Item 403: Ownership and Control Disclosures
Learn how SEC Item 403 provides crucial insight into a company's power structure and the underlying financial arrangements that affect shareholder interests.
Item 403 of Regulation S-K, a rule from the U.S. Securities and Exchange Commission (SEC), requires public companies to disclose specific information about their ownership structure. The purpose of this regulation is to provide investors with a clear view of who holds significant ownership stakes and voting power. This transparency allows shareholders to assess the concentration of control and understand influences that could affect corporate decisions. The information required is presented in a company’s annual proxy statement.
Security Ownership of Management and Principal Stockholders
The central component of Item 403 is the beneficial ownership table, a standardized chart that provides a snapshot of significant stock ownership. This table is a primary feature in a company’s annual proxy statement, filed with the SEC as Form DEF 14A, and is also included in the Annual Report on Form 10-K. Its columns present the name and address of the owner, the total shares they beneficially own, and the corresponding percentage of the company’s outstanding shares.
The SEC requires three specific groups to be included in this table. The first is each director and any nominee for a director position. The second includes each “Named Executive Officer” or NEO, which covers the CEO, CFO, and the three other most highly compensated executives. The final group is any person or group that the company knows to beneficially own more than five percent of any class of its voting securities.
Companies learn of these large shareholders through filings made by the investors themselves on SEC Schedules 13D or 13G. Following rule changes effective in late 2024, investors filing on Schedule 13G must file an update within 45 days after a calendar quarter ends, but only if there has been a material change to their holdings. This means companies may use the most recently filed Schedule 13G from a shareholder for their disclosures, unless the company has reason to believe the information is inaccurate.
A key concept in this disclosure is the SEC’s definition of “beneficial ownership,” which extends beyond simply holding stock in one’s own name. A person is considered a beneficial owner if they have or share either voting power or investment power over the securities. Voting power is the ability to vote the shares at shareholder meetings, while investment power is the authority to dispose of, or sell, the shares. This definition means an executive must report shares held by a spouse or in a trust if they can influence voting or sale decisions.
The table also includes shares that an individual has the right to acquire within 60 days, for instance, through the exercise of stock options. This requirement ensures that the disclosure reflects not just current ownership but also potential near-term ownership that could impact control. The details behind these numbers are often explained in footnotes to the table. These notes clarify the nature of the ownership, distinguishing between shares owned directly, shares where ownership is shared with a family member, or shares held through a trust or other entity.
Disclosure of Pledged Securities
Item 403(b) requires the disclosure of company stock that directors and Named Executive Officers (NEOs) have pledged as collateral for personal loans. Pledging occurs when an individual uses their shares as security to obtain financing, such as a margin loan. This information is disclosed as a footnote to the beneficial ownership table, specifying the number of shares pledged by each director and NEO. The rule also covers “negative pledges,” where an executive promises a lender not to sell or transfer shares without permission.
The reason for this disclosure is the potential risk it creates for shareholders. If the company’s stock price were to decline significantly, a lender could issue a “margin call,” demanding the borrower provide more collateral or repay a portion of the loan. If the executive cannot meet this call, the lender has the right to sell the pledged shares on the open market.
Such a forced sale can exert downward pressure on the stock’s price, negatively impacting the value of other shareholders’ investments. The disclosure requirement provides investors with transparency into this risk. It alerts them to the possibility of a large, sudden influx of shares into the market that is unrelated to the company’s performance.
Disclosure of Change in Control Arrangements
Item 403(c) requires companies to describe any known contracts or arrangements that could result in a change in control of the company at a future date. This disclosure is not about current ownership but about agreements that could shift corporate power based on a future event. The purpose is to ensure shareholders are aware of potential changes to management or strategic direction not apparent from the ownership table.
These arrangements can take various forms. A common example is a shareholder voting agreement, where multiple shareholders agree to vote their shares in unison on specific matters. Another instance could be a provision within a major financing agreement that might grant the lender the right to approve changes to the board of directors if the company violates certain financial covenants.
The rule also covers pledges of securities by any person if the operation of that pledge could lead to a change in control. For example, if a founding shareholder who owns a controlling stake pledges those shares for a loan, a default could lead to the lender taking control of that stake and the company. This disclosure ensures that investors have a more complete picture of the forces that could influence the company’s future.