SEC Amends Rule 10b5-1 and Requires Related Disclosures
On December 14, 2022, the SEC amended Rule 10b5-1(c)(1) under the Exchange Act to add new conditions and limitations designed to address what the SEC believed to be abuses of the rule. The SEC also adopted new disclosure requirements related to insider trading policies, Rule 10b5-1 and certain other trading arrangements, and the timing of equity compensation awards. Finally, Forms 4 and 5 have been amended to require Section 16 corporate insiders to identify transactions made pursuant to a Rule 10b5-1(c)(1) trading arrangement, and Rule 16a-3 has been amended to require the disclosure of gifts of securities on Form 4.
Amendments to Rule 10b5-1
Section 10(b) of the Exchange Act and Rules 10b-5 and 10b5-1 make it unlawful to purchase or sell a security while aware of material nonpublic information about that security or its issuer “in breach of a duty of trust or confidence that is owed directly, indirectly or derivatively, to the issuer of that security or the shareholders of that issuer, or to any person who is the source of the material nonpublic information.” However, Rule 10b5-1(c)(1) establishes an affirmative defense to liability under these provisions (Affirmative Defense) if the trader can demonstrate, among other things, that the trade was made pursuant to a binding contract, an instruction to another person to execute the trade for the instructing person’s account or a written plan for the trading of securities (each, a “Rule 10b5-1 Plan”) that was adopted when the trader was not aware of material nonpublic information concerning that security or its issuer.1
New Conditions to the Availability of the Affirmative Defense:
- Mandatory Cooling-off Periods
A Rule 10b5-1 Plan adopted by
- an officer, as defined in Exchange Act Rule 16a-1(f) (Officer) or director of the issuer must not provide for trading thereunder until the later of: (1) 90 days after the adoption of the plan and (2) two business days following the disclosure of the issuer’s financial results in a Form 10-Q or Form 10-K for the fiscal quarter in which the plan was adopted or, for foreign private issuers, in a Form 20-F or Form 6-K that discloses the issuer’s financial results (subject to a maximum of 120 days after adoption of the plan);
- the issuer may provide for trading at any time after adoption; and
- any other person must not provide for trading thereunder until 30 days after the adoption of the plan.
A modification or change to the amount, price or timing of the purchase or sale of the securities (or to a written formula or algorithm, or computer program that affects the amount, price or timing of the purchase or sale of the securities) under a Rule 10b5-1 Plan is treated as a termination of the Rule 10b5-1 Plan and the adoption of a new plan triggering a new cooling-off period.2 Because this type of modification or change is treated as the adoption of a new Rule 10b5-1 Plan, the person making such modification or change must not be aware of material nonpublic information concerning the security subject to the plan or its issuer at the time of the modification or change.
- Officers and directors must include a representation in the Rule 10b5-1 Plan certifying that at the time of the adoption or modification: (i) they are not aware of material nonpublic information about the issuer or the security and (ii) they are adopting the Rule 10b5-1 Plan in good faith and not as part of a plan or scheme to evade the prohibitions of Exchange Act Rule 10b-5;3
- The person adopting the Rule 10b5-1 Plan must enter into such plan in good faith and act in good faith with respect thereto;
- Subject to the exceptions below, persons (other than issuers) entering into a Rule 10b5-1 Plan may not have another outstanding Rule 10b5-1 Plan relating to the purchase or sale of any class of securities of the same issuer on the open market during the same period:4
- a series of separate contracts with different broker-dealers or other agents may be treated as a single “plan,” provided that the contracts with each broker-dealer or other agent, when taken together as a whole, meet all of the applicable conditions of, and remain collectively subject to, the provisions of Rule 10b5-1(c)(1). A modification of any such contract will be a modification of the entire plan. The substitution of a broker-dealer or other agent for another broker-dealer shall not be a modification of the contract, instruction or plan as long as the purchase or sales instructions are identical.
- persons may maintain two separate Rule 10b5-1 Plans 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.5
- an insider will not lose the benefit of the Affirmative Defense with respect to an otherwise eligible Rule 10b5-1 Plan if the insider has in place another plan that would qualify for the Affirmative Defense, so long as the additional plan(s) only authorize qualified sell-to-cover transactions in which an insider instructs their agent to sell securities in order to satisfy tax withholding obligations at the time an award vests (this exception is not applicable to sales incident to the exercise of option awards, as option exercises are at the discretion of the insider).
- The availability of the affirmative defense for single trade plans by all persons other than the issuer is limited to one single-trade plan during any consecutive 12-month period (with an exception for sell-to-cover transactions).
Disclosures Regarding Trading Arrangements
- New Regulation S-K Item 408(a) requires registrants to disclose: (i) whether, during their last fiscal quarter (the fourth fiscal quarter in the case of an annual report), any director or Officer has adopted or terminated (including covered modifications) any contract, instruction or written plan for the purchase or sale of securities of the registrant that is intended to satisfy the Affirmative Defense and/or any written trading arrangement for the purchase or sale of securities of the registrant that meets the requirements of a non-Rule 10b5-1 trading arrangement6 and (ii) to provide in each case a description of the material terms of the contract, instruction or written plan other than price (e.g., name and title of the director or Officer, dates of adoption or termination, duration of arrangement, and aggregate number of securities to be sold or purchased), specifying whether the arrangement is a Rule 10b5-1 Plan or a non-Rule 10b5-1 trading arrangement. These disclosures are required in Form 10-Q and Form 10-K.
- New Regulation S-K Item 408(b) requires registrants to: (i) disclose whether they have adopted insider trading policies and procedures governing the purchase, sale and other dispositions of their securities by directors, officers and employees or the registrant itself that are reasonably designed to promote compliance with insider trading laws, rules and regulations, and any listing standards applicable to the registrant (if the registrant has not adopted such insider trading policies and procedures, it must explain why it has not done so) and (ii) if the registrant has adopted insider trading policies and procedures, to file a copy of them as an exhibit to its annual report. These disclosures are required in Form 10-K and proxy and information statements on Schedules 14A and 14C. Analogous annual disclosure by foreign private issuers is required pursuant to new Form 20-F Item 16J.
- The foregoing disclosure requirements are subject to the certifications required by Section 302 of the Sarbanes-Oxley Act of 2002.
- Item 408 disclosure must be tagged in Inline XBRL.
- Forms 4 and 5 have been amended to require insiders to indicate via checkbox whether a reported transaction was pursuant to a plan intended to satisfy the affirmative defense conditions of Rule 10b5-1(c). Filers are also required to provide the date of adoption of such plan in the “Explanation of Responses.”
Disclosure Regarding the Timing of Certain Equity Grants Shortly before or after the Release of Material Nonpublic Information
A new table has been added as Item 402(x) of Regulation S-K requiring the following disclosure with respect to each option, SAR and similar option-like award granted to a named executive officer within the period commencing four business days before the filing of a periodic report on Form 10-Q or 10-K, or the filing or furnishing of a current report on Form 8-K that discloses material nonpublic information (including earnings information), other than an 8-K disclosing a material new option award grant under 5.02(e), and ending one business day after a triggering event: the name of the named executive officer; the grant date; the number of securities underlying the award; the grant date fair value; the award’s exercise price; and the percentage change in the closing market price of the underlying securities between one trading day before and one trading day after disclosure of the material nonpublic information.
In addition, Item 402(x) requires narrative disclosure about an issuer’s policies and practices regarding the timing of option, SAR or similar option-like instruments in relation to the release of material nonpublic information, including how the board determines when to grant such awards (for example, whether such awards are granted on a predetermined schedule) 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, and whether the registrant has timed the disclosure of material nonpublic information for the purpose of affecting the value of executive compensation.7 For companies that are subject to Compensation Disclosure and Analysis requirements, the proposed narrative disclosure could be included in that discussion. This disclosure is required in annual reports on Form 10-K, as well as in proxy statements and information statements related to the election of directors, shareholder approval of new compensation plans and solicitations of advisory votes to approve executive compensation. The information required by Item 402(x) must be tagged in Inline XBRL.
Reporting of Gifts on Form 4
Currently, Section 16 reporting persons are required to report any bona fide gift of equity securities registered under Exchange Act Section 12 on Form 5 within 45 days after the issuer’s fiscal year end. Exchange Act Rule 16a-3 has been amended to require the reporting of bona fide gifts of equity securities on Form 4 (within two business days after such a gift is made).
- The amendments to Rule 10b5-1(c)(1) (effective 60 days after publication in the Federal Register) 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 above after the effective date of the final rules. In that case, the plan would be treated as a new plan, subject to the requirements of the amended rule.
- Section 16 reporting persons will be required to comply with the amendments to Forms 4 and 5 for reports filed on or after April 1, 2023.
- Issuers that are smaller reporting companies will be required to comply with the new disclosure and tagging requirements in Forms 10-Q, 10-K and 20-F and in any proxy or information statements that are required to include the Item 408, Item 402(x) and/or Item 16J disclosures in the first filing that covers the first full fiscal period that begins on or after October 1, 2023.
- All other issuers will be required to comply with the new disclosure and tagging requirements in Forms 10-Q, 10-K and 20-F and in any proxy or information statements that are required to include the Item 408, Item 402(x) and/or Item 16J disclosures in the first filing that covers the first full fiscal period that begins on or after April 1, 2023.
© Arnold & Porter Kaye Scholer LLP 2022 All Rights Reserved. This Advisory is intended to be a general summary of the law and does not constitute legal advice. You should consult with counsel to determine applicable legal requirements in a specific fact situation.
These personal certifications are not required where a director or officer terminates an existing Rule 10b5-1 Plan and does not adopt a new or modified trading arrangement for which the Affirmative Defense is sought.
This restriction does not apply to transactions where a person acquires (or sells) securities directly from the issuer, including through participation in employee stock ownership plans (ESOPs) or dividend reinvestment plans (DRIPs).
This exception is not available for the later-commencing plan, however, if the first trade under the later-commencing plan is scheduled to begin during the cooling-off period that would be applicable to the later-commencing plan if the date of adoption of the later-commencing plan were deemed to be the date of termination of the earlier-commencing plan.
A “non-Rule 10b5-1 trading arrangement” (based on the prior rule) is one where the director or Officer asserts that, at a time when they were not aware of material nonpublic information about the security or the issuer of the security, they (i) adopted a written arrangement for trading the securities and (ii) the trading arrangement: (x) 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; (y) included a written formula or algorithm, or computer program, 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 (z) did not permit the covered person to exercise any subsequent influence over how, when or whether to effect purchases or sales; provided, in addition, that any other person who, pursuant to the trading arrangement did exercise such influence must not have been aware of material nonpublic information when doing so.
Item 402(x) does not require a registrant to adopt policies and practices on the timing of awards of stock options, SARs and/or similar option-like instruments if it has not already done so, or to modify any such existing policies.