Tuesday, October 31, 2023
Over the summer, friend-of-the-BLPB Bernie Sharfman posted a draft paper to SSRN that was the subject of a short colloquy between us. The paper, The Ascertainable Standards that Define the Boundaries of the SEC's Rulemaking Authority, asserts, among other things, that materiality is one of three "ascertainable policy standards that Congress has placed in the Acts to guide the SEC’s rulemaking discretion." The reasoning?
- "[T]here are multiple references to materiality in the Acts."
- The SEC's 1972 annual report avers that "[a] basic purpose of the Federal securities laws is to provide disclosure of material financial and other information on companies seeking to raise capital through the public offering of their securities, as well as companies whose securities are already publicly held."
- "As observed by Professor Ruth Jebe, it is fair to say that materiality 'constitutes the primary framing mechanism for financial reporting.'"
Bernie acknowledges that "there is no explicit statutory language in the Acts that forbids the SEC from promulgating rules requiring non-material disclosures." I might add that nothing in either the Securities Act of 1933, as amended ("1933 Act"), or the Securities Exchange Act of 1934, as amended ("1934 Act"), explicitly limits the SEC's rulemaking authority to rules qualified by materiality.
Since the U.S. Congress knew to use materiality to qualify some disclosure, enforcement, and other responsibilities under the 1933 Act and the 1934 Act and not others, it easily could have provided an express constraint on the SEC's overall rulemaking authority in that regard. Arguably, since Congress did not qualify all of the disclosure mandates in the 1933 Act or 1934 Act by materiality, SEC rulemaking that introduces a materiality qualification may be subject to unfavorable scrutiny. (Congress could then take the view that, if it had meant to restrict the statutory disclosure or other mandates to only those items that are material, it would have said so.) Yet, overall, Congress has delegated relatively broad authority to the SEC to engage in rule making that serves the investor protection, market integrity maintenance, and capital formation policies underlying the various provisions of the 1933 Act and the 1934 Act.
For example, Schedule A to the 1933 Act sets forth the initial disclosure mandates provided for by Congress for registration statements. See §7(a)(1) of the 1933 Act. Congress then notes that the SEC "may by rules or regulations provide that any such information or document need not be included in respect of any class of issuers or securities if it finds that the requirement of such information or document is inapplicable to such class and that disclosure fully adequate for the protection of investors is otherwise required to be included within the registration statement." Id. The disclosure requirements for registration statements are now executed primarily through registration forms adopted by the SEC under the 1933 Act. In both Schedule A and in the forms of registration statement adopted by the SEC under the 1933 Act, disclosures were or are required that are not expressly qualified by materiality. In fact, few of the mandatory disclosures in Schedule A are limited only to supplying material information. The same is true for the initial disclosure mandates applicable to 1934 Act registration statements. See § 12(b) of the 1934 Act.
There's more I could say, but I will leave it there for now. As you might guess from the above, I am skeptical, at best, about the argument that materiality is a required constraint on SEC rule making. I consider Congress's words and actions to be most important in this matter (absent any issues identified under the U.S Constitution). Your thoughts on the asserted materiality constraint are welcomed.