Training Material
2000 Edition (3.31.00)

Division of Corporation Finance
an Overview

Accounting Disclosure Rules and Practices

Topic Two: Other Financial Statements Required

Table of Contents

This topic identifies circumstances in which financial statements of entities other than the registrant are required to be included in filings. The guidance applicable to financial statements of the registrant (in Topic One) applies also to financial statements of the other entities, unless specified otherwise in this section.

I. Businesses Acquired or To Be Acquired
[SX 3-05, SB 310, Form S-4]

A. Financial Statement Requirements

1. Financial statements of acquired businesses are required as follows:

2. The requirements of SX 3-05 and SB 310(c) apply only to acquisitions made by the registrant or its predecessor(s). Those rules call for financial statements of the acquiree and its predecessor(s), if applicable. Financial statements of businesses recently acquired by the acquiree need not be furnished unless their omission would render the acquiree's financial statements misleading or substantially incomplete. [SP]

NOTE: A flowchart to assist you in determining the need for financial statements of an acquired business in a registration statement is located at the end of this Topic.

3. Definitions and Requirements

a) Financial statements of the acquired business are generally the same as those as if the acquired company were a registrant as described in Topic One, except that the number of years of audited statements of operations is determined by the level of significance (Section D below). Refer to Section F regarding age of financial statements.

Exceptions: Segment information under FAS 131 and employers disclosures about pensions and other postretirement benefits are not required for nonpublic acquired businesses. [FAS 131, par. 9; FAS 132, par. 8] Earnings per share under FAS 128 is not required for acquired businesses that do not have publicly held common stock or potential common stock. [FAS 128, par. 1]

b) Acquisition of selected parts of an entity may result in less than full financial statements.

(1) In some circumstances, a registrant does not acquire or succeed to all of the assets and liabilities of another entity. If the registrant acquires or succeeds to substantially all of the entity's key operating assets, complete audited financial statements of the other entity usually will be required. Elimination of specified assets and liabilities not acquired or assumed by the registrant is depicted in pro forma financial statements presenting the effects of the acquisition. Full audited financial statements of the entity are presumed to be necessary in order to provide investors with the complete and comprehensive financial history of the acquired business.

(2) In other circumstances, the selling entity will retain significant operating assets, or significant operating assets that comprised the seller will continue to be operated by an entity other than the registrant. Financial statements of the larger entity of which the acquired business was a part may be misleading or uninformative. In that case, audited financial statements usually should be presented for the acquired component business, excluding the continuing operations retained by the larger entity.

(3) The staff may accept audited statements of assets acquired and liabilities assumed and statements of revenues and direct expenses if it is impracticable to prepare the full financial statements required by Regulation S-X, and explanation of that impracticability is included in the filing.

(a) The staff would expect the statement of revenues and direct expenses to exclude only those costs not directly involved in the revenue producing activity, such as corporate overhead, interest and taxes. Selling, general and administrative costs directly associated with producing revenues reflected in the statement must be included.

NOTE: If the registrant cant identify or associate all costs necessary for the production, marketing and distribution of products with an acquired product line, it may indicate that the acquisition is not a business as defined in Article 11. Refer to I.C for the definition of a business.

(b) The statement should include a reasonable allocation of expenses incurred by the seller on behalf of the business sold. The reasons for omitting any historical corporate overhead, interest, or tax expense should be explained in a note to the statements. If the type and historical amounts of these omitted expenses are known or reasonably available on an unaudited basis, they should be disclosed in an unaudited footnote. [SP]

(4) When ''carve-out'' financial statements or statements of revenues and direct expenses are presented instead of full financial statements, full statements of cash flows are generally not required. However, registrants are required to provide information about the business operating, investing and financing cash flows, to the extent practicable, in the notes to the financial statements or in unaudited supplemental disclosures. [SP]

(5) Accompanying pro forma financial statements should include adjustments, if factually supportable, for excluded items as if the business had been acquired at the beginning of the periods presented. Refer to pro forma requirements and forward looking disclosures in Topic Three.

(6) Requests for substitution of abbreviated financial information in lieu of full financial statements should be directed to DCAO prior to filing.

c) Supplemental schedules (SX Article 12) are not required to be furnished. However, it may be necessary to include in footnotes to the financial statements, or elsewhere in a filing, certain information that ordinarily is furnished in the schedules and that is material to an understanding of the financial statements.

d) "Purchase" includes acquisition of an interest in a business that is accounted for under the equity method. Refer to Section C regarding definition of a "business".

e) Assessment of "probability" requires consideration of all available facts. Acquisition is probable where registrant's financial statements alone would not provide adequate financial information to make an investment decision. [FRC 506.02(c)(ii)]

4. Exceptions to SX 3-05 financial statement requirements:

a) Pooling Financial statements are not required in a registration statement if the acquisition was accounted for as a pooling-of-interests and is presently reflected in the registrant's restated audited financial statements. However, a reporting company with a significant pooling late in its fiscal year must still file the acquired companys financial statements on Form 8-K even if the registrants Form 10-K is filed prior to the due date of the Form 8-K and includes financial statements restated for the pooling.

b) Audited annual balance sheet of registrant is of a date after consummation of the acquisition Balance sheet of the acquired company is not required

c) Acquiree financial statements have been previously filed If the acquired operations are included in at least nine months of audited results, financial statements are not required unless the acquisition is of major significance. Although the acquisition may be of major significance at lower thresholds due to factors specific to the registrant, the staff presumes that the acquisition is of such major significance that investors need previously furnished financial statements of the acquired company in the registration statements if:

the acquired business is included in audited results of the registrant for less than 9 months and was significant at the 50% or greater level; or

it is included in audited results of the registrant for less than 21 months and was significant at the 70% or greater level. [SP]

d) Hostile tenders Modified registration statement requirements may apply to some registration statements covering hostile tender offers to shareholders of a company that will not provide its financial statements. However, if the target of the tender offer is a public company, financial statements of the target that are in the public domain (filed with the Commission) may be incorporated by reference. A consent of the auditor may be required. The staff should consult with OMA and DCAO on these matters. [SAB 1A] See Section VI.A.4 of Topic Four for additional guidance regarding audit report and consent requirements in this situation.

e) Troubled financial institutions If a financial institution is acquired in a federally assisted transaction and constitutes a business having material continuity of operations, the staff will not object to the omission of audited financial statements required by SX 3-05 if the statements are not reasonably available and total assets of the acquired entity do not exceed 20% of the registrant's precombination total assets. Requests for waivers should be directed to DCAO. Additional disclosures are required when waivers are granted. [SAB 1K]

f) Foreign target If the target is a foreign business, the financial statements need only comply with Item 17 of Form 20-F and are subject to the updating requirements under Item 8 of revised Form 20-F. If the foreign target is a non-reporting company and its financial statements are prepared on the basis of a comprehensive body of accounting principles other than U.S. GAAP, a reconciliation to U.S. GAAP in accordance with Item 17 of Form 20-F is required unless a reconciliation is unavailable or not obtainable without unreasonable cost or expense. If a reconciliation is not available, the filing (continued next page) should contain, at a minimum, a narrative description of all material variations in accounting principles, practices, and methods used in preparing the non-U.S. GAAP financial statements from those accepted in the U.S. This guidance also applies to SB filers. The staff should consult with DCAO in instances where the U.S. GAAP reconciliation has been omitted on the basis of unavailability or unreasonable cost. Reconciliation requirements are described at Topic Six.

5. If a registrant is unable to provide the required financial statements of the acquired business, a request for a no action position by the Division's staff may be directed to DCAO (see below).

The staff generally will not waive the requirements of Form 8-K. However, in cases involving undue cost or difficulty, the staff usually will not recommend any action against the registrant which is based solely on failure to file the audited historical financial statements and pro forma financial information required by the form. If the financial statements and pro forma financial information required by Form 8-K are not filed within the extended time period provided by the form, the filing will be considered substantially deficient and, therefore, not filed in a timely manner for purposes of Forms S-2 and S-3 eligibility.

Further, until the registrant has filed audited financial statements reporting on the operations of the acquired business for a time span equal to the periods for which audited financial statements are required by SX 3-05 and the pro forma financial information required by SX Article 11, registration statements under the Securities Act of 1933 and post-effective amendments to registration statements may not be declared effective. In addition, registrants should not make offerings pursuant to effective registration statements, or pursuant to Rules 505 and 506 of Regulation D, where any purchasers are not accredited investors under Rule 501(a) of that Regulation, until the required audited financial statements are filed.

The foregoing '33 Act restrictions usually do not apply to (a) offerings or sales of securities upon the conversion of outstanding convertible securities or upon the exercise of outstanding warrants or rights; (b) dividend or interest reinvestment plans; (c) employee benefit plans; (d) transactions involving secondary offerings by parties unrelated to the acquired business for which financial statements are not provided; or (e) sales of securities pursuant to Rule 144.

Once the registrant has filed audited financial statements that include the post-acquisition results of operations of the acquired entity for at least one year, the Division, at the request of the registrant, will consider a request to accept audited financial statements for a period of time less than that required by SX 3-05. At a minimum, the staff would expect audited pre- and post-acquisition financial statements for the acquired entity to equal the periods required under SX 3-05.

B. Financial Statements of Target Companies in Form S-4

1. Required financial statements: Form S-4 registers securities being offered to security holders of a business to be acquired. The requirement to include the financial statements of the target varies based on a number of facts and circumstances, as summarized below:

2. If the target is a reporting company (whether or not the issuers shareholders are voting), or the target is a non-reporting company and the issuers shareholders are voting, the registration statement must include

• balance sheets as of the two most recent fiscal years (or, for a target registrant reporting under S-B rules or a non-reporting target who would be S-B eligible, the latest fiscal year),
• statements of income and cash flows for each of the three most recent fiscal years (two most recent fiscal years for a target registrant reporting under S-B rules or a non-reporting target who would be S-B eligible), and
• interim information as recent as would have been filed on Form 10-Q had the target company been subject to the Exchange Act, except that interim information need include only cumulative year-to-date interim information of the target for the latest and comparable interim period. See Section I.F for target updating requirements.

NOTE: Targets of non-S-B registrants who are S-B eligible but are not current S-B reporting companies may apply S-B reporting requirements in the Form S-4 but must comply with S-X reporting requirements in a subsequent Form 8-K reporting the business combination.

3. If the target is a non-reporting company and the issuers shareholders are not voting:

4. Pro forma financial information depicting the acquisition is only required if the acquisition is significant under SX 3-05 or SB 310 individually or in the aggregate.

5. Audit requirement: The requirement to audit depends on whether or not the Form S-4 is to be used for resales by persons considered underwriters under Rule 415.

NOTE: Relief from the audit requirement for financial statements of an acquired entity applies only to merger proxies and transactions registered on Form S-4 and is not applicable to other forms. If the acquisition is significant, audited financial statements will ordinarily be required in a Form 8-K after consummation.

C. Determination of a Business

What is a business?

1. A separate entity, subsidiary, division or possibly a separate product line

a) A "business" for purposes of Rule 3-05 is identified by evaluating whether there is sufficient continuity of operations so that disclosure of prior financial information is material to an understanding of future operations. There is a presumption that a separate entity, subsidiary, or division is a business.

b) A lesser component, such as a product line, also may be considered a business. In evaluating whether a lesser component is a business, you should consider the following:

• Will the nature of the revenue producing activity generally remain the same?
• Will the facilities, employee base, distribution system, sales force, customer base, operating rights, production techniques, or trade names remain after the acquisition? [SX 11-01(d)]

NOTE: The staff's analysis of whether an acquisition constitutes the acquisition of a business, rather than of assets, focuses primarily on whether the nature of the revenue producing activity previously associated with the acquired assets will remain generally the same after the acquisition. New carrying values of assets, or changes in financing, management, operating procedures, or other aspects of the business are not unusual following a business acquisition. Such changes typically do not eliminate the relevance of historical financial statements. Registrants that have succeeded to a revenue producing activity by merger or acquisition, with at least one of the other factors listed above remaining after the acquisition, should be encouraged to obtain concurrence from the staff in advance of a filing if they intend to omit financial statements related to the assets and activity.

Registrants may direct requests for interpretative letters related to appropriate financial statements of an acquired entity or group of assets to DCAO.

2. An investment accounted for under the equity method

3. A working interest in an oil and gas property Audited statements of revenues and direct expenses are required, along with footnote disclosures of reserve quantities and the standardized measure pursuant to FAS 69. If the required FAS 69 information is not provided in filings on Form 8-K or other '34 Act filings within 75 days of the acquisition, that Form 8-K will not be considered to be filed timely and in certain circumstances may limit the registrant's ability to use Forms S-2 and S-3. [SP and SAB 2D]

4. Bank branch and insurance policy acquisitions

a) The assumption of customer deposits at bank branches may constitute the acquisition of a business if historical revenue producing activity is reasonably traceable to the management or customer and deposit base of the acquired branches, and that activity will remain generally the same following the acquisition.

b) Acquisitions of blocks of insurance policies by an insurance company or the assumption of policy liabilities in reinsurance transactions may also be deemed the acquisition of a business because the right to receive future premiums generally indicates continuity of historical revenues. The degree of continuity between historical investment income streams and the assets acquired to fund the acquired policy liabilities should also be considered.

D. Measuring Significance

1. How do I measure significance?

a) The basic tests of significance are:

b) The acquired business is not considered part of the registrant's base in determining significance. [S-X 1-02(w)]

c) In the case of a single acquisition, if either the registrant or the acquired business reported a pretax loss and the other entity reported pretax income, use the absolute values.

d) Acquisitions of "related businesses" must be treated as a single business acquisition. Businesses are related under Rule 3-05 if:

• they are under common control or management, or
• their acquisitions are dependent on each other or a single common event or condition.

e) Other guidance:

(1) Step acquisitions.

• If a registrant increases its investment in a business relative to the prior year, base the tests of significance on the increase in the registrant's proportionate interest in assets and net income during the year, rather than the cumulative interest to date. However, step acquisitions which are part of a single plan to be completed within a twelve month period should be aggregated.
• When a registrant increases its investment in a company that is already consolidated, financial statements of the acquired investment are ordinarily not required. However, pro forma information may be required.

(2) Evaluate significance using amounts determined on the basis of U.S. GAAP, rather than the foreign GAAP of the acquirer or acquiree.

(3) Ordinary receivables and other working capital amounts not acquired should nevertheless be included as part of the assets of the acquired enterprise in tests of significance relative to the registrant's assets because that working capital is expected to be required and funded after the acquisition.

(4) To determine whether an audit is practicable, weigh the feasibility and expense of the audit against the usefulness of the audit to the target company's security holders. If the target is not closely held by insiders, the staff ordinarily will require audit of the most recent year's financial statements because shareholders may more Registrant's assets may not be increased for purposes of the significance tests by including the pro forma effect of public offering proceeds received after the balance sheet date.

2. Periods required

If the Greatest of the Three Calculations in D.1.a above Regulation S-X Regulation S-B

If the Greatest of the Three Calculations in D.1.a above	Regulation S-X	Regulation S-B
Does not exceed 20%	No financial statements required	No financial statements required
Exceeds 20% but not 40%	Financial statements for the most recent fiscal year and the latest interim period preceding the acquisition, and the corresponding interim period of the preceding year	Financial statements for the most recent fiscal year and the latest interim period preceding acquisition, and the corresponding interim period of the preceding year
Exceeds 40% but not 50%	Financial statements for the two most recent fiscal years and the latest interim period preceding acquisition, and the corresponding interim period of the preceding year	Financial statements for the two most recent fiscal years and the latest interim period preceding acquisition, and the corresponding interim period of the preceding year
Exceeds 50%	Financial statements for full three years and the latest interim period preceding acquisition, and the corresponding interim period of the preceding year * Financial statements for the earliest of the three fiscal years may be omitted if net revenues of the acquired business in its most recent fiscal year are less than $25 million	Financial statements for the two most recent fiscal years and the latest interim period preceding acquisition, and the corresponding interim period of the preceding year

3. Use the following financial statements to measure significance under
SX 3-05:

a) General Rule

Compare the most recent pre-acquisition audited annual statements of the acquired business to registrant's pre-acquisition consolidated statements as of the end of the most recently completed audited fiscal year filed with the Commission.

b) If the acquisition is made after registrants most recent fiscal year end and Form 10-K is filed before due date of Form 8-K (i.e.,within 75 days of acquisition):

• may evaluate significance using registrants financial statements for most recent fiscal year reported in Form 10-K

c) If the acquisition is made after reporting a previous significant acquisition or disposition on Form 8-K or non-IPO registration statement that includes all information required by Form 8-K (see Section D.4 below for discussion of acquisitions pre- and post-IPO):

• may evaluate significance using registrant pro forma financial information rather than historical pre-acquisition financial statements

For purposes of evaluating significance in this situation:

• compare income from continuing operation before income taxes, extraordinary items and cumulative effect of a change in accounting principle for the acquired entity's latest fiscal year to the pro forma income statement for the latest audited annual period provided in the Form 8-K or registration statement
• For the investment and asset tests, compare the registrant's investment in the acquired entity and the assets of the acquired entity for the latest fiscal year to the pro forma balance sheet comprising the latest audited balance sheet of the registrant. That pro forma balance sheet may or may not have been included in the Form 8-K or registration statement, depending on when the Form 8-K or registration statement was filed.
  
  For example: If a calendar year end registrant filed a registration statement containing a pro forma balance sheet as of June 30, 1999 giving effect to an acquisition consummated on September 15, 1999 and then made an acquisition on November 30, 1999, the asset and investment test would be based on a pro forma balance sheet as of December 31, 1998 (the last audited balance sheet on file with the Commission).

NOTE: Do not use the pro forma interim period balance sheet to determine significance unless the interim periods of the registrant are audited. To compute significance using pro forma information, only include those pro forma adjustments directly attributable to the transaction (e.g. purchase price allocation, depreciation, and amortization) in the pro forma income statement and balance sheet. If the registrant chooses to compute significance using pro forma information, it must do so for all three significance tests.

d) If a registrant or the acquiree has been in existence for less than one year:

• do not annualize historical financial statements.

e) If an acquisition is made after a transaction accounted for as a reverse acquisition of the registrant but before the audited financial statements for the fiscal year in which the reverse acquisition occurred are filed and the audited financial statements for the accounting acquirer have been filed with the SEC:

• measure significance against the accounting acquirers financial statements.

f) If an acquisition is made subsequent to the purchase by a shell registrant (or registrant with minimal operating activity) of an entity deemed the registrants predecessor (but not accounted for as a reverse acquisition or recapitalization):

• measure significance against the historical financial statements of the registrant.

g) If an exchange transaction in which the registrant and another party each contribute businesses to a joint venture (or the ''Newco'') in exchange for an equity interest in the Newco:

• measure the significance of the disposition (registrants contributed business) and the acquisition (other partys contributed business) separately to determine whether pro forma information about the disposition and receipt of an equity investment is required, and whether audited financial statements of the business contributed by the other party are required.

Significance of the acquisition should be based on the acquired percentage of the other partys business compared to the registrants historical financial statements (without adjustment for the related disposition of the business contributed by the registrant to the joint venture). Whether or not the transaction is accounted for at fair value, the investment test should be based on the fair value of the consideration given up or the consideration received, whichever is more reliably determinable.

If reporting of both the disposition and the acquisition are required by Form 8-K, a registrant may be unable to present a pro forma income statement depicting the joint venture formation because financial statements of the business contributed by the other party are not available. Those financial statements and related pro forma financial statements need not be filed until 75 days after the transaction is consummated. Pro forma financial statements depicting a significant disposition are required to be filed within 15 business days of the disposition. In these circumstances, the initial Form 8-K reporting the transaction should include a narrative description of the effects of the disposition, quantified to the extent practicable, with complete pro forma information depicting the effects of the exchange of interests furnished at the time that the audited financial statements of the acquired business are filed.

4. Special Significance Tests for Initial Public Offerings (IPOs)

a) Staff Accounting Bulletin 80 (SAB 80 or Topic 1J) SX 3-05 and SB 310 identify the financial statements of businesses recently acquired or likely to be acquired that must be included in a registration statement. In some cases involving IPOs, strict application of the rule is problematic or results in provision of financial statements that are clearly not material.

Registrants preparing an IPO may consider applying SAB 80. SAB 80 is an interpretation of SX 3-05 for application in the case of IPOs involving businesses that have been built by the aggregation of discrete businesses that remain substantially intact after acquisition. The guidance is intended to ensure that the registration statement includes:

• at least three years of audited financial statements of at least 60% of the constituent businesses that will comprise the registrant on an ongoing basis, and
• at least two years of audited financial statements of at least 80% of the constituent businesses that will comprise the registrant on an ongoing basis, and
• at least one year of audited financial statements of at least 90% of the constituent businesses that will comprise the registrant on an ongoing basis.

  NOTE: These percentages have not changed even after adoption of SX 3-05 significance revisions and SB reporting rules.

The SAB permits initial registrants to consider the significance of recently acquired and to be acquired companies based on pro forma financial statements for the registrant's most recently completed fiscal year. The pro forma data assume all businesses to have been acquired at the beginning of that fiscal year (for income tests) and at the end of the fiscal year (for asset and investment tests).

To measure significance apply the asset and investment tests to a pro forma balance sheet as of the latest audited balance sheet included in the registration statement. Apply the earnings test to the registrants most recent audited fiscal year included in the registration statement.

For:

Businesses not included for at least 9 months in the registrants financial statements: May exclude pre-acquisition financial statements to the extent that the sum of their highest significance levels is less than 10%

Audited financial statements required to be furnished to satisfy the requirements of the SAB should be for continuous periods, with no gap or overlap between pre-acquisition and post-acquisition periods.

b) Tests of significance after an IPO in which SAB 80 was applied.

(1) If the provisions of SAB 80 were used in an IPO to obtain relief from the reporting requirements of SX 3-05, the staff would allow that registrant to evaluate the significance of post-IPO acquisitions using the pro forma financial statements presented in the IPO. However, those pro forma financial statements should be adjusted to eliminate:

• pro forma effects of acquisitions for which no audited financial statements are presented in the IPO,
• the pro forma effects of acquisitions that were probable at the time the IPO was declared effective but which have yet to be consummated, and
• pro forma adjustments not directly attributable to the acquisitions.

Once the registrant files audited annual financial statements (either in a Securities Act or Exchange Act filing) for the fiscal year following the audited fiscal year presented in the IPO registration statement on which pro forma financial statements were based, the registrant should measure significance of acquisitions using the audited financial statements of the registrant as required by SX 3-05. Upon written request, the staff will consider whether relief from the literal application of SX 3-05 is appropriate.

(2) Financial statements of a business acquired subsequent to an IPO may also be required in a registration statement if the significance of that acquisition, plus other acquisition entities for which no audited financial statements were provided in the IPO prospectus, aggregate 50% or more of adjusted pro forma IPO financial statements. See Section E below.

c) SAB 97 ''put-together'' transactions In transactions in which more than two entities combine concurrent with an IPO, measure significance against the accounting acquirer (regardless of whether or not the accounting acquirer is a Newco). All of the acquired businesses are considered related under SX 3-05(a)(3) and SB 310(c)(ii) and therefore must be grouped and assessed for significance against the accounting acquirer as a single acquisition (see Section I.D.1.d). SAB 80 may not be applied to individual entities within the group. SAB 80 may only be applied to acquisitions that are not considered related, such as previous acquisitions made by the accounting acquirer if that entity was built through a series of unrelated acquisitions. Upon written request, the staff will consider whether relief from the literal application of SX 3-05 is appropriate.

d) Tests of significance after a put-together IPO

(1) If a new acquisition takes place after an IPO but before the filing of the registrants first Form 10-K, measure significance against the audited financial statements of the accounting acquirer for the most recent fiscal year (that was included in the IPO registration statement).

(2) If a new acquisition takes place after the filing of the registrants first Form 10-K, measure significance against the audited financial statements of the registrant for the most recent fiscal year in the Form 10-K. In some cases, such as when the IPO occurs close to the registrants year end, the registrants financial statements presented in Form 10-K may only include operations for a very short period of time. Upon written request, and depending on the proximity of the SAB 97 transaction to the balance sheet date, the staff will consider whether relief from the literal application of SX 3-05 is appropriate.

e) Registrants may request DCAO interpretation in unusual situations or relief where strict application of the rules and guidelines results in a requirement that is unreasonable under the circumstances.

E. Individually Insignificant Acquirees

The requirement under SX 3-05 to furnish financial statements of individually insignificant businesses under certain circumstances is applicable only to registration statements and proxies. Form 8-K does not require audited financial statements of insignificant acquirees unless they are "related businesses" (see Section I.D.1.d above).

1. If the aggregate of all insignificant businesses (consummated since the latest audited year-end balance sheet filed and probable, including significant businesses for which financial statements are not yet required because of the 75-day rule) exceed 50% in any condition in I.D.1 above, financial statements for the mathematical majority (combined if appropriate) should be furnished for the most recent fiscal year and the latest interim period preceding the acquisition. For purposes of determining the mathematical majority, audited financial statements should be provided for those acquired entities that constitute more than 50% of the asset, income, or investment test determined to be the most significant.

For example: A registrant with a calendar year end files a registration statement October 1, 1999. The following individually insignificant business acquisitions, for which no audited financial statements were filed on Form 8-K, have occurred since the registrants audited financial statements were filed in its 1998 Form 10-K:

Since the investment test yields the greatest significance on an aggregate basis (70%), financial statements of the ''businesses'' adding up to at least 35% under the investment test column must be provided. In this case, financial statements for any combination of three ''businesses'' that includes Business E or any combination of four ''businesses'' would meet the requirement. No combination of three that excludes Business E would meet the requirement.

Note: As shown above, even though the registrant is not required to file a Form 8-K with audited financial statements of Business E until 11/2/99, those financial statements may need to be included in the registration statement.

2. Losses of businesses reporting losses should not be offset against income of businesses reporting income for purpose of income test; the two groups should be evaluated separately. The absolute values of the results of operations of the two groups would not be aggregated for purposes of applying the significance tests. However, the absolute values of the results of operations of the two groups would be aggregated for purposes of selecting the mathematical majority.

3. In a registration statement or proxy which is made effective or mailed after fiscal year end but prior to the date audited year-end statements are required, individually insignificant acquisitions acquired since the previous year-end through the date of effectiveness should be aggregated for purposes of this test.

4. SX 3-05 permits a registrant to evaluate significance of acquirees using the pro forma financial information filed on Form 8-K in connection with a previous significant acquisition. However, a registrant may not circumvent the requirement to furnish audited data of a majority of individually insignificant acquirees by filing a Form 8-K containing financial statements of one or more insignificant acquirees and testing significance of the remaining unaudited acquirees, against either the historical or resulting pro forma financial statements. If a registrant has filed a Form 8-K for a previous significant acquisition, the 50% aggregation test may be applied against the pro forma financial statements included in that Form 8-K.

For example: A registrant files a registration statement on July 15, 1999 that includes audited financial statements for the year ended December 31, 1998 and interim period statements for the three months ended March 31, 1998. The registrant had total assets of $1000 at December 31, 1998 and reported income from continuing operations before taxes of $100 for the year then ended. The registrant had, or expects to have, the following acquisitions since December 31, 1998:

* In this example, audited financial statements and pro forma financial information were filed on Form 8-K for Target A on 6/15/99. The pro forma financial information reflects purchase accounting as follows:

Aggregate significance may be calculated using pro forma asset and income information for the year ended December 31, 1998 depicting acquisition of Target A. In this case, the income test yields the highest aggregate significance test (52%). The registration statement must include financial statements for acquired businesses that total to at least $34 ($67 x 51%) to meet the SX 3-05 requirement. Had the aggregate significance under each test been less than 50% using pro forma information, no financial statements for any of the individual entities would be required in the registration statement. Note that, since the pro forma amounts were used to calculate significance, no financial statements for Probable F will be required on Form 8-K when that acquisition is consummated.

F. Age of Financial Statements of Companies Acquired or
To Be Acquired

1. For year end financial statements in a '33 Act registration statement:

a) After a reverse acquisition, consider the accounting acquirer's ability to meet the requirements of Rule 3-01(c) of Regulation S-X in determining the need to update.

b) In limited circumstances involving a registrant that would be required to update after the 45th day, applying this rule results in a requirement to furnish audited financial statements of the acquiree as of a date more recent than is required for the registrant. If the registrant believes providing updated audited financial statements would impose an unreasonable burden under the circumstances, the registrant may request DCAO to consider granting relief if the acquiree's financial statements are updated on an unaudited basis through either the registrant's latest balance sheet date or the acquiree's year-end.

Requests for relief should be made in writing prior to filing.

For example: A registrant with a December 31, 1999 year end is required under SX 3-01(c) to update its audited financial statements after February 14, 2000 in a registration statement. The registrant is acquiring a business with a November 30, 1999 year end. If the registration statement is declared effective February 1, 2000, the registration statement would require audited financial statements of the registrant for the year ended December 31, 1998 and unaudited financial statements for the nine months ended September 30, 1999. Unless relief is obtained, the targets audited financial statements would be required for the year ended November 30, 1999 since February 1 is beyond 45 days after targets year end and the registrant is not eligible for relief under SX 3-01(c).

2. Forinterim period financial statements in a '33 Act registration statement,age requirements are the same as if the acquiree were the registrant (see Topic One, Section II).

a) Generally, financial statements of an acquired business need not be updated if the omitted period is less than a complete quarter.

For example: If an acquisition was consummated on September 29, the staff generally would not require that the financial statements of an acquired entity be updated past June 30. However, disclosure of significant events occurring during the omitted interim period may be necessary.

b) Financial statements audited through the date of acquisition should be furnished for any business deemed a predecessor or whose significance was determined pursuant to SAB 80 if the registrant's financial statements for the year of the acquisition are required to be audited. The updating requirements of SX 3-05 should be followed in subsequent registration statements. No updating is required for '34 Act periodic reporting.

For example: A registrant with a December 31, 1998 year end has an IPO Form S-1 registration statement declared effective February 3, 1999. The registrant acquired several businesses during 1997 and 1998 and applied SAB 80 in determining the required financial statements for those businesses. Among those financial statements are the following for the most recent fiscal year and interim period:

In a subsequent registration statement declared effective June 15, 1999, the following financial statements related to the same entities would be required for the most recent fiscal year and interim period:

3. In a '34 Act environment:

a) For purposes of proxy materials, the staff interprets the updating requirements in the same manner as under the '33 Act.

b) Form 8-K

(1) General. The staff believes that the age of financial statements in a Form 8-K should be determined by reference to the filing date of the Form 8-K initially reporting consummation of the acquisition. If no filing is made timely within 15 days of the acquisition, the age of financial statements required to be filed should be determined by reference to the 15th day after the consummation of the acquisition.

(2) Year end. For purposes of Form 8-K, the staff would not require audited statements of the acquiree's most recently completed year unless the Form 8-K reporting the acquisition was filed 90 days or more after the acquired company's fiscal year-end.

(3) Interim information. In some cases, the financial statements provided in Form 8-K may need to be updated in a registration statement to comply with the 135-day rule (see Topic One, II.B).

For example: A registrant files a Form 8-K reporting an acquisition which occurred on July 10. The registrant and the acquiree have calendar fiscal year ends. The Form 8-K includes the acquirees interim financial statements as of March 31. A registration statement filed in December of the same year will not be declared effective unless the acquirees financial statements are updated through at least June 30.

c) Previously furnished financial statements

(1) Financial statements of an acquiree are not required in Form 8-K if they were previously filed. [Form 8-K; Gen. Instruction B.3.] Financial statements of a significant acquired business previously furnished in a registration statement will be deemed "substantially the same" pursuant to this instruction unless they would not satisfy the required age of financial statements in the Form 8-K because operating results for two or more interim quarters are omitted.

For example: Form S-4 included unaudited financial statements for the three months ended March 31 for a business to be acquired. The business combination was consummated on October 1, and a Form 8-K reporting the acquisition was timely filed. No financial statements are required in the Form 8-K, unless there were significant subsequent events that would materially affect an investor's understanding of the target company. However, if the business combination had been consummated on November 20, the financial statements would have had to be updated through September 30.

NOTE: If a registrant included financial statements of a previously nonpublic SB eligible target in a Form S-4 and those financial statements complied with SB reporting requirements instead of SX reporting requirements (see Section I.B), those financial statements would not be deemed ''substantially the same'' pursuant to Form 8-K; Gen. Instruction B.3. Financial statements that comply with SX would need to be filed in a Form 8-K if the SX 305 significance threshold is met.

(2) If updating pursuant to rules usually applicable to the Form 8-K would require audited financial statements to be filed, the staff generally would conclude that the audited annual financial statements are not substantially the same as the previously filed unaudited interim financial statements. In those circumstances, updated audited financial statements should be furnished in the Form 8-K.

For example: Form S-4 contained unaudited financial statements of the entity to be acquired for the nine months ended September 30. Updated audited financial statements of the acquired entity are required in a Form 8-K if the business combination is consummated, and the Form 8-K is filed after the 89th day subsequent to December 31. Note that in a registration statement, updated audited financial statements of the acquired entity may be required before the 90th day, depending on the registrant's eligibility under Rule 3-01(c) of Regulation S-X. Refer to I.F.1 above regarding the requirements to provide audited financial statements of an acquired entity.

4. Issues arising from '33 and '34 Act Integration

a) Acquiree financial statements and certain offerings

During the 75 day period for providing financial statements of acquirees in Form 8-K, registration statements will be declared effective even if financial statements of ≥50% significant acquirees are not provided only in the case of secondary offerings, securities underlying outstanding convertible securities or warrants or rights, and reinvestment and employee benefit plans. Prior to declaring these registration statements effective, however, the staff should consider the need to obtain assurance from the issuer that the required financial statements will be timely filed.

b) Forms S-2, S-3 and S-4

(1) At effectiveness: The registrant should comply with age-of-financialstatement rules with respect to itself and all completed and probable acquirees at the time of effectiveness. Any updated financial statements required to be included or incorporated by reference in the registration statement but which were not required to be furnished previously in a specific Exchange Act report may be furnished under cover of Form 8-K pursuant to Item 5.

For example: A registrant files a Form 8-K on August 13 reporting the acquisition of a business on July 31. That Form 8-K included unaudited financial statements for the 3 months ended March 31. If a registration statement is filed after August 13, the financial statements of the acquired entity must be updated through June 30 so that the acquired entity's financial statements meet the age of financial statement requirements of Regulation S-X. If the acquisition was consummated prior to June 30, updated financial statements would not be required.

If a Form 8-K reporting an acquisition was timely filed and the financial statements of the acquiree required by the Form were timely furnished, the staff will consider a request to waive updating of the acquiree's financial statements at effectiveness of a registration statement. For a waiver:

• the registrant must demonstrate that an update would involve unreasonable expense and effort, and
• the registration statement must include at least one complete quarter of post-acquisition operating results of the registrant.

The staff is unlikely to waive the requirements of the rule if audited financial statements would be required of an acquiree whose significance exceeds 40%.

(2) Delayed and continuous offerings: After effectiveness, the registrant has no specific obligation to update the prospectus except as stipulated by 33 Act Rule 10(a)(3) and with respect to any fundamental change. If an acquisition would be significant under Rule 3-05, the staff recommends that management consider whether the probability of consummation of the transaction would represent a fundamental change.

What is a ''fundamental change?''

• It is the responsibility of management to determine what constitutes a fundamental change and it is based generally on whether additional information is necessary for an investor to make an informed investment decision. (Refer to Item 512(a) of Regulation S-K).
• The registrant should also consider whether individually insignificant acquisitions occurring subsequent to effectiveness, when combined with individually insignificant acquisitions that occurred after the most recent audited balance sheet in the registration statement but prior to effectiveness, may be of such significance in the aggregate that an amendment is necessary.

II. Real Estate Acquisitions and Properties Securing Mortgages

A. Real Estate Operations [SX 3-14]

1. Financial statement requirements for registration statements and proxies

a) Financial statements of each operating real estate property (or group of related properties) acquired or probable of acquisition that is significant individually or in the aggregate at the 10% level or higher is required to be filed in all transactional filings (registration statements and proxies).

Note: The purchase of real estate by companies engaged in real estate activities is not considered to be an acquisition in the ordinary course of business. Item 2 Form 8-Ks are required to report these transactions.

b) SX 3-05 allows a repeat filer to omit from a registration statement financial statements for a business acquisition less than 50% significant if the registration statement is declared effective no more than 74 days after the date the acquisition is consummated. That provision does not apply to SX 3-14 financial statements.

c) Individually Insignificant Acquirees

(1) To compute significance, combine individually insignificant properties into two groups:

(a) properties acquired during the most recently completed fiscal year, and

(b) properties acquired during the interim period and probable acquisitions. Compute significance for each group separately based on the registrants total assets as of the latest audited fiscal year balance sheet date preceding the acquisition.

(2) If the aggregate of all insignificant real estate properties in either group exceeds 10% of the registrants total assets, financial statements are required of operating real estate properties in the group(s) that exceed(s) the 10% level.

Generally, the staff will not object to the omission of audited financial statements of an individually insignificant property that is significant below the 5% level if:

(a) the property is acquired from an unrelated party, and

(b) audited financial statements of the majority (>50%) of all individually insignificant properties in the group are provided.

2. For '34 Act reporting purposes, financial statements of each operating real estate property (or group of related properties) acquired that is individually significant at the 10% level or higher is required to be filed in a Form 8-K.

3. Significance is computed by comparing the registrant's investment in the property to the registrant's total assets at the latest audited fiscal year end filed with the SEC (except as noted in (1) above). If the acquired property is encumbered with mortgage debt that will continue after the acquisition, include that debt as part of the investment in determining significance.

• If the company has not completed its first fiscal year, use the most recent audited balance sheet filed with the Commission.
• If the acquisition was made after the most recent fiscal year and the registrant files its Form 10-K for that year before the due date of the Form 8-K (including the 60 day extension), the staff has not objected if significance is evaluated relative to the most recently completed fiscal year.
• While SX 3-05 permits the determination of significance to be made using pro forma financial information included in a Form 8-K reporting a significant acquisition, this determination of significance is not applicable to SX 3-14.

4. Additional Requirements for "Blind Pool" Offerings Registration statements for "blind pool" offerings by real estate companies include undertakings to:

• file a sticker supplement during the distribution period describing each property that has not been identified in the prospectus whenever a reasonable probability exists that a property will be acquired, and
• consolidate all stickers in a post-effective amendment filed at least once every 3 months. The post effective amendment must include audited financial statements in the format described in SX 3-14 for all properties which have been acquired. Pro forma information is also required.

In addition to sticker supplements, companies are required to file a current report on Form 8-K that includes financial statements and the related pro forma information for each property acquired during the distribution period that exceeds 10% of the companys total assets at the date the agreement is signed. These financial statements are not required if they are substantially the same as those previously filed. Refer to I.F.3.c.

The distribution period is the period during which partnership units are sold. While companies do not undertake to file sticker supplements after this period is completed, they undertake to file on Form 8-K audited financial statements of properties, in the format described in SX 3-14, after this period is completed. Specifically, companies undertake to file audited financial statements for every property it commits to purchase (by signing a binding purchase agreement) once the company commits to the use of 10% or more of the net proceeds of the offering. The staff has not objected to the view that the undertaking to provide audited financial statements is not applicable to individually immaterial properties. SX 3-14 financial statements may be omitted for individually immaterial properties.

An individual property is material if it:

(a) is acquired from a related party, or

(b) exceeds the 5% significance level, or

(c) is one of a group of properties that

• together aggregate more than 5% and are acquired from a single seller, or
• are related.

When are properties considered related?

Properties are related if their acquisitions are contingent on one another or are otherwise related to one another by virtue of location or other material financial or commercial factor.

Reporting companies must comply with the reporting requirements of
Form 8-K for financial statements under Rule 3-14. Refer to II.A.2.

5. Required Financial Statements

a) Abbreviated income statements May exclude items (such as historical mortgage interest and depreciation) which are not comparable to the proposed future operations of the property. (Where items are excluded, auditors ordinarily will issue a report such as that at AU 621.14 and 623.15.)

b) Periods to be presented Audited three years (two years in the SB Forms), plus unaudited interim period based on the propertys fiscal periods. Only the most recent year and current interim period are required if the property was not acquired from a related party.

c) Other required disclosure The registrant should describe any material factors which would cause the reported financial information not to be indicative of future operating results.

For example: A change in how the property will be used, an expected material modification to the property, or a material change in property tax assessment.

d) Application of SX 3-06 SX 3-06 does not apply to financial statements of real estate properties. The staff, however, will not require a registrant to include the financial statements of an individually insignificant operating property acquired from an unrelated party in a transactional filing if the acquired operations have been included in the registrants audited operating results for at least nine months.

e) Updating requirements The same rules for updating 3-05 financial statements apply to 3-14 financial statements. See Section I.F.

6. REIT Formation Transactions

a) Test of significance in an IPO A newly-formed REIT having no significant operations may acquire operating properties immediately prior to filing an initial registration statement, or may identify properties to be acquired upon closing the IPO. In addition, the REIT may identify properties that it will probably acquire soon after the IPO. The staff recognizes in these circumstances that the literal application of Rule 3-14 could result in the registrant providing financial statements of properties that are clearly immaterial to investors.

Financial statements of properties that are significant at the 10% level individually or in the aggregate with other individually insignificant properties must be filed in the REIT IPO. In identifying the financial statements required to be included in the initial registration statement, the staff has allowed registrants to compute significance using a base equal to the total cost of the properties acquired immediately prior to filing an initial registration statement, properties to be acquired upon closing the IPO, and properties identified as probable future acquisitions. Even though the staff has allowed registrants to use this base in the initial registration statement, they still need to include financial statements of individually insignificant properties if their aggregate cost exceeds 10% of the base. However, the financial statements of individually insignificant properties below the 5% level may be omitted if the property is acquired from an unrelated party and audited financial statements of the majority (>50%) of all individually insignificant properties acquired and to be acquired are provided.

NOTE:: Remember to treat the acquisition of a group of related properties as a single acquisition in measuring significance. Properties are related if they are under common control or management, the acquisition of one property is conditional on the acquisition of each other property, or each acquisition is conditioned on a single common event.

b) Tests of significance after an IPO In computing significance of any future property acquisition until the time the registrant files its initial Form 10-K, the registrant can use the same base as was used in the initial registration statement. However, that base should be reduced for any property not acquired unless audited financial statements were included in the registration statement and acquisition remains probable.

7. Application of SX 3-14 is limited to real estate operations. The reduced financial statement requirements available to real estate operations are premised on the continuity and predictability of cash flows ordinarily associated with commercial and apartment property leasing, and generally includes shopping centers and malls. Nursing homes, hotels, motels, golf courses, auto dealerships, equipment rental operations and other businesses that are more susceptible to variations in costs and revenues over shorter periods due to market and managerial factors are not considered to be "real estate operations". Thus, SX 3-05, rather than SX 3-14 and the special undertaking in the industry guide, is applicable to those businesses.

Where a registrant acquires an equity interest in a partnership or corporation owning real estate properties, financial statements of that entity meeting the requirements of SX 3-05 would generally be required. The staff has not objected to presenting SX 3-14 financial statements of the real estate properties in lieu of SX 3-05 financial statements where the entities have no operations other than holding real estate and related debt.

B. Properties Subject to Net Lease

If a real estate property will be leased to a single tenant on a long-term basis immediately after its acquisition under a net lease that transfers substantially all of the property's nonfinancial operating and holding costs to the tenant, financial data and other information about the tenant (or other party that guarantees the lease payments) may be more relevant to investors than financial statements of the property acquired. In that case, the financial statements of the property may be omitted from the filing, but pertinent financial data and other information about the lessee or guarantor should be furnished. That information should include audited financial statements of the lessee or guarantor if the purchase price of the property exceeds 20% of the greater of total assets at the latest audited year end balance sheet date or the amount expected in good faith to be raised within the next twelve months pursuant to an effective registration statement. That view is consistent with the guidance furnished in SAB 71 concerning significant credit concentrations. If the lessee or lease guarantor is a public company currently filing reports with the Commission, only summary data need be provided. The disclosure pertaining to a material lessee, including its audited financial statements if the investment exceeds 20% of total assets, should be provided in filings made under both the Securities Act and the Exchange Act. The periods presented for lessee or guarantor financial statements should comply with SX 3-01 and 3-02.

C. Properties securing Acquisition Development and Construction ("ADC") arrangements [SAB 1I]

What is an ''ADC arrangement?''

''ADC arrangement" is defined in 2/10/86 Notice to Practitioners in CPA Letter. In an ADC arrangement, a lender participates in expected residual profit and shares in the risk and rewards of the owner.

1. Financial Statement Requirements in '33 Act filings

a) Financial statements of operating properties securing ADC loans are required for any single property for which 10% of offering proceeds (or total assets at the latest audited year end balance sheet date, if greater) has been or will be loaned. The information required by Items 14 & 15 of Form S-11 also are required.

b) Where no single loan exceeds 10%, but the aggregate of ADC loans exceed 20%, a narrative description of the properties and arrangements is required in a note.

2. Financial Statement Requirements in '34 Act filings

a) If over 20% of total assets are invested in a single ADC loan, financial statements of the underlying operating property are required (except in Annual Reports to shareholders where only summary data is required).

b) If over 10%, but less than 20%, is invested in a single ADC arrangement, summarized financial information of the operating property is required.

c) Where individual loans are not significant but the aggregate exceeds 20%, narrative description of the properties and arrangements is required in a note.

D. Properties Securing Ordinary Loans

If over 20% of offering proceeds (or total assets at the latest audited year end balance sheet date, if greater) have been or will be invested in a single loan (or in several loans on related properties to the same or affiliated borrowers), financial statements of the property securing the loan are required in both '33 and '34 Act filings. Properties are related, for example, if they are subject to cross default or collateralization agreements.

III.Financial Statements of Equity Investments Not Consolidated

[SX 3-09]

A. Required Separate Financial Statements

1. Separate financial statements of non-consolidated subsidiaries. If any of the conditions set forth in SX 1-02(w) are significant at the 20 percent level or greater, separate financial statements for each subsidiary not consolidated should be provided. (Of course, consolidation is presumed to be necessary for all subsidiaries.)

2. Separate financial statements of equity investments accounted for under the equity method of accounting. If either the income or investment conditions set forth in SX 1-02(w) are significant at the 20 percent level or greater, separate financial statements for each significant 50% or less owned equity investment not consolidated should be filed. The asset test does not apply.

3. The financial statements required should be for the same annual audited periods as required by SX 3-01 and 3-02. Separate audited financial statements for equity method investments are required for those periods where the income or the investment test in SX 1-02(w) equal or exceed 20 percent. Other periods presented may be unaudited. For example, if an equity method investment was 30% significant in 1998 and 19% significant in 1999, audited financial statements of the investee are required for 1998 and unaudited financial statements are permitted for 1999.

4. Audited or unaudited SX 3-09 financial statements are not required for periods prior to the registrants ownership of the investment but they may be required under SX 3-05 in the year of acquisition.

5. If a registrants financial statements are retroactively restated in accordance with APB 18.19 to reflect equity method accounting for an investment previously accounted for under the cost method, 3-09 financial statements, and summarized financial information required by SX 4-08(g), may be required for periods in which the cost method was previously used if the significance tests are met.

6. Lower tier 3-09 financial statements. To determine whether separate financial statements of an investee accounted for by the equity method by an investee of a registrant are required, the significance test should be computed based on the materiality of the lower tier investee to the registrant consolidated. [SAB 6K.4]

7. If the fiscal year of the non-consolidated entity ends within 90 days before the filing of the registrant's Form 10-K, or ends after the date of filing the registrant's Form 10-K, the financial statements required by SX 3-09 may be filed in an amendment to the Form 10-K within 90 days (for domestic issuers) or six months (for foreign private issuers) after the subsidiary's fiscal year end. [3-09(b)]

B. Measuring Significance

1. If the tested equity investee incurred a loss and if income averaging is used by the registrant (because income in the most recent fiscal year is at least 10 percent lower than the average of the income for the last five fiscal years), the equity in the income or loss of the investee should be excluded by the registrant from each year averaged.

2. For purposes of computing the income significance test under SX 3-09, use GAAP changes in the equity investment as presented in the income statement, which usually includes amortization of goodwill resulting from the registrant's equity investment and any writedown of the investment for impairment that is not otherwise reflected in the investees financial statements.

C. Combined / Consolidated Financial Statements of
Unconsolidated Subsidiaries.

SX 3-09 allows for the presentation of combined or consolidated financial statements (where appropriate) if financial statements are required for two or more subsidiaries. Combined financial statements generally are appropriate only for entities under common control or common management, and then only for periods in which that condition existed.

D. Summarized Financial Data

Required if the investee falls in the 10% to 20% significance level (current & non-current assets and liabilities; redeemable stock and minority interests; revenues; gross profit; income from continuing operations; and net income). Summarized annual financial data should not be labeled "unaudited." [SX 4-08(g)] SB issuers are required to provide summarized financial data if the investee is at least 20% significant. [SB 310(b)(2)(iii)]

E. Foreign Investees

Financial statements required by SX 3-09 for an investee that meets the definition of a foreign business need only comply with the reporting requirements of Item 17 of Form 20-F and are subject to the updating requirements of SX 3-19. Reconciliation requirements are described at Topic Six.

F. Relief

Registrants may request DCAO interpretation in unusual situations for relief where strict application of the rules and guidelines results in a requirement that is unreasonable under the circumstances.

IV. Other Financial Statements Required

A. Guarantors of Securities

[Note: Refer to Division of Corporation Finance: Frequently Requested Accounting and Financial Reporting Interpretations and Guidance located under Current SEC Rulemaking - Other Commission Notices and Information on our website for guidance in this area. The Commission is expected to issue new rules applicable to guarantors of securities soon.]

B. Collateralizations

1. SX 3-10 requires registrants to file financial statements of each affiliate whose securities constitutes a substantial portion of the collateral for any class of security (collateral entities). SX 3-10 views guarantees and collateralizations as two separate disclosure matters. SAB 53 and our interpretations apply only to guarantors and does not apply to collateral situations, as the concepts of full, unconditional, and joint and several do not apply to collateralizations. Therefore, full audited financial statements of each affiliate whose securities constitute a substantial portion of the collateral of a security are required by SX 3-10.

2. Securities constitute a substantial portion of collateral if the greatest of the aggregate principal amount, par value, book value, or market value of the securities equals 20% or more of the principal amount of the secured class of securities.

3. Financial statements of collateral entities are required in registration statements, Forms 10-SB and Forms 10-K/10-KSB but not in Forms
10-Q/10-QSB.

C. Third Party Credit Enhancements

Third party credit enhancements differ from guarantees. A guarantee running directly to the security holder is a security within Section 2(1) of the Securities Act and must be covered by a Securities Act registration statement filed by the guarantor, as issuer. A third party credit enhancement is an agreement between a third party and the issuer or a trustee that does not run directly to the security holders. A party providing credit enhancement generally is not a co-issuer. However, if an investor's return is materially dependent upon the third party credit enhancement, the staff requires additional disclosure about the credit provider. The disclosure must provide sufficient information on the third party to permit an investor to determine the ability of the third party to fund the credit enhancement. In most cases, the disclosure of the third party's audited financial statements presented in accordance with generally accepted accounting principles would be required. However, if such financial statements are not available, statements prepared under statutory standards may be acceptable (e.g., statutory financial statements of insurance companies serving as credit enhancers).

The staff considers the following factors in assessing the sufficiency of the disclosure in this area:

• the amount of the credit enhancement in relation to the issuer's income and cash flows;
• the duration of the credit enhancement;
• conditions precedent to the application of the credit enhancement; and
• other factors that indicate a material relationship between the credit enhancer and the purchaser's anticipated return.

Financial information of a third party credit enhancement may also be required if an investor is reasonably likely to rely on a material credit enhancement in place for other debt (including nonpublic debt), even though the credit enhancement does not run directly to the debt being registered.

D. General Partner, Where Registrant is Limited Partnership. [SP]

1. Financial Statements Required in Transactional Filings

Individual Unaudited balance sheet as of a recent date prepared in accordance with AICPA guidelines (SOP 82-1) furnished supplementally.

The prospectus should disclose net worth. Also make appropriate disclosure if:

• net worth is derived from material amounts of assets that are not readily marketable, or
• guarantees and contingencies are material.

a) Age of financial statements The balance sheet should be updated on an unaudited basis if there has been a fundamental change in the financial condition of the general partner subsequent to the date of the audited balance sheet. Also updating on the same basis as the registrant is appropriate if the filing indicates a commitment, intent or reasonable possibility that the general partner will fund cash flow deficits or furnish other direct or indirect financial assistance. A general partner that is a public company must comply with the updating requirements of SX 3-12. The financial statements of a non-public general partner should be no more than 6 months old. [SP]

b) Where the general partner has significant t oil and gas reserves, disclosures should include estimated year-end quantities, and estimated future net revenues and present values. [SAB 12A(3)(d)]

c) Where the general partner reports a substantial receivable from or investment in parent or affiliated company, or where the parent or affiliate commits to increase or maintain the general partner's capital (beyond IRS requirements), the audited balance sheet of the parent or affiliate should be provided. [SP]

2. Periodic Reports Generally, inclusion of general partner's balance sheet is not mandatory in periodic reports. However, where investors are likely to be influenced by the financial condition of the general partner because of a general partner's commitment, intent or implication to fund cash flow deficits or furnish other direct or indirect financial assistance, the general partners balance sheet should be furnished. [SP]

E. Parent-only Financial Statements (Condensed)
[SX 5-04] [SX 9-06]

Required as an S-X schedule where the restricted net assets of consolidated subsidiaries exceed 25% of consolidated net assets at most recent fiscal year-end. Also, GAAP requires this as a supplement to the financial statements where material. [ARB 51.24] The information prescribed by SX 12-04 should be presented in the footnotes of bank holding companies.

What are ''restricted net assets?''

Restricted net assets is the amount of the registrant's share of subsidiaries' net assets (assets less the sum of liabilities, redeemable preferred stock, and minority interests) that may not be transferred to the parent in the form of loans, dividends, etc., without a third party's consent. [SAB 6K.2]

F. Disposition of a business

1. If authorization is sought from shareholders for disposition of a significant business, unaudited financial statements of that business should be provided in the proxy materials for the same periods as are required for the registrant (along with pro forma information). See PR Item 14(b)(1)(ii))D)

2. If disposition of a business is being accomplished through the registrants distribution to shareholders of its ownership interests in that business, audited financial statements of the separate legal ''spinee'' (which may not be the spinee for accounting purposes) for the same periods required for the registrant are required in a Form 10, Form 10-SB or '33 Act registration statement registering the shares being distributed.

G. Other Financial Statements

The staff may require other financial statements as necessary for a fair presentation of the financial condition of any entity whose financial statements are required. [SX 3-13]

* * * * *

Are Rule 3-05 Financial Statements Required in a Registration Statement
for an Acquisition That Has Occurred or Is Probable?
(Excludes S-4 Target Companies)