On August 25, 2023, the SEC published five new Compliance and Disclosure Interpretations (C&DI) on the recently effective Rule 10b5-1 amendments. The new rules were adopted on December 14, 2022 (see HERE) to enhance disclosure requirements and investor protections against insider trading. The amendments include updates to Rule 10b5-1(c)(1), which provides an affirmative defense to insider trading liability under Section 10(b) and Rule 10b-5. This is the second time the SEC has published guidance on the rules having issued three C&DI in May – see HERE.
The rule amendments updated the conditions to satisfy the 10b5-1 affirmative defense, including adding cooling-off periods before trading can commence under a Rule 10b5-1 plan and a condition that all persons entering into a Rule 10b5-1 plan must act in good faith with respect to the plan. The amendments also require directors and officers to include representations in their plans certifying at the time of the adoption of a new or modified Rule 10b5-1 plan that: (i) they are not aware of any material nonpublic information about the issuer or its securities; and (ii) 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.
Moreover, the amendments restrict the use of multiple overlapping trading plans and limit the ability to rely on the affirmative defense for a single-trade plan to one single-trade plan per twelve-month period for all persons other than issuers. Further, the amendments enhance disclosures about a company’s policies and procedures related to insider trading, including quarterly disclosure by a company regarding the use of Rule 10b5-1 plans and certain other trading arrangements by its directors and officers.
The new rules require that companies report, in tabular format, any option awards beginning four business days before the filing of a periodic report or the filing or furnishing of a current report on Form 8-K that discloses material nonpublic information, including earnings information, other than a Form 8-K that discloses a material new option award grant, and ending one business day after a triggering event. Insiders that report on Forms 4 or 5 will be required to indicate by checkbox if a reported transaction was intended to satisfy the affirmative defense conditions of Rule 10b5-1(c) and to disclose the date of adoption of the trading plan. Finally, bona fide gifts of securities that were previously permitted to be reported on Form 5 will be required to be reported on Form 4.
The amended 10b5-1 rules went effective on February 27, 2023. The Section 16 amendments to Forms 4 and 5 went effective on April 1, 2023. Smaller reporting companies will be required to comply with the new disclosure and XBRL tagging 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 October 1, 2023. All other companies are required to comply with the new disclosure and tagging requirements in the first filing that covers the first full fiscal period that began on or after April 1, 2023.
C&DI
The five new C&DI provide clarity the required cooling off period, the prohibition on multiple overlapping plans and the Form 4 checkbox requirement.
Question 120.29 addresses the cooling off period. The new rules require a cooling off period for directors and officers subject to Exchange Act Section 16 reporting requirements. The cooling off period is the later of 90 days after the adoption of the contract, instruction, or plan or “[t]wo business days following the disclosure of the issuer’s financial results in a Form 10-Q or Form 10-K for the completed fiscal quarter in which the plan was adopted.” Question 120.29 confirms that the first day of the two-business day waiting period is the day following the filing date of the 10-Q or 10-K. Accordingly, for example, if a 10-Q was filed on Monday, trading could begin on Thursday (with the intervening Tuesday and Wednesday being the two days of cooling off).
Question 120.30 addresses concurrent 401(k) and 10b5-1 plan. In particular, if a person participates in a 401(k) plan whereby the company advances cash to the plan administrator who then purchases stock in the open market to make matching grants of the company’s common stock to the participant, and the person relies on a 10b5-1 plan for such participation, that person may also have a second Rule 10b5-1 plan for non 401(k) plan open market purchases or sales. The SEC reasons that even though participants elect how much to contribute to their individual 401(k) accounts, an open-market transaction conducted at the direction of the plan administrator, and not at the direction of the plan participant, to match a contribution by the participant with employer stock would not be a disqualifying overlapping plan.
Question 120.31 confirms that the Form 4 checkbox for securities transactions made pursuant to Rule 10b5-1 trading plan does not apply to trading plans that were adopted prior to the effective date of the amendments to Rule 10b5-1. That is, the Rule 10b5-1 check box on Form 4 applies to transactions that are made pursuant to a contract, instruction, or written plan for the purchase or sale of equity securities of the issuer that is intended to satisfy the affirmative defense conditions of amended Rule 10b5-1(c).
Question 133A.01 confirms that Item 408(a)(1) of Regulation S-K does not require the disclosure of a termination of a plan that ends due to its natural expiration or completion. The disclosure rule is directed to intentional or intervening plan terminations.
Question 133A.02 clarifies the reach of the Item 408(a)(1) disclosure. In particular, Item 408(a) of Regulation S-K requires disclosure of whether any director or officer adopted or terminated a Rule 10b5-1 trading arrangement or a non-Rule 10b5-1 trading arrangement during the fiscal quarter. The SEC clarifies that Item 408(a) applies to any Rule 10b5-1 trading arrangement or non-Rule 10b5-1 trading arrangement covering securities in which an officer or director has a direct or indirect pecuniary interest that is reportable under Section 16 that the officer or director has made the decision to adopt or terminate.
Refresher on Amended Rules
Insider trading is prohibited by the general anti-fraud provisions and in particular Section 10(b) of the Exchange Act and Rule 10b-5 thereunder. Section 10(b) of the Exchange Act makes it unlawful for any person, directly or indirectly, to use or employ, in connection with the purchase or sale of any security registered on a national securities exchange or any security not so registered, or any securities-based swap agreement, any manipulative or deceptive device or contrivance in contravention of such rules and regulations as the SEC may prescribe as necessary or appropriate in the public interest or for the protection of investors.
Rule 10b-5 provides that it shall be unlawful for any person, directly or indirectly to: (i) employ any device, scheme, or artifice to defraud; (ii) to make any untrue statement of a material fact or to omit to state a material fact necessary in order to make the statements made, in the light of the circumstances under which they were made, not misleading, or (iii) to engage in any act, practice, or course of business which operates or would operate as a fraud or deceit upon any person.
The SEC adopted Rule 10b5-1 in 2000 to provide more clarity to the general anti-fraud provisions in Section 10(b) and Rule 10b-5 but even then, the law of insider trading remained largely defined by judicial opinions. There are three main theories on which insider trading is based: (i) the classical theory; (ii) misappropriation theory; and (iii) tipper/tippee theory. Rule 10b5-1(b) defines “on the basis of” for trading on insider information as “[S]ubject to the affirmative defenses in paragraph (c) of this section, a purchase or sale of a security of an issuer is ‘on the basis of’ material nonpublic information about that security or issuer if the person making the purchase or sale was aware of the material nonpublic information when the person made the purchase or sale.”
Rule 10b5-1(c) provides an affirmative defense to insider trading including for parties that frequently have access to material nonpublic information, such as corporate officers, directors and issuers.
The amendments to Rule 10b5-1 update the requirements for the affirmative defense, including imposing a cooling off period before trading can commence under a plan, prohibiting overlapping trading plans, and limiting single-trade plans to one trading plan per twelve-month period. In addition, the rules require directors and officers to furnish written certifications that they are not aware of any material nonpublic information when they enter into the plans and expand the existing good faith requirement for trading under Rule 10b5-1 plans.
In addition, the amendments require more comprehensive disclosure about a company’s policies and procedures related to insider trading and its practices around the timing of options grants and the release of material nonpublic information. The rules require that companies report in tabular format, any option awards beginning four business days before the filing of a periodic report or the filing or furnishing of a current report on Form 8-K that discloses material nonpublic information, including earnings information, other than a Form 8-K that discloses a material new option award grant, and ending one business day after a triggering event. The new disclosures must be tagged using inline XBRL.
Moreover, Forms 4 and 5 have been amended to add a new checkbox to disclose whether a transaction was made pursuant to a Rule 10b5-1(c) or other trading plan. Also, gifts of securities must now be reported on Form 4 instead of being exempt and allowed to be reported on a yearly Form 5.
Insider Trading Affirmative Defenses
Prior to the amendment, Rule 10b5-1(c) provided that a person’s purchase or sale is not on the basis of material non-public information if:
- Before becoming aware of the information, the person had: (a) entered into a binding contract to purchase or sell the security; (b) instructed another person to purchase or sell the security for the instructing person’s account, or (c) adopted a written plan for trading securities;
- The contract, instruction or plan described in (i) above: (a) must have 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 purchased or sold; (b) must have included a written formula or algorithm, or computer program, for determining the amount of and price at which the securities will be purchased or sold; or (c) did not permit the 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 contract, instruction, or plan, did exercise such influence must not have been aware of the material nonpublic information when doing so; and
- The purchase or sale that occurred was pursuant to the contract, instruction, or plan. A purchase or sale is not “pursuant to a contract, instruction, or plan” if, among other things, the person who entered into the contract, instruction, or plan altered or deviated from the contract, instruction, or plan to purchase or sell securities (whether by changing the amount, price, or timing of the purchase or sale), or entered into or altered a corresponding or hedging transaction or position with respect to those securities.
As is common with many federal securities laws and rules, Rule 10b5-1 also includes a provision that the affirmative defenses in (c) are only available when the contract, instruction, or plan to purchase or sell securities was given or entered in good faith and not as part of a plan or scheme to evade the prohibitions of the law.
The amendments to Rule 10b5-1 add new conditions to the affirmative defense found in Rule 10b5-1(c)(1), including:
- 10b5-1 trading plans entered into by corporate officers and directors, as defined by Rule 16a-1(f) must include a cooling off period such that trading does not begin until the later of: (i) 90 days after the adoption of the plan; or (ii) 2 business days following the disclosure of the company’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 company’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 cooling off period applies to new plans and the adoption of modified plans;
- 10b5-1 trading plans entered into by persons other than a Section 16 officer or director must include a 30-day cooling off period before any trading can commence under the trading plan after its adoption, including adoption of a modified trading plan;
- Under new Rule 10b5-1(c)(1) 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 acts as a termination of the plan and adoption of a new plan requiring a new cooling off period;
- Officers and directors must certify that they are not aware of material nonpublic information about the company or the security when adopting a new or modified trading plan, and that they are adopting the plan in good faith. Such certification can be included in the plan document itself;
- The affirmative defense under Rule 10b5-1(c)(1) does not apply to multiple overlapping Rule 10b5-1 trading plans for open market trades. However, traders may employ multiple plans to satisfy certain tax obligations incident to equity compensation;
- 10b5-1 trading plans to execute a single trade are limited to one plan per 12-month period; and
- 10b5-1 trading arrangements must be entered into and operated in good faith.
New Disclosure Obligations
Prior to the new rules, there were no mandatory disclosure requirements concerning the use of Rule 10b5-1 trading arrangements or other trading arrangements by issuers or corporate insiders. The new rules added new Item 408 under Regulation S-K and corresponding amendments to Forms 10-Q and 10-K to require (i) quarterly disclosure of the use of Rule 10b5-1 and other trading arrangements by a company, and its directors and officers for the trading of the company’s securities; and (ii) annual disclosure of a company’s insider trading policies and procedures. New Item 16J to Form 20-F requires similar disclosures from a foreign private issuer.
Amendments to Forms 4 and 5 require insiders to identify whether a reported transaction was executed pursuant to a trading plan. The amended Forms add a checkbox to indicate whether a transaction reported on the form was made pursuant to a contract, instruction, or written trading plan for the purchase or sale of equity securities of the issuer that is intended to satisfy the conditions of Rule 10b5-1(c). The new rules amended the Section 16 filing requirements to require the reporting of bona fide gifts on Form 4, rather than allowing the delay of such reporting to a Form 5.
New Item 408 requires companies to disclose whether in the last fiscal quarter, any director or officer adopted or terminated a Rule 10b5-1 trading arrangement and/or any written trading arrangement (a non-Rule 10b5-1 trading arrangement as defined in the new rules) and to provide a description of the material terms of such arrangement. Disclosure would require the name and title of the officer/director, the date of adoption or termination of the plan, the duration of the plan and the aggregate number of securities to be sold or purchased under the plan. Pricing information is not required. Consistent with the rest of the rules, modifications to a plan or arrangement should be treated as a termination and new adoption of a plan and disclosed as same.
New Item 408 also requires a company to disclose in annual reports on Form 10-K and proxy and information statements, 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 company itself that are reasonably designed to promote compliance with insider trading laws, rules, and regulations, and any listing standards applicable to the company. If the company has not adopted such insider trading policies and procedures, it must explain why it has not done so. Item 16J requires analogous disclosures by foreign private issuers.
The new Item 408 disclosures are subject to the officer certifications required by Section 302 of the Sarbanes-Oxley Act of 2002 – see HERE for more information on the certification requirements.
Item 402(x) requires both a narrative and tabular disclosure related to option grants. The narrative disclosure requires a company to (i) to discuss its 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 company, including how the board determines when to grant such awards; and (ii) 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 company has timed the disclosure of material nonpublic information for the purpose of affecting the value of executive compensation.
The tabular disclosure must show awards made in the 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 but excluding an 8-K to disclose a new option grant) and ending one business day after a triggering event. The table must include: (i) the name of the executive officer; (ii) grant date; (iii) number of securities underlying the award; (iv) per-share exercise price; (v) grant date fair value; and (vi) 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.
The Author
Laura Anthony, Esq.
Founding Partner
Anthony L.G., PLLC
A Corporate Law Firm
Securities attorney Laura Anthony and her experienced legal team provide ongoing corporate counsel to small and mid-size private companies, public companies as well as private companies going public on the Nasdaq, NYSE American or over-the-counter market, such as the OTCQB and OTCQX. For more than two decades Anthony L.G., PLLC has served clients providing fast, personalized, cutting-edge legal service. The firm’s reputation and relationships provide invaluable resources to clients including introductions to investment bankers, broker-dealers, institutional investors and other strategic alliances. The firm’s focus includes, but is not limited to, compliance with the Securities Act of 1933 offer sale and registration requirements, including private placement transactions under Regulation D and Regulation S and PIPE Transactions, securities token offerings and initial coin offerings, Regulation A/A+ offerings, as well as registration statements on Forms S-1, S-3, S-8 and merger registrations on Form S-4; compliance with the Securities Exchange Act of 1934, including registration on Form 10, reporting on Forms 10-Q, 10-K and 8-K, and 14C Information and 14A Proxy Statements; all forms of going public transactions; mergers and acquisitions including both reverse mergers and forward mergers; applications to and compliance with the corporate governance requirements of securities exchanges including Nasdaq and NYSE American; general corporate; and general contract and business transactions. Ms. Anthony and her firm represent both target and acquiring companies in merger and acquisition transactions, including the preparation of transaction documents such as merger agreements, share exchange agreements, stock purchase agreements, asset purchase agreements and reorganization agreements. The ALG legal team assists Pubcos in complying with the requirements of federal and state securities laws and SROs such as FINRA for 15c2-11 applications, corporate name changes, reverse and forward splits and changes of domicile. Ms. Anthony is also the author of SecuritiesLawBlog.com, the small-cap and middle market’s top source for industry news, and the producer and host of LawCast.com, Corporate Finance in Focus. In addition to many other major metropolitan areas, the firm currently represents clients in New York, Los Angeles, Miami, Boca Raton, West Palm Beach, Atlanta, Phoenix, Scottsdale, Charlotte, Cincinnati, Cleveland, Washington, D.C., Denver, Tampa, Detroit and Dallas.
Ms. Anthony is a member of various professional organizations including the Crowdfunding Professional Association (CfPA), Palm Beach County Bar Association, the Florida Bar Association, the American Bar Association and the ABA committees on Federal Securities Regulations and Private Equity and Venture Capital. She is a supporter of several community charities including the American Red Cross for Palm Beach and Martin Counties, Susan Komen Foundation, Opportunity, Inc., New Hope Charities, the Society of the Four Arts, the Norton Museum of Art, Palm Beach County Zoo Society, the Kravis Center for the Performing Arts and several others.
Ms. Anthony is an honors graduate from Florida State University College of Law and has been practicing law since 1993.
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