The SEC has adopted final amendments to Rule 10b5-1 under the Securities Exchange Act of 1934. The amendments:
- Add new conditions to the availability of the affirmative defense under Exchange Act Rule 10b5-1(c)(1), including cooling-off periods for directors, officers, and persons other than issuers;
- Create new disclosure requirements regarding issuers’ insider trading policies and procedures and the adoption and termination (including modification) of Rule 10b5-1 and certain other trading arrangements by directors and officers;
- Create new disclosure requirements for executive and director compensation regarding certain equity compensation awards made close in time to the issuer’s disclosure of material nonpublic information; and
- Update 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) and to disclose all bona fide gifts of securities on Form 4.
Amendments to Rule 10b5-1
The SEC is amending Rule 10b5-1(c)(1) to:
- Apply a cooling-off period on persons other than the issuer;
- Impose a certification requirement on directors and officers;
- Limit the ability of persons other than the issuer to use multiple-overlapping Rule 10b5-1 plans;
- Limit the use of single-trade plans by persons other than the issuer to one such single-trade plan in any 12-month period; and
- Add a condition that all persons entering into a Rule 10b5-1 plan must act in good faith with respect to that plan.
Cooling Off Period
The SEC is adopting a cooling-off period that will apply to all persons other than the issuer, with directors and “officers” (as defined in Rule 16a-1(f)) of the issuer subject to a longer cooling-off period than applies to other persons (other than the issuer) who rely on the Rule 10b5-1(c)(1) affirmative defense.
Under the final rule, a director or “officer” (as defined in Rule 16a-1(f)) who adopts (including a modification of) a Rule 10b5-1 plan would not be able to rely on the Rule 10b5-1 affirmative defense unless the plan provides that trading under the plan will not begin until the later of (1) 90 days after the adoption of the Rule 10b5-1 plan or (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 (but in any event, the required cooling-off period is subject to a maximum of 120 days after adoption of the plan).
The final rule does not impose the same cooling-off period required for directors and officers to other persons. Instead, the rule requires a cooling-off period of 30 days for persons other than directors, officers or the issuer.
The final rule provides that only certain types of modifications of an existing Rule 10b5-1 plan should trigger a new cooling-off period. A new paragraph to Rule 10b5-1(c)(1) specifically provides that a modification or change to the amount, price, or timing of the purchase or sale of the securities (or a modification or change to a written formula or algorithm, or computer program that affects 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 termination of such contract, instruction, or written plan, and the adoption of a new contract, instruction, or written plan, and such new adoption will trigger a new cooling-off period.
The SEC decided not to adopt a cooling-off period for the issuer at this time. In light of the comments received on this aspect of the proposed rules, the SEC believes that further consideration of a potential application of a cooling-off period to the issuer is warranted.
Director and Officer Certifications
Under the final rule, if a director or “officer” (as defined in Rule 16a-1(f)) of the issuer of the securities adopts a Rule 10b5-1 plan, as a condition to the availability of the affirmative defense, such director or officer will be required to include a representation in the plan certifying that at the time of the adoption of a new or modified Rule 10b5-1 plan that:
- They are not aware of material nonpublic information about the issuer or its securities; and
- They are adopting the contract, instruction, or plan in good faith and not as part of a plan or scheme to evade the prohibitions of Rule 10b-5.
The SEC did not adopt a proposed instruction that a director or officer seeking to rely on the affirmative defense should retain a copy of the certification for a period of ten years. The burden of establishing that the requirements of the affirmative defense have been met will fall on the corporate insider who wishes to rely on it. As a result, the SEC found that the proposed instruction was unnecessary as 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.
Multiple-Overlapping Rule 10b5-1 Plans
With respect to multiple overlapping Rule 10b5-1 contracts, instructions or plans, the final rule adds a condition to the Rule 10b5-1(c)(1) affirmative defense that 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 purchases or sales of any class of securities of the issuer on the open market during the same period.
The final rule addresses an insider’s use of multiple brokers to execute trades pursuant to a single Rule 10b5-1 plan that covers securities held in different accounts. Specifically, a series of separate contracts with different broker-dealers or other agents acting on behalf of the person (other than the issuer) to execute trades thereunder 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 each other contract or instruction.
The final rule also provides that a broker-dealer or other agent executing trades on behalf of the insider pursuant to the Rule 10b5-1 plan may be substituted by a different broker-dealer or other agent as long as the purchase or sales instructions applicable to the substituted broker and the substitute 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.
The final rule permits persons (other than the issuer) to 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. This provision would not be available for the later-commencing plan, however, if the first trade under the later-commencing plan is scheduled to begin during the “effective cooling-off period”—namely, the cooling-off period that would be applicable under paragraph (c)(1)(ii)(B) 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.
The final rule permits certain “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. Under this modification, 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 or plans only authorize qualified sell-to-cover transactions. The rule however does not permit sales incident to the exercise of option awards because it could create a risk of opportunistic trading. Option exercises occur at the discretion of the insider, and such decisions could occur when the insider later obtains material nonpublic information.
The final rule includes a limit on single-trade plans. The limitation applies to Rule 10b5-1 plans of all persons, other than the issuer. As a result, the final rule provides that if the contract, instruction, or plan is “designed to effect” the open-market purchase or sale of the total amount of securities as a single transaction, the contract, instruction or plan will not receive the benefit of the affirmative defense unless:
- The person who entered into the contract, instruction, or plan has not, during the prior 12-month period, adopted another contract, instruction, or plan that was designed to effect the open-market purchase or sale of the total amount of securities subject to that plan in a single transaction; and
- Such other contract, instruction, or plan in fact was eligible to receive the affirmative defense.
For the single-trade provision, a plan is “designed to effect” the purchase or sale of securities as a single transaction when the contract, instruction, or plan has the practical effect of requiring such a result. In contrast, a plan is not designed to effect a single transaction where the plan leaves the person’s agent discretion over whether to execute the contract, instruction, or plan as a single transaction. Similarly, a plan is also not designed to effect the purchase or sale of securities as a single transaction when
- The contract, instruction, or plan does not leave discretion to the agent, but instead provides that the agent’s future acts will depend on events or data not known at the time the plan is entered into, such as a plan providing for the agent to conduct a certain volume of sales or purchases at each of several given future stock prices; and
- It is reasonably foreseeable at the time the plan is entered into that the contract, plan, or instruction might result in multiple transactions.
The final rule adds a condition that the person who entered into the Rule 10b5-1 contract, instruction, or plan “has acted in good faith with respect to” the contract, instruction, or plan. The SEC believes this requirement will help ensure that traders do not engage in opportunistic trading in connection with Rule 10b5-1 plans, and will help deter corporate insiders from improperly influencing the timing of corporate disclosures to benefit their trades under such a plan.
Additional Disclosures Regarding Rule 10b5-1 Trading Arrangements
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.
Quarterly Reporting of Rule 10b5-1 and Non-Rule 10b5-1 Trading Arrangements
The final rule will require registrants to disclose in Form 10-K and Form 10-Q whether, during the registrant’s last fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report), any director or “officer” (as defined in Rule 16a-1(f)) has adopted or terminated:
- Any contract, instruction or written plan for the purchase or sale of securities of the registrant that is intended to satisfy the affirmative defense conditions of Rule 10b5-1(c) (a “Rule 10b5-1(c) trading arrangement”); 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 arrangement as defined in Item 408(c) (a “non-Rule 10b5-1 trading arrangement”).
In addition, the final rule will require registrants to provide a description of the material terms of the Rule 10b5-1 trading arrangement or non-Rule 10b5-1 trading arrangement other than terms with respect to the price at which the individual executing the respective trading arrangement is authorized to trade, 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;
- The aggregate number of securities to be sold or purchased under the trading arrangement;
- Whether such trading arrangement is a Rule 10b5-1 trading arrangement or is a non-Rule 10b5-1 trading arrangement; and
- Any modification or change to a Rule 10b5-1 plan by a director or officer that falls within the meaning of new Rule 10b5-1(c)(1)(iv).
Disclosure of Insider Trading Policies and Procedures
Under the final rule, registrants will be required to 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 a registrant has not adopted such insider trading policies and procedures, it must explain why it has not done so. These disclosures will be required in annual reports on Form 10-K and proxy and information statements on Schedules 14A and 14C.
The final rule does not require disclosure of the registrant’s policies and procedures within the body of the annual report or proxy/information statement. Instead, the final rule requires issuers to file a copy of their insider trading policies and procedures as an exhibit to Form 10-K.
Identification of Rule 10b5-1 and non-Rule 10b5-1 Transactions on Forms 4 and 5
The final rule requires a Rule 10b5-1(c) checkbox as a mandatory disclosure requirement on Forms 4 and 5 that requires a Form 4 or 5 filer to indicate via the checkbox whether a transaction reported on that form was “intended to satisfy the affirmative defense conditions” of Rule 10b5-1(c). An optional checkbox will allow a filer to indicate whether a transaction reported on the form was made pursuant to a pre-planned contract, instruction, or written plan for the purchase or sale of equity securities of the issuer that does not satisfy the conditions of Rule 10b5-1(c).
Disclosure Regarding Option Grants and Similar Equity Instruments Made Close in Time to the Release of Material Nonpublic Information
The final rule requires registrants to discuss the registrant’s policies and practices on the timing of awards of stock options, SARs and/or similar option-like instruments in relation to the disclosure of material nonpublic information by the registrant, including:
- How the board determines when to grant such awards (for example, whether such awards are granted on a predetermined schedule);
- 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.
The final rule provides that, if, during the last completed fiscal year, stock options, SARs, and/or similar option-like instruments were awarded to an NEO within a period starting four business days before the filing of a periodic report on Form 10-Q or Form 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 a current report on Form 8-K disclosing a material new option award grant under Item 5.02(e), and ending one business day after a triggering event, the issuer must provide the following information concerning each such award for the 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 computed using the same methodology as used for the registrant’s financial statements under generally accepted accounting principles; 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 material nonpublic information.
Reporting of Gifts on Form 4
Under the final rule, Section 16 reporting persons will be required to report dispositions of bona fide gifts of equity securities on Form 4 (rather than Form 5) in accordance with Form 4’s filing deadline (that is, before the end of the second business day following the date of execution of the transaction).
The final rules will become effective 60 days following publication of the adopting release in the Federal Register. 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. 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. The final amendments defer by six months the date of compliance with the additional disclosure requirements for smaller reporting companies.