Sarbanes-Oxley Act of 2002: SEC Adopts Amendments to Accelerate Section 16 Filings


On August 27, 2002, the Securities and Exchange Commission (the “SEC”) unanimously adopted the first rules implementing the Sarbanes-Oxley Act of 2002 (the “Act”).  This Alert addresses the amendments to the rules regarding the acceleration of insider reporting requirements under Section 16 of the Securities Exchange Act of 1934, as amended (the “Exchange Act”).

Section 16 Amendments: Accelerated Insider Reporting Obligations

In Release No. 34-46421, the SEC adopts rule and form amendments to implement the accelerated filing deadline applicable to Form 4 reports required to be filed by officers, directors and greater than 10% beneficial owners.  The amendments apply to transactions that occur on or after August 29, 2002.  The following is a summary of the changes to Section 16 rules and forms that were adopted by the SEC.

Accelerated Reporting of Transactions by Insiders.  Effective August 29, 2002, the Act requires that insiders (including executive officers, directors and greater than 10% beneficial owners) report changes in beneficial ownership on Form 4 by the end of the second business day following the date of execution of the subject transaction (the trade date, not the settlement date).  Reportable transactions include purchases and sales, security-based swap agreements and the award, exercise, cancellation, amendment, replacement, expiration or conversion of related derivative instruments, including stock options (other than the expiration or cancellation of stock options for which no value is received by the insider).  Insiders previously did not have to report most transactions until the tenth day of the month following the month in which the transaction occurred, meaning that an insider transaction could go unreported for as many as 40 days.

Rule 16b-3 Transactions.  Certain transactions that are exempt pursuant to Rule 16b-3 (for example, some employee benefit plan transactions and transactions with the issuer such as option awards), which previously were permitted to be reported on Form 5 within 45 days after the end of the year in which the subject transaction occurred, now will be required to be reported on Form 4 within the two business day deadline.  Certain exempt transactions not covered by the amendments to the rules, however, will remain reportable on Form 5 to the same extent as before and transactions previously exempt from Section 16 reporting will remain exempt, such as acquisitions pursuant to Qualified Plans, Excess Benefit Plans and Stock Purchase Plans, each as defined in Rule 16b-3.

Exceptions to Accelerated Reporting Requirements.  Two exceptions to the new filing deadline permit delayed reporting of transactions:  (i) transactions pursuant to arrangements that satisfy the affirmative defense conditions of Exchange Act Rule 10b5-1(c) where the reporting person does not select the date of execution and (ii) Discretionary Transactions (as defined in Rule 16b-3(b)(1)) pursuant to employee benefit plans where the reporting person does not select the date of execution.  For these two types of transactions, the date the broker or plan administrator notifies the insider of the date of execution will be deemed the transaction date, but such notice must be given no later than three business days after the execution date.  Thus, the deadline for delayed reporting for these two types of transactions is no more than five business days, consisting of the maximum three business day notice period plus the two business day reporting period.

EDGAR Filings Encouraged.  Pursuant to the Act, insiders will be required to file every Form 4 electronically via EDGAR by at least July 30, 2003.  In addition, each issuer that maintains a corporate website will be required to post a copy of such filings on its website by the end of the business day following the date of filing, and the SEC will be required to make the filing available electronically within the same time frame.  The SEC indicated at the hearing implementing this provision that it strongly encourages all reporting persons to begin reporting their transactions using EDGAR immediately.  The SEC staff expects to issue rulemaking proposals on mandatory EDGAR filing and issuer website posting within the next 2-3 months and indicated an intention to mandate EDGAR filing of reports well before July 30, 2003.

Changes to Form 4.  The SEC intends to adopt amendments to Form 4 to make the form consistent with the new reporting requirements under the Act.  The form will be modified to include a column entitled “Deemed Execution Date” where insiders eligible for delayed reporting pursuant to a Rule 10b5-1(c) plan or a Discretionary Transaction pursuant to an employee benefit plan will list the date on which the insider received notice of the transaction.

Recommendations.  As a result of the SEC’s rulemaking, we recommend that issuers and insiders consider taking the following immediate actions:

  • Establish Internal Procedures.  In order to ensure timely reporting, issuers should immediately adopt internal procedures and controls, if they have not already done so, to require insiders to report any transaction in the issuer’s securities on the day such transaction occurs.  We would go further to strongly recommend pre-sale notification to the issuer (i.e., General Counsel or Chief Financial Officer) to provide adequate time to review the proposed transaction and consider any complicated Section 16 issues.
  • Review List of Reporting Officers.  Issuers should review the list of executive officers filing reports pursuant to Section 16 to confirm that all persons (and only those persons) legally required to file reports are reporting their transactions.
  • Distribute Internal Memorandum.  Issuers should promptly distribute a memorandum to all directors and executive officers advising them of these provisions of the Act and the importance of prompt reporting of any transactions in the issuer’s securities.
  • Send Periodic Alerts and Reminders.  Issuers should send periodic alerts and reminders to directors and executive officers regarding the importance of prompt reporting of any transactions in the issuer’s securities.
  • Make Future Filings via EDGAR.  Although the mandatory EDGAR filing requirement is 11 months away (unless the SEC mandates earlier implementation, which they have indicated is a strong possibility), issuers and insiders should convert to electronic filings as soon as possible in order to expedite the filing of these reports.  Otherwise, the two business day deadline effectively requires issuers to send overnight materials to the SEC one business day after the subject transaction.  Insiders and issuers that wish to file via EDGAR should immediately obtain the required electronic filer submission codes from the SEC for this purpose.  Issuers also may want to explore the possibility of making EDGAR filings themselves, subject to the training of personnel.
  • Establish Powers of Attorney.  Issuers should consider designating at least three officers to whom insiders may grant a limited power of attorney for purposes of future required filings on Form 4.  Through such an arrangement, issuers would have greater control over filings to ensure that they are made within the prescribed time period.
  • Require Brokers to Sign Pre-Clearance Letters.  In order to enlist the help of insiders’ stockbrokers, issuers should ask insiders to have their stockbrokers sign a letter agreeing that the stockbroker will immediately report securities transactions to the issuer and will not enter any order without first verifying that the trade has been pre-cleared under the issuer’s policy.
  • Arrangements with Brokers and Administrators.  Insiders should make specific arrangements for the broker, dealer or plan administrator of Rule 10b5-1(c) plans and in respect of Discretionary Transactions pursuant to employee benefit plans to provide the insider actual notice of transaction execution as quickly as feasible.

    Further Information

    This Client Alert summarizes certain key points of the new rules implementing the Act, but does not cover all of the provisions of these very complex rules. For a more detailed discussion of other items raised by this Act, please see the Haynes and Boone, LLP client alert Sarbanes-Oxley Act of 2002 Promises Far-Reaching Implications for Public Companies.  We will regularly update you with regard to material developments concerning implementation of the Act and the rules implementing the Act.

    This Alert is a publication of Haynes and Boone, LLP and should not be construed as legal advice on any particular facts or circumstances.  This Alert is for general informational purposes only, and may not be quoted or referred to in any other documents or legal proceeding without our prior written consent.  The publication of this Alert is not intended to create an attorney-client relationship.

    If you would like to learn more about the Act and the rules and regulations relating to the Act, please feel free to contact your regular Haynes and Boone attorney or any member of our Corporate Governance Practice Group.

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