Legal Alert

SEC Proposes Changes Relating to Rule 10b5-1 Trading Plans and Disclosure Requirements

by Gerald J. Guarcini, April Hamlin, Brian D. Short, and Aron Mozes
December 30, 2021

Summary

For the past 20 years, publicly-traded companies have employed 10b5-1 trading plans that allow company insiders to trade the company’s stock even while in possession of material nonpublic information. The Securities and Exchange Commission (SEC) recently issued a proposal that would require heightened disclosure for Rule 10b5-1 trading plans and a more stringent interpretation of Rule 10b5-1(c) that would preclude using a Rule 10b5-1 plan as a defense in many situations. The SEC also released a proposal for a new disclosure requirement relating to options granted to corporate insiders before or after the release of material nonpublic information.

The Upshot

  • Under the proposal, any 10b5-1 trading plan would subject directors and executive officers to a 120-day cooling-off period from the establishment of the plan and the commencement of any trading; issuers would be subject to a 30-day cooling-off period.
  • The proposed amendments would eliminate the affirmative defense under Rule 10b5-1(c) for multiple or overlapping trading plans, and single-trade plans would be limited to just one single-trade plan in any 12-month period.
  • The rule proposals also seek to add amend Items 408(a) and (b) of Regulation S-K to require companies to disclose the adoption and termination of Rule 10b5-1 plans, and the existence of a company’s insider trading policies.
  • Proposed new Item 402(x) of Regulation S-K would require new annual disclosure regarding option awards made to a director or officer within a certain time proximity of the release of material nonpublic information.

The Bottom Line

The proposed amendments would impose new restrictions on trading in conjunction with Rule 10b5-1 trading plans for corporate insiders, restrict affirmative defenses under Rule 10b5-1(c), and increase the disclosure requirements for these types of plans for both individuals and companies. In addition, the SEC’s proposed new Item 402(x) will require annual disclosure of options granted to corporate insiders before or after the release of material nonpublic information.

Given these additional restrictions on Rule 10b5-1 trading plans, required disclosure and written certifications, the SEC’s opportunities for enforcement of insider trading violations would be significantly enhanced. We recommend companies review existing Rule 10b5-1 plans and insider trading policies in preparation for the SEC’s adoption of some form of these rules, and consider adopting a uniform equity grant policy in order to establish governance controls to limit equity awards in close proximity to the release of material non-public information.

On December 15, 2021, the Securities and Exchange Commission (SEC) proposed amendments to Rule 10b5-1 to “enhance disclosure requirements and investor protections against insider trading.” The proposed amendments seek to update the requirements for an affirmative defense to insider trading under Rule 10b5-1(c), impose on officers and directors a 120-day cooling-off period before trading may commence under a Rule 10b5-1 plan, prohibit overlapping Rule 10b5-1 trading plans, and limit single-trade Rule 10b5-1 plans to one trading plan for every 12-month period. In addition, the proposed rules require directors and officers to furnish written certifications that they are not aware of any material nonpublic information when they enter into Rule 10b5-1 plans and expand the existing good faith requirement for trading under 10b5-1 plans.

Rule 10b5-1 trading plans permit corporate insiders to buy and sell a company’s securities if they are in the possession of material nonpublic information, as long as they establish trading plans that adhere to Rule 10b5-1(c). Under existing Rule 10b5-1, a trading plan must be established in good faith and the insider cannot be in possession of any material nonpublic information at the time such plan is established. The SEC’s proposed amendments to the rules follow on the heels of courts, commentators, and Congress expressing concern that the affirmative defense under Rule 10b5-1(c)(1)(i) has allowed corporate insiders to take advantage of liability protections to trade securities on the basis of material nonpublic information.

Cooling-off Periods

The proposed amendments first seek to require 10b5-1 trading plans entered into by directors or executive officers to include a 120-day mandatory cooling-off period (with a 30-day cooling-off period for issuers), before any trading can commence under any Rule 10b5-1(c)(1) trading arrangement—including any modified trading arrangement. The SEC’s rationale behind implementing the extended cooling-off period is to deter insiders from seeking to capitalize on unreleased material nonpublic information for an upcoming quarter.

Certifications

The SEC proposes to amend Rule 10b5-1(c)(1)(ii) and require directors and officers to certify during the adoption of a Rule 10b5-1 trading arrangement that they are not aware of material nonpublic information and they adopt the trading plan in good faith. The proposed certification would not have to be filed with the SEC, nor would it be an “independent basis of liability” for directors or officers under Section 10(b). Rather, the proposed certification is a means to underscore the importance of the certifiers’ awareness of his or her responsibilities under the rule and the federal securities laws.

Limit on Overlapping and Single Trade Plans

The SEC has proposed restricting multiple overlapping Rule 10b5-1 trading arrangements and single-trade arrangements in order to prevent an individual from circumventing the proposed cooling-off period by setting up multiple overlapping Rule 10b5-1 trading arrangements, and deciding later which trades to execute and which to cancel after they become aware of material nonpublic information, but before it is publicly released. The proposed rules would eliminate multiple overlapping trading arrangements and limit the availability of the 10b5-1(c) affirmative defense to a trading arrangement designed to cover a single trade for any 12-month period.

Disclosures

Under current rules, issuers are not required to disclose the trading arrangements, or any termination or modification to the arrangements, by directors, officers, or the issuer itself when conducting a share buyback. The proposed rule, amending Item 408(a) of Regulation S-K, would require registrants to disclose quarterly whether the registrant had adopted or terminated any agreement to buy or sell securities of the registrant, provide the material terms of the agreement, and identify how it will satisfy the affirmative defense conditions of 10b5-1(c). These proposed requirements would also apply to a registrant’s directors and officers. The SEC proposes that these potential new disclosures appear in a company’s Form 10-Q and Form 10-K.

Concurrently, the proposed amendment to Regulation S-K 408(b) would require an issuer to disclose in its Form 10-K and proxy and information statements on Schedules 14A and 14C whether or not the issuer has adopted insider trading policies governing the purchase or sale of the registrant’s securities by directors, officers, and employees. Such disclosures also would be subject to the principal executive officer and principal financial officer certifications required under Section 302 of the Sarbanes-Oxley Act.

Moreover, as a response to concerns over whether Rule 10b5-1 trading arrangements are being used to engage in opportunistic insider trading, the SEC proposes to add a Rule 10b5-1(c) box as a mandatory disclosure requirement on Forms 4 and 5. The box would require a Form 4 or 5 filer to indicate whether a sale or purchase reported on that form was made pursuant to a Rule 10b5-1(c) trading arrangement. In addition, filers would be required to provide the date of adoption of the Rule 10b5-1 trading arrangement.

In addition, the SEC is proposing amendments that would require a registrant to disclose an option award made to a director or officer within a certain proximity of the release of material nonpublic information, such as an earnings announcement. Under the current executive compensation disclosure rules, compensation-related equity interests (including options and restricted stock) are required to be presented in a tabular format and accompanied by appropriate narrative disclosure. The proposed new Item 402(x) of Regulation S-K would require the tabular disclosure of option awards that are granted within 14 days before or after the filing of a periodic report, an issuer share repurchase, or the filing of a Form 8-K.

Finally, the proposed amendments would require that gifts of securities to insiders be disclosed on a Form 4 within two business days after the gift is made, rather than 45 days after the issuer’s fiscal year end, as is currently required under Form 5.

The proposed rules are subject to a 45-day comment period.

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