41394 Federal Register / Vol. 63, No. 149 /Tuesday, August 4, 1998 /Rules and Regulations

Adoption of the Amendment

Accordingly, pursuant to the

authority delegated to me by the

Administrator, the Federal Aviation

Administration amends part 39 of the

Federal Aviation Regulations (14 CFR

part 39) as follows:

PART 39—AIRWORTHINESS

DIRECTIVES

1. The authority citation for part 39

continues to read as follows:

Authority: 49 U.S.C. 106(g), 40113, 44701.

§ 39.13 [Amended]

2. Section 39.13 is amended by

adding the following new airworthiness

directive:

98–16–12 Airbus Industrie: Amendment

39–10688. Docket 97–NM–148–AD.

Applicability: Model A320 and A321 series

airplanes; as listed in Airbus Service Bulletin

A320–28–1044, Revision 10, dated November

5, 1996; certificated in any category.

Note 1: This AD applies to each airplane

identified in the preceding applicability

provision, regardless of whether it has been

modified, altered, or repaired in the area

subject to the requirements of this AD. For

airplanes that have been modified, altered, or

repaired so that the performance of the

requirements of this AD is affected, the

owner/operator must request approval for an

alternative method of compliance in

accordance with paragraph (b) of this AD.

The request should include an assessment of

the effect of the modification, alteration, or

repair on the unsafe condition addressed by

this AD; and, if the unsafe condition has not

been eliminated, the request should include

specific proposed actions to address it.

Compliance: Required as indicated, unless

accomplished previously.

To prevent blockage of fuel by the buildup of ice crystals, which could result in low

fuel pressure, and consequent shutdown of

the engine during critical phases of flight,

accomplish the following:

(a) Within 24 months after the effective

date of this AD, replace the mesh strainers of

each fuel pump with improved strainers, in

accordance with Airbus Service Bulletin

A320–28–1044, Revision 11, dated August

26, 1997.

Note 2: Accomplishment of the

replacement required by paragraph (a) of this

AD in accordance with Airbus Service

Bulletin A320–28–1044, Revision 09, dated

June 14, 1996, or Revision 10, dated

November 5, 1996, prior to the effective date

of this AD, is acceptable for compliance with

this paragraph.

(b) An alternative method of compliance or

adjustment of the compliance time that

provides an acceptable level of safety may be

used if approved by the Manager,

International Branch, ANM–116, FAA,

Transport Airplane Directorate. Operators

shall submit their requests through an

appropriate FAA Principal Maintenance

Inspector, who may add comments and then

send it to the Manager, International Branch,

ANM–116.

Note 3: Information concerning the

existence of approved alternative methods of

compliance with this AD, if any, may be

obtained from the International Branch,

ANM–116.

(c) Special flight permits may be issued in

accordance with sections 21.197 and 21.199

of the Federal Aviation Regulations (14 CFR

21.197 and 21.199) to operate the airplane to

a location where the requirements of this AD

can be accomplished.

(d) The replacement shall be done in

accordance with Airbus Service Bulletin

A320–28–1044, Revision 11, dated

August 26, 1997, which contains the

following list of effective pages:

Page No.

Revision level

shown on

page

Date shown

on page

1, 2, 5–8, 11,

12, 15–20.

Revision 11 .. August 26,

1997.

4, 10, 13, 14 Revision 10 .. November

05, 1996.

3, 9 ............... Revision 09 .. June 14,

1996.

This incorporation by reference was

approved by the Director of the Federal

Register in accordance with 5 U.S.C. 552(a)

and 1 CFR part 51. Copies may be obtained

from Airbus Industrie, 1 Rond Point Maurice

Bellonte, 31707 Blagnac Cedex, France.

Copies may be inspected at the FAA,

Transport Airplane Directorate, 1601 Lind

Avenue, SW., Renton, Washington; or at the

Office of the Federal Register, 800 North

Capitol Street, NW., suite 700, Washington,

DC.

Note 4: The subject of this AD is addressed

in French airworthiness directive 96–170–

082 (B), dated August 28, 1996.

(e) This amendment becomes effective on

September 8, 1998.

Issued in Renton, Washington, on July 27,

1998.

S.R. Miller,

Acting Manager, Transport Airplane

Directorate, Aircraft Certification Service.

[FR Doc. 98–20676 Filed 8–3–98; 8:45 am]

BILLING CODE 4910–13–P

SECURITIES AND EXCHANGE

COMMISSION

17 CFR Parts 231, 241, 271, 276

[Release Nos. 33–7558; 34–40277; IA–1738;

IC–23366; International Series Release No.

1149]

Statement of the Commission

Regarding Disclosure of Year 2000

Issues and Consequences by Public

Companies, Investment Advisers,

Investment Companies, and Municipal

Securities Issuers

AGENCY: Securities and Exchange

Commission.

ACTION: Interpretation.

SUMMARY: The Securities and Exchange

Commission (‘‘we’’ or ‘‘the

Commission’’) is publishing guidance

for public companies, investment

advisers, investment companies, and

municipal securities issuers regarding

their disclosure obligations about Year

2000 issues. This release provides

guidance to public companies so they

can determine whether their Year 2000

issues are known material events,

trends, or uncertainties that should be

disclosed in the Management’s

Discussion and Analysis of Financial

Condition and Results of Operations

(‘‘MD&A’’) section of their disclosure

documents. This release also sets forth

our guidance regarding specific matters

for companies to address in their MD&A

Year 2000 disclosure. In addition, we

address the need for companies to

consider the Year 2000 issue in

connection with other rules and

regulations and when they prepare

financial statements. Finally, we remind

municipal securities issuers, as well as

public companies, investment advisers,

and investment companies, that the

anti-fraud provisions of the federal

securities laws apply to disclosure about

the Year 2000 issue. This guidance

supersedes the current staff guidance in

revised Staff Legal Bulletin No. 5 (‘‘Staff

Legal Bulletin’’).

EFFECTIVE DATE: August 4, 1998. For

information regarding the first periodic

reports filed by public companies that

should follow this release’s guidance,

see Section I.A.

FOR FURTHER INFORMATION CONTACT: Broc

Romanek or Joseph Babits, Office of

Chief Counsel, Division of Corporation

Finance at 202–942–2900 (with respect

to public companies), Anthony Vertuno,

Division of Investment Management, at

202–942–0591 (with respect to

investment companies); Arthur Laby,

Division of Investment Management, at

202–942–0716 (with respect to

investment advisers), and Mary

Simpkins, Office of Municipal

Securities, at 202–942–7300 (with

respect to municipal securities).

SUPPLEMENTARY INFORMATION:

I. Executive Summary

The ‘‘Year 2000 problem’’ arose

because many existing computer

programs use only the last two digits to

refer to a year. Therefore, these

computer programs do not properly

recognize a year that begins with ‘‘20’’

instead of the familiar ‘‘19.’’ If not

corrected, many computer applications

could fail or create erroneous results.

The extent of the potential impact of the

Year 2000 problem is not yet known,
Federal Register / Vol. 63, No. 149 /Tuesday, August 4, 1998 /Rules and Regulations 41395

1As used in this release, ‘‘public companies’’

generally refers to corporate and similar issuers,

rather than investment companies and investment

advisers, which are addressed separately.

2The Securities Act of 1933 (‘‘Securities Act’’)

can be found at 15 U.S.C. 77a et seq. The Securities

Exchange Act of 1934 (‘‘Exchange Act’’) can be

found at 15 U.S.C. 78a et seq.

3 Item 303 of Regulations S–K (17 CFR 229.303)

and S–B (17 CFR 228.303). The interpretive

guidance in this release applies equally to

companies that file forms under Regulation S–K

and small businesses that file forms under

Regulation S–B. Foreign private issuers should

follow the guidance in this release, including

MD&A disclosure called for by Item 9 of Form 20–

F (17 CFR 249.220f).

4 In 1988, we followed a similar approach when

we specifically addressed the disclosure issue of

illegal or unethical activities relating to government

defense contract procurements. See Securities Act

Rel. No. 6791 (August 1, 1988), 53 FR 29226

(August 3, 1988).

5The Staff Legal Bulletin was first issued on

October 8, 1997 and revised on January 12, 1998.

6Section 17(a) of the Securities Act, 15 U.S.C.

77q(a); Section 10(b) of the Securities Exchange Act

of 1934, 15 U.S.C. 78j(b); and Rule 10b–5

promulgated thereunder, 17 CFR 240.10b–5. See

Statement of the Commission Regarding Disclosure

Obligations of Municipal Securities Issuers and

Continued

and if not timely corrected, it could

affect the global economy.

A. Public Companies 1

Congress enacted the Securities Act of

1933 and the Securities Exchange Act of

1934 to provide for full and fair

disclosure to investors.2 Our disclosure

framework requires companies to

disclose material information that

enables investors to make informed

investment decisions. For public

companies, our authority basically is

directed towards eliciting disclosure.

Under this disclosure framework, all

companies must provide specific

categories of information. Companies

have the flexibility, however, to tailor

disclosure to their particular

circumstances. In almost every case, we

rely on this general framework and

rarely provide specific guidance on any

particular issue. Companies already

disclose in their MD&A their assessment

of known trends, demands,

commitments, events or uncertainties

that are likely to have a material

impact.3 MD&A is designed to allow

investors to see the company through

the eyes of management. Investors

deserve no less with respect to

management’s assessment of their

company’s Year 2000 problems. To help

companies with their disclosure

obligations, we are providing specific

guidance on what public companies

should consider when disclosing

information about their Year 2000

readiness.4

This follows similar actions taken by

our staff. During the past year, the staff

of the Divisions of Corporation Finance

and Investment Management issued and

then revised the Staff Legal Bulletin to

provide specific guidance regarding

Year 2000 disclosure obligations.5 Both

of the Divisions created task forces to

determine the effectiveness of the

guidance.

While the number of companies

disclosing Year 2000 issues has

increased dramatically, the task force

surveys show that many companies are

not providing the quality of disclosure

that we believe investors expect. In

response to continuing concerns

regarding this important issue, we are

providing more extensive guidance in

this formal Commission interpretive

release. This release supersedes the

revised Staff Legal Bulletin.

Public companies should apply this

interpretive guidance immediately after

August 4, 1998. Companies with June

30th or July 31st fiscal year ends need

to follow this guidance when they file

their annual reports. Companies with

quarter ends after the effective date of

this release also need to follow this

guidance.

We encourage companies with

quarters that end on June 30th or July

31st to consider this guidance in their

quarterly reports.

This release provides our guidance

based on the current requirements of the

federal securities laws. It briefly

addresses a number of disclosure

requirements, but focuses on MD&A. We

address two important issues under

MD&A—whether companies are

required to provide Year 2000

disclosure and the type of Year 2000

disclosure that is required. As discussed

in Section III.A below, we believe a

company must provide Year 2000

disclosure if:

(1) Its assessment of its Year 2000

issues is not complete, or

(2) Management determines that the

consequences of its Year 2000 issues

would have a material effect on the

company’s business, results of

operations, or financial condition,

without taking into account the

company’s efforts to avoid those

consequences.

We expect that for the vast majority of

companies Year 2000 issues are likely to

be material, and therefore disclosure

would be required. When a company

has a Year 2000 disclosure obligation,

we believe that full and fair disclosure

includes:

(1) The company’s state of readiness;

(2) The costs to address the

company’s Year 2000 issues;

(3) The risks of the company’s Year

2000 issues; and

(4) The company’s contingency plans.

Each company also must consider if

its own Year 2000 circumstances require

MD&A disclosure of additional

information. This release provides

suggestions to help companies meet

their disclosure obligations. In addition

to MD&A, this release reminds

companies that Year 2000 disclosure

may be required in their financial

statements and under other rules and

regulations, as discussed in Sections

III.B and C below.

B. Investment Advisers and Investment

Companies

Because of the key role that

investment advisers and the investment

companies they manage play in the

financial markets, we believe it is

important for us to monitor the progress

of these entities in preparing for the

Year 2000, regardless of the materiality

of any individual entity’s Year 2000

issues. We believe that the best

approach to monitoring the readiness of

investment advisers and investment

companies is to require that registered

investment advisers provide detailed

reports to us. In June 1998, we proposed

a rule to implement this approach, as

discussed in Section III.D below. Under

the proposal, investment advisers would

describe their Year 2000 preparedness,

and that of any investment companies

that they advise, in publicly available

reports.

Investment advisers and investment

companies that conclude that the Year

2000 issue is material to their operating

results and/or financial condition would

need not only to report to us but also to

include disclosure in their public

filings. Investment advisers and

investment companies are reminded of

their obligations under the anti-fraud

provisions of the federal securities laws.

These entities should follow the

guidance provided in Section III.D.

C. Municipal Issuers

Municipal issuers also have

disclosure obligations. Our regulatory

authority over disclosure by issuers of

municipal securities is not as broad as

our authority over disclosure by public

and investment companies. Generally,

municipal securities offerings are, by

statute, exempt from registration and

municipal securities issuers are exempt

from the reporting provisions of the

federal securities laws, including lineitem disclosure rules. Municipal

securities issuers, and persons

participating in the preparation of

municipal securities issuers’ disclosure,

however, are subject to the anti-fraud

provisions of the federal securities

laws.6
41396 Federal Register / Vol. 63, No. 149 /Tuesday, August 4, 1998 /Rules and Regulations

Others (‘‘Municipal Securities Interpretive

Release’’), Securities Act Rel. No. 7049 (March 9,

1994), 59 FR 12748 (March 17, 1994).

7SEC Staff Report on the Municipal Securities

Market (The Division of Market Regulation),

September 1993, p. 1, The Bond Buyer Securities

Data Company 1998 Yearbook, 1998, p.64.

8Speech of July 14, 1998 to National Academy of

Science.

9See, e.g., ‘‘Year 2000 Time Bomb,’’ U.S. News &

World Report, June 8, 1998, page 45; ‘‘Experts Say

Bug Will Be Costly, So Will The Cure,’’ Chicago

Tribune, March 2, 1998, page C1; and ‘‘Debunking

Year 2000’s Computer Disaster,’’ Los Angeles

Times, Nov. 3, 1997, page A1.

10 Year 2000 problems have already occurred and

will continue to occur before the Year 2000. The

Information Technology Association of America

recently conducted a survey showing that 44% of

responding companies have already experienced

Year 2000 disruptions in their business. This survey

can be found at <http://www.itaa.org/softpr7.htm>.

11The United Nations recently passed a

resolution calling on member states to cooperate on

global awareness initiatives and called upon the

public and private sectors to share Year 2000

information. See U.N. Passes Year 2000 Appeal

(June 26, 1998) <www.news.com/News/Item/

0,4,23624,00.html>. President Clinton has formed

the President’s Council on the Year 2000

Conversion, and the Senate has established the

Senate Special Committee on the Year 2000

Technology Problem to focus and provide

leadership to reduce the impact of this issue. On

July 14, 1998, the President held a press conference

to stress the importance of assessing and remedying

the Year 2000 problem and promised to send

proposed legislation to Congress addressing liability

issues relevant to the Year 2000. The President’s

Council’s web site can be found at <http://

www.y2k.gov>. The Senate Special Committee

Chairman, Senator Robert Bennett, has a web site

with materials relating to the committee at <http:/

/www.senate.gov/∼bennett/y2k.html>. In addition,

in November 1997, Senator Bennett introduced

legislation, the Year 2000 Computer Remediation

and Shareholder Protection Act of 1997 (S. 1518),

which would require public companies to disclose

their Year 2000 issues. Finally, Representatives

Dreier and Cox recently introduced legislation to

encourage companies to fix their Year 2000

problems, the Y2K Liability and Antitrust Reform

Act (H.R. 4240).

12 In June of 1997 and 1998, the staff provided

reports to Congress on the Readiness of the

Securities Industry and Public Companies to Meet

the Information Processing Challenges of the Year

2000 (‘‘Staff Report to Congress on Year 2000’’).

Both of these reports are on our web site at <http:/

/www.sec.gov/news/studies/yr2000.htm> for the

1997 report and <http://www.sec.gov/news/

studies/yr2000–2.htm> for the 1998 report.

13These questions can be found at <http://

www.sec.gov/consumer/y2kaskit.htm>.

14The update described generally the nature of

these issues and the disclosures that public

companies should make. The latest Current Issues

Outline can be found at <http://www.sec.gov/rules/

othern> and scroll to it.

15The Staff Legal Bulletin contains the staff’s

specific guidance on good disclosure practices in

the Year 2000 context.

16 In the revised Staff Legal Bulletin, the staff’s

guidance focused on MD&A, but also noted that

other rules might require disclosure. The staff stated

that a company should disclose, at a minimum: its

plans to address the Year 2000 issues that affect its

business and operations, including operating

systems; material effects if its customers, suppliers,

and other constituents are not Year 2000 ready; its

timetable for carrying out these plans; and, if

material, an estimate of the Year 2000 costs and any

material impact it expects these costs to have on its

results of operations, liquidity, and capital

resources.

Approximately 50,000 state and local

governments have over $1.3 trillion in

municipal securities outstanding.7

Municipal securities issuers, like other

organizations, have Year 2000 issues.

Year 2000 problems may affect their

operations, creditworthiness, and ability

to make timely payment on their

indebtedness. We encourage municipal

securities issuers and persons who

assist in preparing their disclosure

documents to consider whether Year

2000 issues may be material to

investors. If material, the disclosure

documents used by municipal issuers

should contain a discussion of Year

2000 issues to avoid misleading

statements or omissions that could

violate the anti-fraud provisions. In

Section III.E, we provide guidance to

municipal issuers, and persons assisting

in the preparation of their disclosures,

regarding Year 2000 disclosure.

II. Background

A. Significance of the Year 2000 Issue

As the end of this century nears, there

is worldwide concern that Year 2000

technology problems may wreak havoc

on global economies. No country,

government, business, or person is

immune from the potential far-reaching

effects of Year 2000 problems. President

Clinton recently stated that ‘‘all told, the

worldwide cost will run into the tens,

perhaps the hundreds of billions of

dollars, and that’s the cost of fixing the

problem, not the cost if something

actually goes wrong.’’ 8 Some estimates

that include not only software and

hardware costs, but also costs related to

business interruptions, litigation, and

liability, run in the hundreds of billions

of dollars.9

Only one thing is certain about the

impact of the Year 2000—it is difficult

to predict with certainty what truly will

happen after December 31, 1999.10 To

reduce the impact of this potentially

serious, widespread problem, many

public officials and private

commentators have spoken out about

the need to plan properly now.11

We intend to intensify our efforts to

elicit meaningful disclosure from

companies about their Year 2000 issues.

Only through that disclosure can

investors make informed investment

decisions. We believe that companies

have sufficient incentive to provide

meaningful disclosure to investors and

meet their Year 2000 disclosure

obligations. These incentives include

business reasons, investor relations

concerns, and possible referrals to our

Division of Enforcement.

B. Staff Efforts Regarding Year 2000

Disclosure: Divisions of Corporation

Finance and Investment Management

The Year 2000 issues faced by the

securities industry and ourselves are

very serious. Every Division and Office

within the Commission has participated

in special initiatives to promote Year

2000 readiness in the securities

industry, the capital markets, and their

underlying industries.12 Our staff has

been providing reminders and guidance

to companies for over a year regarding

their Year 2000 disclosure obligations.

To educate investors, the Office of

Investor Education has posted on our

web site a series of questions that

investors can use.13

In May 1997, the Division of

Corporation Finance updated its Current

Issues and Rulemaking Projects outline

to discuss the need for public

companies to disclose the effect of Year

2000 technology problems.14 On

October 8, 1997, the Divisions of

Corporation Finance and Investment

Management issued a joint Staff Legal

Bulletin reminding entities with

disclosure obligations that our rules and

regulations apply to Year 2000 issues,

just like any other significant issue.15

On January 12, 1998, the Divisions

revised the Staff Legal Bulletin to

provide more specific guidance under

existing rules and regulations.16

After the Staff Legal Bulletin was

revised, the Division of Corporation

Finance created a Year 2000 task force

to determine how many public

companies are addressing the Year 2000

issue and to assess whether the

disclosure being provided is

meaningful. The task force found that

only 10% of the annual reports filed by

public companies during the first four

months of 1997 contain the phrase

‘‘Year 2000.’’ For the quarterly reports

filed after the staff published the Staff

Legal Bulletin, this percentage increased

to 25%. After the staff revised the Staff

Legal Bulletin in January 1998, 70% of

the annual reports contained the phrase

‘‘Year 2000.’’

To evaluate the quality of the Year

2000 disclosure, the task force read the

Year 2000 disclosure in the filings of

1,023 public companies selected from

12 major industries, including 66 small

business issuers. The task force believed

that this sampling of filings fairly

represented a cross-section of public

companies. The task force also surveyed

the most recent annual or quarterly

reports filed by the Fortune 100
Federal Register / Vol. 63, No. 149 /Tuesday, August 4, 1998 /Rules and Regulations 41397

17Seven of the Fortune 100 companies are not

required to file periodic reports with us.

18The task force survey is on our web site <http:/

/www.sec.gov/news/extra/y2kcfty.htm>.

19The Division of Investment Management also

reviewed the disclosure of all of the public utility

holding companies registered with us under the

Public Utility Holding Company Act of 1935. While

we regulate the corporate and financial structure of

registered public utility holding companies under

that Act, these companies are subject to the same

disclosure obligations as other public companies,

including the MD&A requirement. The interpretive

guidance provided in this release is therefore

specifically applicable to public utility holding

companies.

20There is a statutory safe harbor for both the

Securities Act and the Exchange Act. See Section

27A of the Securities Act (15 U.S.C. 77z-2) and

Section 21E of the Exchange Act (15 U.S.C. 78u-5).

The statutory safe harbors have certain limitations.

For example, the safe harbors do not by their terms

apply to lawsuits in state court. We note, however,

that pending legislation would address class actions

brought in state court. The Securities Litigation

Uniform Standards Act of 1998, S. 1260, and its

companion bill, H.R. 1689, recently have been

passed by Congress.

21 ‘‘Forward-looking statement’’ is defined in

Section 27A to include: (A) a statement containing

a projection of revenues, income, earnings, capital

expenditures, or other financial items; (B) a

statement of the plans and objectives of

management for future operations; (C) a statement

of future economic performance; [and] (D) any

statement of the assumptions underlying or relating

to any statement described in subparagraph (A), (B),

or (C).

In addition, Securities Act Rule 175 (17 CFR

230.175) and Exchange Act Rule 3b–6 (17 CFR

240.3b–6) provide some protection for similar

‘‘forward-looking statements’’ that may apply to

companies that are excluded from the statutory safe

harbors.

22The statutory safe harbors apply to disclosures

made by: a company; a person acting on behalf of

the company; an outside reviewer retained by the

company making a statement on behalf of the

company; or an underwriter, with respect to

information derived from information provided by

the company. See Securities Act Section 27A(a) and

Exchange Act Section 21E(a). There are exclusions

from the statutory safe harbors for specific types of

filings, and companies need to review the safe

harbors before relying on them. For example, the

safe harbors are not available to initial public

offerings or investment companies. See Securities

Act Section 27A(b) and Exchange Act Section

21E(b).

23Statements included in a financial statement

prepared in accordance with generally accepted

accounting principles are not covered by the

statutory safe harbors. See Securities Act Section

27A(b)(2)(A) (15 U.S.C. 77z–2(b)(2)(A)); Exchange

Act Section 21E(b)(2)(A) (15 U.S.C. 78u–5(b)(2)(A)).

Consequently, statements of estimated costs

included in MD&A disclosure outside the financial

statements would generally be covered. Inclusion of

those costs in the financial statements, or

discussion of them in the footnotes to the financial

statements would be not be covered.

24Securities Act Section 27A(c)(1)(A)(i) (15

U.S.C. 77z–2(c)(1)(A)(i)); Exchange Act Section

21E(c)(1)(A)(i) (15 U.S.C. 78u–5(c)(1)(A)(i)). Further,

certain courts have adopted the ‘‘bespeaks caution’’

doctrine to afford protection of forward-looking

statements that are accompanied by full and

meaningful discussion of their limitations and

assumptions See, e.g., In re Donald J. Trump Casino

Sec. Litig., 7 F.3d 357 (3rd Cir. 1993), cert. denied,

114 S.Ct. 1219 (1994).

25See H.R. Conf. Rep. No. 104–369 (1995).

26Securities Act Section 27A(c)(1) (15 U.S.C.

77z–2(c)(1)); Exchange Act Section 21E(c)(1) (15

Continued

companies that file periodic reports

with us.17

Based on the specific guidance

provided in the revised Staff Legal

Bulletin, the task force looked for eight

categories of information. The task force

discovered that companies were

providing a wide variety of Year 2000

disclosures. While the number of

companies disclosing Year 2000 issues

has increased dramatically, the task

force survey shows that many

companies are not providing the quality

of detailed disclosure that we believe

that investors would expect.18

In its review of Year 2000 disclosures

made by investment companies, the

Division of Investment Management

found that twenty-four of the twentyfive largest investment company

complexes have made Year 2000

disclosure to their fund shareholders. In

addition, the Division surveyed 740

registration statements of investment

companies filed since January 1, 1998,

and found that 81% of these contained

Year 2000 disclosure.19 Typically,

investment companies’ Year 2000

disclosure was generic and included

acknowledgment of the Year 2000 issue,

that the issues are being addressed and

will be resolved, and that they cannot

guarantee that its remediation efforts

will prevent all consequences.

The generic nature of an investment

company’s Year 2000 disclosure may be

related to its Year 2000 compliance

reliance on entities whose Year 2000

readiness efforts it does not control.

Investment companies rely heavily on

external service providers (e.g.,

investment advisers, transfer agents,

brokers, and custodians) that may have

represented to the investment

companies that they anticipate being

Year 2000 compliant.

C. The Statutory Safe Harbors for

Forward-Looking Information

We recognize that companies face

difficult disclosure challenges due to

the forward-looking nature of Year 2000

issues. In drafting disclosure

documents, companies necessarily have

to address uncertainties and describe

future events relating to their Year 2000

issues. To help companies in this task,

we provide the following interpretive

guidance regarding the application of

the two statutory safe harbors for

forward-looking information provided

by the Private Securities Litigation

Reform Act of 1995.20

The statutory safe harbors apply to

forward-looking statements 21 provided

by eligible companies. 22 Almost all of

the required MD&A disclosures

concerning Year 2000 problems contain

forward-looking statements. For

example, in our view, a projection of

capital expenditures or other financial

items—such as the estimated costs of

remediation and testing—is a forwardlooking statement because it anticipates

how remediation and testing will

proceed in the future. 23

A company’s statement regarding the

estimated future costs due to business

disruption caused by vendors,

suppliers, customers, or even the

possible loss of electric power or phone

service, typically would be a statement

of future economic performance, as well

as a projection of a financial item. Much

of the description of a company’s Year

2000 problems would be part of a

forward-looking statement because the

statement contains assumptions

concerning estimated costs or plans for

future operations. Contingency plans

that assess which scenarios are most

likely (such an assessment is typically

necessary in deciding which scenarios

to spend time and money preparing for)

would be forward-looking statements of

plans and objectives of management for

future operations.

Some matters that are simply

statements of historical fact are not

forward-looking. For example, historical

costs are not forward-looking. Similarly,

whether a company has a contingency

plan at all would be a matter of fact.

Whether a company actually has

performed an assessment would be a

fact, as would its inventory of hardware,

software, and embedded chips.

However, a description of the problems

that the company anticipates, which

form the basis of its assessment, is

sufficiently forward-looking to

constitute either a forward-looking

statement or an assumption relating to

a forward-looking statement. Similarly,

statements identifying the remediation

phase that a company currently is in

would be a matter of fact, but timetables

for implementation of future phases,

including estimates of how long the

internal and third-party testing phases

will take, would be forward-looking

statements, at least until the phases are

completed.

For the statutory safe harbors to

apply, material forward-looking

statements must be accompanied by

‘‘meaningful cautionary statements.’’ 24

The meaningful cautionary statements

cannot be boilerplate language.25 The

safe harbors do not apply if the

statement was knowingly false when

made. Furthermore, the statutory safe

harbors were meant to apply only to

private actions in federal court.26
41398 Federal Register / Vol. 63, No. 149 /Tuesday, August 4, 1998 /Rules and Regulations

U.S.C. 78u–5(c)(1)). In contrast, Securities Act Rule

175 and Exchange Act Rule 3b–6 also would apply

to Commission actions.

27 Item 303(b) of Regulation S–K (17 CFR

229.303(b)) and Item 303(b)(2) of Regulation S–B

(17 CFR 229.303(b)(2)) set forth the MD&A

requirements for interim reports. In a 1989

interpretive release (‘‘1989 Release’’), we noted that

companies need to update known trends, demands,

commitments, events, and uncertainties for any

material change in each subsequent periodic report.

Securities Act Rel. No. 6835 (May 18, 1989), 54 FR

22427 (May 24, 1989), text at note 40.

28A general instruction in MD&A states that

companies ‘‘shall focus sepcifically on material

events and uncertainties known to management that

would cause reported financial information not to

be necessarily indicative of future operating results

or of future financial condition.’’ Item 303(a) of

Regulation S–K, Instruction 3 (17 CFR 229.303(a)).

For small businesses, Item 303(b) of Regulation S–

B (17 CFR 228.303(b)) states in part that ‘‘discussion

should address the past and future financial

condition and results of operation of the small

business issuer * * *’’ for each of the last two

fiscal years. Item 303(b) of Regulation S–B contains

an instruction (Instruction 1) similar to Instruction

3 of Item 303(a).

29 In addition to the analytical guide, the 1989

Release provides several examples of forwardlooking disclosure. These may be useful to help

companies determine the type of forward-looking

information that should be provided when they

have triggered the 1989 two-part test.

30The Year 2000 issue is certainly ‘‘known’’ to all

companies. The problems associated with this issue

have been widely publicized, and no company can

reasonably argue that it does not know about the

Year 2000 issue.

III. Our Specific Disclosure Guidance

As the end of the century draws near,

the Year 2000 technical and legal issues

become increasingly material to

investors. We are concerned that some

companies may not be meeting their

Year 2000 disclosure obligations. With

each passing month, the extent of the

Year 2000 risks become more evident

and companies’ obligations to disclose

their Year 2000 issues becomes clearer.

Investors need to know how companies

are addressing these issues.

The federal securities laws are

dynamic and responsive to changing

circumstances. As companies remediate

their Year 2000 issues, their

circumstances change as they discover

new issues. Companies need to adjust

their disclosure accordingly. In almost

all cases, companies will have material

events and changes requiring updated

Year 2000 disclosure in each quarterly

and annual report filed with us.27

A. Specific Guidance for Year 2000

Disclosure Under MD&A

The following specific guidance sets

forth the type of Year 2000 disclosure

that companies should provide under

MD&A and other rules and regulations.

1. Basic MD&A Analysis

MD&A is intended to give investors

the opportunity to look at a company

through the eyes of management by

providing both a short and long-term

analysis of the company’s business—

with particular emphasis on the

company’s prospects for the future.

MD&A requires a discussion of

liquidity, capital resources, results of

operations, and other information

necessary to an understanding of a

company’s financial condition, changes

in financial condition, and results of

operations. The language of the MD&A

requirement is intentionally general.

This reflects our view that a flexible

approach best elicits meaningful

disclosure and avoids boilerplate

discussions.

One of the challenges that a company

faces when drafting its MD&A is

discussing forward-looking information.

One of the few regulations that require

forward-looking disclosure, MD&A

contains a variety of formulations

calling for this information, including a

requirement to disclose known material

events, trends or uncertainties.28

In the 1989 Release, we gave guidance

to companies on various aspects of

MD&A disclosure. Under the 1989

Release, companies should apply the

following analysis to determine if they

should disclose forward-looking

information.

Where a trend, demand, commitment,

event, or uncertainty is known,

management must make two

assessments:

(1) Is the known trend, demand,

commitment, event or uncertainty likely

to come to fruition? If management

determines that it is not reasonably

likely to occur, no disclosure is

required.

(2) If management cannot make that

determination, it must evaluate

objectively the consequences of the

known trend, demand, commitment,

event or uncertainty on the assumption

that it will come to fruition. Disclosure

is then required unless management

determines that a material effect on the

company’s financial condition or results

of operations is not reasonably likely to

occur. The determination made by

management must be objectively

reasonable, viewed as of the time the

determination is made.

This test essentially requires

companies to disclose forward-looking

information based on currently known

events, trends or uncertainties that are

reasonably likely to have material

effects on the company’s financial

condition or results of operations.29

Because of the prevalence of computers

and embedded technology in virtually

all businesses and the potential

consequences of not adequately

addressing the Year 2000 problem, we

believe that almost every company will

need to address this issue.

2. How We Interpret MD&A in the Year

2000 Context’’

a. Whether to Disclose Year 2000

Issues. The first decision that a

company must make is whether it has

an obligation to provide any disclosure

regarding its Year 2000 issues.30 By

applying the 1989 Release’s guidance

regarding forward-looking information,

we believe that a company must provide

Year 2000 disclosure if:

(1) Its assessment of its Year 2000

issues is not complete, or

(2) Management determines that the

consequences of its Year 2000 issues

would have a material effect on the

company’s business, results of

operations, or financial condition,

without taking into account the

company’s efforts to avoid those

consequences.

Our two-part test is substantially

similar to the revised Staff Legal

Bulletin’s guidance for whether

companies have a Year 2000 disclosure

obligation. We believe that a large

majority of companies will meet one or

both of these tests and therefore will be

required to provide Year 2000

disclosure. We expect that significantly

more companies will be providing Year

2000 disclosure in future disclosure

documents than the 70% found by the

task force.

Under the first test, a company’s

assessment should take into account

whether third parties with whom a

company has material relationships are

Year 2000 compliant. The determination

of whether a relationship is material

depends on the nature of the

relationship.

For vendors and suppliers, the

relationship is material if there would

be a material effect on the company’s

business, results of operations, or

financial condition if they do not timely

become Year 2000 compliant. The same

analysis should be made for significant

customers whose Year 2000 readiness

could cause a loss of business that might

be material to the company. The

company also should consider its

potential liability to third parties if its

systems are not Year 2000 compliant,

resulting in possible legal actions for

breach of contract or other harm.

In our view, a company’s Year 2000

assessment is not complete until it

considers these third party issues and

takes reasonable steps to verify the Year

2000 readiness of any third party that

could cause a material impact on the
Federal Register / Vol. 63, No. 149 /Tuesday, August 4, 1998 /Rules and Regulations 41399

31A company’s statement of its own readiness

based on third party representations would be

forward-looking and fall within the statutory safe

harbors. Further, a company’s reasonable reliance

on the third party statements would be assumptions

underlying that statement and also entitled to safe

harbor protection.

32The gross basis determination is similar to the

analysis in Staff Accounting Bulletin (SAB) No. 92

(June 8, 1993) relating to accounting and

disclosures related to loss contingencies. In SAB

No. 92, our staff gave guidance regarding the need

to separately disclose environmental liabilities and

related potential claims for recovery, unless the

recovery was probable. The staff stressed the

uncertainties related to potential claims for

recovery. We stress in this release the uncertainties

related to remediation, third parties, litigation,

insurance coverage and other contingencies in the

Year 2000 context.

33 If a company has substantially completed its

testing and assessment of third party issues, and

thus has a reasonable basis to believe that it is Year

2000 ready, it need not make this assumption.

Thus, MD&A disclosure may not be required,

although we encourage all companies to address the

Year 2000 issue and describe their Year 2000 status.

34 In considering whether potential Year 2000

consequences are material, companies may offset

quantifiable dollar amounts of those consequences

that would be covered by Year 2000-specific

insurance policies, provided that the policies have

a sufficiently broad coverage to cover all risks.

35 Item 303(a) of Regulation S–K (17 CFR

229.303(a)).

36For example, Instruction 3 to Item 303(a) of

Regulation S–K (17 CFR 229.303(a)) states that the

discussion and analysis should include

‘‘descriptions and amounts’’ of matters that would

have an impact on future operations and have not

had an impact in the past.

37Companies in some industries, such as software

and hardware manufacturers, also may need to

discuss whether their products will be Year 2000

compliant, and related consequences.

38For example, most equipment and machinery,

such as elevators, contain microcontrollers. For

more information regarding the Year 2000 risks of

embedded technology, see the Institution of

Electrical Engineers web site, <http://www.iee.org/

2000risk>

39Reportedly, some companies only recently

became aware that their non-IT systems have Year

2000 issues. See, e.g., ‘‘Industry Wakes Up to Year

2000 Menace,’’ Forbes, April 27, 1998 at 163.

40A good description of a company’s Year 2000

issues would address whether all its hardware and

software systems, and all of its embedded systems

contained in the company’s buildings, plant,

equipment and other infrastructure, have been

assessed. If this assessment is not complete, the

company should disclose the kinds and percentage

of hardware and software systems and embedded

systems that remain to be assessed.

41Companies should discuss their progress in a

manner that will best inform investors about where

the company is on their timetable. For example,

some companies may decide that the amount of

money spent may be their best indicator of progress,

while other companies may decide that labor still

required to be undertaken may be a more

appropriate indicator.

42We are particularly concerned about the testing

phase. Experts have stated that companies with

numerous systems and third party relationships

should be planning to conduct testing for at least

one year. Serious consideration should be given to

disclosing, as of the end of each reporting period:

(1) What kinds and percentage of the company’s

hardware and software systems have been tested

and verified as Year 2000 compliant, (2) what kinds

and percentage of embedded systems have been

tested and verified as Year 2000 compliant, and (3)

what testing and verification methodology was

used.

43Public companies and municipal issuers

should consider the phases identified by the

General Accounting Office in its checklist guide to

Federal agencies. The guide describes five phases

representing a major Year 2000 activity or

segment—awareness, assessment, renovation,

validation, and implementation. General

Accounting Office, GAO/AIMD–10.1.14, Year 2000

Computing Crisis: An Assessment guide (1997). The

guide is available as a PDF file on the GAO web

site at <http://www.gao.gov/y2kr.htm>. Investment

advisers and investment companies should

consider the phases identified in our Investment

Advisers Year 2000 Reports release, cited in note

68 below.

44Companies may want to disclose the average

phase for all of their mission critical systems or may

want to use a chart to disclose the status for each

mission critical system.

company. We understand that this is

often done by analyzing the responses to

questionnaires sent to these third

parties. In the absence of receiving

responses to questionnaires, there may

be other means to assess third party

readiness.31

Under the second test, companies

must determine whether they have a

Year 2000 disclosure obligation by

evaluating their Year 2000 issues on a

‘‘gross’’ basis.32 In other words, in the

absence of clear evidence of readiness,

a company must assume that it will not

be Year 2000 compliant and weigh the

likely results of this unpreparedness.33

As part of this analysis, the company

must assume that material third parties

will not be ready either, unless these

third parties have delivered written

assurances to the company that they

expect to be Year 2000 compliant in

time. The test is driven by measuring

the consequences if the company is not

prepared, rather than the amount of

money the company spent, or plans to

spend, to address this issue.34

b. What to Disclose about Year 2000

Issues. Once a company determines that

it has a Year 2000 disclosure obligation,

it has to decide what to disclose about

its Year 2000 issues. MD&A does not

require categories of specific

information because each company has

to consider its own circumstances in

drafting its MD&A. For Year 2000

disclosure to be meaningful, we believe

that companies will have to address the

following four categories of information

in their MD&A, as discussed in more

detail below:

(1) The company’s state of readiness;

(2) The costs to address the

company’s Year 2000 issues;

(3) The risks of the company’s Year

2000 issues; and

(4) The company’s contingency plans.

The disclosure should be specific to

each company and quantified to the

extent practicable. Some companies

may have to provide this information by

business segment or subdivision.35

Companies should avoid generalities

and boilerplate disclosure. In addition,

each company must consider if its own

Year 2000 circumstances require that

additional matters be disclosed.

(1) The Company’s State of Readiness.

When a company has to provide

disclosure regarding a known material

event, trend, or uncertainty, it first has

to describe that event, trend, or

uncertainty.36 A company should

describe its Year 2000 issues in

sufficient detail to allow investors to

fully understand the challenges that it

faces. We suggest that the description be

similar to that provided to a company’s

board of directors—which typically is

non-technical plain English and

answers the important questions—such

as ‘‘will we be ready?’’ and ‘‘how far

along are we?’’ So far, most companies

have provided only a cursory

description of their Year 2000 issues.

A full description of a company’s

Year 2000 readiness will generally

include, at the very least, the following

three elements. First, the discussion

should address both information

technology (‘‘IT’’) and non-IT systems.37

Non-IT systems typically include

embedded technology such as

microcontrollers.38 These types of

systems are more difficult to assess and

repair than IT systems. In fact,

companies often have to replace non-IT

systems since they cannot be repaired.

To date, only a few companies have

addressed non-IT issues in their

disclosure.39 We are concerned that

companies are overlooking non-IT

systems when they provide Year 2000

disclosure.40

Second, for both their IT and non-IT

systems, companies should disclose

where they are in the process of

becoming ready for the Year 2000.41 The

status of the company’s progress,

identified by phase, including the

estimated timetable for completion of

each remaining phase, is vital

information to investors and should be

disclosed.42 There are no universal

definitions for the phases in a Year 2000

remediation program.43 However, for

the most part, the phases are selfexplanatory, and we recommend that

companies briefly describe how they

define each phase. Another challenge is

describing the status of multiple

computer systems. Companies should

tailor the disclosure and the format for

their own particular circumstances.44

The third essential component is a

description of a company’s Year 2000

issues relating to third parties with

which they have a material relationship.

Due to the interdependence of computer
41400 Federal Register / Vol. 63, No. 149 /Tuesday, August 4, 1998 /Rules and Regulations

45 Item 101(c)(vii) of Regulation S–K sets forth the

circumstances under which identification of

material customers is required. 17 CFR

229.101(c)(vii).

46 If a system is replaced, as part of the

description of phase progress, a company should

disclose the date of replacement and the status of

testing for Year 2000 compliance with the new

system.

47For example, a company might disclose that it

stands ready to switch vendors, has back-up

systems that do not rely on computers, or has

stockpiled raw materials in the months before Year

2000. Contingency plans typically include:

identification of the companies’ systems and third

party risks that the plan addresses; an analysis of

strategies and available resources to restore

operations; and a recovery program that identifies

participants, processes, and any significant

equipment needed.

48 It is widely reported that some countries, and

organizations within those countries, are not

intensively acting to remediate their Year 2000

issues. See, e.g., ‘‘Governments Aid Companies in

Preparation,’’Journal of Commerce, Feb. 25, 1998,

page A4.

49 In November 1997, the FDIC issued Orders to

Cease and Desist against three Georgia banks

relating to Year 2000 readiness. See FDIC Press

Release, ‘‘Orders to Cease and Desist Issued Against

Georgia Banks,’’ PR–83–97 (11/17/97), <http://

www.fdic.gov/publish/archive/press/97 press/

pr9783.html>.

50Companies may retain experts or advisers to

evaluate their Year 2000 readiness. The retention of

experts and whether an evaluation has been

performed would be historical facts. Statements

made by the experts about the company’s readiness

likely would be statements ‘‘on behalf of the

company’’ about its future economic performance

and therefore entitled to protection under the

statutory safe harbors. Similarly, the company’s

disclosure of the expert’s evaluation is likely to be

an assumption regarding its own statement of future

economic performance and fall within the statutory

safe harbor.

systems today, the Year 2000 problem

presents a unique policy issue. For

example, if a major telecommunications

company discloses that it may have a

business interruption, this may require

many other companies to disclose that

they too may have a business

interruption, if material. Thus, each

company’s Year 2000 issues may affect

other companies’ disclosure obligations.

Companies should disclose the nature

and level of importance of these

material relationships, as well as the

status of assessing these third party

risks.45

(2) The Costs to Address the

Company’s Year 2000 Issues.

Companies must disclose material

historical and estimated costs of

remediation. This includes costs

directly related to fixing Year 2000

issues, such as modifying software and

hiring Year 2000 solution providers. In

most cases, the replacement cost of a

non-compliant IT system should be

disclosed as an estimated Year 2000

cost. This is so even if the company had

planned to replace the system and

merely accelerated the replacement

date.46 A company does not need to

include the replacement cost as a Year

2000 estimated cost if it did not

accelerate the replacement due to Year

2000 issues.

(3) The Risks of the Company’s Year

2000 Issues. Companies must include a

reasonable description of their most

reasonably likely worst case Year 2000

scenarios. The essence of MD&A is

whether the consequences of a known

event, trend, or uncertainty are likely to

have a material effect on the company’s

results of operations, liquidity, and

financial condition. If a company does

not know the answer, this uncertainty

must be disclosed, as well as the efforts

made to analyze the uncertainty and

how the company intends to handle this

uncertainty. For example, companies

must disclose estimated material lost

revenue due to Year 2000 issues, if

known.

(4) The Company’s Contingency

Plans. Companies must describe how

they are preparing to handle the most

reasonably likely worst case scenarios.

This information will help investors

evaluate the company’s Year 2000

exposure by answering the important

question—‘‘what will the company do if

it is not ready?’’ Under this category of

information, the company must describe

its contingency plans.47 We recognize

that describing contingency plans may

be particularly challenging. Many

companies have not yet established a

contingency plan. In this case, the

company should disclose that it does

not have a contingency plan, whether it

intends to create one, and the timetable

for doing so.

(5) Suggested Disclosure. We cannot

address the virtually unlimited number

of differing circumstances relating to

Year 2000 issues that may require a

company to provide disclosure. For

example, the departure of a senior

management member who heads the

company’s Year 2000 project may be

material for some companies but not all

companies. Some companies face

material Year 2000 risks outside the

United States.48 Software and hardware

manufacturers must address whether

their products will be Year 2000

compliant and may face potentially

greater litigation risks than companies

in other industries. Companies

regulated by other agencies, such as

financial institutions, may face formal

supervisory or enforcement actions

relating to Year 2000 issues that need to

be disclosed.49

Companies must be aware that

providing the minimum level of Year

2000 disclosure set forth in the four

categories of information above may not

be enough to meet their disclosure

obligations. Each company must

consider if its own Year 2000

circumstances require disclosure of

other matters. The following suggestions

are intended to help companies meet

their disclosure obligations. While each

of the suggestions may not be relevant

for each company, all companies should

consider them.

1. Disclose historical and estimated

costs related to their Year 2000 issues,

even if disclosure of the dollar amounts

is not required because these amounts

are not material.

2. As of the end of each reporting

period, disclose how much of the total

estimated Year 2000 project costs have

already been incurred.

3. Identify the source of funds for

Year 2000 costs, including the

percentage of the IT budget used for

remediation. This allows investors to

determine whether Year 2000 funds will

be deducted from the company’s

income.

4. Explain if other IT projects have

been deferred due to the Year 2000

efforts, and the effects of this delay on

financial condition and results of

operations.

5. Describe the use of any

independent verification and validation

processes to assure the reliability of

their risk and cost estimates. The use of

independent verification may be

particularly important in the testing

phase.50

6. Use a chart to provide Year 2000

disclosure. The chart may help investors

track a company’s progress over time, as

it is updated, and make peer

comparisons based on the same data. In

addition, a chart can reduce lengthy

Year 2000 disclosure that otherwise may

overwhelm other disclosure.

7. Include a breakdown of the costs,

such as disclosure of costs to repair

software problems, and costs to replace

problem systems and equipment.

B. Year 2000 Financial Statement

Considerations

Existing accounting and auditing

standards provide guidance concerning

the accounting and disclosure issues

arising from the Year 2000 problem.

Matters that companies and their

auditors should consider include the

following.

1. Accounting and Disclosure in

Financial Statements

Costs of Modifying Software. A

company’s need or plan to modify its

own software for Year 2000 compliance

does not result in a liability that is
Federal Register / Vol. 63, No. 149 /Tuesday, August 4, 1998 /Rules and Regulations 41401

51See Emerging Issues Task Force (‘‘EITF’’), Issue

No. 96–14, ‘‘Accounting for the Costs Associated

with Modifying Computer Software for the Year

2000,’’ which notes the remarks of our former Chief

Accountant, Michael Sutton, at the July 23–24, 1997

meeting of the EITF that future costs to modify

software for Year 2000 problems are not a currently

liability, and the staff would object to the accrual

of such costs.

52See FASB Statement No. 5, paragraph 18. See

also AICPA, Statement of Position 94–6,

‘‘Disclosure of Significant Risks and Uncertainties.’’

53See FASB Statement No. 5, paragraphs 24–26.

54See AICPA, Statement of Position 94–6,

‘‘Disclosure of Significant Risks and Uncertainties.’’

55This publication can be found on the AICPA

web site at <http://www.aicpa.org/members/y2000/

intro.htm>.

56See AICPA, Codification of Statements on

Auditing Standards, section (‘‘AU Section’’) 311,

‘‘Planning and Supervision.’’

57 In the 1998 Staff Report to Congress on Year

2000, our Office of Chief Accountant expressed this

view on page 49.

58See AU Section 9341, ‘‘Effect of the Year 2000

Issue on the Auditor’s Consideration of an Entity’s

Ability to Continue as a Going Concern.’’

59Form 8–K (17 CFR 249.308).

recognized in financial statements.

Instead, the costs of modifying the

software are charged to expense as they

are incurred.51

Costs of Failure to Be Year 2000

Compliant. Operating losses expected to

result if a company, its suppliers, or

customers fail to correct Year 2000

deficiencies are recognized only as they

are incurred.

Disclosure of Year 2000 Related

Commitments. Companies should

consider the need to disclose payments

to be made pursuant to unfulfilled or

executory contracts or commitments

with vendors to remediate Year 2000

noncompliance problems.52

Companies also should consider the

need to disclose the potential for

acceleration of debt payments due to

covenant defaults tied to Year 2000

readiness.

Revenue and Loss Recognition. Year

2000 issues may affect the timing of

revenue recognition in accordance with

AICPA Statement of Position 97–2,

Software Revenue Recognition. For

example, if a vendor licenses a product

that is not Year 2000 compliant and

commits to deliver a Year 2000

compliant version in the future, the

revenue from the transaction should be

allocated to the various elements—the

software and the upgrade. Entities also

should consider FASB Statement No.

48, Revenue Recognition When the Right

of Return Exists, relating to any product

return issues such as for products

containing hardware and software,

including whether the necessary

conditions have been met to recognize

revenue in the period of sale, whether

that revenue should be deferred, or

whether an allowance for sales return

should be provided.

Allowances for Loan Losses. The

credit quality of a loan may be affected

by the failure of a borrower’s operating

or other systems as a consequence of a

Year 2000 issue or a borrower’s failure

to comply with debt covenant terms

regarding Year 2000 issues. Creditors’

allowances for loan losses, however,

should be provided only for losses

incurred as of the balance sheet date,

and should not be based on the effects

of future events.

Losses from Breach of Contract.

Possible losses from asserted and

nonasserted claims of breach of contract

or warranty due to Year 2000

noncompliance must be disclosed in

notes to the financial statements, and

must be recognized as a liability if those

losses are probable and reasonably

estimable.53 For example, companies

selling products with an express or

implied warranty of Year 2000

compliance may have a potential

liability that must be evaluated at each

balance sheet date. Companies will be

required to disclose potential lawsuits

when there is at least a reasonable

possibility that a loss, or additional loss,

may be incurred even if the amount of

loss cannot be reasonably estimated.

Impairment of Assets. Certain

companies may need to consider if a

write-down of capitalized software may

be required in accordance with the

guidance of FASB Statement No. 86,

Accounting for the Costs of Computer

Software to Be Sold, Leased or

Otherwise Marketed. Also, Year 2000

compliance issues may indicate

impairment of long-lived assets that

contain hardware or software and

require application of the guidance in

FASB Statement No. 121, Accounting

for the Impairment of Long-Lived Assets

and for Long-Lived Assets to Be

Disposed Of. An adjustment to the

estimated useful lives of hardware or

internal use software may be

appropriate even if the assets are not

considered to be impaired. In addition,

companies should consider the

accounting for costs associated with

developing or obtaining computer

software for internal use, as discussed in

AICPA Statement of Position 98–1,

Accounting for the Costs of Computer

Software Developed or Obtained for

Internal Use.

Disclosure of Risks and Uncertainties.

A company must explain any risk or

uncertainty of a reasonably possible

change in its estimates in the near term

that would be material to the financial

statements. Examples of estimates that

may be affected by Year 2000 issues

include estimates of warranty liability,

reserves for product returns and

allowances, capitalized software costs,

inventory, litigation, and deferred

revenue.54

Additional guidance concerning

accounting and auditing issues related

to the Year 2000 issue is included in

The Year 2000 Issue—Current

Accounting and Auditing Guidance,

published by the AICPA on October 31,

1997.55

2. Auditor Responsibilities

Conducting the Audit. Existing

generally accepted auditing standards

provide guidance that would apply to

performing an audit involving Year

2000 issues. The AICPA publication,

The Year 2000 Issue—Current

Accounting and Auditing Guidance,

also addresses auditing issues related to

the Year 2000 issue. The auditor should

consider professional standards

concerning matters such as planning

and supervision of the audit, auditor

responsibilities for disclosures outside

the financial statements in filings made

with us, processing of transactions by

service organizations, and auditor

communications with the client,

management and audit committee.56

Although the term ‘‘may’’ is used

throughout the AICPA’s guidance,

perhaps suggesting that the guidance is

discretionary, we believe that the

procedures outlined by the AICPA

should be considered appropriate

practice at this time and we expect

companies and their auditors to comply

with that guidance. If they do not, they

should be prepared to justify why the

procedures were not followed.57

‘‘Going Concern’’ Issues. An auditor

must evaluate whether or not the

procedures performed during the course

of the audit identify conditions and

events that, in the aggregate, indicate

there could be substantial doubt about

the entity’s ability to continue as a going

concern. Year 2000 issues, either alone

or when considered in relation to other

conditions and events, may indicate

going concern issues about an entity.

The going concern issues may affect the

disclosures in the financial statements

and result in a modification of the

auditor’s report.58

Resignation of an Independent

Auditor. Item 4 of Form 8–K requires a

company to file a Form 8–K within 5

business days if its principal auditor

resigns.59 The company must disclose in

the Form 8–K any disagreements on

accounting or reportable events that

relate to Year 2000 issues. The company

must request the auditor to review its
41402 Federal Register / Vol. 63, No. 149 /Tuesday, August 4, 1998 /Rules and Regulations

60 Item 101 of Regulation S–K (17 CFR 229.101).

Item 101 of Regulation S–B (17 CFR 228.101) and

Item 1 of Form 20–F require similar disclosure. A

company may need to address Year 2000 issues

related to each reportable segment.

61 Item 103 of Regulations S–K (17 CFR 229.103)

and S–B (17 CFR 228.103), and Item 3 of Form 20–

F.

62 Instruction 1 to Item 103 of Regulation S–K,

and Item 3, of form 20–F.

63 Item 601(b)(10) of Regulations S–K (17 CFR

229.601(b)(10)) and S–B (17 CFR 228.601(b)(10)),

and Item 19 of Form 20–F.

64 Item 503(c) of Regulations S–K and S–B. This

item was amended in Securities Act Release No.

7497 (January 28, 1998) to require companies to

describe risk factors in plain English. 63 FR 6370

(Feb. 6, 1998). This amendment takes effect October

1, 1998.

65 Item 5 may be used by a company to report on

Form 8–K any events, for which information is not

otherwise required by the form, that the company

deems of importance to securityholders.

66 General Instruction B.4 of Form 8–K.

67Securities Act Rule 408 (17 CFR 230.408),

Exchange Rules 12b–20 (17 CFR 240.12b–20) and

14a–9 ( 17 CFR 240.14a–9). Companies also should

consider the anti-fraud provisions of the Securities

Act and the Exchange Act. These anti-fraud

requirements apply to statements and omissions

both in Commission filings and outside of

Commission filings. Securities Act Section 17(a),

Exchange Act Section 10(b), and Exchange Act Rule

10b–5. Companies also should consider potential

civil liabilities under Securities Act Sections 11 (15

U.S.C. 77k) and 12(a)(2) (15 U.S.C. 77l(a)(2)) and

Exchange Act Section 18 (15 U.S.C. 78r).

68 Investment Advisers Year 2000 Reports,

Release Nos. IA–1728 and IC–23293 (June 30, 1998),

63 FR 36632 (July 7, 1998), <http://www.sec.gov/

rules/proposed/ia–1728.htm>. Comments must be

received on or before August 10, 1998.

69Sections 206 (1) and (2) of the Investment

Advisers Act of 1940 (15 U.S.C. 80b–6 (1) and (2)).

See SEC v. Capital Gains Research Bureau, Inc., 375

U.S. 180 (1963).

70Section 34(b) of the Investment Company Act

of 1940 (15 U.S.C. 80a–33(b)).

71 In evaluating these risks, investment companies

should consider whether Year 2000 issues present

material risks for their investment portfolios as well

as for investment company operations. See, eg.,

disclosures and invite comment on their

completeness and accuracy.

C. General Guidance for Public

Companies’ Year 2000 Disclosure Under

Other Regulations

Other federal securities rules or

regulations may require disclosure

related to companies’ Year 2000 issues.

The following is a list of rules and

regulations that companies should

consider.

1. Description of Business 60

This item requires a description of the

general development of the business of

the company, its subsidiaries, and any

predecessors during the past five years

(or the period the company has been in

business, if shorter). Among other

things, this item requires a discussion

of:

—Any material changes in the mode of

conducting the business;

—The principal markets for the

company’s products and services;

—Competitive conditions in the

business; and

—Financial and narrative information

about the company’s industry

segments.

2. Legal Proceedings.61

A company must describe material

pending legal proceedings in which the

company or any of its subsidiaries is a

party, or to which its property is subject.

Generally, no information is required

regarding claims for damages unless the

amount involved exceeds ten percent of

the current assets of the company and

its subsidiaries on a consolidated basis.

However, it may be necessary to

describe routine litigation where the

claim differs from the usual type of

claim 62

3. Material Contracts 63

A company must file as an exhibit

certain contracts that are considered

material to its business. These contracts

include contracts upon which the

business is substantially dependent,

such as contracts with principal

customers and principal suppliers.

4. Risk Factors 64

Registration statements filed under

the Securities Act must include under

the caption ‘‘Risk Factors’’ a discussion

of the factors that make the offering

speculative or risky. This discussion

must be specific to the particular

company and its operations, and should

explain how the risk affects the

company and/or the securities being

offered. Generic or boilerplate

discussions do not tell investors how

the risk may affect their investment.

5. Form 8–K 65

Year 2000 issues may reach a level of

importance that prompts a company to

consider filing a Form 8–K under Item

5 of the form. In considering whether to

file a Form 8–K, companies should be

particularly mindful of the accuracy and

completeness of information in

registration statements filed under the

Securities Act that incorporate by

reference Exchange Act reports,

including Forms 8–K.66

6. Any Additional Material Information

Necessary to Make the Required

Disclosure Not Misleading

In addition to the information that the

company is specifically required to

disclose, the disclosure rules require

disclosure of any additional material

information necessary to make the

required disclosure not misleading.67

D. Guidance for Year 2000 Disclosure

for Investment Advisers and Investment

Companies

Because of the key role that

investment advisers and the investment

companies they manage play in the

financial markets, we believe that it is

important that investment advisers

provide detailed reports on their Year

2000 readiness to the Commission. In

June 1998, we published for comment a

proposed rule to require investment

adviser Year 2000 reports.68 Since these

reports will be publicly available, they

will help analysts and the public, as

well as the Commission, to evaluate the

progress of investment companies and

investment advisers in addressing the

Year 2000 issue. In addition to these

reports, investment companies and

investment advisers that conclude that

the Year 2000 issue is material to their

operating results and/or financial

condition are required to provide

disclosure in accordance with other

statutory provisions.

The anti-fraud provisions of the

Investment Advisers Act generally

impose on investment advisers an

affirmative duty, consistent with their

fiduciary obligation, to disclose to

clients or prospective clients material

facts concerning their advisory or

proposed advisory relationships.69 If the

failure to address the Year 2000 issue

could materially affect the advisory

service provided to clients, an adviser

that will not be able to, or is uncertain

about, its ability to address Year 2000

issues has an obligation to disclose that

information to its clients. The adviser

must provide the disclosure in a timely

manner so that the clients and

prospective clients may take steps to

protect their interests. In addition,

investment advisers that are public

companies have disclosure obligations

under the Securities Act and Exchange

Act and should follow our interpretive

guidance for public company disclosure

in Sections III. A, B, and C.

The Investment Company Act

provides that it is unlawful for

investment companies to omit from

registration statements and other public

filings ‘‘any fact necessary in order to

prevent the statements made therein, in

light of the circumstances under which

they were made, from being

misleading.’’ 70 If investment companies

determine that their Year 2000 risks are

material, they are required to discuss

such risks in their registration

statements and other public documents

and should follow the guidance

provided in this section. 71
Federal Register / Vol. 63, No. 149 /Tuesday, August 4, 1998 /Rules and Regulations 41403

Item 4 of Form N–1A (17 CFR 274.11A), and Item

8 of Form N–2 (17 CFR 274.11a–1).

72When assessing the Year 2000 readiness of an

external service provider that is a registered brokerdealer or transfer agent, the Year 2000 reports that

are required to be submitted to us by most brokerdealers and transfer agents are one source of

information.

73See e.g., Item 4 of Form N–1A (17 CFR

274.11A), Item 8 of Form N–2 (17 CFR 274.11a–1).

74See Municipal Securities Interpretive Release,

cited at note 6 above.

75Exchange Act Rule 15c2–12 (17 CFR 240.15c2–

12). 76See Municipal Securities Interpretive Release.

Whether Year 2000 issues are material

depends upon the particular facts and

circumstances for each investment

company. Consideration should be

given, for example, to whether Year

2000 issues affect an investment

company’s own operations, and its

ability to obtain and use services

provided by third parties, or its portfolio

investments. Investment companies

could face difficulties, among other

things, performing various functions

such as calculating net asset value,

redeeming shares, delivering account

statements and providing other

information to shareholders. Because

many investment company operations

are performed by external service

providers, we expect that investment

companies would, as a matter of course,

discuss Year 2000 issues with their

service providers and seek reasonable

assurance from these service providers

that they will address Year 2000 issues

so as to allow the continuation of the

provided services without interruption,

and consider carefully the responses

provided.72

Discussion of Year 2000 issues and

their effect on an investment company

may need to be made in response to

specific items of the registration forms

for investment companies. For example,

open-end investment companies

(mutual funds) are required by Item 6 of

Form N–1A to describe in their

prospectuses the experience of their

investment adviser and the services that

the adviser provides. In response to this

item, investment companies may need

to disclose the effect that the Year 2000

issue would have on their advisers’

ability to provide services described in

their registration statements. Item 7 of

that form requires funds to describe

their pricing procedures and purchase

and redemption procedures. Investment

companies should consider the effect of

Year 2000 issues on the effectiveness

and operation of these procedures.

Investment companies also may need to

consider the effect of the Year 2000

issue in discussing their investment

strategies and risks, and consider

whether their investment objectives or

policies need to be changed in light of

Year 2000 concerns. 73

Although those provisions are not

specifically applicable to investment

companies, investment companies

seeking further guidance in preparing

Year 2000 disclosure may find it helpful

to review the provisions of this release

applicable to other public companies

and their preparation of MD&A

disclosure. For example, investment

companies may find it appropriate to

include disclosure about the costs of

remedying their Year 2000 issues, any

liabilities associated with these

problems, or contingency plans to deal

with their disruptions that may occur

when Year 2000 issues are encountered.

Investment companies that conclude

that the Year 2000 is not material to

their financial operating results and/or

financial condition may nonetheless

choose to include Year 2000 disclosure

in periodic reports to shareholders or in

special reports to shareholders on Year

2000 matters. We encourage such

reporting, and consider that it is

particularly appropriate in cases in

which an investment company

concludes that the materiality of the

problem does not trigger a disclosure

obligation in a registration statement.

Finally, when providing Year 2000

disclosure, investment advisers and

investment companies should avoid

boilerplate disclosure that may not be

meaningful to shareholders.

E. Guidance for Year 2000 Disclosure

for Municipal Issuers

Generally, municipal securities

offerings are exempt from registration

and municipal securities issuers are

exempt from the reporting provisions of

the federal securities laws, including

line-item disclosure rules. However,

they are not exempt from the anti-fraud

provisions. Disclosure documents used

by municipal issuers are subject to the

prohibition against false or misleading

statements of material facts, including

the omission of material facts necessary

to make the statements made, in light of

the circumstances in which they are

made, not misleading.74

Issuers of municipal securities and

persons assisting in preparing

municipal issuer disclosures are

encouraged to consider whether such

disclosures should contain a discussion

of Year 2000 issues. Persons, including

‘‘obligated persons’’ as defined in Rule

15c2–12,75 who provide information for

use in disclosure documents or in

ongoing disclosure to the market, are

urged to consider their own Year 2000

issues. Year 2000 issues should be

considered in preparing all disclosure

documents, whether in the context of an

official statement, continuing disclosure

provided in compliance with a

disclosure covenant, or other

information that is reasonably expected

to reach investors and the trading

markets.76

Whether Year 2000 issues are material

depends upon the particular facts and

circumstances for each municipal

issuer. Consideration may be given, for

example, to whether Year 2000 issues

affect internal operations of an issuer or

affect an issuer’s ability to provide

services and meet its obligations,

including timely payment of its

indebtedness.

Because of the varieties of municipal

issuers and of municipal securities, the

examples provided below may or may

not apply to a particular issuer and an

issuer may be subject to facts and

circumstances requiring disclosure not

described below. Issuers and the

persons assisting in disclosure

preparation should give careful

consideration to Year 2000 issues

within the context of the facts and

circumstances applicable to the

disclosing issuer or the securities.

Examples of Potential Year 2000

Problems

For municipal issuers, Year 2000

issues may be divided into three

categories: Internal, External and

Mechanical. Internal Year 2000 issues

may arise from an issuer’s own

operations and materially affect its

creditworthiness and ability to make

timely payment of its obligations.

External Year 2000 issues may arise

from parties, other than an issuer, that

provide payments that support the debt

service on an issuer’s municipal

securities. Such payments may include,

for example, health care reimbursement

payments and payments under housing

and student loan programs, as well as

payments made by an obligated person

under a lease, loan or installment sale

agreement in a conduit financing.

Mechanical Year 2000 issues may

arise if Year 2000 problems disrupt the

actual mechanical process used to send

payments to bondholders. For example,

many municipal securities pay interest

semiannually on January 1 and July 1 of

each year, or have periodic sinking fund

installments due to an indenture trustee

or fiscal agent. Issuers may wish to

determine whether Year 2000 issues

affect their ability to identify and meet

such obligations in a timely manner and

to disclose any measures that will be

undertaken if an issuer determines it
41404 Federal Register / Vol. 63, No. 149 /Tuesday, August 4, 1998 /Rules and Regulations

77See also Proposed Governmental Accounting

Standards Board Technical Bulletin No. 98–a,

‘‘Disclosures about Year 2000 Resources

Committed,’’ July 24, 1998. It can be found at

<http://www.rutgers.edu/accounting/raw/gasb/

gasbhome.html>.

will not be able to meet such

obligations.

Issuers of general obligation debt may

wish to consider, for example, the

adverse effects, if any, Year 2000 issues

may pose to their ability to assess and

collect ad valorem taxes and allocate

receipts and disbursements to proper

funds in a timely manner to make debt

service payments when due. In

addition, while Year 2000 issues may

not directly affect an issuer’s ability to

pay debt service, they may affect an

issuer’s general accounting and payment

functions, which may be material to

investors.

Revenue bond issuers may wish to

consider, for example, any adverse

effects Year 2000 issues may have on

their ability to collect and administer

the revenue stream securing their bonds

and their ability to make timely

payment of principal and interest on

their obligations, as well as adverse

effects to general accounting and

payment functions, which may be

material to investors.

Conduit borrowers, such as hospitals,

universities and others, may wish to

consider, for example, any adverse

effects Year 2000 issues may have on

their ability to deliver services, collect

revenue and make timely payment on

their obligations, including the

obligation to pay debt service relating to

municipal securities, which may be

material to investors.

All issuers and conduit borrowers

also may wish to consider the impact of

Year 2000 problems facing third parties

on their own ability to satisfy their

responsibilities.

Other examples of suggested

disclosure for consideration include, but

are not limited to, the costs associated

with fixing an issuer’s Year 2000

problems, any loss associated with

fixing an issuer’s Year 2000 problems,

any loss an issuer may incur because of

Year 2000 problems, and any liabilities

associated with an issuer’s Year 2000

problems.

While not binding on issuers of

municipal securities, issuers and

persons assisting in preparing

municipal issuer disclosure seeking

further guidance may wish to review

Sections III.A, B, and C of this release

applicable to public companies.77 The

anti-fraud provisions of the federal

securities law prohibit materially false

and misleading statements or omissions,

including those relating to the Year

2000 issues we have discussed in this

release.

List of Subjects

17 CFR Parts 231, 241, and 276

Securities.

17 CFR Part 271

Investment companies, Securities.

Amendments to the Code of Federal

Regulations

For the reasons set forth in the

preamble, the Commission is amending

title 17, chapter II of the Code of Federal

Regulations as follows:

PART 231—INTERPRETATIVE

RELEASES RELATING TO THE

SECURITIES ACT OF 1933 AND

GENERAL RULES AND REGULATIONS

THEREUNDER

1. Part 231 is amended by adding

Release No. 33–7558 and the release

date of July 29, 1998, to the list of

interpretative releases.

PART 241—INTERPRETATIVE

RELEASES RELATING TO THE

SECURITIES EXCHANGE ACT OF 1934

AND GENERAL RULES AND

REGULATIONS THEREUNDER

2. Part 241 is amended by adding

Release No. 34–40277 and the release

date of July 29, 1998, to the list of

interpretative releases.

PART 271—INTERPRETATIVE

RELEASES RELATING TO THE

INVESTMENT COMPANY ACT OF 1940

AND GENERAL RULES AND

REGULATIONS THEREUNDER

3. Part 271 is amended by adding

Release No. IC–23366 and the release

date of July 29, 1998, to the list of

interpretative releases.

PART 276—INTERPRETATIVE

RELEASES RELATING TO THE

INVESTMENT ADVISERS ACT OF 1940

AND GENERAL RULES AND

REGULATIONS THEREUNDER

4. Part 276 is amended by adding

Release No. IA–1738 and the release

date of July 29, 1998, to the list of

interpretative releases.

Dated: July 29, 1998.

By the Commission.

Margaret H. McFarland,

Deputy Secretary.

[FR Doc. 98–20749 Filed 8–3–98; 8:45 am]

BILLING CODE 8010–01–U

SOCIAL SECURITY ADMINISTRATION

20 CFR Parts 404 and 416

[Regulations Nos. 4 and 16]

RIN 0960–AD73

Federal Old-Age, Survivors, and

Disability Insurance and Supplemental

Security Income for the Aged, Blind,

and Disabled; Standards of Conduct

for Claimant Representatives

AGENCY: Social Security Administration.

ACTION: Final rules.

SUMMARY: We are amending our rules

governing representation of claimants

seeking Social Security or supplemental

security income (SSI) benefits under

title II or XVI of the Social Security Act

(the Act), as amended. The final rules

establish standards of conduct and

responsibility for persons serving as

representatives and further define our

expectations regarding their obligations

to those they represent and to us. The

final rules include statutorily and

administratively imposed requirements

and prohibitions.

EFFECTIVE DATE: This regulation is

effective September 3, 1998.

FOR FURTHER INFORMATION CONTACT:

Robert J. Augustine, Legal Assistant,

Office of Process and Innovation

Management, Social Security

Administration, 6401 Security

Boulevard, Baltimore, MD 21235, (410)

966–5121. For information on eligibility

or claiming benefits, call our national

toll-free number, 1–800–772–1213.

SUPPLEMENTARY INFORMATION:

Background

Prior regulations governing

representatives’ conduct (§§ 404.1740, et

seq. and 416.1540, et seq.) under titles

II and XVI, of the Act, primarily

reiterate various statutory provisions set

forth in the Act. Sections 404.1745 and

416.1545 also provide that a

representative may be suspended or

disqualified from practice before the

Social Security Administration (SSA) if

he or she has violated those rules, been

convicted of a violation of sections 206

or 1631(d)(2) of the Act, respectively, or

‘‘otherwise refused to comply with our

rules and regulations on representing

claimants in dealings with us.’’ This is

consistent with sections 206(a)(1) and

1631(d)(2) of the Act, which provide

that the Commissioner of Social

Security (the Commissioner) may

‘‘suspend or prohibit from further

practice before him any such person,

agent, or attorney who refuses to comply

with the Commissioner’s rules and

regulations * * *’’ (Section 206(a)(1) is