The SEC adopted Rule 10b5-1 in 2000 to define the parameters of when company insiders could be subject to liability for insider trading. Rule 10b5-1(c)(1) provides an affirmative defense from insider trading liability for corporate insiders and companies to buy and sell company securities pursuant to trading plans, as long as they adopt their trading plans in good faith and while not in possession of material nonpublic information. These arrangements typically involve periodic sales or purchases pursuant to a schedule determined at the outset of the plan, sometimes combined with giving a third party (generally a broker) sole discretionary authority with respect to certain aspects of the trades.
Proposed New Conditions to the Availability of the Rule 10b5-1(c)(1) Affirmative Defense to Insider Trading Liability
The SEC proposed adding several new conditions to the availability of the affirmative defense to insider trading liability under Rule 10b5-1(c)(1) to help address articulated concerns about potential abuse.
- Cooling-off periods. Rule 10b5-1(c)(1) does not currently impose any waiting period between the adoption (or modification) of a trading plan and the execution of the first trade. The proposed rules would impose cooling-off periods to separate the adoption (or modification) of a trading plan from the actual trades.
- Rule 10b5-1 trading arrangements entered in by a director of officer (as defined in Rule 16a-1(f)) would be subject to a 120-day cooling-off period after adoption or modification before any trading could commence.
- Rule 10b5-1 trading arrangements entered in by issuers would be subject to a 30-day cooling-off period after adoption or modification before any trading could commence.
The SEC explained that the rationale for the length of the 120-day cooling-off period is so no trading could occur under a Rule 10b5-1 plan adopted during a particular quarter until after that quarter’s financial results are announced. While cooling-off periods have been utilized by many companies as a careful compliance policy, a required waiting period of 120 days, if adopted, would represent a significant shift from current market practice.
Finally, the proposing release includes a note explaining that a modification of an existing trading plan, including cancelling a trade, would be treated the same as terminating a prior plan and adopting a new plan.
- Director and officer certifications. Directors and officers would be required to furnish to the issuer at the time of adopting or modifying a trading plan a written certification of their personal determination that they are not aware of material nonpublic information about the issuer or its securities and are adopting the plan in good faith and not as part of a plan or scheme to evade the prohibitions of Section 10(b) or Rule 10b-5. Under the proposed rules, no certification would be required in connection with the termination of a Rule 10b5-1 trading plan.
An instruction to the proposed amendment would require a director or officer to retain a copy of the certification for 10 years, which is consistent with the statute of limitations governing SEC insider trading actions.
- Prohibition on overlapping trading plans. The affirmative defense would not be available for multiple overlapping Rule 10b5-1 trading arrangements for open market purchases or sales of the same class of securities. This portion of the proposal is meant to address concerns that an insider with the ability to enter into multiple plans under the current regime could pick and choose which plan(s) to cancel and which trades to execute based on material nonpublic information.
This proposed amendment would not apply to transactions where a person acquires (or sells) securities directly from the issuer (e.g., through participation in an employee stock ownership plan (ESOP) or dividend reinvestment plan (DRIP)) that are not executed by the director or officer on the open market.
- Limitation on single-trade trading plans. The proposed rules would allow insiders to adopt only one Rule 10b5-1 trading arrangement to execute a single trade per 12-month period.
- Good faith operation of trading plans. The proposed rules would expand the existing condition that Rule 10b5-1 trading plans must be entered into in good faith to add that they must also be operated in good faith. This proposed addition is intended to deter fraudulent or manipulative behavior by insiders, including in decisions to cancel or modify plans or by influencing the timing of corporate disclosure.
Proposed Enhanced Issuer Disclosures Regarding Rule 10b5-1 Trading Plans and Insider Trading Policies and Procedures
Issuers are currently not required to disclose any use of Rule 10b5-1 trading plans or other trading arrangements by the issuer or its insiders. They also are currently not required to disclose any insider trading policies or procedures.
Proposed new Item 408 of Regulation S-K (and corresponding amendments to Forms 10-Q and 10-K) would require:
- quarterly disclosure of the use of Rule 10b5-1 and other non-Rule 10b5-1 trading arrangements by an issuer and its directors or officers for trading the issuer’s securities
- annual disclosure of an issuer’s insider trading policies and procedures3
Proposed new Item 408(a) would require an issuer to disclose quarterly on Form 10-Q and Form 10-K if, during the last fiscal quarter, the issuer or any director or officer adopted or terminated any contract, instruction or written plan to purchase or sell securities of the issuer, whether or not intended to satisfy the affirmative defense conditions of Rule 10b5-1(c). An issuer would also have to describe the material terms of the arrangement including the name and title of the director or officer (if applicable); date of adoption of termination; duration of the arrangement; and aggregate amount (or number, in the case of a plan entered into by a director or officer) of securities to be sold or purchased pursuant to the arrangement.
Proposed new Item 408(b) would require an issuer to disclose in its Form 10-K (or Form 20-F) and proxy statement whether or not it has adopted insider trading policies and procedures that govern the purchase, sale or other dispositions of the issuer’s securities by directors, officers and employees (or the issuer itself) that are reasonably designed to promote compliance with insider trading laws and disclose any such policies themselves. If the issuer has not adopted such policies, the issuer must explain why it has not done so.
Although not prescriptive, the proposing release advises that investors may find disclosure regarding the following topics useful, to the extent they are addressed in the policies:
- information on the issuer’s process for analyzing whether directors, officers, employees or the issuer itself (when conducting an open-market share repurchase) have material nonpublic information
- the issuer’s process for documenting such analyses and approving requests to purchase or sell its securities
- how the issuer enforces compliance with its insider trading policies and procedures
As proposed, the new Item 408 disclosures would be required to be tagged in Inline XBRL - structured data format to allow investors and other market participants to more easily extract and compare the data. They would also be subject to executive certifications required by Section 302 of the Sarbanes-Oxley Act.
Proposed Enhanced Disclosures Regarding the Timing of Option Grants
The proposing release expresses concern that the current compensation disclosure rules do not shed sufficient light on an issuer’s policies and practices with respect to granting equity compensation awards such as stock options and stock appreciation rights (SARs) close in time to an issuer’s disclosure of material nonpublic information. The compensation-related tables in proxy statements do not currently require issuers to separately identify option grants that are spring-loaded (timed to occur immediately before the release of positive material nonpublic information) or bullet-dodging (delayed until after the release of negative material nonpublic information).
The SEC proposed adding a new paragraph (x) to Item 402 of Regulation S-K that would require a new table setting forth details about each option award granted within 14 calendar days before or after the filing of a periodic report, an issuer share repurchase or the filing of furnishing of a Form 8-K that discloses material nonpublic information (e.g., earnings information). The proposed table would include the grant date, the number of securities underlying the award, the exercise price, the grant date fair value and the market value of the underlying securities on the trading day before and after the relevant release of material nonpublic information.
Proposed Item 402(x) would also require narrative disclosure about company policies and practices with respect to spring-loaded or bullet-dodging option grants, including how the board determines when to grant options and whether, and if so, how, the board or compensation committee takes material nonpublic information into account when determining the timing and terms of an award. The proposing release suggests that the proposed narrative disclosure could appear in the CD&A.
The proposed new Item 402(x) disclosures would be required to be tagged in Inline XBRL, and there would not be an exemption from the proposed disclosure requirements for smaller reporting companies or emerging growth companies.
Proposed Enhancements to Section 16 Reporting Requirements
Section 16(a) of the Exchange Act currently provides that directors, officers and greater-than-10% holders must file with the SEC an initial report disclosing beneficial ownership of the issuer’s securities and subsequent reports on Form 4 or 5 to disclose changes in their beneficial ownership. Most acquisitions and dispositions of issuer equity securities must be reported on a Form 4 by the end of the second business day after execution of the transaction. Certain transactions not required to be reported on Form 4 may instead be reported annually on Form 5 within 45 days after the issuer’s fiscal year end (e.g., by February 14th for companies with a fiscal year that tracks the calendar year).
The proposed rules would add a new mandatory checkbox to both Forms 4 and 5 where directors and officers subject to Section 16 reporting would be required to indicate whether the transaction reported on the form was made pursuant to a Rule 10b5-1 trading plan. If so, they would be required to provide the date of adoption of the plan and would have the option to provide additional relevant information about the reported transaction. The SEC is also proposing to add a second, optional checkbox to Forms 4 and 5 where a Section 16 filer could indicate whether a reported transaction was made pursuant to a non-Rule 10b5-1 trading arrangement.
The proposed rules would also require Section 16 insiders to disclose bona fide gifts of securities on a Form 4 within two business days after the gift is made. This would mark a significant change from current market practice regarding the timing of reporting gifts.
The proposed amendments would significantly alter the landscape for Rule 10b5-1 plan practices and disclosures, particularly the proposed imposition of lengthy cooling-off periods. Companies may wish to discuss the proposed rules with their boards and their officers who are responsible for the company’s Rule 10b5-1 plans and insider trading policies and procedures, in order to begin considering the processes and disclosures that would be necessary to comply with the proposed rules in the event the SEC adopts them.4
Companies may also consider submitting comments on the proposed rules as requested by the SEC. The proposing release sets forth dozens of particular requests for comment including (1) whether the proposed cooling-off periods are the right length, (2) whether it is appropriate to impose a cooling-off period on issuers, (3) whether single-trade plans should be prohibited outright and (4) whether stock gifts should be subject to the more timely Form 4 filing requirement, as proposed. The SEC will accept comments on the proposed rules for 45 days after their publication in the Federal Register.
“Rule 10b5-1 and Insider Trading,” Release No. 33-11013 (Dec. 15, 2021), www.sec.gov/rules/proposed/2021/33-11013-fact-sheet.pdf
; Fact Sheet: Rule 10b5-1 and Insider Trading: Proposed Rules
(Dec. 15, 2021), www.sec.gov/rules/proposed/2021/33-11013-fact-sheet.pdf
. Also see SEC Chair Gary Gensler, Statement on 10b5-1 and Insider Trading (Dec. 15, 2021), www.sec.gov/news/statement/gensler-10b5-20211215?utm_medium=email&utm_source=govdelivery
See SEC Commissioner Hester M. Peirce, Statement on Rule 10b5-1 and Insider Trading Proposing Release (Dec. 15, 2021), www.sec.gov/news/statement/peirce-10b5-20211215?utm_medium=email&utm_source=govdelivery
, and SEC Commissioner Elad L. Roisman, Statement on the Proposed Rules Regarding 10b5-1 Plans (Dec. 15, 2021), www.sec.gov/news/statement/roisman-10b5-1-20211215?utm_medium=email&utm_source=govdelivery
Proposed new Item 16J of Form 20-F would require annual disclosure of a foreign private issuer’s insider trading policies and procedures.
Also on December 15, 2021, the SEC approved a rule proposal that would significantly increase the frequency and level of detail required in disclosures about share repurchases. We have summarized those proposed rules in a separate Sidley Update available here
. When taken together, the proposed rules may require substantial restructuring of future shareholder repurchase plans or programs.