Over the past few years, forwardlooking information has become an increasingly important part of financial reporting.
Forward-looking information is probably most evident in the management's discussion and analysis (MD&A) that is included with any SEC filing containing a financial statement. In MD&A, companies discuss information currently known to management that could materially impact key trends embodied in the company's financial statements. Clearly, this requirement calls upon management to make forwardlooking projections. Additionally, the SEC's expanded disclosure requirements calling for increased quantitative and qualitative information about market risk (Item 7A of an annual 10-K filing or Item 3A of a quarterly 10-Q filing) call for companies to include forward-looking information about their market-risk sensitive financial instruments and derivatives.
Because the U.S. market is a litigious environment, companies have been reluctant to provide forward-looking information beyond the minimum required by securities laws. Consequently, investors do not always have access to important information known to management that could impact investors' and creditors' decisions.
To address the legal liability concerns of companies and their auditors, Congress (overriding a presidential veto) enacted the Private Securities Litigation Reform Act of 1995 (the Reform Act). The Reform Act came about for two reasons. First, it was a reaction to the increase in so-called strike suits: vexatious, often meritless, class action lawsuits filed in response to a drop in a stock's value and alleging that some disclosure (or failure to make disclosure) by an issuer of the security was either false or misleading. Defendants in these suits frequently include the issuers' auditors.
To address these types of abuses, the Reform Act includes procedural and substantive provisions aimed at discouraging strike suits and, for those suits that are filed, disposing of them quickly and inexpensively at an early stage in the litigation (in particular, the ability to have suits dismissed on summary judgment prior to discovery).
The second objective of the Reform Act was to promote disclosure to the investing public by issuers of securities. This was to be accomplished by in-immunizing certain types of predictive statements made by issuers. The argument was that if certain "safe harbors" were provided to management, then management could be expected to provide more of the forwardlooking information that interests investors.
The Safe Harbor
The Reform Act's most significant component, referred to as the safe harbor, protects that subset of soft information known as "forward-looking statements." Forward-looking statements include
future management plans and objectives statements of future economic performance, including certain statements required in SEC filings
any statement of assumptions that are key to understanding these types of statements.
Because these types of statements are inherently predictive, they can be particularly vulnerable to "Monday-morning quarterbacking" or the so-called fraud-by-hindsight lawsuits that have plagued issuers, underwriters, and accountants alike.
To immunize companies against these types of lawsuits, issuers disclosing forward-looking information are relieved of legal liability when
a disclosure is identified as forwardlooking and is accompanied by "meaningful cautionary statements identifying important factors that could cause actual results to differ materially from those in the forward-looking statement";
a forward-looking statement is deemed to be "immaterial"; or
a forward-looking statement is material but either not specifically identified as forward-looking or not accompanied by the required cautionary statements, and the plaintiff is unable to prove …