The Proposal would have a significant impact on current practices surrounding the use of Rule 10b5-1 plans by public companies and insiders.
By Joel H. Trotter, Stephen P. Wink, Naim Culhaci, and Deric Behar
On December 15, 2021, the Securities and Exchange Commission (SEC) issued a set of proposed amendments (the Proposal) regarding the adoption of trading plans that qualify for the affirmative defense against liability for trading on the basis of material non-public information (MNPI) under Rule 10b5-1 under the Securities Exchange Act of 1934 (the Exchange Act). These proposed changes would impose additional requirements on public companies and insiders.
Significantly, the Proposal would require a waiting period or “cooling off period” of 120 days for the director or officer of a company (or 30 days for the company itself) between the adoption of a plan or an amendment to the plan and the effecting of trades under such plan. Moreover, the Proposal would prohibit the use of multiple overlapping plans. The Proposal would also introduce additional disclosure requirements regarding 10b5-1 plans and the charitable gifting of securities by insiders. In explaining its rationale for issuing the Proposal, the SEC stated that it aims “to address apparent loopholes in the [current] rule that allow corporate insiders to unfairly exploit informational asymmetries.”
This post provides a high-level summary of some of the changes that are being proposed.
Mandatory Cooling Off Periods
Currently, in order to qualify for the Rule 10b5-1 affirmative defense, a trading plan needs to be a binding contract with a broker over which the adopter of the plan cannot exercise subsequent influence. While under the current rule, there is a general requirement that the plan must be entered into “in good faith and not as a part of a plan or scheme to evade the prohibitions” of the rule — there is no mandatory cooling off period requirement. Despite this, however, current market practice is for Rule 10b5-1 plans adopted by insiders to have cooling off periods (typically ranging anywhere from 14 days to 90 days) built into them. The intention is to demonstrate that trades under the plan are not being made on the basis of MNPI.
By implementing a mandatory cooling off period of 120 days for plans adopted by officers and directors who are subject to reporting under Section 16 of the Exchange Act, the Proposal would impose a cooling off period that is significantly longer than insiders typically use in plans. The Proposal would separately impose a cooling off period of 30 days on plans adopted by issuers (e.g., for Rule 10b5-1 repurchase plans).
Prohibition on Multiple Overlapping Plans
While the use of multiple overlapping 10b5-1 plans is not prohibited under the current rule, there may be instances in which multiple overlapping plans may be inadvisable due to their potential to raise questions regarding the good faith of the insider in adopting the plans. The Proposal would categorically prohibit the use of overlapping plans.
Other Proposed Changes
The Proposal also introduces the following potential additional requirements:
- Only a once per year allowance for a trade plan that is designed to cover a single trade (note that this restriction does not apply to multi-trade plans and it appears that more than one multi-trade plan could be entered into per year as long as such plans are not overlapping)
- A required certification by Section 16 directors and officers adopting 10b5-1 plans stating that they are not aware of MNPI regarding the issuer and are entering into the plan in good faith and not as a plan or scheme to evade the relevant prohibitions
- An expansion of the current requirement to state that plans not only need to entered into in good faith but also operated in good faith
The Proposal would also require new disclosures regarding insider trading, including:
- Annual disclosure of whether or not the company has insider trading policies and procedures, and, if yes, separate public disclosure of the trading policy
- Annual disclosure of stock option grant policies and practices, including disclosure of (i) grants made within 14 days of releasing MNPI and (ii) aggregate market value of share grants based on stock prices on the trading day before and after such grants
- Quarterly disclosure of the adoption, termination, and terms of Rule 10b5-1 plans arranged by directors, officers, and issuers
- Quarterly disclosure of the adoption, termination, and terms of other pre-planned trading contracts, instructions, or plans (non-Rule 10b5-1 trading arrangements) arranged by directors, officers, and issuers
- Check-box disclosure in Section 16 reports (Forms 4 and 5) for Rule 10b5-1 transactions
- Mandatory reporting on Form 4 by corporate insiders of charitable gifts of securities within two business days
The Commissioners Weigh In
The Proposal was one of four issued by the SEC on December 15, but it is unique in that it had the bipartisan top-line support of the full panel of Commissioners. Notably, however, two of the Commissioners raised particular concerns in their statements attending the release.
- Chairman Gary Gensler published a statement in support of the Proposal, stating it would “close potential gaps in [the SEC’s] insider trading regime” and “increase investor confidence in the markets.”
- Commissioner Caroline A. Crenshaw published a statement in support of the Proposal, stating that the SEC is attempting “to balance the legitimate liquidity needs of insiders” with a “duty to ensure a level playing field to protect investors and the integrity of our markets.” However, Commissioner Crenshaw also questioned whether some proposed amendments, such as the single plan amendment, “go far enough or will be as effective as other available alternatives.”
- Commissioner Allison Herren Lee published a statement in support of the Proposal. Commissioner Lee applauded the higher bar for the affirmative defense, and noted that Rule 10b5-1 “should offer a safe harbor, not a pirates’ cove,” addressing the criticism that the rule as it currently stands may have actually enabled insider trading on MNPI rather than prevented it.
- Commissioner Hester M. Peirce published a statement generally supporting the Proposal, but taking aim at particular aspects of it. She described the proposed cooling off periods and restrictions on multiple overlapping plans as “reasonable changes designed to ward off abuses,” and appreciated that the proposed limitation on single plans was “narrowly tailored.” However, she raised concerns regarding the possible burdens and unintended consequences of the proposed good-faith certification requirement, policy, and procedure disclosure requirement, and disclosure of stock option grants, stating that she does not support the “indirect regulation of corporate activity through our disclosure rules.”
- Commissioner Elad L. Roisman published a statement outlining why he supported the Proposal at the top line, but disagreed with most of its content. He described the proposed cooling off period for individuals as “appropriate” and “a reasonable amount of time.” However, he questioned all other aspects of the Proposal, stating they “will impose real costs and offer … few additional benefits.” He described a cooling off period for issuers as burdensome and questioned whether it is appropriate at all. He also questioned the assumptions and evidence underlying the allegations that 10b5-1 plans were being used to facilitate, rather than curtail, insider trading on MNPI. Finally, he criticized the unusually short period of time allotted for public comment (45 days, rather than the customary 90 or 60 days).
Timeline for the Proposal
The Proposal contains dozens of specific questions that the Commission is posing to the public on the various provisions noted above. The comment period on the Proposal will begin 45 days after publication in the Federal Register. The Proposal would not result in final rule changes until the SEC receives and considers comments on the proposals, makes any changes in response to comments, and formally adopts the rule amendments. That process is unlikely to conclude before the middle of 2022.
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