The Netflix Billion Hour Nasty-Gram: Time for SEC to Catch Up With Social Media?
Netflix CEO Reed Hastings, not a stranger to controversy, is in hot water with the Securities and Exchange Commission (SEC). The brouhaha dates back to this summer, when Hastings announced on the company’s blog and Facebook that Netflix’s customers had used the company’s DVD and streaming video services for one billion hours in June.
In the past such news would have been announced in a press release; and as a public company, Netflix’s lawyers would have advised the company to tuck that information within an SEC Form 8-K. Material events that can have an impact on a company’s stock price must be disclosed in an 8-K within four business days of that event–examples such as a CEO’s disclosure, bankruptcies or business decisions that can have a price on the stock price, but cannot wait until the company’s regularly scheduled annual or quarter reports (10-K or 10-Q for U.S.-based companies), are among the reasons why companies must submit these disclosures via the SEC’s online EDGAR system.
Well, last week, Hastings announced to his 240,000 subscribers that the SEC sent a nasty-gram, or “Wells Notice,” indicating that the SEC has recommended that the regulatory agency begin civil action against the company for violating Regulation FD. Concurrently, Netflix responded to the notice with an immediate 8-K.
So did Netflix and Hastings violate U.S. securities law, or is this a case of a government regulatory agency applying arcane rules to how we communicate corporate governance issues and financial disclosures in the 21st century?
The SEC imposed Regulation FD (“Regulation Fair Disclosure,” or “Reg FD”) in 2000 to end what some complained was selective disclosure, i.e., the practice of large institutional investors receiving material information about a company’s performance before smaller organizations and of course, individual investors. Thanks to Reg D, all publicly held companies must release such disclosures to everyone at the same time. In part because of Reg D, all public companies have an investor relations page that anyone can access; and quarterly and annual earnings conference calls, for the most part, are available publicly to anyone interested.
According to the SEC, Hastings violated Regulation FD by announcing a very material event: that billion hour milestone. Despite Hastings’ huge following on Facebook, which includes bloggers and journalists, the fact remains that investors expect such information articulated in an 8-K–and the SEC promulgates such regulations to ensure that such disclosures are consistent.
Hastings’ sniffed at the Wells Notice, and insisted that the billion hour comment was not material investor information. But considering that the company’s stock rose 20 percent between his initial announcement on July 2 and July 5, that claim is dubious. And while social media channels are effective ways to communicate with customers and stakeholders, most companies are very careful about what they communicate on Facebook and Twitter–and most of that information is only news that plunks the company in a positive light. Investor relations (IR) pages that list a company’s SEC filings provide all information, in real time, that is material to a company’s performance. As Douglas Park, a corporate attorney based in Palo Alto, explains:
“Investors expect material information to be disclosed on an 8-K. Once they have to go fishing though social media, the nature of the search changes drastically. That reporters and bloggers follow the Netflix page does not seem sufficient to meet the standard of being ‘public.’”
Critics of the SEC will point to the perceived pettiness over this complaint compared to the agency’s past blunders monitoring companies including Enron, MCI Worldcom, Tyco, Adelphia and of course, Bernie Madoff’s scheme. And therein lies a gray area for the SEC’s regulators to sort out. If Reg FD is to ensure fair and public disclosure of a company’s material information, while companies as well as their executives increasingly turn to social media as a means of communication, the SEC will have to figure out some sort of compromise. On one hand, there are plenty of keen and savvy investors who, even in this day and age, “don’t have a Twitter.” Others still have no idea what an 8-K is.
Corporate governance expert Marcy Murninghan had this to say about the SEC’s dilemma:
“As usual, laws and regulations FOLLOW social innovations and cultural change; by design, they’re reactive and often out of date when there’s a lot of change happening in a short time, which is what we’ve got now. It’s like chasing a greased pig: you end up in the mud once you catch him.”
It has long been clear that social media sites such as LinkedIn are not the place to search for investors to sink money into a company; and for now Facebook and Twitter are not the place to disclose material information about a company. Mary Beth Quirk of The Consumerist also reminds us that followers are not necessarily investors. In the meantime, watch for the SEC to struggle reconciling the realities of social media with Reg FD requirements.
Image credit: Wikipedia (coolcaesar)