In other breaking news that many may have missed, Orbitz Worldwide, Inc. recently reported in its most recent 10-Q that a handful of employees of a Hilton-branded hotel were paid wages via direct deposit into bank accounts maintained with Bank Melli. The obvious question is why is Orbitz reporting on seemingly immaterial activities of a third party private hotel company in its public filings? The answer is because the Iran Threat Reduction and Syria Human Rights Act of 2012 (ITRA) now requires it.
The ITRA recently added new Iran-related disclosure requirements for public reporting companies under new Section 13(r) of the Securities Exchange Act of 1934, which became effective for SEC periodic reports due on or after February 6, 2013. Among other things, public companies are required to disclose in their periodic reports whether they knowingly engaged in (or any of their affiliates knowingly engaged in) certain “Iran-related activities, ” which generally include dealings involving:
- the Iranian government;
- entities owned or controlled by the Iranian government;
- persons designated on the OFAC Specially Designated Nationals (SDN) list as representatives of the Iranian government;
- persons and entities identified on the SDN list as supporters of terrorism or proliferators of weapons of mass destruction;
- financial institutions that facilitated a transaction for any person or on the SDN list whose property is blocked in connection with certain terrorist-related activities; or
- Iranian oil resources.
At first glance, many reporting companies may believe that the new requirements of Section 13(r) would be inapplicable to their business and operations. However, a significant number of public companies are taking a conservative approach with their Iran-related disclosures and are reporting almost anything that is potentially covered by the ITRA. The reason for this conservatism is likely due to two key aspects of the ITRA requirements.
First, Section 13(r) requires reporting of activity of both the issuer and its affiliates. The term “affiliate” is broadly defined in Rule 12b-2 as “a person that directly, or indirectly through one or more intermediaries, controls or is controlled by, or is under common control with, the person specified.” Typically “control” is determined based on a facts and circumstances analysis after the consideration of factors including significant ownership of voting securities (potentially as little as 10%), the existence of voting agreements or whether the entities in question have common directors or executive officers. The absence of a bright-line test is somewhat problematic.
The second reason is that there is no materiality threshold in Section 13(r). The means that any reportable transaction, no matter how small or immaterial, triggers the disclosure requirement.
As a result, many companies have taken a conservative approach in reporting Iran-related activities in their recent periodic filings. Returning to the earlier example, Orbitz is controlled by The Blackstone Group, a publicly traded private equity partnership, which in turn controls Hilton. As a result, Orbitz and Hilton are affiliates under the SEC rules because both are under common control of The Blackstone Group. Furthermore, because Bank Melli, one of Iran’s largest commercial banks, is an entity identified on the SDN Blocked Persons List, the direct deposits into Bank Melli accounts by Hilton an affiliate of Orbitz, were Iran-related activities that were required to be reported by Orbitz.
The ITRA reporting requirements for public reporting companies is another example of the growth of social disclosure requirements. We continue to believe that these types of disclosures are of little value to investors and are an attempt to dissuade certain activities through public disclosure obligations (which we have previously blogged about in prior posts regarding political contribution disclosures and conflict mineral disclosures). While the goals of such social disclosure requirements may be laudable, I believe that periodic reports should be more focused on material information related to business operations and financial condition. With some annual reports already approaching the 400 page mark (e.g., AIG), investors have enough information to digest without having to parse through what might be perceived as information immaterial to their investment decision-making.
As recommended in a blog post by Larry Sonsini on the Harvard Law School Forum on Corporate Governance and Financial Regulation Blog, public companies should continue to take the following actions to help ensure compliance with ITRA disclosure requirements:
- Review their activities and the activities of their affiliates to determine whether there has been any knowing conduct involving Iran by any such parties that must be disclosed under the Act;
- Update their disclosure controls and procedures for quarterly and annual reports to ensure that any such knowing conduct in the future is identified and properly disclosed in connection with the preparation of such reports; and
- Review and update their regulatory and compliance programs to ensure compliance with other aspects of the Act.