Cash Management

Downturn Disclosures: Expect Liquidity Focus

Regulators will heavily scrutinize management's discussion about cash access in next year's filings, attorneys predict.
Sarah JohnsonDecember 16, 2008

The credit crunch of 2008 has divided the many losers from the few winners. And those corporations on the winning side have cash in their hands — or at least have easy access to it.

Next year, regulators will scrutinize whether both winning companies and potential losing businesses are being forthcoming in their disclosures about liquidity and access to capital. After all, it’s in the liquidity section of management’s analysis that investors can truly judge “a company’s prospects for the future and even the likelihood of its survival,” according to the Securities and Exchange Commission.

In recent speeches, SEC staffers have implied they will expect companies to show they have considered how the financial crisis has affected them. “In today’s economic environment, changes to existing disclosures or incremental disclosures may be necessary to comply with the disclosure requirements in areas such as risks and uncertainties, liquidity, and credit risks, just to name a few,” said Marc Panucci, an SEC associate chief accountant who spoke at the annual American Institute of Certified Public Accountants conference last week.

Some companies already have bolstered their MD&As in their third-quarter filings, when it was clear that the economic fallout from Lehman Brothers’ collapse and other Wall Street problems would continue for some time, according to Raphael Russo, a partner at Paul, Weiss, Rifkind, Wharton & Garrison. Those that didn’t supplement their most recent quarterly filing, adding language about risk factors related to the credit crisis, may have done so through an 8-K in the meantime, fearing that waiting for the next 10-Q or 10-K would take too long in the eyes of regulators and investors, Russo adds.

In an alert he cowrote with partner Mark Bergman and counsel David Huntington, Russo suggests nearly all companies will have had to make changes to their MD&A disclosures by the time the next quarterly or annual filings are due. “Very few industries will be immune to macroeconomic conditions and the current significant constraints on credit,” they wrote.

CFOs are expected to highlight the information they consider critical for investors in the MD&A, which serves as management’s point of view, explains Russo. The section contains material information about sources of cash, amounts of cash flows, capital expenditure, along with notes about trends and uncertainties.

While the SEC has not updated its MD&A guidance in five years and is not making any new requirements, recent events force companies to ask questions they may not have considered one year ago, Russo tells Then, it was nearly unimaginable for well-heeled companies to have their banks renege on promises to fund credit lines, a scenario that seems more possible today.

For that reason, companies may need to disclose whether they rely on one bank or a group of banks for future financing needs. Paul, Weiss suggests companies question whether lenders will still loan cash under their agreed-upon revolvers and whether their lending practices have changed.

In addition, the attorneys recommend that companies disclose how they receive and plan to use cash, and how that situation may change because of uncertainties in the marketplace. They should talk about short-term funds, their limitations, and the implications if they cannot be accessed. Also consider sharing the factors that could affect credit ratings and uncertainty surrounding debt agreements that could be affected by lower ratings or other actions taken to free up cash.

The attorneys also suggest that management discuss in the MD&A how current market conditions could affect the commercial paper market, committed and uncommitted borrowings, cash and securities held at financial institutions, illiquid investments, future pension funding, and stock buybacks and dividend payments.