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Setting Up Pre-Arranged Trading Plans as a Corporate Insider

Corporate insiders such as executives, directors, and employees often have access to material non-public information about their companies. To comply with securities laws and avoid insider trading violations, many insiders choose to establish pre-arranged trading plans for transactions in company stock.

What Are Insider Trading Plans?

An insider trading plan is a written plan that an insider sets up to govern future trades in company securities. It allows insiders to buy or sell shares according to a pre-determined strategy without being accused of trading on inside information. These plans are governed by Rule 10b5-1, which was adopted by the SEC in 2000. As long as the plan meets certain requirements, trades executed under the plan have an affirmative defense against accusations of insider trading. Insider trading plans offer benefits to both insiders and the public:

  • They provide insiders with an affirmative defense for trading company shares.

  • They give the market confidence that insider trades are not based on inside information.

  • Plans with fixed schedules allow insiders to gradually diversify over time.

Requirements for 10b5-1 Plans

To qualify for the affirmative defense against insider trading charges, an insider trading plan must meet the following criteria:

  • It must be written and documented.

  • It must specify the amount, pricing, and timing for future transactions or include a formula or instructions to derive those factors.

  • It must not allow the insider to exercise any subsequent influence over transaction details after the plan commences.

  • It must be entered into in good faith and not as part of a scheme to evade insider trading laws.

Additionally, the SEC recommends insiders avoid making frequent modifications or deviations from their plans. Frequent changes could provide evidence that the plans were not entered in good faith.

Example Insider Trading Plans

Here are some examples of pre-arranged 10b5-1 trading plans insiders commonly use:

  • Fixed Trading Schedule: The insider sets up a plan to trade a fixed number of shares (or shares worth a fixed dollar value) on set dates, such as monthly or quarterly. These plan details cannot be altered once in place.

  • Formula Plans: The insider sets a written formula or computer program to determine the amount, pricing, and timing of trades based on factors like stock price, trading volume, or technical indicators.

  • Single Trade Plans: These one-time plans allow an insider to make a single trade for a fixed number of shares when the stock reaches a predetermined price threshold.

  • Event-Specific Plans: Insiders can set trades to execute upon certain defined events like retirement, margin calls, tax payments due, or contract expirations.

Any of these plan types can also include instructions around options exercises, stock acquisitions from grants, or sales to pay taxes.

Cooling Off Period

The SEC also recommends that companies require insiders to wait a "cooling off period" after adopting a new 10b5-1 plan before allowing any trades under it. A common cooling off period is 30-90 days. This helps show the insider's plan was not based on any inside information at the time it was created.

Plan Oversight and Approval

Public companies should have formal policies and procedures around approving and monitoring insider trading plans. Best practices include:

  • Requiring insiders to receive approval from the company's compliance officers or counsel before adopting a plan.

  • Having compliance monitor all plan transactions to ensure adherence to securities laws.

  • Setting "blackout" periods annually when no insider trades are permitted even under a plan.

  • Requiring insiders to certify annually that they have not altered or deviated from their plans.

Avoiding Selective Disclosure

When putting together a trading plan's instructions or formulas, insiders must be extremely careful not to rely on any material non-public information (MNPI) that could be deemed selective disclosure. Plans based on a company's own publicly disclosed metrics like earnings, revenues, or stock performance are acceptable. But using unreleased internal data or projections would likely fail the good faith requirement. Public companies should consider implementing "information firewalls" to prevent MNPI from flowing to any personnel involved in administering insider trading plans.

Terminating or Modifying Plans

SEC rules allow insiders to terminate a 10b5-1 plan at any time. However, making frequent modifications raises red flags that a plan may not have been properly designed. Insiders should generally avoid terminating plans while aware of MNPI, as this could negate the affirmative defense. Companies should set reasonability standards around plan length and any requested changes.

Disclosure Requirements

Public companies must disclose certain information about 10b5-1 plans adopted by officers and directors in proxy or information statements, including:

  • The date the plan was adopted or terminated

  • The duration of the plan

  • The total number of shares that may be purchased or sold under the plan

Listed issuers must also file Form 144 with the SEC for officers', directors' and 10% owners' trades under 10b5-1 plans. Disclosure provides transparency to investors that trades are authorized and pre-arranged.

While 10b5-1 plans do not provide an absolute legal defense, they offer significant protections for corporate insiders against insider trading allegations when structured and operated properly. Establishing a pre-arranged trading plan can allow insiders to prudently manage their personal finances and company stockholdings without scrutiny.

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