I have long advocated for greater disclosure of information on intangible assets in company financial reports. Specifically, the MD&A (Management Discussion and Analysis) section of SEC-required financial statements should require more qualitative disclosure of intangibles. This would allow for more information on intangibles while sidestepping the difficult problem of assigning a financial value to the asset.
Earlier this year, the SEC took a major step forward in that direction by finalizing a rule amending Regulation S-K to require disclosure of information on a company’s human capital. [It should be noted that this new rule, which took effect November 9, makes a number of changes beyond disclosure of human capital.]
The rule takes a principles-based approach to disclosure rather than a prescriptive approach. This means that the requirement is for general disclosure of material information rather than requiring specific types of information. The rule requires a “description of the registrant’s human capital resources, including the number of persons employed by the registrant, and any human capital measures or objectives that the registrant focuses on in managing the business (such as, depending on the nature of the registrant’s business and workforce, measures or objectives that address the development, attraction and retention of personnel).”
The key point is that whatever human capital metrics or other information the company uses to manage must be disclosed.
While this may sound vague, the new rules won’t operate in a vacuum. For example, as one commentator points out, there are already International Standards Organization (ISO) recommendations for human capital metrics, such a development and training costs, and turnover rates. Not surprisingly, accounting/consulting firms (such as PWC) also have approaches to help companies decide what and how to disclose.
Some argue that the SEC should have gone farther to require more disclosure on Environmental, Social, and Governance (ESG) issues. It should be noted that the two Democratic members of the SEC voted against the new rule because the changes didn’t go far enough – in both the scope of the ESG items covered and the lack of any prescriptive requirements. This may foreshadow additional action by the SEC in this area, especially given the incoming Biden Administration. I suspect, however, the SEC will want to see how the new requirements actually work before making any changes. I also suspect, however, that this is just the beginning of additional disclosures in company’s MD&A filings.