News
April 1, 2021

SEC Issues Holding Foreign Companies Accountable Act Interim Rules

Advisory

On March 18, 2021, the SEC adopted interim final amendments to implement the Congressionally-mandated disclosure and submission requirements of the Holding Foreign Companies Accountable Act (HFCA Act). Enacted on December 18, 2020, the HFCA Act reflects Congressional concern that securities were trading in US markets on the basis of audit reports issued by registered public accounting firms with offices for which local authorities prohibited complete inspection by the Public Company Accounting Oversight Board (PCAOB), particularly in the People's Republic of China.

The amendments will apply to registrants that the SEC identifies as having filed an annual report with an audit report issued by a registered public accounting firm with an office or branch that is located in a foreign jurisdiction and that PCAOB is unable to inspect or investigate completely because of a position taken by an authority in that jurisdiction. The amendments require the submission by such registrants that are not owned or controlled by a foreign governmental entity in such jurisdiction of documentation to the SEC establishing that such a registrant is not so owned or controlled, and, in the case of foreign issuers, also require specified disclosure in the annual report regarding the audit arrangements of, and governmental influence on, such registrants. The HFCA Act requires the SEC to issue rules within 90 days of enactment to establish the manner and form in which registrants must comply with the documentation submission requirement, and the interim final amendments were issued to comply with this deadline.

The interim final amendments are effective 30 days after publication in the Federal Register (with comments due on the same date), however, no action by a registrant will be required until it has been identified by the SEC as having a "non-inspection year" pursuant to a process that has not yet been established by the SEC. The SEC is also assessing how best to implement other requirements of the HFCA Act not subject to the 90-day deadline, including the trading prohibition requirement described below.

HFCA

Section 2 of the HFCA Act requires the SEC to identify each "covered issuer" (an issuer required to file reports under Section 13 or 15(d) of the Exchange Act) that has retained a registered public accounting firm to issue an audit report where that registered public accounting firm has a branch or office that: (i) is located in a foreign jurisdiction; and (ii) the PCAOB has determined that it is unable to inspect or investigate completely because of a position taken by an authority in the foreign jurisdiction. Once a PCAOB process to make such determinations has been established, the SEC will use the PCAOB's determination about which firms it is unable to inspect or investigate completely, along with information in a registrant's annual reports, to identify and compile a list of such covered issuers (Commission-Identified Issuers). Specified Commission-Identified Issuers will be required to submit documentation to the SEC as described below. In addition, Section 2 of the HFCA Act directs the SEC to prohibit trading of the securities of a registrant that is determined to be a Commission-Identified Issuer for three consecutive years. Commission-Identified Issuers that are foreign issuers, as defined in Exchange Act Rule 3b-4 (Commission-Identified Foreign Issuers), are subject to additional specified disclosure requirements under Section 3 of the HFCA Act.

Commission-Identified Foreign Issuer Disclosure Requirement

A Commission-Identified Foreign Issuer will be required to provide the following disclosure in its annual report for the year that the SEC so identifies the issuer: (i) that, for the immediately preceding annual financial statement period, a registered public accounting firm that the PCAOB was unable to inspect or investigate completely, because of a position taken by an authority in the foreign jurisdiction, issued an audit report for the issuer; (ii) the percentage of the shares of the issuer owned by governmental entities in the foreign jurisdiction in which the issuer is incorporated or otherwise organized; (iii) whether governmental entities in the applicable foreign jurisdiction with respect to that registered public accounting firm have a controlling financial interest with respect to the issuer; (iv) the name of each official of the Chinese Communist Party (CCP) who is a member of the board of directors of the issuer or the operating entity with respect to the issuer; and (v) whether the articles of incorporation of the issuer (or equivalent organizing document) contains any charter of the CCP, including the text of any such charter. The SEC is amending Form 10-K, Form 20-F, Form 40-F, and Form N-CSR to reflect these disclosure requirements. While the disclosures apply to all foreign companies, the references to the CCP make clear that the primary objective of the requirements is to remedy the problem of the PCAOB's inability to inspect audits of Chinese companies.

The disclosure will be required for each year in which the registrant is a Commission-Identified Issuer. Because the period covered by the forms looks back at the prior year, a Commission-Identified Foreign Issuer that was identified in the prior year will be required to provide the HFCA Act Section 3 disclosure in its annual report for the year in which it was identified, even if the registrant's subsequent filing includes an audit report issued by a registered public accounting firm that the PCAOB is able to inspect or investigate completely.

Submission Requirement

A registrant that is a Commission-Identified Issuer that is not owned or controlled by a governmental entity in the described foreign jurisdiction will be required to electronically submit documentation to the SEC on a supplemental basis (through EDGAR) that establishes that the registrant is not so owned or controlled. Such submissions will be made on or before the due date of the relevant annual report form. The submission requirements do not apply to a registrant that is owned or controlled by a foreign governmental entity.1 As an initial matter, registrants will have flexibility under the interim final amendments to determine how best to satisfy this requirement. However, the SEC is requesting comment as to whether it should require specific types of documentation or whether additional guidance would be necessary or useful.

Timing

Any year in which the SEC has identified a registrant as having retained a registered public accounting firm meeting the criteria described above for the audit report on its financial statements in its most recent annual report made under the Exchange Act will be deemed a non-inspection year. The submission requirement and the disclosure requirements, if applicable, would then be required for the annual report covering such non-inspection year.2

A registrant will not be subject to a non-inspection year determination for any fiscal year ending on or prior to December 31, 2020, and will not have to provide either the HFCA Act's Section 3 disclosure or the Section 2 submission for those years. For fiscal years beginning after December 31, 2020, and once the PCAOB has made its determination pursuant to the HFCA Act, the SEC will identify registrants based on the PCAOB's determination and on registrants' annual reports. The SEC will issue appropriate notice once it has established the process by which it will begin to identify registrants pursuant to the HFCA Act. Once identified, a registrant will be required to provide the HFCA Act disclosure in its annual report for each non-inspection year, i.e., the report covering the fiscal year in which the registrant was included in the list of Commission-Identified Issuers.

Requests for Comment

The SEC is requesting comments on all aspects of the interim final amendments (including the identification process, and implementation of the disclosure and submission requirements), other matters that might have an impact on the amendments, and any suggestions for further revisions.

© Arnold & Porter Kaye Scholer LLP 2021 All Rights Reserved. This Advisory is intended to be a general summary of the law and does not constitute legal advice. You should consult with counsel to determine applicable legal requirements in a specific fact situation.

  1. However, as described above, Commission-Identified Foreign Issuers are required to make certain disclosures about their foreign affiliations and ownership by governmental entities pursuant to the requirements of Section 3 of the HFCA Act.

  2.  For example, if a registrant is identified based on its Form 10-K filing made in 2022 for the fiscal year ended December 31, 2021 as being a Commission-Identified Issuer, then 2022 would be deemed a non-inspection year. Such registrant would be required to comply with the submission and, if applicable, the disclosure requirements in its Form 10-K filing covering the fiscal year ended December 31, 2022, which is required to be filed in 2023.

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