SEC Adopts Amendments to Rule 10b5-1 and Related Disclosure Requirements

Practical Law Legal Update w-037-9365 (Approx. 8 pages)

SEC Adopts Amendments to Rule 10b5-1 and Related Disclosure Requirements

by Practical Law Corporate & Securities

Amendments to Rule 10b5-1

Rule 10b5-1 was adopted in August 2000 to codify the SEC's position that merely being aware of material nonpublic information is sufficient to establish liability for insider trading under Section 10(b) and Rule 10b-5 of the Exchange Act. However, Rule 10b5-1 also created an affirmative defense against allegations of insider trading where the person in possession of material nonpublic information executes trades under a plan that complies with the provisions of Rule 10b5-1(c)(1), which are referred to as Rule 10b5-1 trading plans or 10b5-1 plans.

To address concerns about insiders abusing the current rule, the SEC adopted new conditions to the availability of the Rule 10b5-1(c)(1) affirmative defense, including:

Requiring Rule 10b5-1 trading plans to include a "cooling off" period before trades under the plan can commence.
Requiring 10b5-1 plans of directors and officers to include a certification at the time of adoption or modification.
Placing restrictions on multiple overlapping 10b5-1 plans (hedging trading plans) and 10b5-1 plans to execute a single trade.
Requiring persons entering into 10b5-1 plans to act in good faith with respect to the plans.

Cooling Off Period

The SEC adopted a cooling off period that will apply to all persons, other than the issuer, with directors and officers (as defined in Rule 16a-1) needing to have a longer cooling off period.

Directors and officers who adopt a Rule 10b5-1 plan will not be able to rely on the rule's affirmative defense unless the plan provides that trading under the plan will not begin until the later of:

90 days after the adoption of the Rule 10b5-1 plan.
Two business days after the disclosure of the issuer's financial results for the fiscal quarter in which the plan was adopted or modified.

An issuer will be considered to have disclosed its financial results when it files a Form 10-Q or Form 10-K, or files a Form 20-F or furnishes a Form 6-K that discloses the financial results for a foreign private issuer (FPI). In any case, the required cooling off period for directors and officers is subject to a maximum of 120 days after adoption of the plan.

For all other persons that are not a director, an officer, or the issuer, no purchases or sales can occur until the expiration of a 30-day cooling off period from the plan's adoption.

Amended Rule 10b5-1(c)(1) will also specifically provide that a modification or change to the amount, price, or timing of the purchase or sale of the securities underlying the Rule 10b5-1 plan is a termination of such plan and the adoption of a new plan that will trigger a new cooling off period.

Director and Officer Certifications

As a condition to the availability of the affirmative defense, amended Rule 10b5-1 will also require directors and officers adopting a Rule 10b5-1 plan to include in the plan a representation certifying that at the time of adoption that they:

Are not aware of material nonpublic information about the issuer or its securities.
Are adopting the plan in good faith and not as part of a plan or scheme to evade the prohibitions of Rule 10b-5.

Multiple Overlapping and Single-Trade Rule 10b5-1 Plans

Amended Rule 10b5-1 will also generally not allow persons to have multiple overlapping Rule 10b5-1 plans. A new condition to the affirmative defense provides that persons may not have another outstanding (and may not enter into any additional) Rule 10b5-1 plan for the purchases or sales of any class of securities of the issuer on the open market during the same period. However, the SEC also adopted certain exceptions to the general prohibition on overlapping plans, including where:

A series of separate contracts with different broker-dealers or other agents acting on behalf of the person to execute trades may be treated as a single Rule 10b5-1 plan, provided that all of the individual contracts, when taken together as a whole, meet the applicable conditions and remain subject to Rule 10b5-1.
A person has a later-commencing Rule 10b5-1 plan that is not authorized to begin trading until trades under the earlier-commencing plan are completed or expire without execution, provided that the later-commencing plan must still comply with the applicable cooling off period from the date of termination of the earlier-commencing plan.
A contract, instruction, or plan provides for an eligible sell-to-cover transaction where:
- an agent is only authorized to sell securities as is necessary to satisfy tax withholding obligations arising exclusively from the vesting of a compensatory award; and
- the insider does not otherwise exercise control over the timing of such sales.

The SEC is also placing a restriction on single-trade Rule 10b5-1 plans. Under the amended rule, persons will be able to rely on the Rule 10b5-1(c) affirmative defense for only one single-trade plan during any 12-month period.

Acting in Good Faith

The Rule 10b5-1(c) affirmative defense already requires the trading arrangement to be entered into in good faith, but the SEC is now also adding as a condition that a person who entered into the Rule 10b5-1 plan has acted in good faith with respect to the plan. The additional requirement is intended to deter opportunistic trading and corporate insiders from improperly influencing the timing of corporate disclosures to benefit their trades under the plan.

Enhanced Disclosure Obligations

The SEC also adopted a number of amendments to create new disclosure and reporting obligations regarding the use of Rule 10b5-1 plans and other areas of concern related to insider trading and abuse by corporate insiders, including:

New Item 408 of Regulation S-K which will require companies to disclose:
- information on the use of Rule 10b5-1 and non-Rule 10b5-1 plans;
- insider trading policies and procedures adopted by the company, if any.
New Item 402(x) of Regulation S-K to require disclosure about the company's policies and procedures related to the grant of equity awards in close proximity to the release of material non-public information.
Amendments to Section 16 insider reporting obligations.

Rule 10b5-1 and non-Rule 10b5-1 Trading Arrangements

To address the lack of transparency under current rules around the use of Rule 10b5-1 plans, the SEC adopted new Item 408(a) of Regulation S-K and corresponding amendments to Forms 10-Q and 10-K to require quarterly disclosure of:

Whether a director or officer adopted or terminated a Rule 10b5-1 or non-Rule 10b5-1 trading arrangement.
Whether the trading arrangement is intended to satisfy the Rule 10b5-1(c) affirmative defense.
A description of the material terms of the trading arrangement, other than terms with respect to price, such as:
- the name and title of the director or officer;
- the date of adoption or termination of trading arrangement;
- the duration of the trading arrangement;
- the aggregate number of securities to be sold or purchased under the trading arrangement.

New Item 408(c) provides for when a director or officer has entered into a "non-Rule 10b5-1 trading arrangement."

Insider Trading Policies and Procedures

New Item 408(b) of Regulation S-K will require annual disclosure of whether the company has adopted insider trading policies and procedures in annual reports on Form 10-K and proxy and information statements on Schedules 14A and 14C. Companies that have not adopted such policies and procedures must explain why they have not done so. Companies that have must file the adopted policies and procedures as an exhibit. If the company's adopted insider trading policies and procedures are included in the company's code of ethics, and the code of ethics has been filed as an exhibit under Item 406, this would satisfy the new Item 408(b) filing requirement.

Foreign private issuers will also be required to disclose their insider trading policies annually under new Item 16J in Form 20-F.

For more information on insider trading policies, see Standard Documents, Corporate Policy on Insider Trading and Summary Memorandum on Insider Trading.

Spring-Loaded Awards

To increase transparency around stock option awards granted to executives in close proximity to the release of material nonpublic information (referred to as "spring-loaded" when awarded shortly before the release of positive news and "bullet dodging" when shortly after bad news), the SEC is adopting Item 402(x) of Regulation S-K.

Item 402(x)(1) will require narrative disclosure about the company's option grant policies and practices regarding the timing of option grants and the release of material nonpublic information, including:

How the board determines when to grant such awards.
Whether and how the board or compensation committee takes material nonpublic information into account when determining the timing and terms of an award.
Whether the company has timed the disclosure of material nonpublic information for the purpose of affecting the value of executive compensation.

Item 402(x)(2) will require tabular disclosure of:

Each option award granted within the four business days before and one day after:
- the filing of a periodic report; or
- the filing or furnishing of a current report on Form 8-K that discloses material nonpublic information, except for a Form 8-K disclosing a material new option award grant under Item 5.02(e) of Form 8-K.
The percentage change in the market value of the securities underlying the award between one day before and one day after the disclosure of the material nonpublic information.

Section 16 Insider Reporting

The SEC also adopted amendments to the reporting obligations of Section 16 insiders, including:

Amending Form 4 and Form 5 to require Section 16 officers and directors to check a box indicating whether a reported transaction was made under a trading plan intended to satisfy the Rule 10b5-1(c) affirmative defense.
Amending Rule 16a-3 to require officers, directors, and beneficial owners of more than 10% of the issuer's registered equity securities who make a gift of equity securities to report the gift on Form 4 within two business days.

For more information on current Section 16 reporting requirements, see Practice Note, Section 16 Reporting: Why, How and When to Do It.

Inline XBRL

The final amendments will require companies to tag the information specified in the following new items in Inline XBRL in accordance with Rule 405 of Regulation S-T and the EDGAR Filer Manual:

Items 402(x), 408(a), and 408(b)(1) of Regulation S-K.
Item 16J(a) of Form 20-F.

Effective and Compliance Dates

The final amendments will become effective 60 days after publication in the Federal Register. However, the SEC adopted the following compliance dates:

Section 16 reporting persons will be required to comply with:
- the amendment to Rule 16a-3 to report making a gift of equity securities on Form 4 within two business days beginning on February 27, 2023; and
- the amendments to Forms 4 and 5 to check a box regarding transactions under a trading plan intended to satisfy the Rule 10b5-1(c) affirmative defense for beneficial ownership reports filed on or after April 1, 2023.
Issuers that are smaller reporting companies will be required to comply with the new disclosure and Inline XBRL tagging requirements in periodic reports and in any proxy or information statements that are required to include the Item 408, Item 402(x), 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 Inline XBRL tagging requirements in periodic reports and in any proxy or information statements that are required to include the Item 408, Item 402(x), or Item 16J disclosures in the first filing that covers the first full fiscal period that begins on or after April 1, 2023.

For more information on trading plans under current Rule 10b5-1, see Practice Note, Rule 10b5-1 Trading Plans and Rule 10b5-1 Plans: Best Practices Checklist.

SEC Adopts Amendments to Rule 10b5-1 and Related Disclosure Requirements | Practical Law