An SEC proposal to curb insider trading would force executives to be more careful about selling company stock, as their scheduled trades face longer waiting periods and greater scrutiny from Wall Street cops and investors.
The Securities and Exchange Commission Dec. 15 proposed a rule that would establish a roughly four-month period between when executives can schedule a trade and then sell their stock, in order to take advantage of a safe harbor from enforcement. The agency also would require companies to disclose executives’ trading plans in quarterly reports.
The proposed rule is a “big deal” and would limit an SEC enforcement shield that company officials can use to sell stock quickly with little oversight, said Brian Rosenzweig, co-chair of Covington & Burling LLP’s securities and capital markets practice group.
Most companies only impose about a one-month waiting period on their executives and disclose little information about their trading arrangements under current rules, he said.
“It’s going to make them think harder about setting them up,” Rosenzweig said of the SEC rule.
The move to tighten the requirements comes after lawmakers, including Sen. Elizabeth Warren (D-Mass.), raised concerns about suspiciously timed trades by executives who have access to material, non-public information. SEC Chair Gary Gensler and other Democrats have said the current regulations under Rule 10b5-1—last updated in 2000—are riddled with loopholes that allow executives to sell stock whenever they want with a defense against insider trading.
The proposal draws heavily from a 2012 petition from the Council of Institutional Investors and a recommendation the SEC’s Investor Advisory Committee made earlier this year. The recommendation and the petition both called for a multi-month cooling-off period and more disclosures.
The petition from the CII, which represents pensions, said executives with 10b5-1 plans did better than expected on their trades around the time of market-moving news, such as earnings reports.
“The adoption and implementation of the proposed rule together with active SEC enforcement of its requirements should go a long ways to discouraging executives from adopting Rule 10b5-1 plans in bad faith or using the plans as a vehicle for inappropriate use of material non-public information,” CII general counsel Jeff Mahoney told Bloomberg Law.
Daniel Taylor, director of the Wharton Forensic Analytics Lab at the University of Pennsylvania, said he’s seen several plans that company officials set up and then executed the next day.
Give some companies a large amount of discretion, and they will abuse it, Taylor said.
Most information about executives’ 10b5-1 plans comes in a document known as Form 144, which they must file if they plan to sell at least $50,000 in stock in a three-month period. But the disclosures only include details about the adoption or modification of the plans.
Executives can mail the information to the SEC, which most do. The public then can view paperwork in the agency’s reading room, though some is now uploaded online.
The SEC has given minimal scrutiny to the little data it has about executives’ trading arrangements. Bloomberg News reported earlier this year the agency wasn’t putting the information in its surveillance systems and threw out any paperwork on trading plans after 90 days.
Under the SEC’s new proposal, investors and the SEC could easily search the agency’s corporate filings database EDGAR for information about which executives have 10b5-1 trading plans, as well as details like the date they were adopted, their duration, and the amount of stock sold under the arrangements.
Investors may update their valuation of a company if they saw an executive was altering or canceling a plan, Taylor said. SEC enforcement lawyers also would have an interest, he said.
“They want to know if the person is modifying it and doubling down on the selling,” Taylor said. “That provides useful information.”
A Real Problem?
But there still might not be a real problem with insider trading, said Adam Slutsky, a partner in Goodwin Procter LLP’s securities and shareholder litigation group.
Executives that use 10b5-1 arrangements already must have plans that are made “in good faith and not as part of a plan or scheme to evade the prohibitions” against insider trading, according to the rule.
“It’s not clear to me that making the more stringent requirements around things like cooling-off periods will materially affect the amount of trading with material, non-public information,” Slutsky said. “Because again, they shouldn’t be doing that in the first place.”
Company officials that receive stock as part of their compensation still need ways to pay for a house or a child’s education if they don’t have the cash on hand, Slutsky said.
Executives are free to trade without using a 10b5-1 plan, but they open themselves to enforcement actions over insider trading, making the arrangements hard to avoid for company officials who frequently have market-moving information that isn’t public, lawyers said.
Usage of 10b5-1 plans is unlikely to decrease significantly, despite any new restrictions, they said.
“It is likely to be more of a pause, an additional thought before adopting,” said Jurgita Ashley, co-chair of Thompson Hine LLP’s public companies group.
The final rule could diverge somewhat from the proposal, but the roughly four-month cooling-off period is unlikely to change.
Republican SEC Commissioners Hester Peirce and Elad Roisman both said they support the waiting period. A prohibition on executives having multiple, overlapping plans also is likely to stay, after getting Republican approval.
The SEC is gathering feedback on the proposal. The public will have 45 days to comment on the proposal after it’s published in the Federal Register, likely in the coming days or weeks. A final rule could follow later next year.
“Executives may rethink how to use these plans but I don’t think they’re going to get much sympathy if they complain about these amendments,” said Morrison & Foerster LLP partner Jina Choi, a former director of the SEC’s San Francisco Regional Office.