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SEC Adopts Amendments Related to 10b5-1 Plans

By Amy Batten, Alex Bowling and Olivia Jamrog
12.19.2022

On December 14, 2022, the Securities and Exchange Commission (SEC) unanimously voted to adopt amendments to Rule 10b5-1 under the Securities Exchange Act of 1934 (Exchange Act), adding new conditions to the availability of the Rule 10b5-1 affirmative defense, in addition to new disclosure requirements for securities transactions by companies and insiders. According to the SEC, the amendments are intended to "improve investor confidence in the securities markets" by significantly reducing the ability of corporate insiders to misuse Rule 10b5-1 to trade on the basis of material nonpublic information (MNPI). While the amendments principally modify the parameters for reliance on Rule 10b5-1 by company insiders, as well as companies conducting share repurchase programs to a more limited extent, the final rules also introduce new disclosure requirements for all SEC reporting companies.

This Client Alert provides a summary of the rule amendments in addition to applicable time periods for compliance and practice pointers for companies to consider in advance of effectiveness.

Affirmative Defense Requirements 

Rule 10b5-1(c) provides an affirmative defense to insider trading liability under Rule 10b-5 for qualifying transactions effected pursuant to a binding contract, an instruction given to a third party or a written trading plan. There has long been concern that corporate insiders are able to take advantage of the affirmative defense by selectively timing their trades while in possession of MNPI. Specific concerns with the current rules include the lack of any cooling-off periods between plan adoption and the first trade under the plan, the lack of public disclosure about trading activity under such plans, and the ability to have multiple, overlapping plans that permit an insider to hedge risk by transacting in the company’s securities under the most favorable arrangement. In response to these concerns, the SEC has now narrowed the applicability of the affirmative defense.

According to the SEC’s fact sheet, the new amendments impose the following additional conditions in order to rely on the affirmative defense to insider trading provided by Rule 10b5-1(c)(1):

  • A cooling-off period for directors and officers[1] of the later of: (1) 90 days following plan adoption or modification[2]; or (2) two business days following the disclosure of the issuer’s financial results in a periodic report for the fiscal quarter (or year in the case of a Form 10-K) in which the plan was adopted or modified (but not to exceed 120 days following plan adoption or modification) before any trading can commence under the plan;
  • A cooling-off period of 30 days for persons other than issuers or directors and officers before any trading can commence under the trading plan or plan modification;
  • A condition for directors and officers to 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;
  • A limitation on the ability of anyone other than issuers to use multiple overlapping Rule 10b5-1 plans (subject to certain exceptions);
  • A limitation on the ability of anyone other than issuers to rely on the affirmative defense for more than one single-trade plan during any consecutive 12-month period; and
  • A condition that all persons entering into a Rule 10b5-1 plan must act in good faith with respect to that plan (intended to be more expansive than just entering into such plans in good faith).

As stated in the final rules, the purpose of the cooling-off period is to provide a separation in time between plan adoption and commencement of trading under the plan to better ensure that the affirmative defense is available only in situations in which MNPI, including information other than earnings information, did not factor into the trading decision. The intention of the period is to deter opportunistic trading that may otherwise permit certain corporate insiders to earn profits unavailable to others, thereby increasing investor confidence that directors and officers are not using Rule 10b5-1 plans for such purposes. The SEC did not adopt a cooling-off period applicable to issuers under the final rules (a departure from the proposed rules), stating that further consideration is necessary on this issue. However, the SEC did note that a corporation is considered an insider and thus has a duty to either disclose or abstain when purchasing its own shares on the basis of MNPI.

The certification condition is intended to reinforce directors’ and officers’ awareness of their obligation not to trade or enter into a trading plan while aware of material information about the issuer or its securities and their responsibility to determine whether they are aware of MNPI when adopting Rule 10b5-1 plans. While many trading plans already include some form of similar language, the new rules make it a requirement to include the certification language.

Practice Point: Most brokers have their own form of Rule10b5-1-compliant trading plan documents that they require insiders and issuers to use. We expect that brokers will incorporate the above conditions in their plans, which will impact insiders more than issuers. As long as any such changes hew closely to the new amendments, the changes should not be overly burdensome to the negotiating process between insiders and brokers, as practitioners are typically reluctant to make too many revisions that may deviate from the rule. That being said, there will likely be a period of time during which practice develops in response to the amendments and extra time may need to be allotted to review broker-prepared plans.

Effective Date and Transitional Relief: The amendments become effective 60 days from publication in the Federal Register; however, the amendments do not affect the affirmative defense available under existing Rule 10b5-1 plans 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 new Rule 10b5-1(c)(iv) (namely, by changing the amount, price or timing of the purchase or sale) after the effective date of the final rules. In such a case, the modification or change would be equivalent to the adoption of a new trading arrangement and therefore the new rules, including the cooling off period, would apply to the modification or change.

New Disclosure Requirements

Currently, there are no mandatory disclosure requirements concerning the use of Rule 10b5-1 trading arrangements or other trading arrangements by issuers or corporate insiders. The final rules impose new disclosure requirements regarding the insider trading policies and procedures of issuers, the adoption and termination (including modification) of plans, and certain other similar trading arrangements by directors and officers.

Quarterly Reporting of Trading Arrangements

Issuers will be required to provide quarterly disclosure regarding the use of Rule 10b5-1 plans and certain other trading arrangements by a public company’s directors and officers for the trading of its securities. Specifically, the final rule will require issuers to:

  1. Disclose whether, during the issuer’s last fiscal quarter, any director or officer adopted or terminated a "Rule 10b5-1(c) trading arrangement" and/or any written trading arrangement for the purchase or sale of securities of the issuer that meets the requirements of a "non-Rule 10b5-1 trading arrangement;" and
  2. Provide a description of the material terms of such arrangement, other than the pricing terms. The final rule suggests that material terms of such an arrangement include information like 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.

Notably, the new disclosure requirements do not apply to the issuer’s entry into trading plans as originally proposed by the SEC.

Practice Point: In light of these new disclosure requirements, companies should revisit their policies requiring insiders to provide timely and comprehensive notice to the company upon entering into a Rule 10b5-1 trading plan to ensure that the required disclosures can be made on a timely basis.

Annual Disclosure of Insider Trading Policies and Procedures

Under the final rule, issuers are required to annually disclose in annual reports on Form 10-K and proxy and information statements whether they have adopted insider trading policies and procedures governing transactions in the issuer’s securities by directors, officers, employees and the issuer itself that are reasonably designed to promote compliance with insider trading laws. If an issuer has not adopted such insider trading policies and procedures, it must explain why not.

Notably, in response to comments on the proposed rules, the final rules do not require disclosure of the issuer’s policies and procedures within the body of the annual report or proxy/information statement; rather, issuers are required to file a copy of their policies and procedures as an exhibit to Form 10-K. As a reminder, Form 10-K permits an issuer to incorporate by reference the information called for by the new rule from the issuer’s proxy statement, so issuers should in most cases not be required to prepare duplicative disclosures.

Practice Point: As this will be the first time companies are required to disclose or file their insider trading policies with the SEC, this would be a good time to conduct a full review of such policies prior to the initial filing. In particular, companies will want to consider whether to adopt or modify existing policies regarding use of Rule 10b5-1 plans by insiders in light of the new rules.

Disclosure Regarding Certain Equity Grants  

Issuers will be required to provide certain tabular and narrative disclosures regarding awards of options close in time to the release of MNPI and related policies and procedures in connection with existing executive compensation disclosures in proxy statements and annual reports on Form 10-K.

Regarding the tabular disclosure, issuers will be required to disclose awards made in the four business days before the filing of a periodic report or the filing of a Form 8-K (except under Item 5.02(e)) that discloses MNPI and ending one business day after a triggering event. If any such awards were made during the relevant time period, the issuer must provide the following information concerning each such award for the named executive officer (NEO) on an aggregated basis in the tabular format set forth in the rule:

  • The name of the NEO;
  • The grant date of the award;
  • The number of securities underlying the award;
  • The per-share exercise price;
  • The grant date fair value of each award;[3] and
  • 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 one trading day following the disclosure of MNPI.

The final rule narrowed the tabular disclosure requirements from the original proposal, including by removing the share repurchase triggering event, to ensure that the disclosure covers the types of grants with which the SEC is concerned.

For the narrative disclosure, the final rule requires issuers to discuss their policies and practices on the timing of awards of stock options, 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; whether, and if so, how, the board or compensation committee takes MNPI into account when determining the timing and terms of an award; and whether the issuer has timed the disclosure of MNPI for the purpose of affecting the value of executive compensation. For issuers that are not smaller reporting companies or emerging growth companies, this narrative disclosure could be included in the CD&A section of the issuer’s annual report on Form 10-K or proxy statement rather than with the other executive compensation disclosures.

Practice Point: Companies may want to reflect on their historical practices for making equity awards to directors and officers in response to these new disclosure requirements, particularly where periodic awards have been made during the covered time periods triggering disclosure.

Tagging

Like other recent amendments to SEC rules, the new rules state that the required disclosures must be tagged in Inline XBRL.

Transition Period: Issuers will be required to comply with the new disclosure requirements in Exchange Act periodic reports on Forms 10-Q, 10-K and 20-F and in any proxy or information statements in the first filing that covers the first full fiscal period that begins on or after April 1, 2023. Smaller reporting companies will have an additional six months to comply with the additional disclosure requirements.

Beneficial Ownership Reporting

The amendments add a mandatory Rule 10b5-1(c) checkbox to Forms 4 and 5, requiring reporting persons to indicate whether a reported transaction was "intended to satisfy the affirmative defense conditions" of Rule 10b5-1(c).

Practice Point: This change should be more mechanical than substantive as reporting persons customarily including footnote disclosure where sales are pursuant to a Rule 10b5-1 plan, particularly where Section 16 counsel is involved in preparing or reviewing the form.

Further, dispositions of bona fide gifts of securities that were previously permitted to be reported on Form 5 will be required to be reported on Form 4. Acquisitions by gift will still be eligible for deferred reporting on Form 5.

Practice Point: While Section 16 counsel will typically advise filing a voluntary Form 4 for gifts (mostly due to the likelihood of an insider inadvertently neglecting to report the gift on the Form 5 due to the passage of time), this change in timeline will require some education for insiders who do not promptly notify the company of reportable gifts.

Transition Period: Section 16 reporting persons will be required to comply with the amendments to Forms 4 and 5 for beneficial ownership reports filed on or after April 1, 2023.

If you have any questions related to this alert, please do not hesitate to contact any member of the Public Companies group or your regular Smith Anderson lawyer.


[1] Based on the definition contained in Rule 16a-1(f) of the Exchange Act used to determine the officers subject to the Section 16 reporting regime.

[2] Under the final amendment, only certain types of modifications of an existing Rule 10b5-1 plan should trigger a new cooling-off period. The new rule provides that a modification or change to the amount, price, or timing of the purchase or sale of the securities underlying a contract, instruction, or written plan as described in Rule 10b5-1(c)(1)(i)(A) is a simultaneous termination of such plan and the adoption of a new contract, instruction, or written plan, and such new adoption will trigger a new cooling-off period. Conversely, modifications that do not change the sales or purchase prices, the amount of securities to be sold or purchased, or the timing of transactions under a Rule 10b5-1 plan will not trigger a cooling-off period.

[3] The grant date fair value is to be calculated using the same methodology as used for the issuer’s financial statements under US GAAP.

Media Information

Jamie Lunder
jlunder@smithlaw.com
T: 919.838.2045

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