By: Owen Gibson, Associate Attorney at Plave Koch PLC
The Securities and Exchange Commission (SEC) has proposed an option for public companies to replace quarterly reporting with semiannual reporting.
The proposal is intended to reduce reporting burdens and provide companies with greater flexibility in meeting their securities law obligations.However, for publicly-traded franchisors, the SEC’s proposed move raises an important practical question: Will fewer SEC filings actually reduce compliance obligations?
The real-world answer may not be as straightforward as it appears.
While the proposal focuses on securities law, franchisors are also subject to franchise disclosure laws that operate on a different timeline. Those requirements do not automatically change simply because SEC reporting requirements did. Before selecting semiannual reporting, franchisors should evaluate how the change could affect their Franchise Disclosure Documents (FDDs), ongoing disclosure obligations, and their ability to continue offering and selling franchises.
Why This Matters
Of course, franchisors cannot legally offer or sell franchises without a current and compliant FDD.
Most franchisors are familiar with the annual FDD renewal process, but maintaining a compliant FDD may require financial-related disclosure that occurs at times not coinciding with a semiannual SEC reporting schedule. For example, to continue franchise sales activities, a franchisor needs to renew its FDD and often file applications with states roughly 120 days into its fiscal year, with the updated FDD including a copy of the financial statements for the prior fiscal year. If those FDD updates and state filings are delayed, additional and more recent financials may be needed.
Additionally, circumstances may arise during the year that require amendments to the FDD. These might include material changes affecting the franchisor or its business. Depending on the nature and the timing of those changes, updated financial statements may be necessary to support the amended disclosure. While SEC reporting can also be triggered by business events, the business events that trigger franchise disclosure update obligations may not be the same.
Currently, publicly-traded franchisors generally have quarterly financial statements readily available because they are already preparing them for SEC reporting purposes. If companies choose semiannual reporting, there may be times when current financial statements are not available, even though they are required by franchise disclosure obligations.
As a Practical Matter
The practical implications are best illustrated with a simple example.Assume that a publicly-traded franchisor opts for semiannual reporting, in the hope that doing so would simplify compliance and reduce costs. Several months later, that franchisor experiences a material change requiring an amendment to its FDD. Because that obligation arises before the next scheduled semiannual SEC financial report, current financial statements may not be readily available. Therefore, if the FDD updates involve the financial statements, the franchisor will either have to wait until the semiannual financials are available or prepare interim financial statements—and make appropriate securities filings (e.g., a Form 8-K) so that the company can amend its FDD and continue to offer franchises. This may be the case even where the franchisor is a subsidiary to the publicly-traded entity: often disclosure of franchisor-level financial information still requires compliance with securities law standards. (Please note that we are not securities lawyers and we do not address securities law compliance issues.)
Other Considerations
Preparing interim financial statements is only one factor publicly-traded franchisors should evaluate.
For many companies, quarterly financial reporting serves purposes beyond SEC compliance.
Investors, lenders, and analysts may expect more frequent financial information, and prospective franchisees may also seek more current financial data than semiannual reporting provides.Every franchise system is different. The timing of FDD renewals, the pace of franchise sales, the number of registration states in which a franchisor operates, and the likelihood of material changes throughout the year can all influence whether semiannual reporting is practical.
What Should Franchisors Do Now?
The SEC’s proposal remains under consideration, and any final rule is expected sometime next year. In the meantime, publicly-traded franchisors should consider:
- Whether current financial statements may still be needed to support FDD filings, amendments, or other franchise disclosure obligations.
- Whether anticipated compliance cost savings are likely to be offset by the need to prepare interim financial statements.
- Whether investor expectations, financing arrangements, or prospective franchisees create business reasons to continue quarterly financial reporting.
- How any change in reporting practices could affect their overall franchise compliance strategy.
Final Thoughts
The SEC’s proposal has understandably generated interest among public companies looking for opportunities to simplify compliance and reduce reporting costs. For publicly-traded franchisors, however, the decision involves more than just securities law. Before electing optional semiannual reporting, franchisors should carefully evaluate how a different SEC reporting schedule may interact with the separate timing requirements that govern franchise disclosure obligations.
Plave Koch’s franchise attorneys regularly advise franchisors on FDD compliance, registration requirements, and regulatory matters (but not securities laws) and are available to assist companies in evaluating how any final SEC rule may affect their franchise compliance obligations.