The Securities and Exchange Commission's Division of Corporation Finance has updated its Compliance and Disclosure Interpretations relating to Rule 10b5-1 under the Securities Exchange Act of 1934. Rule 10b5-1 provides an affirmative defense from insider trading liability for trades made while in the possession of material nonpublic information, if the insider strictly follows the requirements of Rule 10b5-1(c). Generally, compliance with Rule 10b5-1(c) requires the insider to establish a trading plan with another person (typically, a broker) while not in possession of material nonpublic information, which specifies the amount, price and date for future trades, and which prohibits the insider from exercising any influence over trades after the plan's establishment.
While the SEC's new and revised interpretations are generally consistent with current Rule 10b5-1 plan design and practice, the interpretations include the following clarifications and new guidance:
- The termination of a Rule 10b5-1 plan while in possession of material nonpublic information does not by itself result in liability under Section 10(b) of the Securities Exchange Act of 1934 and Rule 10b-5. The SEC staff noted that Section 10(b) and Rule 10b-5 apply to fraudulent conduct in connection with a purchase or sale. However, see below regarding the termination of a plan in relation to the establishment of a new plan.
- The cancellation of a scheduled trade under a Rule 10b5-1 plan will automatically terminate the plan. Thus, a new plan must be established in accordance with Rule 10b5-1(c) to establish the affirmative defense provided by Rule 10b5-1. The SEC staff has supplemented an existing interpretation to emphasize that the staff will evaluate the circumstances surrounding the cancellation of a plan and the establishment of a new plan, including the timing between the cancellation and the establishment of a new plan, when determining if a new plan was "made in good faith and not part of a plan or scheme to evade" the prohibitions of Rule 10b5-1(c). Insiders terminating an existing Rule 10b5-1 plan should consider waiting a period of time before establishing a new trading plan. The length of this waiting period will need to be evaluated based on the facts and circumstances surrounding the cancellation of the old plan and the establishment of a new plan.
- A party may not enter into a Rule 10b5-1 trading plan while in possession of material nonpublic information, even where the plan is designed so that no trades take place before the information is made public.
- A Rule 10b5-1 trading plan may be transferred to a new broker if the current broker ceases operations without the plan being terminated, so long as the transfer (1) does not result in the cancellation of a transaction that was scheduled to occur under the plan and (2) the new broker continues to make trades in accordance with the terms of the plan. The broker transfer may occur even though the insider is in possession of material nonpublic information at the time of the transfer.
- A new interpretation provides guidance on an issuer's use of a Rule 10b5-1 plan for the purpose of repurchasing company stock. Pursuant to this guidance, it is not permissible for a Rule 10b5-1 repurchase plan to contain a provision designed to reduce the number of shares to be purchased pursuant to the plan based on the number of shares repurchased by the issuer in block trades outside of the plan. The SEC staff reasoned that such a provision was not permissible because it would give the issuer the ability to effectively modify a plan by executing block trades while in possession of material nonpublic information.
- In contrast with the previous point, the SEC staff stated that a plan may be structured to limit the size of trades to comply with the volume limitation restrictions set forth in Rule 144(e). In this case, careful attention to Rule 10b5-1(c) must be paid.