As this recent Cooley blog recounts, since the Rule 10b5-1 safe harbor was adopted 21 years ago, it’s been a magnet for controversy. In the wake of trading gains realized by pharma execs when positive vaccine news came to light last fall, which were followed by remarks from outgoing SEC Chair Jay Clayton about “good corporate hygiene” for trading plans (also see this Cohen & Gresser memo), the safe harbor has been back in the spotlight.
Earlier this month, John blogged about “best practices” suggested by Glass Lewis that would promote transparency around these arrangements. People are now also talking about the “red flags” identified by this Stanford research as signs of potentially opportunistic trades. The paper caught the attention of three Democratic US Senators – who used the research as a basis for this letter to Acting SEC Chair Allison Herren Lee. In it, the lawmakers urge the SEC to reexamine its policies on Rule 10b5-1 plans to improve “transparency, enforcement and incentives.”
Specifically, the Senators note these possible remedies for “abusive” Rule 10b5-1 practices:
1. Requiring a four-to-six month “cooling off period” between adoption or amendment of a plan before trading under the plan may begin or recommence
2. Requiring public disclosure of the content of 10b5-1 plans, as well as trades that are made pursuant to such plans
3. Enforcement of existing filing deadlines – and requiring that forms disclosing 10b5-1 adoption dates are posted on Edgar
4. Enforcement of penalties when executives “benefit from short-term windfalls that don’t translate into long-term gains” – by way of modifying Exchange Act Section 16(b) to apply to 10b5-1 profits that follow disclosure of material information, if the share price falls immediately after that disclosure
The letter asks the SEC to respond by next week to a series of questions about its actions on this topic. One recommendation that the Senators didn’t pull in from the Stanford research – for now – was a disqualification of single-trade plans. The professors contend that these plans are no different than traditional limit orders – and that Rule 10b5-1 should only apply to multiple transactions spread over a certain time period.
While that recommendation might seem reasonable to people who aren’t dealing with administration of these plans, people in the trenches view it as further evidence of the “great divide” on this topic. A member wrote in with this feedback:
One recommendation that caught my eye is to disqualify single-trade plans. They say that single-trade plans aren’t different from traditional limit orders (which wouldn’t qualify for the safe harbor). I disagree. A trading plan can just set a tranche of shares to sell at a future date without specifying a price – they can be sold at whatever the market price is, which of course differs from a limit order.
My understanding of why an insider might have a single-trade plan is to diversify holdings following vesting of a large award. They know the vesting is coming up, they already hold a bunch of shares, and they want to diversify. So, they set up a trade sometime down the road, which allows the sale to happen even if there’s an unscheduled blackout and also allows them to avoid dealing with executing the trade when they’re busy with other things six months from now.
Also, we have a process with our captive broker where any limit order is automatically terminated when the trading window closes, as we don’t want it to execute during a blackout period. So for our execs, a limit order wouldn’t solve the issue of being able to trade during a blackout period – but a trading plan would.
SOX Compliance in Pandemic Times
Does it seem like everything is taking longer and requiring more planning in pandemic times? Between masking up, thorough hand-washing and navigating crowds, I’m factoring in at least an extra 30 minutes for any encounter with the outside world. Good luck buying a car or “dropping in” to fitness classes or hair salons. And if you want to mail anything, you’d better plan for at least 6 weeks of delivery time.
Well, according to this Toppan Merrill memo (pg. 2), you’re probably also going to need to allot more time to compliance processes this year. It’s taking longer to test SOX controls in the remote environment, and many of the people involved are overworked and tired. External auditors also want to be brought into the tent earlier so that they can spend more time digging through any non-routine transactions.
To maintain the rigor of compliance programs, the memo recommends spending more time on quality employee training, and revisiting the basics of your controls and documentation, to make sure everything is working. Especially if your company is suffering a revenue downturn, “minor” transactions could end up having a bigger impact than you’d typically expect.
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– Liz Dunshee