Excluding an Acquisition from Management's Evaluation 1139

  • I understand that there is an option to exclude a newly acquired business from the control evaluation under 404. Can anyone provide an example of a company that has exercised this option? I am interested in what the management report would look like.

  • I’ve heard the same thing, and I am looking for more information about acquisitions under SOX. I work for a healthcare company that regularly acquires hospitals. It takes some time to get the hospitals under our controls and following our procedures, so I didn’t know if anyone had any advice they could share regarding a grace period between the time a company/hospital is acquired and the time it is considered in scope. Any info on acquisitions would be helpful. Thanks.

  • I am not 110% sure, but I think they can give you a postponed deadline for newly acquired businesses before they have to be compliant, but I think they’re talking about 1 year, maybe 2 tops.

  • From the SEC FAQ -
    How should current-year acquisitions
    and divestments be treated?
    As for current-year acquisitions, the SEC staff’s frequently asked questions indicated they would typically expect management’s report on ICOFR to include controls at all consolidated entities. The SEC staff acknowledged that it might not be possible to conduct an assessment of an acquired business’s ICOFR in the period between the transaction consummation date and the date of management’s assessment. In these instances, the SEC staff indicated they would not object to management excluding from its evaluation of ICOFR business acquisitions for a period
    not to exceed one year from the date of acquisition. In these instances, the SEC staff indicated that management should refer to (1) a discussion in the registrant’s Form 10-K or Form 10-KSB regarding the scope of the
    assessment and (2) such disclosure, noting that management excluded the acquired business from management’s report on ICOFR. If such a reference is made, however, management must identify the acquired
    business that was excluded and indicate the significance of the acquired business to the company’s consolidated financial statements.
    The SEC staff indicated that notwithstanding management’s exclusion of an acquired business’s internal controls from its annual assessment, a company must disclose any material change to its internal control over
    financial reporting that is due to the acquisition pursuant to either Exchange Act Rule 13a-15(d) or Exchange Act Rule 15d-15(d). In addition, the period in which management may omit an assessment of an acquired business’s internal control over financial reporting from its assessment of the company’s internal control may not extend beyond one
    year from the date of acquisition. Such assessments also may not be omitted from more than one annual management report on internal control over financial reporting. There is currently no guidance from the SEC or PCAOB that specifically addresses how management should treat divestments for the purposes of section 404. However, management’s
    assessment of the effectiveness of the company’s ICOFR is as of the end of the company’s most recent fiscal year. Therefore, to the extent a company divests part of its operations prior to the end of the most recent
    fiscal year, internal controls over financial reporting at the divested peration would be excluded from management’s assessment for purposes of section 404 of Sarbanes-Oxley. If management chooses to exclude a business unit from documentation and testing due to the business unit’s planned divestiture, management should be certain that the divestiture will take place prior to the company’s fiscal year-end. Otherwise, the processes and controls for that business unit should be documented, tested, and included in management’s assessment as of the the company’s fiscal year-end.

  • Can you provide a link to this information? I would like to directly quote the SEC in my memo about acquisitions. Thanks.

  • The SEC’s FAQ is:
    ‘Management’s Report on Internal Control Over Financial Reporting and Certification of Disclosure in Exchange Act Periodic Reports’
    Frequently Asked Questions (revised October 6, 2004)
    Goto ‘Question 3’

  • Here is the latest update. The wording has changed slightly, but still the same guidance -
    sec.gov/info/accountants/controlfaq.htm’ Updated 9/24/07
    See Question #3
    Remove the quotes and paste the link in your browser.

  • Thanks for the updated link, Mike.

  • THANKS. I needed the original quote for my memo. You just saved me.

  • What about disclosure controls and procedures (i.e. 302)?

  • What about disclosure controls and procedures (i.e. 302)?
    Can you be more specific with your question?

  • The FAQs on the SEC website link provided above seem to refer specifically to changes in internal control over financial reporting. The 302 certification also refers to evaulation of disclosure controls and procedures. Do you interpret the SEC quidance to refer to both the evaulation of disclosure controls and procedures and changes in internal control over financial reporting?

  • I think that they are specific to 404, unless otherwise noted.

  • Thanks for the link anyway. I’ve got what I really needed 🙂

  • What are the consequences of closing on an acquisition just prior to a quarter end? What disclosure would be required in the 10-Q if there were not enough time to evaluate controls at the new acquisition?

  • Closing on an acquisition just prior to quarter end should not have much impact at all on the income statement. The primary impact would be on the balance sheet and cash flow as far as how the acquired entity is included in the financial statements. There should be controls around the consolidation of the purchase price and how it is reflected in the financial statements.
    Controls at the acquired entity are not important at this point since it should have minimal income statement impact on the consolidated financial statements at that level.

  • I agree with your point, however, (and sorry to belabor this but…) If it was a material acquisition, would the CEO / CFO certs still have to mention the fact that their certification excluded controls at the new acquisition? Seems like that would be prudent…

  • Issuers typically disclose the name and the significance as a percentage of sales and total assets compared to the consolidated financial statements in the annual report on form 10-K or the quarterly report on form 10-Q.%0AYou can check out the disclosure in item 15 (controls and procedures) of Alcon’s annual report on form 20-F (it is a foreign private issuer) that was filed on March 18, 2008 and the form 20-F that was filed on March 19, 2007 in EDGAR on sec.gov. See also Novartis January 31, 2007 and January 30, 2006.%0Ae.g. ‘Management has excluded Chiron Corporation and NeuTec Pharma plc, from its assessment of internal control over financial reporting as of December 31, 2006 because they were acquired by the Novartis Group in business combinations during 2006. Total assets and total revenues of Chiron Corporation, and NeuTec Pharma plc, represent approximately 16%, or USD10.9 billion and 4%, or USD1.6 billion, respectively, of the related consolidated financial statement amounts as of, and for the year ended, December 31, 2006.’

  • Do you know of any examples of language used in item 4 of Form 10-Q to disclose the exclusion of an acquired entity for the grace period?

  • I want to understand what would be the reporting impact of an acquired business entity’s control failure on over all reporting of consolidated entity. The grace period of 1 year has already been completed. And the control environment of that entity is concluded as not effective, the entity holds 5% stake in the overall revenue of total group. Please suggest if that would impact the overall conclusion of entity.

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