On December 14, 2022, the Securities and Exchange Commission ("SEC") adopted amendments to Rule 10b5-1 under the Securities and Exchange Act of 1934, as amended (the "Exchange Act").1 Plans adopted pursuant to Rule 10b5-1 provide company insiders with an affirmative defense to insider trading liability if they meet certain conditions set forth in SEC rules. Specifically, the affirmative defense provides that trading will not be considered to be made on the basis of material nonpublic information ("MNPI") if the person can demonstrate that the trade was made pursuant to a binding contract or written plan for the trading of securities adopted at a time that the person was not aware of any MNPI.
The amendments to Rule 10b5-1 add new conditions for the availability of the affirmative defense designed to address what the SEC views as the potential for corporate insiders to unfairly exploit informational asymmetries when trading in company securities. The amendments and their compliance dates are summarized below.
|Five new conditions to the availability of the affirmative defense under Rule 10b5-1(c)(1):
(i) mandatory cooling off-periods, (ii) restricting multiple overlapping plans, (iii) restricting single-trade arrangements, (iv) director and officer certifications, and (v) good faith condition.
|February 27, 2023|
Creation of new disclosure requirements regarding:
All non-smaller-reporting domestic companies and foreign private issuers ("FPIs"): First filing (i.e., Form 10-Q, Form 10-K, proxy statement or information statement, Form 20-F) that covers the first full fiscal period that begins on or after April 1, 2023.
Smaller reporting companies (domestic): First filing (i.e., Form 10-Q, Form 10-K, proxy statement or information statement) that covers the first full fiscal period that begins on or after October 1, 2023.
|Updates to Forms 4 and 5 to require filers to identify transactions made pursuant to a plan that is intended to satisfy the affirmative defense conditions of Rule 10b5-1(c).||Filings made on or after April 1, 2023.|
|All bona fide gifts of securities must be reported on Form 4 within 2 business days.||February 27, 2023|
New Conditions to the Availability of the Affirmative Defense under Rule 10b5-1(c)(1)
1. Mandatory Cooling-Off Periods
- For directors and Section 16 officers3, a cooling-off period is required before any trading can commence under a Rule 10b5-1 plan until the later of: (1) 90 days after the adoption of the Rule 10b5-1 plan; or (2) two business days following the disclosure in a periodic report of the issuer's financial results for the fiscal quarter in which the plan was adopted (but not to exceed 120 days following plan adoption).4
- For persons other than an issuer, director or Section 16 officer, a 30 day cooling-off period is required between the plan’s adoption and commencement of trading under the plan.
The SEC noted that the purpose of the cooling-off period is to provide a separation in time between the adoption of the plan and the commencement of trading under the plan so as to minimize the ability of an insider to benefit from any MNPI.
Importantly, the SEC declined to adopt a cooling-off period for issuers, as was initially proposed, as the SEC is "continuing to consider whether regulatory action is needed to mitigate any risk of investor harm from the misuse of Rule 10b5-1 plans by the issuer, such as in the share repurchase context."
Under the new rules, an amendment to an existing Rule 10b5-1 plan is considered a termination of the old plan and the adoption of a new plan and therefore triggers a cooling-off period of the same duration. An amendment includes a modification to the amount, price or timing of the purchase or sale of the securities or a modification to a written formula/algorithm that affects the amount, price or timing of the purchase or sale of the securities.5
Current requirement: None. However, in practice, many issuers already impose a cooling-off period, typically 30 days or more from entry into the plan or until the opening of the next trading window under the issuer’s insider trading policy.
2. Restricting Multiple Overlapping Rule 10b5-1 Trading Arrangements
New requirement. Persons, other than issuers, may not have another outstanding (and may not subsequently enter into any additional) contract, instruction or plan that would qualify for the affirmative defense under the amended Rule 10b5-1 for transactions in any class of securities of the issuer on the open market during the same period. This is intended, in part, to prevent use of overlapping plans for hedging purposes. This restriction does not apply to:
- two separate Rule 10b5-1 plans maintained at the same time, so long as one of them only authorizes qualified sell-to-cover transactions (i.e., "the plan authorizes an agent to sell only such securities as are necessary to satisfy tax withholding obligations incident to the vesting of a compensatory award" (emphasis added)).6
- a series of separate Rule 10b5-1 plans with different broker-dealers or other agents acting on behalf of the person to execute trades of securities held in separate accounts, provided that the contracts with each broker-dealer or other agent, when taken together as a whole, meet all of the applicable conditions of Rule 10b5-1(c)(1).7
- two separate Rule 10b5-1 plans maintained at the same time, so long as trading under the later-commencing plan is not authorized to begin until after all trades under the earlier-commencing plan are completed or expire without execution.8 As noted in the release, this third exception preserves "the ability of insiders to set up two successive plans for open-market trading."
Significantly, for this third exemption, the SEC added an important limitation: For purposes of the cooling off period, the date of adoption of the later-commencing plan is deemed to be the date of termination of the earlier-commencing plan. Therefore, the "effective cooling off period" of the later-commencing plan would not begin until the earlier plan terminates, and there could be at least a 90-day period during which a director or officer would not be able to trade using either successive 10b5-1 plan. We note that the language in new Rule 10b5-1(c)(ii)(D)(2) indicates that this additional "effective cooling off period" could apply to all types of earlier plan terminations – i.e., whether or not the earlier plan is terminated early or expires on its own terms. However, there is indication that the Staff is receiving questions on this aspect of the release and may issue additional clarification on this point, including clarification as to whether the additional “effective cooling off period” is only applicable in cases where the earlier plan was terminated early by the insider (and not when the plan expires or is completed on its own terms). This alternative interpretation would align with the rationale for the additional waiting period included in the adopting release: "Absent this qualification, an insider might cancel the earlier commencing plan before its scheduled completion but still trade under the later commencing plan in fewer than the minimum 90 days (or 30 days) that would otherwise be required for a new plan that is established after a plan termination.
Current requirement. None. The only current legal prohibition is on entering into or altering a corresponding or hedging transaction or provision. However, in practice, many issuers prohibit insiders from entering into multiple, overlapping 10b5-1 plans.
3. Restricting Single-Trade Arrangements
New requirement: The final rule limits the availability of the affirmative defense for all persons other than issuers to one single-trade plan during any 12-month period. Specifically, the final rule provides that if the plan is "designed to effect" the open-market purchase or sale of securities as a "single transaction," the plan will not receive the benefit of the affirmative defense unless: (1) the person who entered into the plan has not, during the prior 12-month period, adopted another plan that was designed to effect the open-market purchase or sale in a single transaction; and (2) such other contract, instruction, or plan in fact was eligible to receive the affirmative defense.
For this purpose, a plan is "designed to effect" the purchase or sale of securities as a single transaction when the plan has the practical effect of requiring such a result. In contrast, a plan is not designed to effect a single transaction where it leaves the person’s agent discretion over whether to execute the contract, instruction, or plan as a single transaction.
Current requirement: None.
4. Director and Officer Certifications
New requirement: Directors and Section 16 officers must include a representation in their Rule 10b5-1 plan certifying, at the time of the adoption of a new or modified plan, that (1) they are not aware of MNPI about the issuer or its securities, and (2) they are adopting the plan in good faith and not as part of a plan or scheme to evade the prohibitions of Rule 10b-5.9 The certification will not create an independent basis of liability for insider trading, although the SEC specifically declined to amend the rule in this regard.
The certification will be included in the Rule 10b5-1 plan itself as a representation, rather than prepared as a separate document. Although the SEC did not adopt the proposed instruction requiring the certification to be retained for a period of ten years, the adopting release notes that "directors and officers already have reason to keep accurate records, including the representations, to establish that they have satisfied the conditions of the affirmative defense."
Current requirement: No legal requirement. However, in practice, banks typically require insiders using their 10b5-1 plans to represent that they have no MNPI when entering into such plans, and issuers often require insiders to request internal pre-approval of 10b5-1 plans and, in connection with this request, make a representation to the issuer that they have no MNPI at that time.
5. Good Faith Condition
New requirements: All persons entering into a Rule 10b5-1 plan must "act in good faith with respect to" that plan throughout the duration of the plan. This requirement explicitly applies to the activities of the insider (including the insider's efforts to direct the activities of others) and extends the existing concept from the time of adoption through the duration of the Rule 10b5-1 plan. The adopting release notes that the purpose of this requirement is to make the affirmative defense unavailable in situations where a corporate insider, while aware of MNPI, induces a company to publicly disclose information in a manner that makes their trades under a plan more profitable.
Current requirement: A plan must only be entered into in good faith. However, canceling a plan can call into question the good faith nature of that plan or a subsequent plan.
New Disclosure Requirements
1. Quarterly Reporting of Rule 10b5-1(c) and Non-Rule 10b5-1(c) Trading Arrangements
New requirements: Pursuant to new Item 408(a) of Regulation S-K, issuers must disclose quarterly in their Form 10-Qs and Form 10-Ks (1) whether any director or officer has adopted or terminated any Rule 10b5-1 plan, or any other written trading arrangement that meets the requirements of a "non-Rule 10b5-1 trading arrangement"10, and (2) the material terms of the Rule 10b5-1 or non-Rule 10b5-1 trading arrangement.11
The "material" terms required to be disclosed include the name and title of the director or officer, the date of adoption or termination of the plan and its duration, the aggregate number of securities to be sold or purchased under the plan and whether the plan is a 10b5-1 plan or a non-Rule 10b5-1 trading arrangement. The final rules specifically exclude pricing terms from the required disclosure.
This requirement does not apply to FPIs.12
As noted above, issuers will be required to comply with these requirements in the first filing that covers the first full fiscal period that begins on or after April 1, 2023 (or October 1, 2023 for SRCs). Effectively, this means that for calendar year end companies that are not SRCs, disclosure would first be required for Form 10-Qs for the period ending June 30, 2023 (as the first full quarterly fiscal period would be the quarterly period ending June 30, 2023).
Current requirement: None
2. Annual Disclosure of Insider Trading Policies and Procedures
New requirements: Pursuant to new Item 408(b) of Regulation S-K and Item 16J of Form 20-F, issuers must:
- disclose annually, in Form 10-K and proxy and information statements on Schedules 14A and 14C (in the case of domestic issuers) and in Form 20-F (in the case of FPIs) whether they have adopted insider trading policies and procedures, or explain why they have not done so; and
- file a copy of their insider trading policies and procedures as an exhibit to Form 10-K or Form 20-F.13
These disclosures will be subject to the certifications required by Section 302 of the Sarbanes-Oxley Act of 2002, including the attestation as to the accuracy of the statements.
As noted above, issuers will be required to comply with these requirements in the first filing that covers the first full fiscal period that begins on or after April 1, 2023 (or October 1, 2023 for SRCs). Effectively, this means that for calendar year end companies, the new disclosure in annual reports is required in Form 10-Ks filed in fiscal 2025 with respect to their 2024 fiscal year.
Current requirement: None, although most issuers already have insider trading policies.
3. Disclosure Regarding Awards of Options and Similar Equity Instruments
New requirements: Pursuant to new Item 402(x) of Regulation S-K, issuers must include:
- Narrative disclosure discussing: (i) the issuer's policies and practices on the timing of awards of stock options, stock appreciation rights (SARs) and/or similar option-like instruments in relation to the disclosure of MNPI by the issuer, including how the board determines when to grant such awards (for example, whether such awards are granted on a predetermined schedule); (ii) whether, and if so, how, the board or compensation committee takes MNPI into account when determining the timing and terms of an award; and (iii) whether the issuer has timed the disclosure of MNPI for the purpose of affecting the value of executive compensation.
- Tabular disclosures of awards to named executive officers made in the window starting four business days before the filing of a periodic report on Form 10-K or 10-Q or the filing or furnishing of a Form 8-K that discloses MNPI (including earnings information)14 and ending one business day after the filing or furnishing of such report. The table is only required if stock options, SARs and/or similar option like instruments were awarded to an NEO within this time period during the last fiscal year. In adopting this disclosure requirement, the SEC noted that its purpose is to highlight to investors such awards that may have been made at a time that the board of directors was aware of MNPI affecting the value of the award.
The table should be in the following format:
Grant date (b)
Number of securities underlying the options (c)
Exercise price of the award ($/Sh) (d)
Grant date fair value of the award (e)
Percentage change in the closing market price of the securities underlying the award between the trading day ending immediately prior to the disclosure of material nonpublic information and the trading day beginning immediately following the disclosure of material nonpublic information (f)
The table shall include:
(A) The name of the named executive officer (column (a));
(B) On an award-by-award basis, the grant date of the option award reported in the table (column (b));
(C) On an award-by-award basis, the number of securities underlying the options, (column (c));
(D) On an award-by-award basis, the per-share exercise price of the options (column (d));
(E) On an award-by-award basis, the grant date fair value of each award computed using the same methodology as used for the registrant's financial statements under generally accepted accounting principles (column (e)).
(F) For each instrument reported in column (b), disclose the percentage change in the market price of the underlying securities between the closing market price of the security one trading day prior to and the trading day beginning immediately following the disclosure of material nonpublic information (column (f)).
This requirement does not apply to FPIs.
Current requirement: Item 402(b)(2)(iv) of Regulation S-K requires issuers, other than smaller reporting companies and emerging growth companies, to provide information regarding "how the determination is made as to when awards are granted, including awards of equity-based compensation such as options." The 2006 adopting release for this requirement stated that "the Commission believes that in many circumstances the existence of a program, plan or practice to time the grant of stock options to executives in coordination with material non-public information would be material to investors and thus should be fully disclosed in keeping with the rules we adopt today." Both Item 402(b)(2)(iv) and its adopting release make clear that this is a principles based approach and does not mandate what companies must disclose.
Inline XBRL Tagging
New requirement: The following disclosures must be tagged in inline XBRL:
- required disclosure regarding awards of options (Item 402(x) of Regulation S-K);
- required quarterly reporting of Rule 10b5-1(c) and non-Rule 10b5-1(c) trading arrangements (Item 408(a) of Regulation S-K); and
- required annual disclosure of insider trading policies and procedures (Item 408(b) of Regulation S-K/Item 16J of Form 20-F).
Current requirement: None.
Changes to Forms 4 and 5
1. New Checkbox
New requirement: Form 4 and 5 filers must indicate by checkbox that a reported transaction was "intended to satisfy the affirmative defense conditions" of Rule 10b5-1(c).
Current requirement: None. However, many directors and officers often consider it beneficial to include this information in a footnote to their Form 4 or 5 for optics purposes, especially when the trade occurred in a closed window.
2. Reporting of Gifts on Form 4
New requirement: Reporting of dispositions of equity securities by bona fide gifts on Form 4, which must be filed by the end of the second business day following the transaction.15
Current requirement: Reporting of dispositions of equity securities by bona fide gifts on Form 5, which must be filed within 45 days of the issuer's fiscal year end.
1. Reconsider any policies requiring senior officers to trade only outside of a 10b5-1 plan: Given the enhanced disclosure, cooling-off periods and other requirements under the rules, it may become increasingly necessary to allow senior officers to trade without requiring a 10b5-1 plan, in a short window following an earnings release, when there is minimal risk that they are in possession of MNPI.
2. Review your 10b5-1 plan forms for compliance with the new rules: Companies that have forms for 10b5-1 plans with their insiders should contact the relevant bank(s) to receive the updated forms and review them for compliance with the new requirements. Importantly, the amendments to Rule 10b5-1(c)(1) would not affect the affirmative defense available under an existing Rule 10b5-1 plan that was entered into prior to the new rule's effective date, except to the extent that such a plan is modified or changed after the effective date. Accordingly, companies are able to leave the existing Rule 10b5-1 plans of insiders in place and instead focus on preparing newly compliant plan forms for their insiders’ new (or modified) plans.
3. Re-consider insider trading policies: In light of the increased focus on insider trading policies, as well as the requirement to file the policy as an exhibit, issuers should take this opportunity to reassess their policies in light of the amendments and also to consider any appropriate updates to such policies to align with the new rule requirements, as well as current market practice.
- When doing so, consider limiting certain gifts to open windows: In addition, given the changes to the disclosure requirements surrounding gifts of securities and the SEC's clear focus on potential impropriety, issuers should consider amending their insider trading policies to permit gifts of securities that result in charitable deductions to the donor only during an open trading window. Issuers, especially domestic issuers, may also consider prohibiting all gifts except during open trading windows. Even though the disclosure requirements only apply to domestic issuers, FPIs may want to consider this guidance as well given the SEC's perspective that a gift is tantamount to trading.
4. Adopt equity grant policies: With the disclosure requirement for option grant practices comes a call for all domestic issuers to re-assess or put in place an equity grant policy. Among other items, companies should consider adopting a policy that generally prohibits equity grants made at a time when they have MNPI or within 4 business days before (i) the filing of a periodic report on Form 10-K or 10-Q or (ii) the filing/furnishing of a Form 8-K containing MNPI. In addition, such a policy could establish a schedule for the timing of equity award grants, with grant dates being set to occur two business days after the filing of their Form 10-K or 10-Q so that the price reflects publicly released quarterly results of operations.
5. Implementation of rule requirements and enhanced disclosure controls and procedures: In light of the rule changes, companies should consider necessary steps to implement the rule internally and enhance their disclosure controls and procedures to capture and report all of the new required information, including adoptions, modifications and terminations of 10b5-1 plans. Companies will also need to be careful to avoid selectively disclosing information regarding 10b5-1 plans, particularly terminations, which may be subject to additional investor scrutiny.
1 The final rule is available here. The fact sheet is available here. The press release is available here.
2 For more information, see our prior alert regarding the proposed rule available at, "SEC Focuses on Potential Misuse of Material Non-Public Information in Stock Trades: Proposed Amendments Regarding Rule 10b5-1 Trading Plans and Company 'Buybacks'."
3 Any officer who is required to file reports under Section 16 of the Exchange Act.
4 For domestic issuers, in a Form 10-K or 10-Q, and for foreign private issuers ("FPIs"), in a Form 20-F or Form 6-K, in each case, disclosing the issuer's financial results.
5 With respect to pre-existing plans, the release provides that the amendments to Rule 10b5-1(c)(1) "would not affect the affirmative defense available under an existing Rule 10b5-1 plan that was entered into prior to the revised rule's effective date, except to the extent that such a plan is modified or changed in the manner described in Rule 10b5-1(c)(iv) [amount, price or timing] after the effective date of the final rules. In that case, the modification or change would be equivalent to adopting a new trading arrangement, and, thus, amended Rule 10b5-1(c)(1) would be the applicable regulatory affirmative defense that would be available for that modified arrangement."
6 This exception does not extend to sales incident to the exercise of option awards which occur at the discretion of the insider. However, the SEC notes that the revised affirmative defense would not prevent an insider from entering into a plan that includes instructions directing a broker to sell securities sufficient to meet the tax withholding obligations incident to an option or similar award exercise. Accordingly, an officer or director may take advantage of the affirmative defense both for sell to cover transactions and other planned trades, provided that the conditions of the affirmative defense are met including the cooling off period.
7 A modification of any of the individual contracts with the broker-dealers will be a modification of each other contract or instruction such single plan. However, a broker-dealer or other agent executing trades on behalf of the insider pursuant to the Rule 10b5-1 plan may be replaced by a different broker-dealer or other agent as long as the purchase or sales instructions applicable to the prior broker and the replacement broker are identical, including with respect to the prices of securities to be purchased or sold, dates of the purchases or sales to be executed, and amount of securities to be purchased or sold; therefore, an insider will not lose the benefit of the affirmative defense where the insider closes a securities account with a financial institution and transfers the securities to a different financial institution.
8 See Rule 10b5-1(c)(1)(ii)(D) which provides that a contract, instruction, or plan that would meet the other requirements of Rule 10b5-1(c)(1)(i) may still qualify for the affirmative defense where the director or officer has one other contract, instruction, or plan that would qualify for the affirmative defense for purchases or sales of the same class of securities on.
9 The rule will not require these personal certifications where a director or officer terminates an existing Rule 10b5-1 plan and does not adopt a new/modified trading arrangement for which the affirmative defense is sought. However, new Item 408 of Regulation S-K will require issuers to disclose whether any director or officer has terminated a Rule 10b5-1 plan or non-Rule 10b5-1 trading arrangement.
10 A "non-Rule 10b5-1 trading arrangement" is defined under the rule as an arrangement where the director or officer asserts that: (i) at a time when they were not aware of MNPI about the security or the issuer of the security, they adopted a written arrangement for trading the securities; and (ii) the trading arrangement: (a) specified the amount of securities to be purchased or sold and the price at which and the date on which the securities were to be subsequently purchased or sold; (b) included a written formula/algorithm for determining the amount of securities to be purchased or sold and the price at which the securities were to be purchased or sold; or (c) did not permit the covered person to exercise any subsequent influence over how, when, or whether to effect purchases or sales (and any other person who, pursuant to the trading arrangement did exercise such influence must not have been aware of MNPI when doing so). This requirement is intended to capture disclosure of plans that may be viewed by corporate insiders as reducing the likelihood of insider trading, but that do not follow all of the requirements of Rule 10b5-1(c) (including the cooling off period), so that insiders do not purposely enter into these plans solely to avoid disclosure of them.
11 This description does not have to include terms with respect to the price at which the individual executing the respective trading arrangement is authorized to trade, but should include terms such as: the name and title of the director or officer; the date of adoption or termination of the trading arrangement; the duration of the trading arrangement; and the aggregate number of securities to be sold or purchased under the trading arrangement.
12 The adopting release notes that "The Item 408(a) disclosure requirements will not apply to FPIs, potentially placing them at a relative competitive advantage to domestic filers."
13 If all of the registrant’s insider trading policies and procedures are included in its code of ethics compliant with Item 406 of Regulation S-K or Item 16B of Form 20-F, as applicable, and the code of ethics is filed as an exhibit, a hyperlink to that exhibit accompanying the registrant’s disclosure as to whether it has insider trading policies and procedures would satisfy this component of the disclosure requirement.
14 The rule does not refer to reports of foreign private issuer on Form 6-K.
15 This is based on the SEC's view, stated in the adopting release, that gifts followed closely by a sale by the donee may raise the same policy concerns as more common forms of insider trading "because the donor is in a position to benefit from the asset's value at the time of donation and sale, the donor may be motivated to give at a time when donor is aware of [MNPI] and may expect the done to sell prior to the disclosure of such information."
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