When an issuer gets a “Wells Notice,” it must ask itself two questions. The first is “what’s my lawyer’s phone number?” After all, getting a Wells Notice—a note from the SEC warning the recipient that it may bring charges for securities violations, and giving the company in question a chance to respond—means that the recipient should prepare for a detailed investigation. The next is “what must we disclose to investors, and when?”
Three recent examples are instructive. Under Armour, S&P Global and Bausch Health all received Wells Notices in 2020. And all of them decided to rip the band-aid right off, disclosing their Wells Notices soon after getting them.
That result is not necessarily required by our securities laws. An oft-cited federal court decision from 2012, Richman vs. Goldman Sachs, says that the mere receipt of a Wells Notice does not trigger an obligation to disclose it. Only when an investigation “matures to the point where litigation is apparent and substantially certain to occur” do companies have to disclose them. The securities laws require disclosure: (1) when an affirmative duty to disclose arises under applicable rules or regulations; or (2) when failing to disclose it would render other disclosure misleading.
If that leaves too much wiggle room for your taste, the SEC regulation on disclosure of legal proceedings (Reg S-K, Item 103) reduces things to a math problem. Item 103 generally requires companies to disclose legal proceedings (whether pending or merely contemplated). It defines material proceedings as ones in which the amount involved exceeds 10% of the company’s consolidated current assets.
But there’s no need to get out the calculator if an issuer doesn’t want to. There’s nothing to stop them from just getting ahead of the news and spilling it early, and there are plenty of practical reasons to do so, including avoiding the fallout if and when shareholders learn of the government investigation at a later date.
For their own reasons, each of our three Wells Notice recipients chose to make quick disclosure.
Bausch was the first to reveal and settle its issues, via a $45 million settlement to resolve claims that it improperly categorized some revenue and misled shareholders about the impact of a large price increase on a single drug. The company disclosed the receipt of a Wells Notice in its first quarter 10-Q, noting that it “continues to cooperate with the SEC in this matter, has responded to the Wells Notice and continues to engage in settlement discussions with the staff.” In its latest 10-Q filed last week, Bausch acknowledged the $45 million settlement (noting that it “neither admitted nor denied the SEC’s allegations”).
Under Armour, which received a Wells Notice related to disclosure in 2015 and 2016 around shifting sales between fiscal quarters, first disclosed the investigative demand in an 8-K filed July 22, stating that it would take advantage of the opportunity to “respond to the SEC Staff’s position, and also . . . to engage in a dialogue with the SEC Staff to work toward a resolution of this matter.” In its 10-Q filed last week, the company again disclosed the Wells Notice, without elaborating on the likelihood of a settlement with the SEC.
Meanwhile, in late July, S&P Global disclosed in a 10-Q that “Indices, a joint venture with CME Group . . . received a ‘Wells Notice’ . . . [alleging] violations of federal securities laws with respect to the absence of disclosure of a quality assurance mechanism and the impact of that mechanism on certain volatility related index values published on one business day in 2018.”
Each of the above issuers preferred to disclose its receipt of a Wells Notice rather than keeping it under wraps. Apparently, the immediate hits to their stock prices didn’t outweigh the potential harm (and possible lawsuits) that would stem from a failure to notify investors of imminent legal action.