SEC Staff Issues Guidance
on European Sovereign Debt Exposures

January 9, 2012

The SEC Corporate Finance staff has issued CF Disclosure Guidance: Topic No. 4 to address its concerns about financial institutions' disparate disclosures related to their direct and indirect exposure to European sovereign bank holdings.   As it did with its Cybersecurity Disclosure Guidance, the staff is using this new form of guidance in a manner similar to the former "Dear CFO" letters, in an effort to improve disclosures proactively in certain areas.  In this instance, the staff is seeking to assist both U.S. and non-U.S. financial institution registrants in their assessment of what information about direct and indirect exposures to European sovereign debt they should consider disclosing and how they should disclose this information. 

Countries covered.  The staff declined to specify the countries covered by its guidance.  Instead, the staff states that registrants should focus on those countries experiencing significant economic, fiscal and/or political strains such that the likelihood of default would be higher than would be anticipated when such factors do not exist.  The staff requests the disclosure be sufficiently flexible to capture those risks as they change over time and encourages registrants to disclose the basis used for identifying the countries included in this disclosure.

Recent Comments.  The guidance notes that staff has recently issued comments asking for enhanced disclosures for investors relating to European sovereign debt exposures.  For each country, the staff in its comments has requested that registrants disclose:

  • Gross sovereign, financial institutions, and non-financial corporations’ exposure, separately by country;
  • quantified disclosure explaining how gross exposures are hedged; and
  • a discussion of the circumstances under which losses may not be covered by purchased credit protection.

Relevant disclosure requirements.  The guidance cites the MD&A, risk factor and Industry Guide 3 (Guide 3) disclosure requirements that may call for enhanced disclosure of European sovereign debt exposures.   Not surprisingly, the guidance points to the MD&A requirement to disclose "known trends or uncertainties" and cautions against boilerplate. 

The staff also notes that Guide 3 calls for (a) the identification of cross-border outstandings to borrowers in each foreign country where the exposures exceed 1% of total assets and (b) for disclosure where “current conditions in a foreign country give rise to liquidity problems which are expected to have a material impact on the timely repayment of principal or interest on the country’s private or public sector debt,” including tabular disclosure of changes in outstandings, and in some cases tabular disclosure of restructured outstandings.

Suggested Disclosures.  The guidance specifically requests that registrants consider providing:

  • disclosures separately by country, segregated between sovereign and non-sovereign exposures, and by financial statement category, to arrive at gross funded exposure, as appropriate;
  • separate disclosure of the gross unfunded commitments made; and
  • information regarding hedges in order to present an amount of net funded exposure.

The guidance includes an outline of areas of disclosure which the staff believes may be relevant and appropriate based on the particular facts of each registrant, which the staff encourages registrants to consider.

As the amount and materiality of an issuer's sovereign debt exposure may be subject to significant fluctuation, especially as a result of political and market developments, we recommend that Guide 3 and other disclosure regarding sovereign debt exposure be accompanied by appropriate cautionary language to reflect the changing nature of such exposure (such as by highlighting uncertainties in the MD&A, risk factors or forward looking statement cautionary language).

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