part 210) to significantly modify the requirements for filing separate financial statements of (1) the parent company, (2) subsidiaries not consolidated and 50 percent or less owned persons accounted for by the equity method, and (3) consolidated subsidiaries engaged in diverse financial-type businesses. The amended rules eliminate the existing requirement to file complete separate financial statements of the parent company and instead provide for the presentation of certain footnote disclosures and condensed financial information for the parent company. The criteria used to determine whether parent company information is required have been changed to better meet the objectives of parent company disclosures. Existing requirements for separate financial statements of unconsolidated subsidiaries and 50 percent or less owned persons are being amended to provide that only summarized financial information is required if certain tests are met and to increase the threshold for requiring complete separate financial statements. The amended rules also eliminate existing requirements to furnish separate financial statements of consolidated subsidiaries engaged in diverse financial-type businesses. Finally, amendments to related rules are being adopted to revise the tests used for determination of a significant subsidiary.

Adoption of the final rules announced in this release results in amendments to certain provisions of Articles 1, 3, 3A, 4, 5 and 12 of Regulation S-X.

The final rules, which include a significant reduction in existing requirements, were adopted after careful consideration by the Commission of the needs of investors and the public comments received in response to the proposing release.

The Commission believes that the amended rules improve the disclosure system and continue to provide for necessary and meaningful disclosures. It is interested, however, in hearing further from users of financial information if, after Observing the results of application of the new rules, they believe that the results do not meet their needs. Specific areas of interest include the following:

(1) Is the need for parent company and unconsolidated subsidiary information satisfactorily met by the summarized and condensed financial information furnished in the 10-K filings with the Commission?

(2) Does the segment information required by FASB Statement No. 14 provide sufficient information about the activities of regulated industries?

(3) Are there additional criteria which should require the furnishing of parent company information, such as when the parent has outstanding public debt but the net asset restriction test is not met?

If the Commissions monitoring efforts or public comment on these or other matters indicate a need for further action, the related issues will be revisited at that time.

BACKGROUND

In connection with its program to integrate disclosures required under the Securities Act of 1933 with those of the Securities Exchange Act of 1934, the Commission initiated a broad project to reexamine its requirements for the preparation and presentation of financial statements. This project was designed to identify ways in which the rules may be improved and has already resulted in significant changes to the disclosure system, A general revision of Articles 3 and 5 and certain portions of Article 12 of Regulation S-X has been accomplished and new uniform requirements governing the periods to be covered by financial statements hive been adopted. In addition, rules regarding the form and content of interim financial information included in both periodic reports and registration statements have been standardized.

As an important part of this initiative. the Commission established a project to reconsider its requirements to file, in addition to consolidated financial statements, separate financial statements of the registrant and certain consolidated and unconsolidated entities. Under existing rules, registrants meeting certain conditions could be required to include in their filings separate financial statements of 1) the parent company only; 2) significant unconsolidated subsidiaries and 50 percent or less owned persons accounted for by the equity method; 3) significant consolidated subsidiaries engaged in diverse financial-type businesses; and 4) affiliated companies whose securities have been pledged as collateral.

 In a release issued on May 11, 1981, ¹ the Commission invited public comment on proposed rules which would significantly modify the requirements to include these types of separate financial statements in filings with the Commission. The response to this invitation to comment was substantial, as reflected by the total of 122 comment letters received. ² The comments included in these letters have been considered and appropriate changes made in the final rules adopted by the Commission.

The final rules are consistent with the Commissions ongoing project to simplify and improve the current disclosure system. They ease reporting burdens in general but provide for meaningful disclosure where necessary. The final rules, and the changes to the proposed rules resulting from the response of commentators, are discussed in detail in the sections which follow.

PARENT COMPANY ONLY DISCLOSURES

The rules being adopted for parent company disclosures require certain additional disclosure in footnotes to consolidated financial statements and the presentation of condensed financial information in a schedule when certain restrictions exist on the ability of subsidiary companies to transfer funds to the parent through inter-company loans, advances or cash dividends. Complete separate financial statements of the parent are no longer required.

The amended rules require, among other things, that registrants identify and quantify restrictions on the ability of subsidiary companies to transfer funds to the parent through inter-company loans, advances and cash dividends. To determine whether additional footnote disclosure is required, registrants must compute the total net assets of subsidiary companies (including unconsolidated subsidiaries) which are restricted from transfer to the parent company in the form of loans, advances, or cash dividends. This amount is then added to the parents equity in undistributed earnings of 50 percent or less owned persons accounted for by the equity method ³ and the resulting total compared to total consolidated net assets as of the end of the most recent fiscal year. If the restricted net assets of subsidiaries and the parents equity in the undistributed earnings of 50 percent or less owned persons exceed 25 percent of total consolidated net assets, additional footnote disclosure regarding funds flow restrictions is required.

The computation of restricted net assets focuses on formal restrictions which have an impact on the flow of funds from subsidiaries to the parent. For this purpose, the restricted net assets of subsidiaries would be the amount of the parents proportionate share of net assets (after inter-company eliminations) which, as of the end of the most recent fiscal year, may not be transferred to the parent by subsidiaries in the form of loans, advances or cash dividends without the consent of a third party (i.e., lender, regulatory agency. foreign government, etc.). Not all limitations on transferability of assets are considered to be restrictions for purposes of this test, which considers only specific third party restrictions on the ability of subsidiaries to transfer funds outside of the entity. For example, the presence of subsidiary debt which is secured by certain of the subsidiarys assets does not constitute a restriction under this rule. However, if there are any loan provisions prohibiting dividend payments, loans or advances to the parent by a subsidiary, these are considered restrictions for purposes of computing restricted net assets. When a loan agreement requires that a subsidiary maintain certain working capital, net tangible asset, or net asset levels, or where formal compensating balance arrangements exist, there is considered to be a restriction under the rule because the lenders intent is normally to preclude the transfer by dividend or otherwise of funds to the parent company. Similarly, a provision which requires that a subsidiary reinvest all of its earnings is a restriction, since this precludes loans, advances or dividends in the amount of such undistributed earnings by the entity. Where restrictions on the amount of funds which may be loaned or advanced differ from the amount restricted as to transfer in the form of cash dividends, the amount least restrictive to the subsidiary should be used in computing restricted net assets.

The disclosure required in the footnotes to the consolidated financial statements includes 1) a description of the restrictions on the ability of consolidated and unconsolidated subsidiaries to transfer funds to the parent in the form of loans, advances or cash dividends; 2) an identification of the sources of the restrictions (i.e., lender, regulatory agency, foreign government, etc.); and 3) the aggregate amount restricted relative to total consolidated net assets as of the end of the most recent fiscal year.

 To determine whether condensed parent company financial information is required to be provided in a schedule, the above computation is modified by excluding the parents equity in undistributed earnings of 50 percent or less owned persons and the restricted net assets of unconsolidated subsidiaries from the test. If the total amount of restricted net assets of consolidated subsidiaries exceeds 25 percent of total consolidated net assets, disclosures regarding the financial condition of the parent company must be provided in a schedule to the financial statements.

An amended Schedule III, "Condensed Financial Information of Registrant," will provide investors with information as to the financial position, changes in financial position and results of operations of the parent company only as of the same dates and for the same periods for which consolidated statements are required. The financial data required may be provided in a condensed form similar to that currently required for condensed statements on Form 10-Q.

Detailed footnotes normally required for complete financial statements may be omitted except for certain disclosures, which include 1) descriptions of material contingencies, significant provisions of long-term obligations and guarantees of the registrant and a five-year schedule of maturities of the parents obligations (those items may be excluded from the schedule if they are disclosed in the consolidated financial statements); and 2) disclosure of cash dividends paid to the parent by consolidated subsidiaries, unconsolidated subsidiaries, and 50 percent :or less owned persons, respectively, for each of the last three fiscal years.

In a related matter, in an August 1981 release which is currently under consideration by the Commission, ⁴ it was proposed that, among other things, Regulation S-K should include a new instruction to "Managements Discussion and Analysis of Financial Condition and Results of Operations" to focus on liquidity of the parent company. The instruction would provide that where footnote disclosure of restrictions on the ability of subsidiaries to transfer funds to the parent in the form of cash dividends, loans or advances is required by Regulation S-X, managements discussion of liquidity should include the nature and extent of the restrictions and the impact they have had or are expected to have on the ability of the parent company to meet its cash obligations.

Basis for Disclosure Requirements

The proposed rules for parent company disclosure elicited substantial response from commentators. Of the 122 commentators responding to the proposed rules, 114 addressed the parent company requirements. About half of these commentators were generally supportive of the proposed parent company disclosures, while the others were opposed to one or more of its facets. Many commentators applauded the Commission for providing a rationale for requiring additional parent company disclosures and agreed that complete parent company financial statements are not generally necessary. Other commentators, however, questioned the need for even condensed financial information of the parent company. suggesting that all essential information could be derived from the consolidated financial statements, expanded footnote disclosures and the additional discussions in Managements Discussion and Analysis of liquidity.

Basic premises of consolidated financial statements are that the parent company controls the affairs of its constituent companies, that there is a relatively free flow of funds among the various companies combined in the consolidated entity, and that the parent has the ability to manage their resources in the best interests of shareholders and creditors. The Commission concluded that parent company disclosures were needed in circumstances where the parent company may not exercise the level of control which consolidated statements lead users to presume. The operations of subsidiaries engaged in banking or insurance, for example, are in most cases subject to strict government regulation. The financial flexibility of these entities :and the nature of their relationships with affiliated persons, including the parent company, are subject to regulatory restraints. In addition, subsidiaries often have financing agreements which may restrict the transfer of funds to a parent or other affiliated party or other types of transactions with affiliates. Also, where subsidiaries have significant minority equity interests. their operations may be influenced by these equity holders.

Where a parent companys ability to control may be restricted to the extent that substantial control over the flow of funds within an enterprise may be impaired, the Commission believes investors should be provided the information necessary to evaluate the impact of such restrictions on the strength of the enterprise as a whole and on the security of their investments.

 The Commission believes that adequate disclosure is not provided in consolidated financial statements where significant restrictions exist on the ability of a parent company to control the flow of funds of its consolidated group. The Commission also concluded that its existing requirements for separate parent company disclosures were not adequate because of the nature of the tests used to determine the need for disclosures. Finally, where parent company financial information is considered necessary, the Commission concluded that complete separate statements of the parent were not necessary to meet the needs of investors.

The rules being adopted for parent company disclosures are based on the concept of identifying significant restrictions on funds flow between subsidiaries and parent set forth in the proposing release. Condensed parent company financial information will be required under certain conditions, but some revisions have been made to specific footnote disclosure requirements and to the related "triggering mechanisms" as a result of the Commissions consideration of the comments received.

Under the proposed rules, both footnote disclosure of restrictions on funds flow to the parent company and condensed parent company financial information would have been triggered by an identical "25% restricted net assets test." Under the proposed test, the amount of undistributed earnings of 50 percent or less owned persons accounted for by the equity method would be added to the restricted net assets of subsidiaries and compared with total consolidated net assets. Certain commentators questioned the inclusion of undistributed earnings of such persons and the restricted net assets of unconsolidated subsidiaries in any test to trigger additional parent company information. Their view was that it did not seem appropriate to trigger footnote and schedule information solely on the basis that a company had significant investments in 50 percent or less owned persons or unconsolidated subsidiaries. Since the parent company would still be able to exercise the level of control over the net assets of consolidated subsidiaries as presumed by users, commentators questioned the need for separate parent company information in such circumstances. Further, commentators noted that if such investments were material the proposed significant subsidiary rules would require summarized financial information and possibly complete financial statements for such persons.

Accordingly, the amount of undistributed earnings of 50 percent or less owned persons and the restricted net assets of unconsolidated subsidiaries have not been included in the final rules for determining whether schedule disclosure of condensed parent company financial information is required. However, these amounts must be included in the tests used to determine whether additional footnote disclosure is required. Since a parent may be unable to control the payment of dividends, loans or advances from a 50 percent or less owned person, the net assets of such persons are relevant and need be considered. if significant, along with restricted net assets of both consolidated and unconsolidated subsidiaries to evaluate the need for footnote discussion of restrictions on the parents control.

The proposed rules to trigger parent company disclosures defined restricted net assets of subsidiaries as the amount of net assets which may not be loaned or advanced to the parent without the consent of third parties. Restrictions on cash dividends by subsidiaries were not included for purposes of this test based on the view that any restrictions, under loan covenants or otherwise, which limit the transfer of funds to affiliates through loans or advances would similarly restrict cash dividends. Certain commentators suggested that restrictions on loans or advances often do not prevent the distribution of cash dividends. Accordingly, the test for determining restricted net assets has been expanded in the final rules to include restrictions on cash dividends.

In addition to the specific footnote disclosure requirements adopted in the amended rules, the proposed rules would have required disclosure of the amounts of undistributed earnings of consolidated subsidiaries, unconsolidated subsidiaries, and 50 percent or less owned persons accounted for by the equity method, and of the amounts restricted as to dividend distribution. A reconciliation of the parents equity in undistributed earnings of 50 percent or less owned persons and consolidated and unconsolidated subsidiaries to total consolidated retained earnings would also have been required. Many commentators questioned the usefulness of any reconciliation of retained earnings amounts. Others suggested that such a presentation could be complex, may require arbitrary allocations of consolidating adjustments, and may be difficult to understand. In response to the commentators concerns about the burdens associated with presenting this information and its utility, the proposed requirement for footnote disclosure of undistributed earnings and the related reconciliation to consolidated retained earnings have not been included in the amended rules.

A majority of the commentators supported the use of net assets as an appropriate base to assess the need for parent company disclosures. In their view, availability of dividends to shareholders and ability to service debt requirements are often assessed by a companys net asset strength. Further, net assets represent a well-defined and familiar unit of financial measure. However, commentators also suggested that guidelines be included in any final rules to specify the appropriate treatment of redeemable preferred stocks and minority interests in computing net assets for purposes of the test. Since the amended rules are intended to provide information as to the ability of a parent company to meet its financial obligations, appropriate consideration should be given to the impact on a parent company of future cash obligations associated with redeemable preferred stocks. ⁵ Similarly, it would be inappropriate to include minority interests in criteria used to evaluate the parents control over consolidated resources. Therefore, the final rules provide that redeemable preferred stocks and minority interests shall be deducted in computing net assets for purposes of this test. ⁶

UNCONSOLIDATED SUBSIDIARIES AND 50 PERCENT OR LESS OWNED PERSONS

The amended rules require the presentation of summarized financial information for unconsolidated subsidiaries and 50 percent or less owned persons accounted for by the equity method in a footnote when either asset or income tests based on certain 10 percent measurements are met. In addition, audited separate financial statements are required in filings with the Commission if either of the tests are met at a higher level of 20 percent. These tests are referred to in Regulation S-X as the significant subsidiary test and have been amended to include the following:

Asset tests--

l the registrants and its other subsidiaries investments in an advance to the subsidiary or 50 percent or less owned person exceed 10 percent of the registrant consolidated assets.

l the registrants and its other subsidiaries proportionate share of the total assets (after inter-company eliminations) of the subsidiary or 50 percent or less owned person exceeds 10 percent of registrants consolidated assets.

Income test--

l the registrants and its other subsidiaries equity in income from continuing operations before income taxes, extraordinary items and cumulative effect of a change in accounting principle of the subsidiary or 50 percent or less owned person exceeds 10 percent of such income of the registrant consolidated.

By raising the level of the percentage tests for providing audited separate financial statements in Commission filings from 10 to 20 percent, greater reliance. is being placed on summarized financial information. To improve consistency in reporting this information, rules are also being adopted to establish standards for the content of summarized financial information.

Since separate financial statements of unconsolidated subsidiaries and 50 percent or less owned persons are only considered necessary to satisfy the informational needs of sophisticated users, they are required in registration and reporting forms filed with the Commission, but not in annual reports to security holders. These separate statements should comply with all provisions of Regulation S-X, including the schedule requirements.

Discussion of Final Rules

The amended rules for separate financial disclosures for unconsolidated subsidiaries and 50 percent owned persons accounted for by the equity method have been adopted substantially as proposed in the May 1981 release. These rules are based on the Commissions view that summarized financial information may be adequate for disclosure purposes up to the point when the financial impact of a subsidiary or person becomes so significant that more detailed disclosure becomes necessary to an evaluation of the overall financial condition of a reporting entity. While recognizing that qualifying that level of significance may be an arbitrary determination, the Commission concluded that the proposed 20 percent level is a reasonable standard for determining when the more detailed disclosures provided by complete financial statements are necessary in filings with the Commission. A majority of the commentators expressed support for the proposal and agreed that the 20 percent level was a reasonable percentage for the determination of whether separate financial statements are required.

Certain commentators suggested that the Commissions rules should be eliminated because they are duplicative of generally accepted accounting principles ("GAAP"). While the Commission recognizes that GAAP (APB Opinion No. 18) calls for the presentation of either separate financial statements or summarized financial information, guidance is not provided as to when either of these alternatives may be more appropriate. The new rules establish uniform standards to determine the degree of detailed information to be included in filings with the Commission. The Commission recognizes that many registrants often elect to include full separate financial statements for significant unconsolidated subsidiaries or 50 percent or less owned persons in their annual reports to security holders. The new rules do not eliminate this option, and registrants may continue to provide either separate financial statements or summarized financial information in their annual reports as they deem to be appropriate.

As proposed, the significant subsidiary test, used to trigger separate financial disclosure of unconsolidated subsidiaries or persons and other financial disclosures under the Commissions rules, was based on the existing definition, except that the sales test was eliminated. The elimination of the sales criterion from the significant subsidiary test in the final rules is based on the view that the presentation of additional financial disclosures of an affiliated entity may not be meaningful if the affiliate has a high sales volume but a relatively low profit margin. In such circumstances, the affiliate has little financial impact on the operating results of the consolidated group. Most commentators supported the elimination of the sales test from the definition of a significant subsidiary.

Several commentators suggested that the income test, which was proposed to be based on income before income taxes, extraordinary items and the cumulative effect of a change in accounting principle, also exclude the results of discontinued operations and the related gain or loss on disposition. The Commission agrees that income from continuing operations is a more appropriate measure of the relative significance of an individual entity to a consolidated group. The significant subsidiary test in the final rules has been revised to state that the income test should be based on income from continuing operations only.

Historically, separate financial statements of unconsolidated subsidiaries and 50 percent or less owned persons have been required to be audited and presented, insofar as practicable, as of the same dates and for the same periods as those of the registrant. Certain commentators questioned the necessity of an audit requirement for prior years when an entity first meets the test of a significant subsidiary. In their view, the burden of obtaining audits for prior years in which an entity was not significant may not be cost-justified. The Commission believes that this is a valid concern, and, accordingly, the amended rules permit the presentation of prior years financial statements on an un-audited basis in these circumstances.

The final rules require the presentation of summarized financial information when any of the significant subsidiary tests is met on an aggregate basis by any combination of unconsolidated subsidiaries and 50 percent or less owned persons. The proposed requirements included a provision under which summarized information could be omitted for one or more entities provided that (1) it was impracticable to furnish the information, and (2) the omitted information did not exceed 5 percent under any of the tests. The proposed 5 percent ceiling on omitted information was intended to emphasize that arguments as to impracticability would be rejected if the information to be omitted exceeded the 5 percent test. However, this aspect of the proposed rules had the unintended effect of confusing many of the commentators. Certain of the commentators viewed the proposed ceiling as a reduction of the reporting threshold for presenting summarized information from 10 to 5 percent. Others pointed out that if it is impracticable to obtain certain information, the fact that the omitted information is greater than 5 percent does not make it practicable. For this reason and to avoid confusion, the proposed 5 percent ceiling on omitted information has been deleted from the amended rules. The Commission emphasizes that the required additional financial information is warranted whether "significance" is attributable to the contribution of an individual subsidiary or person or from a combination of such subsidiaries or persons. Since the Commission believes that the summarized information should be complete, requests for permission to omit some entities from the summarized financial information will not be granted in a routine manner.

Summarized Financial Information

An integral part of the proposed rules concerned the establishment of standards for the content of summarized financial information. Such information would be required for those entities which meet the revised significant subsidiary rules. Many commentators suggested that the proposed standards for summarized information should be eliminated and that the private sector should develop such standards. Other commentators, however, noted the absence of specific guidelines for the content of this information and supported the Commissions effort to establish such minimum standards. The Commission believes that standards for summarized information are necessary in order for it to adopt these reduced requirements and to provide consistency in reporting this financial information. Should the FASB establish such standards, the Commission will reevaluate the necessity for its own standards.

Many commentators questioned the proposed requirement that footnote disclosure accompany summarized financial information. Some commentators opposed the general requirement providing for disclosures necessary to make the information presented "not misleading" on the basis that neither objectives nor detailed standards exist for the presentation of such information. Other commentators argued that disclosure of material contingencies and five-year maturity data should only be required when these items are material to the consolidated financial statements. The Commission has considered these views and agrees that these disclosures are necessary only when material to the consolidated financial statements of the primary reporting entity. Accordingly, the proposed requirements for footnote disclosure are not included in the final rules.

The rules being adopted generally indicate that whenever summarized financial information is required under Regulation S-X it shall consist of summarized information as to assets, liabilities and results of operations of the entity or entities for which the information is required. ⁷ Insofar as is practicable, summarized financial information shall be provided as of the same dates and for the same periods for which audited consolidated financial statements are required.

The items to be included in the summarized results of operations are based on existing requirements for footnote disclosure of certain selected quarterly financial data ⁸ and are as follows:

--net sales or gross revenues;

--gross profit (or, alternatively, costs and expenses applicable to net sales or gross revenues);

--income or loss from continuing operations before extraordinary items and cumulative effect of a change in accounting principle;

--net income or loss.

The content of the summarized results of operations is basically being adopted as proposed, except that income or loss is to be presented on a continuing operations basis for reasons consistent with changes in the significant subsidiary test discussed earlier. For specialized industries in which gross profit is not computed, information may be substituted which is more meaningful to an entitys operations. A bank, for example, could present total interest income, total interest expense, provision for loan losses, and security gains or losses in lieu of sales and related costs and expenses. Similarly, an insurance company could present information as to net premiums earned, net investment income, underwriting costs and expenses, and realized gains or losses on investments.

The rules being adopted for summarized financial information as to assets and liabilities recognize that differences exist in balance sheet presentations among different industries. In industries in which classified balance sheets are presented, disclosure is required of the amounts of current and non-current assets and liabilities. For industries in which classified balance sheets are not presented, information is required as to the nature and amount of the major components of an entitys assets and liabilities. A finance company, for example, should disclose the portion of its total assets represented by net loan receivables when that item represents one of that companys largest assets. Long-term liabilities and redeemable preferred stock should be disclosed regardless of the type of balance sheet presented.

Other Issues

The proposed rules would have retained certain existing disclosure requirements where differences exist between the registrants cost and underlying equity in net assets for an investment accounted for by the equity method. Certain commentators recognized these requirements as duplicative of GAAP ⁹ and recommended their deletion. These disclosure requirements have been eliminated in the final rules.

Minor revisions have also been made to the proposed rules to clarify their intent where necessary. For example, the rule which explains when the acquisition of another company in a business combination accounted for as a pooling of interests meets the asset test of a significant subsidiary has been expanded to indicate that such test in to be applied only for purposes of determining a reportable event under Form 8-K or a future business succession (§210.3-08).

CONSOLIDATED SUBSIDIARIES ENGAGED IN DIVERSE FINANCIAL ACTIVITIES

The amended rules eliminate existing requirements to furnish, in filing with the Commission, separate financial statements of consolidated subsidiaries engaged in diverse financial-type business. Under existing rules, registrants with significant subsidiaries engaged in the businesses of life insurance, fire and casualty insurance, banking, securities brokerage, savings and loan, or finance are required to present separate or combined financial statements for consolidated subsidiaries in such business.

Consolidated financial statements comprised of a variety of specialized financial-type business are often complex and difficult to analyze and the disaggregated disclosure provided by separate financial statements has been considered necessary to perform a detailed analysis of the enterprise. A matter which frequently contributes to the complexity of a consolidated presentation is the fact that certain of the consolidated entities operate in highly regulated environments. The portion of the consolidated entity to which regulatory restraints relate and the impact such restraints have on the enterprise as a whole are often difficult to ascertain from the consolidated statements. The disclosures required under the existing rules can provide sophisticated investors with a better understanding of the relative strengths and weaknesses of the various businesses which the enterprise operates and generally provide a better basis upon which to evaluate trends.

While attentive to the informational needs of the sophisticated investor, the Commission is also sensitive to the reporting burdens imposed by these and other requirements for separate statements. In an effort to ease such reporting burdens, the Commission proposed, as part of the May 1981 release, to eliminate requirements for these separate financial statements and to rely instead on condensed financial information. Under the proposed rule, condensed financial information as to financial position, changes in financial position and results of operations would be required to be presented in a schedule as of the same dates and for the same periods covered by the consolidated financial statements. The financial information would not have to be presented in any greater detail than is required for condensed statements in interim reports filed on Form 10-Q and in registration statements, where required. Detailed footnotes which would normally be required for complete financial statements could be omitted.

Most commentators reacted favorably to the perceived reduction in reporting burdens resulting from the new requirements to furnish only condensed information. However, a significant number of commentators questioned the need for even condensed financial information and suggested that there was insufficient basis for requiring additional disclosures of finance-type businesses. These respondents believed that the segment data required by Statement of Financial Accounting Standards ("SFAS") No. 14 provides adequate information both for users of annual reports to security holders and for sophisticated investors.

SFAS No. 14 requires public companies to provide certain disaggregated disclosures regarding operations in different industries, foreign operations, export sales and major customers. Principal disclosures required for each reportable segment include revenues, operating profit or loss, identifiable assets, depreciation and capital expenditures. The Commission reiterates its view that the disclosures required by SFAS No. 14 provide meaningful information regarding the principal segments of a business in which an enterprise operates and that the degree of disclosure provided is adequate for purposes of annual reports to shareholders.

Careful consideration has been given to the benefits of the additional disclosures in Commission filings required by the proposed rules, the related reporting burdens, the needs of sophisticated investors and the comments of respondents on the proposed rules. The Commissions decision to delete all requirements for additional financial information for consolidated finance-type subsidiaries was significantly influenced by its conclusion that the disclosures required by SFAS No. 14 provide adequate information on these activities to most investors, and by the views of commentators that the marginal utility of information required by the proposed rules may not he cost-justified, considering the burdens associated with the presentation of such information.

AFFILIATES WHOSE SECURITIES ARE PLEDGED AS COLLATERAL

The final rules retain existing requirements to include financial statements of affiliates in filing with the Commission when the securities of the affiliate constitute a substantial portion of the collateral of any class of securities registered or being registered. For purposes of compliance with these requirements, an affiliates securities are deemed to constitute a substantial portion of collateral if the aggregate principal amount, par value, book value as carried by the registrant, or market value of such securities, whichever is greatest, equals 20 percent or more of the principal amount of the secured class of securities.

These financial statements are generally required to be audited as of the same dates and for the same periods as the consolidated statements and must be presented in full compliance with Regulation S-X. However, financial statements of affiliates are not required when they are otherwise filed with the Commission on an individual or consolidated basis.

Most commentators agreed that such statements are essential to an evaluation of the ability of an affiliate to satisfy its commitment in the event of default by the registrant. The commentators also supported the Commissions view that when such financial statements are required they should be as comprehensive as those presented by the registrant. Accordingly, the existing requirements for separate financial statements of affiliates whose securities are pledged as collateral have been retained in the final rules being adopted.

In addition to situations involving collateralized securities of affiliates separate financial statements of the guarantors of indebtedness of a registrant are usually required to be filed under the Commissions rules. In such situations, the Commission has generally relied upon the provisions of Regulation S-X (§210.3-13) which require the filing of other financial statements when necessary for an adequate presentation of the financial condition of the registrant.

The bases for requiring separate financial statements of both guarantors and affiliates whose securities collateralize an offering are the same. In both instances, separate financial statements are considered necessary for an assessment of the ability of an entity to satisfy its commitment in the event of default by the registrant. To clarify the Commissions practice, the rules have been amended to specify that separate financial statements of guarantors are required in Commission filings.

SUMMARIZATION OF EXISTING AND AMENDED RULES

The table which follows is presented as a guide to assist the reader in understanding the more significant changes being adopted by comparing the existing and amended rules. This table should be used as a supplement to the discussion of the existing rules and changes to those rules provided in earlier sections of this release.

Existing Rules

Parent company only

When required

--Parent is a holding company; or

--Parent is an operating company whose consolidated subsidiaries have minority equity interests or indebtedness to unaffiliated persons in amounts which exceed 5 percent of total consolidated assets; however, if the parents total assets, exclusive of investments in and advances to its consolidated Subsidiaries, constitute 75 percent or more of total consolidated assets, and its total sales and revenues, exclusive of interest and dividends received from or its equity in earnings of consolidated subsidiaries constitute 75 percent or more of total consolidated sales and revenues, separate statements may be omitted.

Information required

--Separate audited financial statements as of the same dates and for the same periods as consolidated financial statements.

Unconsolidated subsidiaries and 50 percent or less owned persons

When required

--When any one of the following tests are met:

Asset tests--

Registrants investment in subsidiary or person, or registrants proportionate share of total assets (after inter-company eliminations) of subsidiary or person exceeds 10 percent of registrants consolidated assets.

Amended Rules

--The amended rules focus on the existence of restrictions on the ability of subsidiaries to transfer funds to the parent company. Footnote disclosure requirements are triggered when the registrants proportionate share of net assets of subsidiaries (after inter-company eliminations) restricted from being transferred to the parent company in the form of loans, advances or cash dividends and its equity in undistributed earnings of 50 percent or less owned persons accounted for by the equity method, together, exceed 25 percent of consolidated net assets as of the end of the most recent fiscal year. Requirements for additional parent company financial disclosure are triggered by the same test, except that unconsolidated subsidiaries and 50 percent or less owned persons are excluded from the computation.

--Separate parent company financial statements (§§210.3-03, 3-04 and 3-05) are no longer required.

--Disclosure is required in footnotes to consolidated financial statements about restrictions on the ability of both consolidated and unconsolidated subsidiaries to transfer funds to the parent company in the form of cash dividends. loans or advances (§210.4-08(e)).

--The Significance of the aggregate amount of restricted net assets to consolidated net assets as of the end of the most recent fiscal year shall be disclosed.

--Footnote disclosure will be supplemented by the presentation of condensed financial information, as to financial position. changes in financial position and results of operations of the parent company only in a schedule to consolidated financial statements (§210.5-04 and 12-04).

--When any one of the following tests are met:

Asset tests--

No change.

Existing Rules--Continued

Sales test--

Registrants proportionate share of total sales or revenues (after inter-company eliminations) of the subsidiary or person exceeds 10 percent of registrants consolidated sales and revenues.

Income test--

Registrants equity in income before income taxes, extraordinary items and cumulative effect of an accounting change of the subsidiary or person exceeds 10 percent of such income of the registrant consolidated.

 Information required

--When the test is met by an individual subsidiary or person:

--Separate or combined audited financial statements as of the same dates and for the periods as consolidated financial statements.

--When the test is met on an aggregate basis by a group of unconsolidated subsidiaries or 50 percent or less owned persons:

--Summarized financial information as to assets, liabilities and results of operations.

Consolidated subsidiaries engage in diverse financial activities

When required

--Consolidated subsidiary or group of consolidated subsidiaries meet the significant subsidiary test and is engaged in the business of life insurance, fire and casualty insurance, banking, savings and loan, securities brokerage or finance.

--Investment in all non-significant financial-type consolidated subsidiaries not included above exceeds 10 percent of registrants total assets.

--Notwithstanding above, no additional information required if any one of the following conditions are met:

--Consolidated subsidiary or group does not meet the significant subsidiary test.

--Consolidated subsidiarys or groups assets, revenues, and pre-tax income each exceed 90 percent of consolidated amounts.

--Ninety percent of consolidated subsidiarys or groups revenues are derived from registrant and its other subsidiaries.

Amended Rules--Continued

This test is deleted.

Income test--

Registrants equity income from continuing operations before income taxes, extraordinary items and cumulative effect of an accounting change of the subsidiary or person exceeds 10 percent of such income of the registrant consolidated.

--When the test is met on a 10 percent level on an individual or aggregate basis, summarized financial information is required in notes to consolidated financial statements (§210.4-08(g)). To improve consistency in reporting, standard content requirements for summarized financial information are established (§210.102(aa)).

Separate or combined financial statements are required in filings only when an individual subsidiary. or person meets the tests based on a 20 percent reporting threshold (§210.3-09).

These requirements are deleted.

Existing Rules--Continued

Information required

--Separate audited financial statements of the subsidiary or subsidiaries as of the same dates and for the same periods as the consolidated financial statements.

Affiliates whose securities are pledged as collateral

When required

--Securities of an affiliated company constitute a substantial portion of the collateral for any class of securities being registered.

--An affiliates securities are deemed to constitute a substantial portion of collateral if the greater of aggregate principal amount, par value, book value as carried by the registrant, or market value of such securities equals 20 percent or more of the secured class of securities.

Information required

--Audited separate financial statements as of the same dates and for the same periods as the consolidated financial statements of the registrant.

Amended Rules--Continued

--No changes adopted to existing rules except to clarify that rules also apply to guarantors of securities of a registrant.

No change.

TEXT OF AMENDED RULES

Title 17 CFR Chapter II is amended as follows:

PART 210--FORM AND CONTENT OF AND REQUIREMENTS FOR FINANCIAL STATEMENTS, SECURITIES ACT OF 1933, SECURITIES EXCHANGE ACT OF 1934, PUBLIC UTILITY HOLDING COMPANY ACT OF 1935, INVESTMENT COMPANY ACT OF 1940, AND ENERGY POLICY AND CONSERVATION ACT OF 1975

1. By revising paragraph (v) and adding new paragraph (aa) of §210.1-02 as follows: * * * [Text omitted]

2. By removing §§210.3-03, 210.3-04 and 210.3-05.

3. By revising §210.3-09 to read as follows: * * * [Text omitted]

4. By revising the heading and paragraph (a) of §210.3-10 to read as follows: * * * [Text omitted]

5. By removing paragraph (e) of §210. 3A-02, and removing §§210.3A-03, 210.3A-05 and 210.3A-07.

6. By re-designating §§210.3A-04, 210. 3A-06 and 210.3A-08 as §§210.3A-03, 210. 3A-04 and 210.3A-05, respectively.

7. By revising paragraph (e) of §210.408, re-designating paragraphs (g) through (k) as paragraphs (h) through (1), and adding new paragraph (g) as follows:* * * [Text omitted]

8. By revising paragraph (a) of §210.504, removing Schedule III, and adding new Schedule III as follows: * * * [Text omitted]

9. By removing §210.12-04 and adding a new §210.12-04 as follows: * * * [Text omitted]

PART 240--GENERAL RULES AND REGULATIONS, SECURITIES EXCHANGE ACT OF 1934

10. By revising paragraph (d) of Item 15 of §240.14a-101 to read as follows: * * * [Text omitted]

AUTHORITY

The Commission hereby adopts the foregoing amendments pursuant to Sections 6. 7, 8, 10 and 19(a) [15 U.S.C. 77f, 77g, 77h, 77j, 77s] of the Securities Act of 1933: Sections 12, 13, 15(d) and 23(a) [15 U.S.C. 781, 78m, 78o(d), 78w] of the Securities Exchange Act of 1934; Sections 5(b), 14 and 20(a) [15 U.S.C. 79e, 79n, 79t] of the Public Utility Holding Company Act of 1935; Sections 8,30, 31(c) and 38(a) [15 U.S.C. 80a-8, 80a,29, 80a-30(c), 80a-37(a)] of the Investment Company Act of 1940.

By the Commission.

¹ Securities Act Release No. 6316 (46 FR 27344).

² The majority of the commentators were from industry and related groups (87). with comments also received from representatives of accounting firms or groups (14), banks (12). securities analysts and other financial statement users (7), and law firms (2).

³ Because the registrant does not control 50 percent or less owned persons accounted for by the equity method. all of the parents equity In undistributed earnings of such persons would be included in this calculation.

⁴ Release No. 33-6332 (August 6, 181) [46 FR 41925, August 18, 1981]. The new Instruction was proposed as Instruction 6 to Item 303(a) of Regulation S-K.

⁵ In Accounting Series Release No. ("ASR") 268 (July 27, 1979) [44 FR 45610], redeemable preferred stocks were defined as any stocks subject to mandatory redemption requirements or whose redemption is outside the control of the issuer.

⁶ Although ASR 268 permits the inclusion of redeemable preferred stocks in stockholders equity for purposes of presenting ratios, charts or other data, these stocks are to be excluded from net assets for purposes of this test because of the related cash obligations of such stocks.

⁷ Where summarized financial information is referred to and required by §210.10-01(b) for interim periods, only summarized information as to results of operations is required.

⁸ Adopted as §210.3-16(t) in Accounting Series Release No. 177 (September 10, 1975). The rule has subsequently been transferred to Item 12 of Regulation S-K.

⁹ Paragraph 20a of APB Opinion No. 18.