10b5-1 Interps

• Even though the adoption of a written plan under Rule 10b5-1 occurs several months before the first sale of securities under the plan, the mere adoption of the Rule 10b5-1 plan change does not change the due date for the Form 144. The Form 144 must be transmitted for filing concurrently with either the placement of a sell order for a brokerage transaction, or the execution of the sale directly with a market maker, as provided in Rule 144(h). The adoption of the plan itself may not be the same as placement of a sell order. The notice on Form 144 is effective for a maximum of three months, so that sales over longer periods will involve multiple requirements of notice under Rule 144(h).
• A seller under Rule 144 does not need to modify the Form 144 to state that the representation regarding the seller's knowledge of material information regarding the issuer is as of the date the Rule 10b5-1 plan was adopted or instructions given, rather than the date the person signs the Form 144. The form already includes the representation, so modification is unnecessary.
• At a time when she is not aware of material nonpublic information, a person establishes a trust with a direction to sell a specified number of shares quarterly, but otherwise relinquishing control over the trust's assets. The defense under Rule 10b5-1(c)(1)(i)(B)(3) would be available for those specified sales. Rule 10b5-1(c)(1)(i)(B)(3) contemplates that a person, while not aware of material nonpublic information, may delegate to a third party under a contract, instruction or written trading plan, all subsequent influence over how, when or whether to effect purchases or sales. Reliance on this affirmative defense does not prevent the person from setting some of the terms of the purchases or sales at the creation of the contract, instruction or plan so that no one has subsequent discretion as to those terms. For example, this defense would be available if, in creating the contract, instruction or plan, the person specifies one or two of the amount, price or date of transactions. Whether or not any terms are set at creation, for a Rule 10b5-1(c)(1)(i)(B)(3) defense to be available, the person is not permitted to exercise any subsequent influence over how, when or whether a transaction occurs. The third party who has been granted discretion must not be aware of material nonpublic information when exercising that discretion.
• At a time when he is not aware of material nonpublic information, a person establishes a blind trust to which he will contribute some, but not all, of the issuer securities that he owns. The person intends to delegate investment control over trust assets to the trustee to establish a defense under Rule 10b5-1(c)(1)(i)(B)(3) for trust transactions. Within the meaning of Rule 144(a)(2), the person and the trust will be a single person and, during any three-month period, sales of issuer securities by the trust will share the Rule 144(e) volume limitation with the person's sales of other issuer securities he owns. The Rule 10b5-1(c)(1)(i)(B)(3) defense would require that the trust instrument not permit the person to exercise subsequent influence over trust sales If, during the term of the trust, the person can control which portion of the Rule 144(e) volume limitation is available for trust sales, the person would be "permitted to exercise subsequent influence" over trust sales within the meaning of Rule 10b5-1(c)(1)(i)(B)(3), and the defense would be unavailable. However, the person would not be permitted to exercise subsequent influence over trust sales if the instrument creating the trust specified either (1) the percentage of the volume limit to be allocated to sales by the trust and other sales by the person, or (2) that the trustee would determine that allocation for each applicable three-month period without consulting the person.
• At a time when he is not aware of material nonpublic information, a person buys a put option to sell 10,000 shares at a fixed exercise price at any time within 12 months. The exercise of the option is a separate investment decision from the purchase of the option. (See Securities Act Release No. 7881 (Aug. 15, 2000) at fn. 115.) For a defense to be available under Rule 10b5-1(c), each of the amount, price and date of the transaction must be specified or determined by formula, or all subsequent discretion over purchases and sales must be delegated to a third party who must not be aware of material nonpublic information when exercising that discretion. The person must make this specification or delegation in good faith before becoming aware of material nonpublic information. In this example, the person has retained discretion over the timing of the option exercise. Consequently, if he is aware of material nonpublic information at the time of exercise, no defense will be available under Rule 10b5-1(c). The same analysis applies whether the option is a put or a call.
• At a time when he is not aware of material nonpublic information, a person purchases a put option. At the same time, the person instructs his broker to exercise the option on its expiration date, June 30, 2001, if the option is in the money on that date. In this case, the exercise of the option is covered by a Rule 10b5-1(c)(1)(i)(B)(1) defense despite the fact that the amount, price and date are not specified by the same method. The terms of the option, which is a binding contract within the meaning of Rule 10b5-1(c)(1)(i)(A)(1), specify the amount of shares to be sold and the price at which they will be sold under the option. The instruction to the broker, which is an instruction to another person within the meaning of Rule 10b5-1(c)(1)(i)(A)(2), specifies the date of the transaction and imposes a limit on the price, within the meaning of Rule 10b5-1(c)(1)(iii)(B). Viewed together, the option and the instruction specify the amount of securities, the price and the date of the transaction for purposes of Rule 10b5-1(c)(1)(i)(B)(1). The same analysis applies whether the option is a put or a call.
• At a time when she is not aware of material nonpublic information, a person writes a call option, giving the option purchaser the right at any time during the life of the option to buy 10,000 shares from her at a fixed exercise price. Two months later, the option writer receives an exercise notice, requiring her to sell the shares to the counterparty at the exercise price. So long as the terms of the option contract do not permit the person to exercise any subsequent influence over how, when or whether she sells the shares covered by the option, and she does not in fact influence the timing of the option exercise, a defense would be available under Rule 10b5-1(c)(1)(i)(B)(3).
• At a time when she is not aware of material nonpublic information, a person obtains a bank loan and pledges securities as collateral. When she fails to pay the loan as due, the bank proceeds against the stock that was posted as collateral and sells it in the open market. The Rule 10b5-1(c)(1)(i)(B)(3) defense would not be available to the person when the bank sells the stock because the sale was not pursuant to a contract, instruction or plan that did not permit the person to exercise any subsequent discretion. First, the person could have exercised discretion in deciding not to pay the loan, resulting in default and the transfer of the securities or may have had the discretion to substitute collateral or provide additional collateral or cash to prevent foreclosure and sale of the stock.
• At a time when he is not aware of material nonpublic information, a person places stock in a margin account to secure a loan from a brokerage firm. Although the stock price falls and the broker issues a margin call, the person does not deposit additional securities in the margin account (although he could have), so the broker sells sufficient margined securities to satisfy the margin call. The Rule 10b5-1(c)(1)(i)(B)(3) defense would not be available to the person for the broker's sales because the person retains discretion to repay the loan or substitute additional collateral. Accordingly, the terms of the margin account contract would permit him to exercise subsequent influence over how, when or whether to effect purchases or sales. If the margin account contract did not permit the insider to exercise any subsequent influence over how, when or whether to effect purchases or sales, and the broker did not in fact give the person the opportunity to substitute or provide additional collateral or cash, a defense would be available under Rule 10b5-1(c)(1)(i)(B)(3) if the broker were not aware of material nonpublic information in selling the margined securities.
• At a time when she is not aware of material nonpublic information, a person establishes a written trading plan to sell 5,000 shares each month, on a date to be selected by her broker during the second or third week of each month, at or above $20 per share. The person does not communicate any information to the broker that could influence when sales would occur. Rule 10b5-1(c)(1)(i)(B)(3) would provide a defense for sales under this plan, assuming that (1) the terms of the plan do not permit her to exercise any subsequent influence over the timing of sales under the plan, and (2) the broker is not aware of material nonpublic information when selling securities under the plan.
• At a time when she is not aware of material nonpublic information, a person establishes a written trading plan to sell a specified number of shares each month, at or above a specified price per share. To implement the sales, the plan provides that on the last day of each month the person will place a limit order with a broker, valid until the last day of the next month, even if the person is aware of material nonpublic information when she places the limit order.
  • Rules 10b5-1(c)(1)(i)(A)(3) and (B)(1) could provide a defense if the limit order is non-discretionary (requiring the broker to execute a sale as soon as a buyer is available at or above the specified price per share). However, the written trading plan would need to specify the amount, price and dates of the sales. As defined in Rule 10b5-1(c)(1)(iii)(C), in the case of a limit order, "date" means a day of the year on which the limit order is in force. For Rules 10b5-1(c)(1)(i)(A)(3) and (B)(1) to provide a defense, the terms of the plan must specify the dates on which the monthly non-discretionary limit orders will be in force.
  • If the written trading plan by its terms doesn't specify these dates, the analysis would focus on each transaction, and the outcome would depend on whether the person was aware of material nonpublic information at each time she placed a non-discretionary limit order. A defense would be available under Rule 10b5-1(c)(1)(i)(A)(2) and (B)(1) if (1) she acts in good faith and is not aware of material nonpublic information at the time she instructs the broker; and (2) in placing a non-discretionary limit order, she specifies the dates on which that limit order will be in force.
  • If the limit order were discretionary (where the broker has discretion not to execute a sale as soon as a buyer is available at or above the specified price per share), the discretion granted to the broker over the timing of a sale would require that the conditions of Rule 10b5-1(c)(1)(i)(B)(3) be satisfied for a defense to be available. Rule 10b5-1(c)(1)(i)(B)(1) would not be available.
  • If the written trading plan also includes a provision requiring the number of securities to be sold during each month to be reduced, if necessary, to comply with applicable volume limitation under Rule 144(e), the availability of a Rule 10b5-1(c) defense would depend upon the manner in which the adjustment was effected:
    • First, the written plan could provide for adjustment of the amount of securities to be sold each month based on a written formula specified in the plan within the meaning of Rule 10b5-1(c)(1)(i)(B)(2). Where a written formula specifies one or more of the price, amount and dates of transactions that are all specified in a contract, instruction or written plan, the Rule 10b5-1(c)(1)(i)(B)(2) defense would apply.
    • Alternatively, the written plan could provide for adjustment of the amount of securities to be sold each month based on a delegation of discretion to the broker. In this case, where one or more of the price, amount and dates of transactions under a contract, instruction or written plan are to be determined based on a delegation of discretion to another person, the availability of a defense depends upon satisfaction of the conditions of Rule 10b5-1(c)(1)(i)(B)(3).
• If the written trading plan described above were in effect and the seller placed an order to sell additional shares, the written trading plan defense would not be available for the market order to sell the additional shares. Instead, the analysis would focus on whether the person was aware of material nonpublic information at the time she placed the market order. The market order transaction would not affect the availability of the written trading plan defense for the limit order sales under the written trading plan. The market order does not effect an alteration or deviation of a plan transaction within the meaning of Rule 10b5-1(c)(1)(i)(C) because the share limit order under the plan will continue to be executed when the price limit is met. The market order is not a corresponding or hedging transaction within the meaning of Rule 10b5-1(c)(1)(i)(C) because it does not reduce or eliminate the economic consequences of the limit order sales under the written trading plan.
• During a month when the written trading plan described above was in effect, the person called the broker to increase the number of shares under the non-discretionary limit order currently in force. Changing the amount to be sold under a written limit order trading plan currently in force effects an alteration or deviation within the meaning of Rule 10b5-1(c)(1)(i)(C). Consequently, sales pursuant to the altered limit order would not be pursuant to the existing plan. Securities Act Release No. 7881 (Aug. 15, 2000) at fn. 111 provides that "a person acting in good faith may modify a prior contract, instruction, or plan before becoming aware of material nonpublic information. In that case, a purchase or sale that complies with the modified contract, instruction, or plan will be considered pursuant to a new contract, instruction, or plan."
• After the written trading plan described above has been in effect for several months, the person terminates the selling plan by calling the broker and canceling the limit order. The mere act of terminating a plan while aware of material nonpublic information (and thereby not engaging in the planned securities transaction) does not result in liability under Section 10(b) and Rule 10b-5. Section 10(b) and Rule 10b-5 apply to any fraudulent conduct "in connection with the purchase or sale of any security." The "in connection with" requirement is satisfied when a fraud "coincides" with a securities transaction. See, e.g., SEC v. Zandford, 535 U.S. 813 (2002) and Merrill Lynch, Pierce, Fenner & Smith, Inc., v. Dabit, 547 U.S. 71 (2006).
• After the written trading plan has been in effect for several months, the broker that has been executing plan sales goes out of business at a time when the person is aware of material nonpublic information. The person wishes to continue sales under the plan pursuant to its original terms. The person may transfer plan transactions to a different broker without being deemed to have cancelled the original plan and adopted a new plan if the transfer to the new broker is timed so that there is no cancellation of any transaction scheduled in the original plan, and the new broker effects sales in accordance with the original plan's terms in compliance with Rule 10b5-1(c).
• Termination of a plan, or the cancellation of one or more plan transactions, could affect the availability of the Rule 10b5-1(c) defense for prior plan transactions if it calls into question whether the plan was "entered into in good faith and not as part of a plan or scheme to evade" the insider trading rules within the meaning of Rule 10b5-1(c)(1)(ii). The absence of good faith or presence of a scheme to evade would eliminate the Rule 10b5-1(c) defense for prior transactions under the plan.
• A cancellation of one or more plan transactions would be an alteration or deviation from the plan, which would terminate that plan. The Rule 10b5-1(c) defense would be available for transactions following the alteration only if the transactions were pursuant to a new contract, instruction or plan that satisfied the requirements of Rule 10b5-1(c). See Securities Act Release No. 7881 (Aug. 15, 2000), at fn. 111 and Question 120.16. Moreover, if a person established a new contract, instruction or plan after terminating a prior plan, then all the surrounding facts and circumstances, including the period of time between the cancellation of the old plan and the creation of the new plan, would be relevant to a determination of whether the person had established the contract, instruction or plan "in good faith and not as part of a plan or scheme to evade" the prohibitions of Rule 10b5-1(c).
• The Rule 10b5-1(c) affirmative defense is not available where a person establishes a Rule 10b5-1 written trading plan while aware of material nonpublic information, even if the plan is structured so that plan transactions will not begin until after the material nonpublic information is made public.
• A person purchases employer stock pursuant to bi-weekly payroll deductions through her employer's 401(k) plan. The 401(k) plan also allows employees to transfer the assets in their accounts among funds within the plan (including the employer stock fund) through fund-switching transactions. If an employee acts in good faith and is not aware of material nonpublic information at the time she provides written or oral instructions as to payroll deduction purchases, a defense would be available for those purchases under Rule 10b5-1(c). Likewise, if an employee acts in good faith and is not aware of material nonpublic information at the time she provides written or oral instructions as to a fund-switching transaction that result in purchases or sales of employer stock under the 401(k) plan, a defense would be available for that transaction under Rule 10b5-1(c). See Securities Act Release No. 7881 (Aug. 15, 2000), text at fn. 117-121.
• It is also possible that the fund-switching transactions under the 401(k) plan could be considered "corresponding or hedging transactions" within the meaning of Rule 10b5-1(c)(1)(i)(C) with respect to payroll deduction purchases under the 401(k) plan, depending upon the facts and circumstances. Rule 10b5-1(c)(1)(i)(C) requires, as a condition to the exemption, that the purchase or sale be pursuant to the contract, instruction or plan. The rule provides that a purchase or sale is not "pursuant to a contract, instruction, or plan" if, among other things, the person entered into or altered a corresponding or hedging transaction or position with respect to those securities. As a general matter, a fund-switching transaction that effects a sale could be a corresponding or hedging transaction under Rule 10b5-1(c)(1)(i)(C) with respect to a payroll deduction purchase under the 401(k) plan. If, however, the person is acting in good faith and provides instructions for the fund-switching transaction at a time when she is not aware of material nonpublic information, the fund-switching transaction would not disturb the Rule 10b5-1(c) defense for a payroll deduction purchase under the 401(k) plan.
• Under applicable state law, an oral agreement would be considered a binding contract. The contract does not necessarily need to be written to establish a defense under Rule 10b5-1(c ). Rather, the rule specifies when a writing is necessary to establish a defense. The rule does not require a binding contract (Rule 10b5-1(c)(1)(i)(A)(1)) or an instruction to another person (Rule 10b5-1(c)(1)(i)(A)(2)) to be written. In contrast, the rule requires a plan for trading securities (Rule 10b5-1(c)(1)(i)(A)(3)) and a formula, algorithm or computer program for determining amounts, prices and dates of transactions (Rule 10b5-1(c)(1)(i)(B)(2)) to be written.
• The institutional defense provided by Rule 10b5-1(c)(2) is available to the issuer of the securities for a repurchase plan, assuming the conditions of that rule are satisfied.
• A company sought to establish a stock repurchase plan that would comply with Rules 10b5-1(c)(1) and 10b-18. Most shares would be repurchased through open market transactions, but the company intended to negotiate repurchase of at least one large block of stock through a privately negotiated transaction. The company proposed that the plan provide for an automatic reduction in the aggregate number of shares authorized for repurchase under the plan equal to the number of shares, if any, that the company discloses in its Form 10-Q had been privately repurchased. Because this process would give the issuer the potential to effectively modify the plan by engaging in the block trades while aware of material nonpublic information, the Rule 10b5-1(c) affirmative defense would not be available. This situation is to be distinguished from a delegation of discretion to a broker to reduce the number of shares to be sold under a trading plan to comply with the Rule 144(e) volume limitations because those adjustments would reflect limitations imposed by law rather than an exercise of discretion by the seller.

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