Understanding Rule 10b5-1
June 25, 2019
By Tim Speiss
Established by the Securities and Exchange Commission (“SEC”), Rule 10b5-1 allows insiders of publicly traded corporations to create a trading plan for selling stocks that they own. The rule allows major holders to sell a predetermined number of shares at a prearranged time, while at the same time avoiding accusations of insider trading. Perhaps due to the potential pitfalls, public perception or some other reason, many executives do not take full advantage of this internal investing option.
Under Rule 10b5-1, company executives (e.g., large shareholders, officers, and others who have access to material nonpublic information [“MNPI”]) can establish a written plan that details when they can buy or sell shares at a predetermined time on a scheduled basis. This rule was designed to allow these executives within a public company the ability to make these transactions when they are not in the vicinity of material insider information. This also allows companies to utilize 10b5-1 plans in large stock buybacks.
For insiders to enter into a Rule 10b5-1 plan, they must not have access to any MNPI regarding the company and its securities. To be valid, the 10b5-1 plan must meet three distinct criteria:
- The price and amount must be specified, possibly at a set price, and certain dates of sales or purchases must be noted.
- There must be a formula or metrics to determine the amount, price and date.
- The plan must give the broker the exclusive right to determine when to sell or purchase as long as the broker does so without any MNPI when the trades are being made.
While EisnerAmper LLP does not advise on the legal and regulatory aspects of 10b5-1 plans, many SEC attorneys recommended that companies allow an executive to either amend or adopt a 10b5-1 plan when the executives are allowed to trade the securities in tandem with their insider trading policy. Rule 10b5-1 prevents any insiders from changing or adopting a plan if they are in possession of MNPI. Legal pundits have cited there is nothing in the SEC laws that make it necessary to disclose the use of Rule 10b5-1 to the public, but that doesn't mean companies shouldn't release the information. Announcements of utilizing Rule 10b5-1 can be helpful to mitigate public relations issues and help investors understand the logistics behind certain insider trades.
Check out this recent Fortune article for a real-life case study of how Tesla executives are utilizing 10b5-1.