Rulemaking Activity

SEC Adopts New Rule 10b5-1 Trading Plan and Trading-Related Disclosure and Reporting Requirements

On December 14, 2022, the SEC adopted amendments to Rule 10b5-1 under the Exchange Act and new disclosure requirements relating to trading activity of corporate insiders and the trading policies of issuers. The amendments, among other things, add significant new conditions to the availability of Rule 10b5-1’s affirmative defense to insider trading liability, including: (i) a cooling-off period; (ii) a certification as to the absence of possession of no material nonpublic information; (iii) limitations on overlapping and single trade plans; and (iv) a requirement to act in good faith. In addition, the amendments create new disclosure requirements regarding: (i) the adoption, modification and termination of Rule 10b5-1 and other trading arrangements by Section 16 officers; (ii) insider trading policies and procedures of issuers; and (iii) the timing of option awards to named executive officers made in close proximity to the issuer’s release of material nonpublic information. The amendments also augment the reporting obligations under Section 16 of the Exchange Act for transactions made pursuant to a Rule 10b5-1 trading arrangement and gifts. The full text of the final rules is available here.

Amendments Regarding Rule 10b5-1 Trading Plans

Mandatory Cooling-Off Period

Directors and officers subject to the beneficial ownership reporting requirements of Section 16 of the
Exchange Act (“Section 16 officers”) will be subject to a cooling-off period extending to the later of: (i) 90 days after the adoption or modification of a Rule 10b5-1 trading plan; and (ii) two business days following the disclosure of the issuer’s financial results for the fiscal quarter in which the plan was adopted or modified (but not to exceed 120 days following adoption or modification of the plan). Persons other than directors and Section 16 officers are subject to a cooling-off period of 30 days after the adoption or modification of a Rule 10b5-1 trading plan before any trading can commence under the plan. The amendments do not include a mandatory cooling off period for the issuer, although the SEC noted that they believe further consideration of such requirements to issuers is warranted.

In certain circumstances, a stockholder should consider whether to implement the longer 90–120 day
cooling-off period, such as when an individual who controls investment decisions of the stockholder is also a director of the subject company. We recommend discussing the relevant facts and circumstances with counsel in these and similar circumstances to determine the appropriate cooling off period.

Importantly, the existence of a cooling-off period does not cleanse a Rule 10b5-1 plan entered into  while in possession of material nonpublic information, even if such information becomes public prior to the commencement of trading under the plan. In fact, as noted below, the new rules require a certification as to the absence of possession of material nonpublic information at the time of adoption of the plan in addition to the imposition of cooling-off periods.

Certification of No Material Nonpublic Information

Directors and Section 16 officers will be required to include a representation in any Rule 10b5-1 trading plan certifying that at the time of the adoption of a new or modified trading arrangement: (i) they are not aware of material nonpublic information about the issuer or its securities; and (ii) they are adopting the trading arrangement in good faith and not as part of a plan or scheme to evade the prohibitions of Section 10(b) and Rule 10b-5 under the Exchange Act. The amended rules do not require that issuers make representations when adopting or modifying a Rule 10b5-1 trading arrangement, but it is typical for brokers to require that an issuer’s share repurchase plan include such representations.

Restrictions on Overlapping Plans and Single-Trade Arrangements

The affirmative defense under Rule 10b5-1(c)(1) will not be available for any trades by a person, other than the issuer, that has established multiple overlapping trading arrangements. This condition also precludes separate, overlapping arrangements where each relates to a different class of securities of the same issuer. However, plans with separate brokers will be deemed to constitute a single plan if, when taken together, the plans otherwise satisfy the conditions of Rule 10b5- 1(c)(1). This condition does not restrict a person from maintaining separate trading arrangements at the same time, so long as trades under the later-commencing plan do not commence until the completion or expiration of the earlier plan. However, to the extent the earlier plan was terminated before all planned transactions under the plan were completed or the time set for the plan expired (in other words, an “early” termination of the plan), the later adopted plan will be subject to an “effective cooling-off period” that begins on the date of the earlier plan’s termination and runs for the full cooling off period applicable to the person instituting the plan. An overlapping plan that provides for only “sell-to-cover” sales necessary to satisfy new tax withholding obligations also will not violate this condition under certain circumstances. In addition, other than for the issuer, the affirmative defense under Rule 10b5-1(c)(1) will only be available for one plan designed to effect a single trade in any 12-month period.

This restriction on overlapping trading arrangements, on its face, permits a participant to satisfy the cooling off period applicable to a later-commencing plan while an existing plan is still active, unless the first plan is terminated early. In that case, the later commencing plan would not be compliant with the rule if trades begin during an “effective cooling-off period” measured from the date of termination of the first plan. However, this aspect of the amended rule leaves room for interpretation, and it is possible the SEC could take a more restrictive view and apply the “effective cooling-off period” to the end of the first plan in all circumstances (and not just early termination).

Good Faith

A trader that has entered into a Rule 10b5-1 trading arrangement is required to act in good faith with
respect to the trading arrangement (in addition to the current requirement that a Rule 10b5-1 trading arrangement be entered into in good faith), thereby making clear that the affirmative defense will not be available to a trader that cancels or modifies a plan in an effort to benefit their trading results, such as by using their influence to affect the timing of the announcement of material nonpublic information, or otherwise attempting to evade the prohibitions of the rule.

Amendments to Trading-Related Disclosure Requirements

New Item 408(a) of Regulation S-K will require anissuer to disclose in its Form 10-Q or Form 10-K, as
applicable, whether, during the last fiscal quarter, any director or officer of the issuer has adopted, modified or terminated: (i) any trading arrangement that is intended to satisfy the affirmative defense conditions of Rule 10b5-1(c)(1) and/or (ii) any written trading arrangement that meets the requirements of a “non-Rule 10b5-1 trading arrangement” (as defined in new Item 408(c)). [1] The issuer must also provide a description of the material terms of any such trading arrangement—which need not include pricing terms—and indicate whether such trading arrangement is a Rule 10b5-1 trading arrangement or is a non-Rule 10b5-1 trading arrangement. Reporting companies with a calendar year fiscal year will be required to comply with the new Item 408(a) disclosure requirements in their Form 10-Q for the quarter ended June 30, 2023.

New Item 408(b) of Regulation S-K and new Item 16J to Form 20-F will require an issuer to disclose whether it has adopted insider trading policies and procedures governing the purchase, sale and other dispositions of the issuer’s securities by directors, officers and employees of the issuer, or by the issuer itself, that are reasonably designed to promote compliance with insider trading laws, rules and regulations and any applicable listing standards. If not, the issuer will be required to explain why it has not done so. These disclosures will be required in annual reports on Forms 10-K and 20-F and proxy and information statements on Schedules 14A and 14C. An issuer will also be required to file a copy of their insider trading policies and procedures as an exhibit to Forms 10-K and 20-F, respectively. Reporting companies with a calendar year fiscal year will be required to comply with the new Item 408(b) disclosure requirements on their Form 10-K or Form 20-F for the 2024 fiscal year.

New Item 402(x) of Regulation S-K will require an issuer to include tabular disclosure of each option and stock appreciation right (including the number of securities underlying the award, the date of grant, the grant date fair value and the exercise price) granted to its named executive officers in the four business days before the filing of a periodic report (e.g., Form 10-Q or Form 10-K) or the filing or furnishing of a current report on Form 8-K that contains material nonpublic information (except for an Item 5.02(e) Form 8-K that only discloses a material new option award grant) and ending one business day after the filing or furnishing of such report.

Amendments to Trading-Related Reporting Requirements

The amendments enhance reporting obligations of Section 16 officers, directors and beneficial owners of more than 10% of an issuer’s registered equity securities (“Section 16 insiders”) under Section 16 of the Exchange Act relating to: (i) sales or purchases made pursuant to a Rule 10b5-1 trading arrangement, which must now be identified by a “check box” on the Form and (ii) dispositions of equity securities by Section 16 insiders that constitute bona fide gifts, which must now be reported on Form 4 (previously, gifts could be reported annually on Form 5).

For more information about the amendments to Rule 10b5-1 under the Exchange Act and new disclosure requirements relating to trading activity of corporate insiders and trading policies of issuers, please see our Debevoise Update here.

SEC Adopts Share Repurchase Disclosure Rules

On May 3, 2023, the SEC adopted a series of new rules requiring additional disclosures by issuers of
purchases of equity securities made by or on behalf of an “issuer” or any “affiliated purchaser” registered under Section 12 of the Exchange Act, aiming to enhance the “quality, relevance, and timeliness” of such disclosures. [2]

While the SEC acknowledged in the adopting release that share repurchases are generally implemented for legitimate business reasons (e.g., reducing dilution from equity incentive plan issuances), the SEC expressed concerns about the use of share repurchases for earnings management or to increase management’s compensation. [3] The new rules seek to address these concerns by providing investors with additional information to help investors better understand the extent of an issuer’s activity in the market and an issuer’s motivation for share repurchases, and to allow investors to gather knowledge about the potential relationship among executive compensation, stock sales and share buybacks. Most significantly, the new rules require:

• most issuers to disclose their daily share repurchase activity on a quarterly basis;
• additional disclosures in periodic reports regarding the objective and structure of an issuer’s repurchase program, including Rule 10b5-1 trading arrangements, and policies relating to trading activity by officers and directors during repurchase programs;
• issuer periodic reports to identify trading activity by officers and directors in close proximity to an announcement of a share repurchase program; and
• the tagging of share repurchase information with inline eXtensible Business Reporting Language.

The full text of the rules is available here.

For most issuers, the rules apply to the first periodic report on either Form 10-Q or Form 10-K in respect of the first full fiscal quarter that begins on or after October 1, 2023. The quarterly reporting requirements for foreign private issuers will apply with the first full fiscal quarter that begins on or after April 1, 2024, using the new Form F-SR, while the annual reporting requirements will apply beginning with the first Form 20-F filing after the first Form F-SR is filed. For listed closed-end funds, the rules will apply beginning with the Form N-CSR for the first six-month period that begins on or after January 1, 2024.

For more information about the new share repurchase disclosure rules, please see our Client Debrief here.

SEC Maintains Focus on Non-GAAP Financial Measures

Non-GAAP financial measures remain a significant focus of the SEC, exemplified by frequent SEC staff comment letters, a recent enforcement action against DXC Technology Company (“DXC”) that settled in March 2023 and new and revised Compliance and Disclosure Interpretations (“C&DIs”) issued in December 2022.

SEC 2022 Comment Letters on Non- GAAP Measures

Non-GAAP financial measures were a frequent topic in comment letters issued by the staff of the Division of Corporation Finance of the SEC (the “Staff”) during 2022. At the 2022 Association of International Certified Professional Accountants & Chartered Institute of Management Accountants conference, representatives of the Staff noted that non-GAAP financial measures continue to be an area of concern because the Staff believes that registrants continue to misapply applicable guidance. [4] The Staff also indicated that non-GAAP financial measures remain one of the most frequent topics of comment letters issued to registrants. [5] Based on our analysis of publicly available comment letters issued to over 230 issuers in 2022, approximately 15% of comment letters issued by the Staff in 2022 included at least one comment relating to non-GAAP financial measures. Based on this review, we note that the Staff’s comments in relation to non-GAAP financial measures most frequently address the following points:

• presenting the most directly comparable GAAP financial measure with equal or greater prominence as the non-GAAP financial measure;
• providing an appropriate reconciliation of the non-GAAP measure to the most directly comparable
  GAAP financial measure;
• disclosing why management believes the non- GAAP financial measure provides useful information to investors and the additional purposes, if any, for which management uses such measure;
• identifying and clearly labeling non-GAAP financial measures; and
• non-GAAP measures that the Staff believes are based on individually tailored accounting principles.

SEC Brings Enforcement Action for Misleading Non-GAAP Measures

In line with its heightened focus on non-GAAP financial measures, on March 14, 2023, the SEC announced the settlement of charges against DXC, an IT services company, relating to the use of allegedly misleading non-GAAP disclosures and the failure to maintain sufficient disclosure controls and procedures. [6] DXC agreed to settle SEC charges that it made misleading disclosures about its non-GAAP financial performance in multiple reporting periods from 2018 until early 2020. The SEC alleged that DXC materially increased its reported non-GAAP net income by negligently misclassifying tens of millions of dollars of expenses as non-GAAP adjustments for so-called transaction, separation and integration related (“TSI”) costs, which resulted in DXC improperly excluding these costs from its non-GAAP measures of earnings.

The SEC alleged that, throughout the relevant period, DXC failed to accurately describe the scope of expenses included in TSI costs, causing DXC’s non- GAAP net income and non-GAAP diluted EPS in reports and earnings releases to be materially misleading. DXC presented TSI as comprising “onetime” or “non-recurring” expenses. However, the SEC alleged that DXC did not have sufficient non-GAAP policies and procedures or disclosure controls and procedures to ensure that costs classified as TSI were consistent with the company’s description of those costs in its public disclosure. DXC agreed to pay an $8 million penalty relating to violations of the Securities Act, the Exchange Act and Regulation G. DXC also agreed to develop and implement appropriate non-GAAP policies and disclosure controls and procedures.

The SEC’s substantial settlement with DXC demonstrates the SEC’s ongoing focus on non-GAAP
financial measures and highlights the importance of incorporating considerations relating to non-GAAP measures within a reporting company’s disclosure controls and procedures. The undertakings agreed by DXC provide a framework for the type of disclosure controls and procedures relating to non-GAAP measures that public companies should consider.

SEC Releases Updated Guidance on Non-GAAP Financial Measures

On December 13, 2022, the Staff issued guidance relating to the use of non-GAAP financial measures through new C&DIs, reflecting an ongoing focus on the use of potentially misleading non-GAAP financial measures. The Staff revised three existing C&DIs and added two new C&DIs to clarify existing guidance and to provide new guidance on a variety of common non-GAAP financial measure disclosure practices and presentations. The updates provide greater insight into the types of non-GAAP measures the Staff believes are misleading and clarifies when the Staff will view a non-GAAP measure as having greater prominence than a GAAP measure. Please see our Debrief for additional information about the new C&DIs.

We expect the SEC and its staff to continue prioritizing non-GAAP financial measures in disclosure reviews and enforcement actions. To enhance compliance with Regulation G and Item 10(e) of Regulation S-K, issuers should review the newly issued C&DIs and evaluate the potential impact of this guidance on their upcoming earnings releases and periodic reports. Issuers should also review their disclosure controls and procedures relating to how they record, process, summarize and report non-GAAP financial measures, particularly in light of the undertakings included as part of the DXC settlement.

Please see our Debevoise In Depth for a more detailed discussion on this subject.

Endnotes

1A covered person has entered into a non-Rule 10b5-1 trading arrangement where: (1) The covered person asserts that at a time when they were not aware of material nonpublic information about the security or the issuer of the security they had adopted a written arrangement for trading the securities and (2) The trading arrangement: (i) 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; (ii) Included a written formula or algorithm, or computer program, for determining 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; or (iii) Did not permit the covered 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 trading arrangement, did exercise such influence must not have been aware of material nonpublic information when doing so.(go back)

2An “affiliated purchaser” is any: (i) person acting, directly or indirectly, in concert with the issuer for the purpose of acquiring the issuer’s securities; or (ii) an affiliate who, directly or indirectly, controls the issuer’s purchases of such securities, whose purchases are controlled by the issuer, or whose purchases are under common control with those of the issuer; but does not include a broker, dealer or other person solely by reason of such broker, dealer or other person effecting Rule 10b-18 purchases on behalf of the issuer or for its account, or any officer or director of the issuer solely by reason of that officer or director’s participation in the decision to authorize Rule 10b-18 purchases by or on behalf of the issuer.(go back)

3See at ¶ 19, Final Rule: Share Repurchase Disclosure Modernization (May 3, 2023),
https://www.sec.gov/rules/final/2023/34-97424.pdf.(go back)

4See KPMG, SEC’s Corp Fin Explains its Priorities and Concerns (2022), https://frv.kpmg.us/reference-library/2022/2022-aicpa-cima-conference/secs-corp-fin-explains-its-priorities-and-concerns.html.(go back)

5See KPMG, Clarifying Non-GAAP Financial Measures (December 2022), Clarifying non-GAAP financial measures (kpmg.us)(go back)

6In the Matter of DXC Technology Company, Exchange Act Rel. No. 97140 (March 14, 2023), https://www.sec.gov/litigation/admin/2023/33-11166.pdf.(go back)