Little Reforms Have Big Implications at SEC

The Director of the Securities and Exchange Commission’s 21st Century Disclosure Initiative, Dr. Bill Lutz, was on the Marquette University campus May 4.  He was kind enough to give an update on the Initiative over lunch to a group of faculty from the Law School and the College of Business Administration.  Dr. Lutz is an interesting choice to lead the SEC’s effort to reconceptualize the manner in which the agency collects, analyzes, and disseminates financial information.  He is Professor of English emeritus at Rutgers University, and one rarely thinks of the words “English language” and Form 10-K in the same breath.

The 21st Century Disclosure Initiative finished its Report in January 2009.  You can read the Report here:  The recommendations in the Report are both modest and potentially revolutionary.  Today the SEC continues to operate under the same system of preparing and filing specific disclosure documents such as annual reports and quarterly reports that was instituted in 1934.  In the 1990s, the Commission adopted EDGAR, a system for filing and viewing each individual report electronically.  However, the “document centric” format remains and anyone searching for specific items of company data today on EDGAR still has to typically scroll through hundreds of pages to find what they are looking for.

The Report by the Initiative proposes the adoption of company-specific databases for each company required to file reports with the SEC. 

Each database would contain all of the information about that company using XBRL (eXtensible Business Reporting Language) tags attached to each specific item of data.  The use of tags will allow users to search for specific data contained in a filing (i.e., earnings per share) without having to scroll through lots of text.  The use of tags will also allow for quick comparative searches across different companies.  All of this can be implemented using readily available computer software that has been used in private industry for years.  In some respects, therefore, this is a fairly modest reform that should be easy to enact, assuming that budgetary constraints and the demands of other agency priorities don’t get in the way.

What could be revolutionary about the Initiative, however, is that it lays the groundwork for the SEC to undergo a metamorphosis.  Instead of a paper tiger that has to pick and choose its enforcement priorities, the SEC could become a much more proactive and efficient market regulator.  The existence of a constantly updated searchable database will allow the Commission to apply forensic algorithms to company data in order to flag questionable financial disclosures.  It will allow the Commission to audit many more filings than is currently possible.  It will also allow the Commission to aggregate comparable data across multiple companies in order to identify areas of systemic risk in the markets.  In other words, by changing the way in which the SEC collects and manages financial information, the Initiative could actually give the Commission the technological tools that it needs to deter financial fraud and abuse before it happens, rather than being limited to its traditional role of cleaning up after the fraud has already occurred.

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