Ownership Reports and Trading by Officers, Directors and Principal Security Holders
Federal RegisterJun 14, 1996
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SUMMARY: The Securities and Exchange Commission (``Commission'') is
adopting amendments to its rules and forms regarding the filing of
ownership reports by officers, directors, and principal security
holders, and the exemption of certain transactions by those persons
from the short-swing profit recovery provisions of section 16 of the
Securities Exchange Act of 1934 (``Exchange Act'') and related
provisions of the Investment Company Act of 1940 (``Investment Company
Act'') and the Public Utility Holding Company Act of 1935. The revised
rules are intended to streamline the Section 16 regulatory scheme,
particularly with respect to transactions between an issuer and its
officers and directors; simplify the reporting system; broaden
exemptions from short-swing profit recovery where consistent with the
statutory purposes; and codify several staff interpretive positions.
DATES: Effective date: August 15, 1996. The phase-in period for Rule
16b-3 is extended until November 1, 1996 pursuant to Release No. 34-
37261. For a discussion of transition provisions, see Section VII.
FOR FURTHER INFORMATION CONTACT: Anne M. Krauskopf, Special Counsel,
Office of Chief Counsel, or Elizabeth M. Murphy, Special Counsel,
Office of Disclosure Policy, at (202) 942-2900, Division of Corporation
Finance, Securities and Exchange Commission, 450 Fifth Street, NW.,
Washington, DC. 20549.
SUPPLEMENTARY INFORMATION: The Commission is adopting amendments to
Rules 16a-1, 16a-2, 16a-3, 16a-4, 16a-6, 16a-8, 16a-9, 16b-3, and 16b-6
\1\ promulgated under section 16 \2\ of the Exchange Act.\3\ The
Commission also is amending Rule 16b-2 \4\ and redesignating it as Rule
16a-11,\5\ and adopting new Rules 16a-12 and 16a-13.\6\ Finally, the
Commission is adopting revisions to Item 405 of Regulation S-K \7\ and
Regulation S-B,\8\ as well as to Forms 3, 4, and 5.\9\
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\1\ 17 CFR 240.16a-1, 16a-2, 16a-3, 16a-4, 16a-6, 16a-8, 16a-9,
16b-3, and 16b-6. Throughout this release, the term ``current Rule
or Form'' refers to the regulation as in effect before today's
amendments, while ``new Rule or Form'' refers to the regulations as
amended or adopted in this release.
\2\ 15 U.S.C. 78p.
\3\ 15 U.S.C. 78a et seq.
\4\ 17 CFR 240.16b-2.
\5\ 17 CFR 240.16a-11.
\6\ 17 CFR 240.16a-12 and 16a-13.
\7\ 17 CFR 229.405.
\8\ 17 CFR 228.405.
\9\ 17 CFR 249.103, 104 and 105.
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Table of Contents
I. Executive Summary and Background
II. Transactions Between an Issuer and its Directors or Officers
A. General Approach
B. Tax-Conditioned Plans
C. Discretionary Transactions
D. Grants, Awards and Other Acquisitions from the Issuer
1. General; Participant-Directed Acquisitions
2. Alternative Conditions
3. Scope of Approval Required
4. Non-Employee Director Definition
E. Dispositions to the Issuer
III. Derivative Securities
A. Compensatory Cash-Only Instruments
B. Over-Allotment Options
C. Surrender and Withholding Rights in Connection with Exercise
or Tax Withholding
D. Value Derived from Market Price of an Equity Security
IV. Revisions to Reporting System
A. Overall Approach
B. Transactions No Longer Reported at All
C. Transactions to be Reported on Form 5
D. Transactions to be Reported on Form 4
E. Joint and Group Reporting
F. Trust Transactions
G. Compliance with the Reporting Requirements
H. Equity Swaps
I. Changes in Forms and Reporting Codes
V. Additional Exemptions and Revisions
A. Dividend or Interest Reinvestment Plans
B. New Exemption for Domestic Relations Orders
C. Exemption for Stock Dividend Transactions
VI. 1995 Solicitation of Comment Regarding the on-Going Merit of the
Short-Swing Profit Recovery Provisions of Section 16
VII. Transition to New Rules
A. General Application
B. New Rule 16b-3
VIII. Cost-Benefit Analysis
IX. Summary of Final Regulatory Flexibility Analysis
X. Statutory Basis and Text of the Amendments
I. Executive Summary and Background
In February 1991, in response to developments in the trading of
derivative securities, the growth of complex and diverse employee
benefit plans, and substantial filing delinquencies, the Commission
adopted comprehensive changes to the beneficial ownership and short-
swing profit recovery rules and forms applicable to insiders 10
pursuant to section 16.11 While many aspects of the new section 16
rules were favorably received, unanticipated practical difficulties
arose in implementing the new rules, particularly with respect to
thrift and similar employee benefit plans. In particular, issuers and
insiders stated that the application of current Rule 16b-3 to these
plans is cumbersome, presents significant record-keeping problems and
discourages insiders from participation in plan funds holding employer
securities.
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\10\ The term ``insider,'' as used in this release, refers to
officers and directors of issuers with a class of equity securities
registered pursuant to section 12 of the Exchange Act, and holders
of more than ten percent of a class of equity securities so
registered. When referring to an issuer with securities registered
under section 12, this release includes securities of closed-end
investment companies subject to section 30(f) of the Investment
Company Act (15 U.S.C. 80a-29(f) (1988)) and public utility holding
companies subject to Section 17 of the Public Utility Holding
Company Act of 1935 (15 U.S.C. 79q (1988)). The insiders of a
closed-end investment company also include the adviser and any
affiliated person of the adviser. Section 2(a)(3) of the Investment
Company Act (15 U.S.C. 80a-2(a)(3) (1988)).
\11\ Release No. 34-28869 (February 8, 1991) [56 FR 7242]
(``Adopting Release''). The rules generally became effective on May
1, 1991, except for the phase-in period for compliance with the
substantive conditions of new Rule 16b-3. The phase-in period
previously was extended until September 1, 1996 or such different
date as may be set in further rulemaking (Release 34-36063 (August
7, 1995) (60 FR 40994) (``1995 Phase-in Release'')). It is being
further extended to November 1, 1996 to accommodate the transition
to the new rules. Issuers may use new Rule 16b-3 for transactions on
or after the August 15, 1996 effective date, but are not required to
use the new rule until the end of the phase-in period. See Section
VII, below.
Following the Adopting Release, the Commission issued two other
releases relating to the revised rules; one set forth the
Commission's views regarding shareholder approval for amendments to
employee benefit plans under Rule 16b-3, as well as certain
technical amendments (Release No. 34-29131 (April 26, 1991) (56 FR
19925)), while the other adopted a technical amendment to Form 4
(Release No. 34-28869B (April 10, 1991) (56 FR 14467)).
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In order to address these concerns, in 1994 the Commission proposed
further rule changes designed to streamline the Section 16 regulatory
scheme adopted in 1991. The proposals were designed to facilitate the
operation of employee benefit plans; broaden exemptions from Section
16(b) 12 short-swing profit recovery where consistent with
statutory purposes; and codify several staff interpretive
positions.13 Comment also was solicited on various suggested
[[Page 30377]]
modifications to the section 16(a) 14 reporting requirements.
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\12\ 15 U.S.C. 78p(b).
\13\ Release No. 34-34514 (August 10, 1994) (59 FR 42449)
(``1994 Release'').
\14\ 15 U.S.C. 78p(a).
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A follow-up release 15 solicited further comment on the
treatment of compensatory cash-only instruments based on the value of
the issuer's equity securities. Such instruments currently are not
subject to Section 16 if they meet specified conditions. The Commission
requested comment as to whether the current exclusion is appropriate in
light of the fact that equity-based securities provide identical
opportunities for profit predicated on the underlying stock price
movement, whether settled exclusively in cash or stock, and whether,
from the perspective of shareholders and analysts, cash-only
instruments have the same section 16(a) informational value as
instruments that may be settled in stock.
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\15\ Release No. 34-34681 (September 16, 1994) (59 FR 48579)
(``Cash-only Release'').
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Finally, additional rule proposals were published in 1995 16
to provide a broader exemption from short-swing profit recovery for
transactions between an issuer and its directors or officers, whether
or not in the context of employee benefit plans; broaden the exemption
for transactions in dividend and interest reinvestment plans; and
revise the section 16(a) reporting scheme.
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\16\ Release No. 34-36356 (October 11, 1995) (60 FR 53832), as
corrected in Release No. 34-36356A (October 29, 1995) (60 FR 54823),
(together, the ``1995 Release'').
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The 1995 proposals presented a simplified, flexible approach based
on the premise that transactions between an issuer and its officers and
directors are intended to provide a benefit or other form of
compensation to reward service or to incentivize performance.
Generally, these transactions do not appear to present the same
opportunities for insider profit on the basis of non-public information
as do market transactions by officers and directors. Typically, where
the issuer, rather than the trading markets, is on the other side of an
officer or director's transaction in the issuer's equity securities,
any profit obtained is not at the expense of uninformed shareholders
and other market participants of the type contemplated by the
statute.17 Based on its experience with the Section 16 rules, the
Commission is persuaded that transactions between the issuer and its
officers and directors that are pursuant to plans meeting the
administrative requirements and nondiscrimination standards of the
Internal Revenue Code 18 and the Employee Retirement Income
Security Act of 1974 (``ERISA''),19 or that satisfy other
objective gate-keeping conditions, are not vehicles for the speculative
abuse that section 16(b) was designed to prevent. Accordingly, these
transactions are exempted by new Rule 16b-3 as adopted.20
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\17\ An insider's breach of fiduciary duty to profit from self-
dealing transactions with the company is a concern of state
corporate law. Generally, states have created potent deterrents to
insider self-dealing and other breaches of fiduciary duty. See 3
Fletcher Cyc. Corp. Sec. 837.60 (Perm. ed. 1994); D. Block, S. Radin
and N. Barton, The Business Judgment Rule: Fiduciary Duties of
Corporate Directors 124-37 (4th ed. 1993). There are also potential
liability considerations under Rule 10b-5 [17 CFR 240.10b-5].
\18\ 26 U.S.C. et seq. (1986) (``Internal Revenue Code'').
\19\ 29 U.S.C. 1001 et seq. (1986).
\20\ See Section II, below.
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As a corollary to this approach, it was proposed that cash-only
instruments would be subject to section 16 to the same extent as other
instruments that embody the opportunity for profit based on price
movement in the issuer's stock. These instruments would be eligible for
exemption from section 16(b), but reportable under section 16(a), to
the same extent as other issuer equity securities in transactions
between an issuer and its officers and directors. The Commission has
determined to adopt this proposal as an integral part of its revised
approach to transactions between an issuer and its officers and
directors.
As a further corollary to the 1995 proposal, the Commission
indicated that it contemplated simplifying the reporting system.
Certain routine transactions were proposed to be exempted from
reporting, while other transactions exempt pursuant to Rule 16b-3 would
be reported on Form 4 within ten days after the end of the month in
which the transaction occurred. The Commission has determined to revise
the reporting system so that most transactions exempt pursuant to new
Rule 16b-3 will be reported on an annual basis on Form 5, and to
eliminate the class of transactions currently reportable on the earlier
of the next required Form 4 or Form 5 by requiring that option
exercises be reported on Form 4 and small acquisitions on Form 5. A
number of exempt transactions of a routine nature, such as acquisitions
pursuant to tax-conditioned plans and dividend and interest
reinvestment plans, will not be required to be reported at all.21
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\21\ See Section IV, below.
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Eighty-nine letters of comment were received in response to the
1994 Release and the Cash-only Release, and 38 letters were received in
response to the 1995 Release.22 In general, the commenters
expressed strong support for the tenor of the proposals, with most
preferring the 1995 version of Rule 16b-3 to the 1994 version. These
commenters thought that the revisions would alleviate many of the
practical issues and uncertainties that have arisen since adoption of
the comprehensive section 16 amendments in 1991. Many commenters
suggested modifications to the proposals, some of which are addressed
in this Release, as discussed throughout.
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\22\ These comment letters, together with two Summaries of
Comments prepared by Commission staff, are available for inspection
and copying in the Commission's Public Reference Room, 450 Fifth
Street, NW., Washington DC 20549. Persons seeking these materials
should make reference to File No. S7-21-94.
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The rules adopted today essentially implement the 1995 proposals,
as well as the elements of the 1994 proposals not addressed in
1995.23 Changes from the proposals are discussed in the release
below. Highlights of changes from the current rules are as follows:
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\23\ Pursuant to Release 33-7300 issued today, the Commission
also is rescinding Rules 16b-1(c) and 16b-4 and amending Rule 16a-
3(i) to permit typed signatures, consistent with the recommendations
of the Task Force on Disclosure Simplification.
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A. Transactions Between an Issuer and its Directors or Officers
Generally, transactions between an issuer (including an
employee benefit plan sponsored by an issuer) and its directors or
officers will be exempt from section 16(b) if they satisfy the
applicable conditions of new Rule 16b-3, as set forth below:
Routine transactions pursuant to specified tax-conditioned
plans (such as thrift plans, stock purchase plans and excess benefit
plans) will be exempt from section 16(b) without further condition.
Fund-switching transactions or volitional cash withdrawals
from an issuer equity securities fund will be exempt if the election to
engage in the transaction is at least six months after the last
election to engage in such a transaction that was opposite-way (i.e., a
previous acquisition if the transaction to be exempted is a
disposition, and vice versa).
Other acquisitions by an officer or director from the
issuer, including grants, awards and participant-directed transactions,
will be exempt upon satisfaction of any one of three alternative
conditions:
Approval of the transaction by the board of directors of
the issuer or a committee of two or more Non-Employee Directors;
[[Page 30378]]
Approval or ratification of the transaction by the holders
of the majority of the issuer's securities; or
Satisfaction of a six-month holding period following the
date of acquisition.
Other dispositions by an officer or director to the issuer
will be exempt if approved by the board of directors of the issuer, a
committee of two or more ``Non-Employee Directors,'' as defined, or the
holders of the majority of the issuer's securities.
B. Derivative Securities
The current section 16 exclusion from the definition of
``derivative securities'' for instruments based on the value of the
issuer's equity securities but settled exclusively in cash 24 is
rescinded. However, these instruments are eligible for exemption
pursuant to new Rule 16b-3.
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\24\ Current Rule 16a-1(c)(3).
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Options granted to an underwriter in a registered public
offering to satisfy over-allotments are expressly excluded from the
definition of ``derivative security.'' 25
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\25\ New Rule 16a-1(c)(7), which will codify the interpretive
positions set forth in Video Technology (Overseas) Limited/Davis
Polk & Wardwell (June 17, 1992) and Davis Polk & Wardwell (July 16,
1992).
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Rights to withhold or surrender a security in satisfaction
of the exercise price of a derivative security, or in satisfaction of
the tax-withholding consequences applicable to the receipt, exercise or
vesting of an issuer equity security (including a derivative security)
are excluded from the definition of ``derivative security.'' 26
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\26\ New Rule 16a-1(c)(3) (proposed as Rule 16a-1(c)(8)).
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C. Reporting
A number of transactions exempt from Section 16(b) that
currently must be reported on Form 5 no longer will be required to be
reported at all, among them:
Exempt transactions pursuant to tax-conditioned plans
(other than fund-switching transactions and volitional cash withdrawals
from an issuer equity securities fund);
Transactions pursuant to dividend or interest reinvestment
plans 27 and domestic relations orders;28
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\27\ New Rule 16a-11 (current Rule 16b-2).
\28\ New Rule 16a-12.
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Transactions that change only the form of beneficial
ownership;29
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\29\ New Rule 16a-13.
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Certain transactions by a person who has ceased to be an
insider;30 and
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\30\ New Rule 16a-2(b).
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Expirations or cancellations of certain derivative
securities. 31
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\31\ New Rule 16a-4(d).
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Exercises and conversions of derivative securities,
including employee stock options, whether or not exempt from Section
16(b), will be reported on Form 4.
All other exempt transactions and small acquisitions
32 will be reported annually on Form 5, with earlier reporting on
Form 4 permitted.
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\32\ These transactions, which do not exceed $10,000 in the
aggregate, are eligible for deferred reporting pursuant to current
and new Rule 16a-6.
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Reporting will be permitted on a joint basis when more
than one person subject to Section 16 is deemed to be a beneficial
owner of the same issuer equity securities.33
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\33\ New Rule 16a-3(j).
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A trust will be subject to Section 16 only if the trust is
the beneficial owner of more than ten percent of a class of issuer
equity securities registered pursuant to Section 12 of the Act.34
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\34\ Current Rule 16a-8(a)(1)(ii), which makes a trust subject
to Section 16 if the trustee otherwise is subject to section 16 and
exercises or shares investment control of issuer securities held by
the trust and the trustee or a member of the trustee's immediate
family has a pecuniary interest in such issuer securities, is
rescinded. Other obligations applicable to trusts, trustees,
beneficiaries and settlors pursuant to current Rule 16a-8 are not
affected by this change.
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Item 405 of Regulations S-K and S-B 35 is revised to
clarify the nature of the issuer's obligation to review insiders'
filings in order to determine whether there are any delinquent reports
that require disclosure. Item 405 disclosure will be required to be
placed under a separate caption.
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\35\ 17 CFR 229.405 and 228.405.
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Insiders' obligation to report equity swap transactions is
reiterated and clarified, and a new reporting code is added for equity
swaps.
D. Other Issues
The exemption for the reinvestment of dividends and
interest pursuant to dividend and interest reinvestment plans 36
is revised to eliminate the requirement that the plan be made available
on the same terms to all holders of the class of securities.
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\36\ New Rule 16a-11 (current Rule 16b-2).
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A new exemption is provided for transactions pursuant to
domestic relations orders.37
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\37\ New Rule 16a-12.
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The exemption for stock splits, stock dividends and pro
rata rights 38 is expanded to exempt stock dividends paid in the
securities of a different issuer, such as spinoff distributions.
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\38\ Current and new Rule 16a-9.
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A transaction that occurs after a person ceases to be an
officer or director will be subject to section 16 only if it is not
otherwise exempt from section 16(b) and is executed within six months
of an opposite-way transaction subject to section 16(b) that occurred
while the person was an officer or director.39
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\39\ New Rule 16a-2(b).
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II. Transactions Between an Issuer and Its Directors or Officers
A. General Approach
The amendments to Rule 16b-3 adopted today implement the approach
set forth in the 1995 proposal to align better the regulatory
requirements under the rule with the statutory goals underlying section
16.40 Moreover, since benefit plans and compensation payments and
programs vary widely in design and purpose, the Commission is convinced
that a ``one size fits all'' regulatory scheme is impractical. The
proliferation of unique plan features over the last decade has led to
legal uncertainty regarding the application of Rule 16b-3 to these
innovations. Rather than react to present plan developments, the
Commission intends to provide greater regulatory flexibility to
accommodate future developments.
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\40\ See Section I, above.
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New Rule 16b-3 exempts from short-swing profit recovery any
acquisitions and dispositions of issuer equity securities (including
those that occur upon the exercise or conversion of a derivative
security, whether in- or out-of-the-money) 41 between an officer
or director and the issuer, subject to simplified conditions.42 A
transaction with an employee benefit plan sponsored by the issuer will
be treated the same as a transaction with the issuer.43 However,
unlike the current
[[Page 30379]]
rule, a transaction need not be pursuant to an employee benefit plan or
any compensatory program to be exempt, nor need it specifically have a
compensatory element.
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\41\ As indicated in Note (1) to new Rule 16b-3, the exercise or
conversion of a derivative security that does not satisfy the
conditions of this rule will continue to be eligible for exemption
from section 16(b) pursuant to Rule 16b-6(b) [17 CFR 240.16b-6(b)].
Similarly, a note is added to new Rule 16b-6(b) as a reminder that
exercises or conversions also may be exempted by new Rule 16b-3.
\42\ Like current Rule 16b-3, new Rule 16b-3 does not provide an
exemption for persons who are subject to section 16 solely because
they beneficially own greater than ten percent of a class of an
issuer's equity securities. Officers and directors owe certain
fiduciary duties to a corporation. See n. 17, above. Such duties,
which act as an independent constraint on self-dealing, may not
extend to ten percent holders. The lack of other constraints argues
against making new Rule 16b-3 available to ten percent holders.
However, new Rule 16b-3 is available to such a person who is also
subject to section 16 by virtue of being an officer or director with
respect to transactions with the issuer.
\43\ New Rule 16b-3(a). Although some transactions between
officers or directors and issuer-sponsored employee benefit plans
technically are not transactions with the issuer, such transactions
should be within the scope of an exemption premised on the nature of
insiders' transactions with issuers. Employee benefit plans are the
most common vehicle by which issuers provide for securities-based
compensation of employees, including officers and directors, that
otherwise would be satisfied through direct compensation from the
issuer.
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A transaction will be exempt if it satisfies the appropriate
conditions set forth among four alternative categories: Tax-Conditioned
and Related Plans; Discretionary Transactions; Grants, Awards and Other
Acquisitions from the Issuer; and Dispositions to the Issuer.44
New Rule 16b-3 eliminates many of the conditions of current Rule 16b-3,
such as general written plan conditions,45 the prohibition against
transfer of derivative securities, shareholder approval as a general
condition for plan exemption, the six-month holding period as a general
condition for the exemption of grant and award transactions, the
disinterested administration or formula plan requirements regarding
grant transactions, and the window period requirement for fund-
switching transactions and stock appreciation right exercises.
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\44\ In addition to the conditions for exemption, as discussed
below, Note (2) has been added to new Rule 16b-3 to reference the
reporting rules applicable to transactions exempted by the new rule.
See Section IV, below.
\45\ Because a plan no longer will be required to set forth in
writing either the price at which securities may be offered and the
amount of securities to be awarded, or the method by which such
price and amount are to be determined, the manner in which shares
are counted no longer will present interpretive issues. As noted at
n. 69 to the 1994 Release, interpretive letters regarding this
subject for purposes of the requirements of current Rule 16b-3(a)(1)
no longer are required to be followed.
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B. Tax-Conditioned Plans
The exemption for transactions pursuant to tax-conditioned plans
46 is adopted substantially as proposed in 1995. This exemption is
premised on the view that an adequate safeguard against speculative
abuse is provided when a plan satisfies certain conditions imposed by
the Internal Revenue Code and ERISA.47 Accordingly, any
acquisition or disposition of issuer equity securities, except as
discussed below, will be exempt without further condition if made
pursuant to a plan that satisfies the definition of a ``Qualified
Plan,'' 48 an ``Excess Benefit Plan,'' 49 or a ``Stock
Purchase Plan.'' 50 Thus, for example, routine acquisitions
pursuant to thrift and stock purchase plans generally will be exempt
under this provision. The tax code coverage and participation
requirements provide readily accessible, objective standards for
designing an exempt plan.
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\46\ New Rule 16b-3(c).
\47\ The rule does not require the plan to be tax-qualified, but
instead either to satisfy specified conditions applicable to tax-
qualified plans, or, in certain circumstances, to be operated in
connection with a plan that satisfies those conditions.
\48\ New Rule 16b-3(b)(4). The definition of ``Qualified Plan''
is adopted as proposed, i.e., an employee benefit plan that
satisfies the coverage and participation requirements of Sections
410 and 401(a)(26) of the Internal Revenue Code of 1986, or any
successor provisions thereof.
\49\ New Rule 16b-3(b)(2). The definition of ``Excess Benefit
Plan'' has been revised to eliminate references to specific I.R.C.
Sections so as to ensure that plans qualifying for an exemption
under section 201(2) of ERISA would be covered by the exemption. The
revised definition requires that such a plan be operated in
conjunction with a Qualified Plan, and provide only the benefits and
contributions that would be provided under the Qualified Plan but
for any benefit or contribution limitations set forth in the
Internal Revenue Code. As was proposed, the amended rule does not
require transactions pursuant to an Excess Benefit Plan to be in
tandem with transactions in the related Qualified Plan to be
eligible for exemption.
\50\ New Rule 16b-3(b)(5). The definition of ``Stock Purchase
Plan'' has been revised to indicate that satisfaction of the
coverage and participation standards of Section 410 of the Internal
Revenue Code is an alternative to satisfaction of Internal Revenue
Code Sections 423(b)(3) and 423(b)(5), rather than an additional
requirement. The purpose of including this alternative standard is
to make the exemption available to stock purchase plans that do not
satisfy the standards of Internal Revenue Code Section 423, but
nevertheless are operated in a broad-based manner.
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While most transactions pursuant to tax-conditioned plans may rely
on this exemption, fund-switching and cash withdrawal transactions
arising solely from an insider's volitional investment decision,
defined as ``Discretionary Transactions,'' instead must satisfy a
timing requirement.51
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\51\ See Section II.C, below.
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As proposed, the exemption for tax-conditioned plans would have
exempted without further condition any acquisition pursuant to a plan
or transaction that satisfied the conditions applicable to performance-
based compensation imposed by section 162(m) of the Internal Revenue
Code and the regulations thereunder.52 Commenters expressed
divergent views on whether this basis for exemption would be useful.
The Commission is not adopting the section 162(m) provision, since it
appears unnecessary in view of the expanded availability of the
exemption for grants, awards and other acquisitions.53
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\52\ Internal Revenue Code Section 162(m) and Regulation
Sec. 1.162-27(e), which set forth the conditions pursuant to which
an issuer may deduct compensation in excess of $1 million paid to
its chief executive officer and four other most highly compensated
officers for whom disclosure is required to be reported in Exchange
Act filings.
\53\ See Section II.D, below.
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C. Discretionary Transactions
Many contributory employee benefit plans permit a participant to
choose one of several funds in which to invest (e.g., an issuer stock
fund, a bond fund, or a money market fund). Plan participants typically
are given the opportunity to engage in ``fund-switching'' transactions,
permitting the transfer of assets from one fund to another, at periodic
intervals. Plan participants also commonly have the right to withdraw
their investments in cash from a fund containing equity securities of
the issuer. Fund-switching transactions involving an issuer equity
securities fund and cash distributions from these funds 54 may
present opportunities for abuse because the investment decision is
similar to that involved in a market transaction. Moreover, the plan
may buy and sell issuer equity securities in the market in order to
effect these transactions, so that the real party on the other side of
the transaction is not the issuer but instead a market participant.
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\54\ No exemption has been provided in new Rule 16b-3 for a
withdrawal in kind of issuer equity securities because such a
transaction would be a change in form of beneficial ownership from
indirect to direct, which will be exempt from Section 16 pursuant to
new Rule 16a-13. See Section IV.B, below.
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In order to foreclose opportunities for abuse, the 1995 proposal
contemplated that such transactions in a tax-conditioned plan would be
exempt only if effected pursuant to an election made at least six
months following the date of the most recent prior such election. As
adopted, this provision has been made applicable to these transactions
pursuant to any plan, whether or not tax-conditioned,55 given that
it is the nature of the transaction, without regard to the type of
plan, that presents an opportunity for abuse. Accordingly, these
transactions are defined separately as ``Discretionary Transactions,''
56 and the exemption is placed in a separate paragraph rather than
included with the exemption for tax-conditioned plans.
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\55\ New Rule 16b-3(f).
\56\ New Rule 16b-3(b)(1).
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As favored by many commenters, the six month condition will apply
only to ``opposite way'' transactions; i.e., elections that effect
acquisitions and dispositions must be six months apart, but prior
``same-way'' elections within the preceding six months do not render
the exemption unavailable. 57 The six month condition will apply
if a prior election by the officer or director effecting an ``opposite
way''
[[Page 30380]]
Discretionary Transaction was made pursuant to any plan of the issuer
in which the officer or director participates. Some commenters favored
an exemption premised on transactions taking place during a window
period. The Commission, however, prefers a more simple approach that is
more consistent with the statutory purpose.
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\57\ Because it is anticipated that the actual date on which
such a plan transaction occurs may be outside the control of an
insider participant, the rule is premised on a six-month interval
between the date of subsequent ``opposite way'' elections. The rule
does not require that such an election be made six months in advance
of the related transaction.
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The definition of ``Discretionary Transaction'' excludes a number
of transactions that are primarily for retirement planning.58
Transactions resulting from an election to receive, or to defer the
receipt of, securities and/or cash in connection with death,
disability, retirement or termination of employment,59 as well as
transactions that effect a diversification or distribution which the
Internal Revenue Code requires an employee benefit plan to make
available to a participant,60 need not comply with the six-month
condition.61 Thus, these transactions are eligible for exemption
pursuant to other applicable provisions of the amended rule (most
likely the exemption for tax-conditioned plans). Although such
transactions have an element of volition, the insider's opportunity to
speculate in the context of a death, disability, retirement or
termination of employment would seem well circumscribed, as is also the
case with regard to the specified diversification and distribution
elections.
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\58\ The items enumerated are the same as those in the rule as
proposed, although they were not set forth in a separate definition.
\59\ Such transactions are exempted by current Rule 16b-
3(d)(1)(ii).
\60\ Such transactions include diversification elections and
distributions provided for by Internal Revenue Code Section
401(a)(28), and distributions required by Internal Revenue Code
Section 401(a)(9).
\61\ A loan funded by the disposition of issuer equity
securities will be considered a cash distribution involving a
volitional disposition of an issuer equity security unless the
insider continues to bear the risk of loss with respect to such
issuer equity securities during the term of the loan. Involuntary
distributions of cash for the purpose of satisfying the limitations
on employee elective contributions and employer matching
contributions imposed by the Internal Revenue Code will be exempt
without condition because such transactions do not occur at the
insider's volition.
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D. Grants, Awards and Other Acquisitions From the Issuer
1. General; Participant-Directed Acquisitions
Plans that authorize ``grant and award'' transactions provide
issuer equity securities to participants on a basis that does not
require either the contribution of assets or the exercise of investment
discretion by the participants. For example, awards of bonus stock
pursuant to a salary-based formula and grants of options or restricted
stock are grant and award transactions. In contrast, a ``participant-
directed transaction'' requires the participant to exercise investment
discretion as to either the timing of the transaction or the assets
into which the investment is made. For example, the exercise of an
option and a participant's election pursuant to a thrift plan to invest
either the employee or the employer contribution in issuer equity
securities are participant-directed transactions.
Both the current and the new rules provide a specific exemption for
the grant or award of issuer equity securities. The new rule makes the
exemption more readily available, since only one of three alternative
conditions need be satisfied.62 Commenters responded favorably to
this proposal. They expressed concern, however, that some participant-
directed transactions (such as deferrals of bonuses into phantom stock
and other deferred compensation programs) that are exempt under the
current rule 63 would lack an exemption under the new rule.
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\62\ New Rule 16b-3(d).
\63\ Many such transactions are now exempt pursuant to the six
month advance election provided by current Rule 16b-3(d)(1)(i).
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The 1995 proposal was intended to permit such transactions, which
ordinarily do not present opportunities for abuse, an opportunity for
exemption.
Accordingly, as adopted, the proposed grant and award exemption has
been retitled ``Grants, Awards and Other Acquisitions from the Issuer''
to make it clear that participant-directed acquisitions that are not
pursuant to tax-conditioned plans may rely on this exemption.64
However, if a participant-directed transaction is a ``Discretionary
Transaction,'' as defined in the new rule, it must instead satisfy the
conditions designed specifically for Discretionary Transactions in
order to be exempt.65
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\64\ Participant-directed dispositions are eligible for the
``Dispositions to the Issuer'' exemption, discussed in Section II.E,
below.
\65\ See Section II.C, above.
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2. Alternative Conditions
The new rule provides three alternative bases for exempting the
acquisition of issuer equity securities (including derivative
securities). The first two conditions exempt an acquisition that is
either: (i) Approved in advance by the board of directors or a
committee of the board composed solely of two or more ``Non-Employee
Directors;'' 66 or (ii) approved in advance, or subsequently
ratified not later than the date of the next annual meeting of
shareholders, by shareholders.67 If a transaction has satisfied
more than one of the alternative approval conditions specified in the
new rule (for example, if board approval is followed by shareholder
approval) the issuer may rely on any condition that provides the basis
for the exemption.
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\66\ New Rule 16b-3(d)(1).
\67\ New Rule 16b-3(d)(2). Like current Rule 16b-3(b), this
standard would require the affirmative vote of the holders of the
majority of the issuer's securities present or represented and
entitled to vote at a meeting duly held in accordance with the
applicable laws of the state or other jurisdiction in which the
issuer is incorporated, or the written consent of the majority of
the issuer's securities entitled to vote, solicited in compliance
with Section 14 of the Securities Exchange Act (15 U.S.C. 78n).
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Alternatively, an acquisition that does not satisfy any of the
approval conditions will be exempt if the securities acquired are held
by the insider for six months following the date of acquisition, or in
the case of a derivative security, at least six months elapse between
the date of acquisition of the derivative security and the date of
disposition of the underlying security.68 The six-month holding
period for dividend equivalent rights (``DERs'') and shares purchased
pursuant to the automatic reinvestment of dividends will be deemed to
commence on the date of acquisition of the shares on which the DERs or
dividends are paid.69
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\68\ New Rule 16b-3(d)(3). The 1995 Release solicited comment as
to whether a grant or award that satisfies any of the three
alternative conditions should be exempt only if the officer or
director to whom the grant is made had not disposed of issuer equity
securities on a non-exempt basis during the previous six months at a
price higher than that at which the grant is made. New Rule 16b-
3(d), as adopted, does not require satisfaction of this condition
with respect to any acquisition.
\69\ This position is consistent with the amendment to current
Rule 16b-3(c)(1) proposed in 1994, which would have reversed current
interpretation providing that the six-month holding period is deemed
to commence on the date the dividend or DER is granted or allocated
to the participant. See Hewitt Associates (Apr. 30, 1991) Q. 2(b);
and Davis Polk & Wardwell (Aug. 23, 1991). Under new Rule 16b-3,
DERs and shares purchased pursuant to the receipt of dividends will
need to satisfy a six-month holding period only if the securities on
which the dividends or DERs are paid rely on a six-month holding
period as the basis for exemption. Moreover, pro rata dividends paid
in stock with respect to all securities of a class will continue to
be exempt pursuant to Rule 16a-9.
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Commenters who addressed this segment of the 1995 proposal
favorably noted both its simplicity and flexibility. The Commission is
persuaded that satisfaction of any of the three conditions is a
sufficient basis to exempt an acquisition of issuer equity securities
from the issuer.
[[Page 30381]]
3. Scope of Approval Required
When the rule requires ``Non-Employee Director,'' 70 full
board or shareholder approval, the Commission intends that the approval
relate to specific transactions rather than the plan in its entirety.
However, approval of a plan pursuant to which the specific terms and
conditions of each acquisition are fixed in advance, such as a formula
plan,71 will satisfy this condition, and the exemption also will
be available for a plan with an appendix providing for specific grants
to specific individuals. Note (3) has been added to the new rule,
making the specific nature of the approval required clear.
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\70\ This term is defined in new Rule 16b-3(b)(3). See Section
II.D.4, below.
\71\ A plan that constitutes a ``formula plan'' under staff
interpretations of current Rule 16b-3(c)(2)(ii) will be considered a
formula plan for this purpose.
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The note also provides that where the terms of a subsequent
transaction are provided for at the time a transaction is initially
approved, the subsequent transaction will not require further specific
approval. If the terms of an award as approved provide for a subsequent
participant-directed election, that election will be exempt without
further condition if effected pursuant to those terms. For example, if
an award of restricted stock as approved permits an insider awardee to
defer receipt pursuant to a related deferred compensation plan, the
insider's election to defer will be exempt without further condition.
In the same manner, the acquisition of underlying issuer equity
securities that occurs upon the exercise or conversion of a derivative
security will be exempt, provided that the exercise is pursuant to
terms provided in the derivative security originally approved in its
acquisition.72 Similarly, if an award as originally approved
specifically provided for the automatic grant of reload options, each
resultant grant of reload options pursuant to those terms will not
require subsequent approval.
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\72\ The disposition of the derivative security that occurs upon
exercise similarly will be exempt pursuant to new Rule 16b-3(e). See
Section II.E, below.
A derivative security that did not satisfy the Non-Employee
Director committee, board of directors or shareholder approval
conditions (such as a derivative security issued in reliance on the
six-month holding period of new Rule 16b-3(d)(3) or a derivative
security acquired other than directly from the issuer) could be
exercised or converted and the underlying issuer equity securities
acquired on an exempt basis pursuant to Rule 16b-6(b), if the
conditions of that rule are met (fixed exercise price and exercise
not out-of-the-money unless necessary to comport with the sequential
exercise provisions of Internal Revenue Code Section 422A).
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4. Non-Employee Director Definition
With respect to committee approval as a basis for exemption, ``Non-
Employee Director'' as proposed in 1995 was defined as a director who
is not currently an officer of, or otherwise employed by or a
consultant to, the issuer, its parent or its subsidiary. The 1995
Release further elaborated that, for this purpose, ``consultant'' would
include attorneys, accountants or others who indirectly receive
compensation from the issuer through firms that provide services to the
issuer.
However, commenters criticized the ``Non-Employee Director''
definition to the extent that it would prohibit any consulting
arrangement with the issuer. These commenters cited definitional
uncertainty, the special expertise provided by retired senior
executives and other consultants, and the absence of problems stemming
from such persons' service as disinterested directors under the current
rules 73 as reasons for not imposing an absolute ban on consulting
arrangements.
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\73\ Current Rule 16b-3(c)(2)(i).
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The Commission is persuaded that the reasoning supporting these
comments justifies permitting directors with limited consulting
relationships with the issuer to serve as Non-Employee Directors. Under
the rule as adopted,74 a ``Non-Employee Director'' will be a
director who is not currently an officer or otherwise employed by the
issuer, or a parent or subsidiary of the issuer; does not receive
compensation directly or indirectly from the issuer, its parent or
subsidiary for services rendered as a consultant or in any capacity
other than as a director, except for an amount for which disclosure
would not be required pursuant to Item 404(a) of Regulation S-K;75
does not possess an interest in any other transaction for which
disclosure would be required pursuant to Item 404(a) of Regulation S-K;
and is not engaged in a business relationship for which disclosure
would be required pursuant to Item 404(b) of Regulation S-K. 76
With respect to a closed-end investment company, a ``Non-Employee
Director'' 77 will be a director who is not an ``interested
person'' of the issuer, as that term is defined in section 2(a)(19) of
the Investment Company Act.78
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\74\ New Rule 16b-3(b)(3)(i).
\75\ 17 CFR 229.404(a). This item generally requires disclosure
of related party transactions where the amount involved exceeds
$60,000. For purposes of the definition of ``Non-Employee
Director,'' each test that refers to S-K Item 404 will be measured
by reference to the Regulation S-K disclosure Item, whether the
disclosure requirements applicable to the issuer are governed by
Regulation S-K or S-B.
\76\ 17 CFR 229.404(b). This item generally requires disclosure
of business relationships with the registrant where the amount
involved exceeds greater than five percent of the consolidated gross
revenue of either the registrant or the other entity.
\77\ New Rule 16b-3(b)(3)(ii).
\78\ 15 U.S.C. 80a-2(a)(19).
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Although the new rule would not prohibit Non-Employee Directors or
the full board from awarding themselves grants of issuer equity
securities, such grants would be subject to state laws governing
corporate self-dealing. 79 The Commission believes that
traditional state law fiduciary duties facilitate compliance with the
underlying purposes of section 16 by creating effective prophylactics
against possible insider trading abuses.
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\79\ See n. 17, above.
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E. Dispositions to the Issuer
Both as proposed in 1995 and as adopted, the new rule exempts any
transaction involving a disposition of issuer equity securities to the
issuer, provided that such disposition is approved in advance by the
board of directors, a committee of Non-Employee Directors, or the
shareholders.80 However, if a disposition is a Discretionary
Transaction, as defined in the new rule, it must instead satisfy the
conditions specifically applicable to Discretionary Transactions to be
exempt.81
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\80\ New Rule 16b-3(e).
\81\ See Section II.C, above.
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The 1994 Release proposed amendments to current Rule 16b-3(f) to
exempt exercise withholding rights and the surrender or withholding of
issuer equity securities in satisfaction of a tax-withholding
obligation. These proposed amendments are not adopted because the same
transactions will be exempted pursuant to the broad scope of the new
rule.82 For example, the new rule will exempt dispositions of
issuer equity securities to the issuer pursuant to: (1) The right to
have securities withheld, or to deliver securities already owned,
either in payment of the exercise price of an option or to satisfy the
tax withholding consequences of an option exercise or the vesting of
restricted securities, (2) the expiration, cancellation, or surrender
to the issuer of a stock option or stock appreciation right in
connection with the grant of a replacement option or right, or (3) the
election to receive, and the receipt of, cash in complete or partial
settlement of a stock appreciation right. Additionally, the new rule
will give the issuer the
[[Page 30382]]
flexibility to redeem its equity securities from insiders in connection
with non-exempt replacement grants, and in discrete compensatory
situations such as individual buy-backs in connection with estate
planning.
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\82\ Like most other exempt transactions, these transactions
will be reportable on Form 5. See Section IV.C, below. However,
where the surrender or withholding transaction is in connection with
the exercise or conversion of a derivative security, it should be
reported on the same Form 4 as the exercise or conversion. See
Section IV.D, below.
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The exemption, which was favorably received by commenters, is
adopted substantially as proposed.83 A note has been added to the
new rule to clarify that if the terms of a subsequent transaction are
provided for in the transaction as initially approved, the subsequent
transaction does not require further specific approval.84 For
example, the exemption will apply to the disposition to the issuer of a
derivative security upon its exercise or conversion, if such exercise
is pursuant to the terms provided in the derivative security as
initially approved in its acquisition.
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\83\ The 1995 Release solicited comment as to whether a
disposition that satisfies either condition should be exempt only if
the officer or director making the disposition had not acquired
issuer equity securities on a non-exempt basis during the previous
six months at a price lower than that at which the disposition was
made. New Rule 16b-3(e), as adopted, does not require satisfaction
of this condition with respect to any disposition.
\84\ Note (3) to new Rule 16b-3. See Section II.D.3, above.
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In the context of a merger, the new rule will exempt the
disposition of issuer equity securities (including derivative
securities) solely to the issuer, provided the conditions of the rule
are satisfied.85 Dispositions of such securities to parties other
than the issuer, such as an acquiror, are not covered by the rule and
consequently would not be eligible for exemption under the rule. The
specific terms of the disposition, including price, will require prior
approval of either the full board, the committee of Non-Employee
Directors or shareholders. If shareholder approval is solicited and is
to be the condition relied upon for exemption, the proxy card and proxy
statement both should provide that a vote to approve the merger also
shall constitute a vote to approve insiders' exempt dispositions of
issuer equity securities to the issuer.86
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\85\ If such securities were acquired in reliance on new Rule
16b-3(d)(3), the six-month holding period will need to be satisfied
prior to such disposition in order for the acquisition to be exempt.
\86\ Any such proxy statement should describe the security
holdings of each officer and director as to which approval of an
exempt disposition is solicited. See Item 5 of Schedule 14A (17 CFR
240.14a-101), which requires, in a solicitation made on behalf of
the registrant, a brief description by security holdings of any
direct or indirect substantial interest in any matter to be acted
upon of each person who has been a director or executive officer of
the registrant at any time since the beginning of the last fiscal
year, unless such interest gives rise to a benefit that is shared on
a pro rata basis by all other holders of the same class. See also
Item 3 of Schedule 14C (17 CFR 240.14c-101).
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III. Derivative Securities
A. Compensatory Cash-Only Instruments
The proposal to apply Section 16 and the rules thereunder to
compensatory instruments that can be redeemed or exercised solely for
cash (``cash-only instruments'') elicited divergent views. Cash-only
instruments provide performance-based cash compensation to employees,
using stock price as a measure of company performance. Although such
instruments do not provide employees with an equity interest in the
employer that may be traded in securities markets, they do provide the
equivalent opportunity to profit based on an increase in market price.
Currently, a cash-only instrument whose value is derived from the
market value of an issuer equity security 87 is excluded from the
definition of derivative security if it: (i) Is awarded pursuant to an
employee benefit plan that satisfies specified provisions of Rule 16b-
3,88 or (ii) may be redeemed or exercised only upon a fixed date
or dates at least six months after award, or upon death, retirement,
disability or termination of employment.89 The 1994 Release
included a proposed modification of the derivative security definition
that would have excluded all cash-only instruments issued in the
context of an employer-employee compensation arrangement, including
compensation arrangements between a company and its non-employee
directors. As discussed above,90 the subsequent Cash-Only Release
solicited comment as to whether the existing exclusion for cash-only
instruments is overly broad in light of the purposes of Section 16.
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\87\ An instrument whose value is not derived from the value of
an issuer equity security is not currently and, under the rules as
adopted, will not be subject to section 16.
\88\ Current Rule 16a-1(c)(3)(i), which references the
provisions of Rules 16b-3(a)(1) (written plan requirements), 16b-
3(a)(2) (transferability restriction) and 16b-3(c)(2) (disinterested
administration or formula plan).
\89\ Current Rule 16b-3(c)(3)(ii).
\90\ See Section I, above.
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Most commenters responding to the Cash-Only Release favored an
unconditional exemption for cash-only instruments, stressing that such
instruments are not transferable and hence do not give rise to market
transactions. However, the 1995 Release indicated that, as a corollary
to broadening the Rule 16b-3 exemption, the Commission contemplated
rescinding the exclusion for cash-only instruments. Such instruments
thus would be on a par with stock options and other instruments settled
in stock, and would be both reportable and eligible for exemption under
Rule 16b-3 to the same extent. This approach is consistent with the
purpose of the 1995 proposals to eliminate bias toward compensation
paid in cash by exempting from the short-swing profit recovery
provisions of section 16(b) virtually all compensatory transactions
between an issuer and its officers and directors. Commenters addressing
this aspect of the 1995 proposals divided in their views; some
indicated that the exclusion should be eliminated because the insider
retains the same opportunity to profit as presented by an equity-
settled instrument, while most favored retention of the exclusion
because transactions in these instruments do not affect securities
markets.
As an integral aspect of the 1995 approach, the Commission has
determined to rescind Rule 16a-1(c)(3) as contemplated. The Commission
believes that because the opportunity for profit based on price
movement in the underlying stock embodied in a cash-only instrument is
the same as for an instrument settled in stock, cash-only instruments
should be subject to Section 16 to the same extent as other issuer
equity securities. However, the Commission also recognizes that cash-
only instruments generally are not traded in market transactions by
insiders. Accordingly, transactions in these instruments are made
eligible for exemption on the same basis as other transactions in
issuer equity securities between an issuer and its officers and
directors.
This change renders uniform the application of a simplified set of
rules applying to all compensatory instruments that provide an
opportunity to profit based on issuer equity performance. It is
anticipated that, by eliminating the more burdensome aspects of Rule
16b-3 and bringing cash-only instruments within its scope, the rules
adopted today will reduce the regulatory complexity and uncertainty
that has discouraged the use of equity as compensation. Accordingly,
although transactions in cash-only instruments will be reportable
following effectiveness of the amended rules,91 such instruments
will be eligible, and should usually qualify, for exemption from
section 16(b) pursuant to new Rule 16b-3.92 Commenters' concerns
[[Page 30383]]
regarding the lack of an exemption for participant-directed
transactions in cash-only instruments, such as the deferral of salary
or fees into phantom stock, have been addressed by expanding the
proposed exemption for grants and awards to cover participant-directed
acquisitions of issuer equity securities.93
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\91\ See the discussion of reporting at Section VII.A, below,
concerning the transition to the new rules.
\92\ Most of these instruments are acquired from the issuer and
meet the other conditions of the new Rule. Of course, the
acquisition of a cash-only instrument from a party other than the
issuer would not be within the scope of the Rule.
\93\ See Section II.D.1, above.
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B. Over-Allotment Options
Over-allotment options (sometimes referred to as ``Green Shoe
options'') facilitate public offerings and do not lend themselves to
the speculative abuse Section 16 was designed to prevent. Accordingly,
in 1994 the Commission proposed codification of staff interpretive
relief 94 that would specifically exclude from the definition of
``derivative security'' options granted to an underwriter in a
registered public offering for the purpose of satisfying over-
allotments.
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\94\ See Video Technology (Overseas) Limited/Davis Polk &
Wardwell (June 17, 1992), and Davis Polk & Wardwell (July 16, 1992).
Absent this relief, an over-allotment option written by an insider
could be characterized as the establishment of a put equivalent
position and deemed sale of the underlying stock. Subsequent
expiration of the unexercised option arguably could constitute a
purchase of the underlying security, matchable with the over-
allotment option grant or other sales by the insider within a six-
month period.
---------------------------------------------------------------------------
In response, some commenters suggested that the exclusion should
not be limited to over-allotment options granted in registered public
offerings, as proposed. Other commenters differed in their responses to
the request for comment as to whether the exclusion should be limited
specifically to those over-allotment options that comply with the
National Association of Securities Dealers (``NASD'') regulation
stating that it is ``unfair and unreasonable'' for an over-allotment
option in connection with a firm commitment undertaking to exceed 15
percent of the amount of securities offered, exclusive of the over-
allotment option.95 However, given that the primary need for the
exclusion relates to over-allotment options granted in registered
public offerings, which as a practical matter generally are subject to
the NASD regulation, the rule is adopted in the form proposed,96
without a specific requirement for compliance with the NASD regulation.
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\95\ Paragraph (c)(6)(B)(ix) of Article III, Section 44 of the
NASD Rules of Fair Practice (the Corporate Financing Rule).
\96\ New Rule 16a-1(c)(7).
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C. Surrender and Withholding Rights in Connection With Exercise or Tax
Withholding
As discussed above,97 the exercise of a right to surrender or
withhold securities in connection with the exercise of a derivative
security or satisfaction of a tax obligation will be an exempt
disposition of issuer equity securities to the issuer. Whether such a
right, when granted, constitutes a derivative security is a separate
issue.
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\97\ See Section II.E, above.
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Currently, the right to withhold securities in satisfaction of a
tax obligation is treated as a derivative security separate from the
equity or derivative security to which it relates.98 However, this
right, as well as the right to have securities withheld in satisfaction
of an exercise price, properly may be viewed as an integral feature of
the related security.99 Accordingly, the 1994 Release proposed a
new rule that would exclude from the definition of ``derivative
security'' these withholding rights, as well as rights to surrender
previously owned securities in satisfaction of either an exercise price
or a tax obligation incurred upon the exercise of derivative securities
or the vesting of restricted shares.
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\98\ As an alternative to separate reporting, a tax withholding
right currently may be noted as a feature of the equity or
derivative security to which it relates. See The Clorox Company
(Mar. 27, 1992). An insider's failure to report such right does not
give rise to a disclosure obligation under Item 405 of Regulation S-
B or Regulation S-K. See Skadden, Arps, Slate, Meagher & Flom (June
8, 1992).
\99\ Cf. Xerox Corporation (Jul. 7, 1992) (the staff reached
this conclusion with respect to a mandatory tax withholding
feature).
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Commenters suggested that the proposed rule's reference to
``restricted shares'' circumscribed too narrowly the class of
securities, other than derivative securities, to which withholding and
surrender rights apply. Commenters indicated that the receipt of a
security also could be a taxable event. In response to these comments,
the rule as adopted 100 has been broadened to exempt also
withholding and surrender rights that apply to ``equity securities''
rather than only ``restricted shares,'' and that arise with respect to
the receipt as well as the exercise or vesting of a derivative or
equity security. With respect to a tax-withholding right, the exclusion
from the definition of ``derivative security'' is not limited to the
insider's marginal tax rate with respect to the underlying transaction.
However, the amount withheld must be applied to the tax obligation
generated by the underlying transaction.
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\100\ New Rule 16a-1(c)(3) (proposed as Rule 16a-1(c)(8)).
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D. Value Derived from Market Price of an Equity Security
In the 1994 Release the Commission proposed an amendment to the
definition of ``derivative security'' 101 to codify the staff
interpretive position that an instrument is not within the scope of
Section 16 if it includes a material non-market price based condition
(such as return on equity) to exercise or settlement.102 Although
the Commission endorses the application of this analysis to date, the
Commission also recognizes the advantage in retaining the interpretive
role of the staff to modify or develop further this analysis as may be
appropriate with respect to new instruments that may be developed in
the future. Accordingly, the proposed amendment is not adopted, and
questions regarding this analysis should continue to be addressed to
the staff. For purposes of this interpretive analysis, a condition will
be considered ``material'' only if it possesses substance independent
of the passage of time or continued employment.
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\101\ Proposed Rule 16a-1(c)(9).
\102\ This is an interpretation of current Rule 16a-1(c), which
requires a derivative security to have ``an exercise or conversion
privilege at a price related to an equity security, or * * * a
value derived from the value of an equity security.'' See General
Mills, Inc. (Jan. 31, 1992); and Certilman Balin Adler & Hyman (Apr.
20, 1992). See also Boston Edison Company (Mar. 19, 1992); Merrill
Lynch & Co. (Aug. 28, 1992) Q. 4. (Registrant discretion to adjust
the applicable performance measure, as to either duration or level
of performance, excludes a performance unit from being a derivative
security.)
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Most importantly, the Commission believes that under the new rule
much of the incentive to characterize these instruments one way or the
other will evaporate. In almost all cases, they will be exempt from
Section 16(b) because they will be able to satisfy easily one of the
simplified approval conditions. Consequently, the only effect of a
particular characterization is on the need for and timing of any
reporting under section 16(a). The Commission does not believe that
relief generally will be needed for this purpose.
IV. Revisions to Reporting System
A. Overall Approach
In the 1994 Release, the Commission stated that it was
reconsidering its approach to the reporting of transactions pursuant to
the Section 16 regulatory scheme. The release, without endorsing a
specific proposal, solicited comment on five alternative proposals
seeking to simplify reporting through the following three different
basic approaches: (1) Deleting or substantially reducing the reporting
of exempt transactions; (2)
[[Page 30384]]
reducing the flexibility currently provided insiders with respect to
use of Form 4 or 5 to report a number of exempt transactions; and (3)
requiring issuer annual reporting of insider holdings and information
as to transactions during the fiscal year.
These varied approaches highlighted several questions as to what
extent, if at all, investors need information with respect to exempt
transactions and whether investors need a reconciliation of insiders'
equity holdings from year to year. The 1994 Release also requested
comment on whether exercises and conversions of derivative securities
exempt from section 16(b), as well as small acquisitions, should
continue to be reported on an insider's next required Form 4 or 5,
whichever is earlier.
As a corollary to the amendments to Rule 16b-3 proposed in 1995,
the 1995 Release requested comment on an additional reporting approach.
Pursuant to the scheme contemplated by the 1995 Release, several types
of transactions, such as routine acquisitions in broad-based employer
plans, would not need to be reported at all. The remaining
transactions, including grants and awards exempt under Rule 16b-3,
generally would be reported on a Form 4 no later than ten days
following the end of the month in which the transaction occurred.
Exempt option exercises either would have remained reportable on an
insider's next required Form 4 or 5, or would have been reported on
Form 4.
The approach selected by the Commission is based on the 1995
approach, but includes elements from the 1994 Release. As outlined in
Sections IV.B through D below, the revisions simplify the reporting
framework by providing that several types of transactions exempt from
section 16(b) no longer will be required to be reported at all.
Transactions exempt from short-swing profit recovery that still must be
reported will be reported on Form 5, and non-exempt transactions will
be reported on Form 4, except that exercises and conversions of
derivative securities (whether or not exempt) will be reported on Form
4, and small acquisitions will be reported on Form 5. There no longer
will be a category of transactions reported on a ``next required Form 4
or Form 5, whichever is earlier'' basis, which commenters have
criticized as being confusing and possibly leading to inadvertent late
filings. The Commission believes that this new approach simplifies
insiders' reporting obligations without adversely affecting the timing
and amount of information that is significant to investors.
The 1994 Release solicited comment on whether the Commission should
eliminate the ``total holdings'' column in Forms 4 and 5 or simplify
the data provided by insiders to reconcile their total holdings.
Alternatively, commenters were asked to consider whether a new column
should be added to Forms 4 and 5 requiring insiders to reconcile their
current holdings with those reported in a previous filing, particularly
if exempt transactions no longer were to be reported.
Although several commenters supported elimination of the total
holdings columns, they are being retained. Form 4 disclosure of total
holdings assists users of Section 16 information in evaluating the
significance of a transaction to a particular insider, and Form 5 total
holdings provide a useful reconciliation of changes in holdings
resulting from exempt and other types of transactions permitted to be
reported on a deferred basis.
The Commission also has decided not to impose any new
reconciliation requirements on insiders. Instead, as currently, the
requirement to report total holdings on Forms 4 and 5 will remain
limited to the class of securities to which a transaction is reported,
and changes in holdings associated with transactions eligible for
deferred reporting on Form 5 will not have to be reflected in the
month-end total holdings reported on Form 4, unless the transaction
voluntarily has been reported earlier on Form 4.103
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\103\ Instruction 4(a)(i) to Form 4.
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Also in keeping with current practice, insiders will reflect
changes in holdings resulting from transactions that are exempt from
section 16 reporting in the holdings column of the next otherwise
required Form 4 or 5 filed to report a transaction involving the same
class of securities. Insiders may choose, but are not required, to
include footnote disclosure indicating the date and nature of
transactions not required to be reported. To the extent that
information about a transaction not required to be reported under the
revised rules is not readily available, the insider should provide a
``best estimate'' of the change in holdings resulting from the
transaction.104 The purpose of the best estimate is not indirectly
to require insiders to report transactions exempt from Section 16(a),
but rather, to provide users of section 16 information with holdings
information that is as accurate as reasonably possible.105
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\104\ There may not be sufficient information available
concerning certain types of transactions that are not required to be
reported under the revised rules, e.g., periodic purchases in tax-
conditioned employee benefit plans, to establish a best estimate
regarding changes in holdings. In those cases, the holdings column
will not be updated until the information becomes available.
\105\ When accurate information concerning holdings that were
estimated by an insider becomes available, it should be reflected on
the next otherwise required Form 4 or 5 that references the same
class of securities. Modifications in holdings information to
reflect variances in actual holdings from estimated holdings will
not trigger the disclosure requirements of Item 405 of Regulations
S-K and S-B.
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In a separate effort to facilitate the filing of Section 16(a)
reports and encourage the speedy dissemination of information
considered valuable by many members of the investment community, the
Commission has expanded the capacity of the EDGAR system to accommodate
the electronic filing of those reports.106 Insiders have been able
to electronically file their section 16 reports on a voluntary basis
since December 18, 1995.107
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\106\ See Release Nos. 33-7231 (October 5, 1995) (FR) and 33-
7241 (November 13, 1995) (60 FR 57682). At the same time, the EDGAR
system was expanded to accommodate the electronic filing of reports
pursuant to Rule 144 [17 CFR 230.144] under the Securities Act (15
U.S.C. 77a et seq.).
\107\ Instruction 3 to Form 3 and Instruction 2 to Forms 4 and 5
have been amended to add a reference to electronic filing.
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B. Transactions No Longer Reported at All
``Spinoff'' or other dividend transactions in which equity
securities of a different issuer are distributed to insiders of an
issuer 108
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\108\ New Rule 16a-9(a). The current exemption for stock splits
and dividends has been expanded to include specifically a stock
dividend in which equity securities of a different issuer are
distributed. See Section V.C, below.
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Acquisitions pursuant to a dividend or interest
reinvestment plan 109
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\109\ New Rule 16a-11. See Section V.A, below.
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Transactions in a tax-conditioned plan,110 except for
discretionary intra-plan transfers and cash distributions 111
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\110\ New Rules 16a-3(f)(1)(i)(B) and 16b-3(c). Current
Instruction 4(a)(ii) to Form 5 sets forth information regarding the
reporting of transactions and holdings in ongoing securities
acquisition plans. Among other things, it states that transactions
and holdings may be reported as of the most recent date for which
information is available, and that acquisitions may be reported on
an aggregate basis. The 1994 Release proposed amendments to
Instructions 4(a) (ii) and (iv) to Form 5 and the Note to
Instruction 4(a)(ii) to Form 4 to codify interpretations regarding
aggregated reporting. Because these acquisitions no longer are
required to be reported under the revised rules, the proposed
amendments are not adopted. Further, current Instruction 4(a)(ii) to
Form 5 is rescinded since the transactions addressed will not be
reported under the revised rules.
\111\ Defined as ``Discretionary Transactions'' pursuant to new
Rule 16b-3(b)(1). See Section II.C, above. These transactions will
continue to be reported on Form 5, as discussed in Section IV.C
below.
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[[Page 30385]]
Post-termination transactions by a former officer or
director that are exempt from section 16(b) or that do not occur within
six months of an opposite non-exempt transaction 112
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\112\ New Rule 16a-2(b).
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Acquisitions or dispositions of securities pursuant to a
domestic relations order meeting certain conditions of the Internal
Revenue Code 113
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\113\ New Rule 16a-12. See Section V.B below for further
discussion of this new rule, which expands the existing exemption
relating to Qualified Domestic Relations Orders.
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Transactions reflecting a mere change in form of
beneficial ownership 114
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\114\ New Rule 16a-13.
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Exempt cancellations or expirations of a long derivative
security where no value is received 115
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\115\ New Rule 16a-4(d).
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The above are transactions that must be reported under current
rules, but will not be reported under the revised rules.116 In
addition to providing a means for enforcing section 16(b) short-swing
profit liability, section 16(a) reporting serves the separate purpose
of informing the market of transactions that reflect insiders' views of
their companies' prospects. Because the transactions listed above
generally do not provide investors meaningful information consistent
with this purpose, the Commission deems it appropriate to relieve
insiders from unnecessary burdens by exempting these transactions from
reporting. There was nearly unanimous support among the commenters for
these revisions, which are adopted substantially as proposed.
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\116\ Under the current and revised requirements, stock splits,
stock dividends with respect to the same issuer and the acquisition
of certain pro rata rights do not have to be reported pursuant to
Rule 16a-9. Further, transactions by odd-lot dealers in odd-lots are
exempt from current and revised reporting requirements pursuant to
Rule 16a-5. Cash-only instruments also are not now reported since
they are excluded from the definition of ``derivative securities''
under current Rule 16a-1(c)(3) if they meet certain conditions, but
they will be reported under the new rules.
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The revised rules provide a specific exemption from section 16 for
changes in the form of beneficial ownership (but not in the extent of
an insider's pecuniary interest in the subject securities).117
Although commenters generally supported the proposal to add a new
transaction code to Form 5 to facilitate the reporting of these
transactions, several commenters suggested eliminating any reporting
requirement regarding changes in the form of beneficial stock
ownership. Since these transactions do not reflect any change in an
insider's pecuniary interest in an issuer's equity securities,
reporting seems to serve little purpose, and the Commission has
determined that they should be exempt from reporting.118
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\117\ New Rule 16a-13. For example, distributions of equity
securities from an employee benefit plan to an insider participant
would be a mere change in the form of beneficial ownership from
indirect to direct where the securities previously had been
attributed to the insider.
\118\ Accordingly, the proposed transaction code is not adopted.
The new rule makes it clear that exercises and conversions of
derivative securities and the deposit or withdrawal of shares into
or from a voting trust are not to be regarded as mere changes in the
form of beneficial ownership, and will continue to be reported. If a
deposit or withdrawal of shares into or from a voting trust
satisfies the conditions of Rule 16b-8 (17 CFR 240.16b-8), the
transaction is exempt from section 16(b).
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C. Transactions To Be Reported on Form 5
Transactions exempt from section 16(b), except for: (1)
Transactions listed in Section IV.B above that are not required to be
reported at all pursuant to the changes being adopted; and (2) exempt
exercises and conversions of derivative securities 119
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\119\ New Rule 16a-3(f)(1)(i).
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Small acquisitions 120
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\120\ New Rule 16a-6.
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A substantial number of commenters supported an alternative
reporting approach described in the 1994 Release involving elimination
of the requirement to report transactions exempt from section 16(b)
liability, and many also supported the elimination of Form 5. In
contrast, however, a number of commenters thought that the requirement
to report exempt transactions should be retained, and indicated that
Form 5 is a useful document.
As discussed above, the Commission is eliminating the reporting of
several classes of exempt transactions, including non-volitional
transactions in tax-conditioned plans. The Commission expects that
elimination of reporting of these routine plan transactions will
greatly alleviate insiders' burden of reporting exempt transactions
without resulting in any significant loss of information that users of
Section 16 information find valuable.
The Commission believes, however, that the reporting of other types
of exempt transactions, such as option grants and other acquisitions
and dispositions of securities in plans that are not tax-conditioned,
may provide the marketplace with useful information. These transactions
typically are less automatic and may reflect insiders' views of their
companies' prospects. The Commission also believes that continued
annual reporting of these transactions on Form 5 is appropriate.
In view of the change discussed above concerning the treatment of
cash-only instruments that derive value from the market value of equity
securities of the issuer,121 transactions involving such
instruments will be reported on Form 4 or 5, depending on whether they
are exempt. It is anticipated that most of these will be exempt
pursuant to new Rule 16b-3 and thus reportable on Form 5.
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\121\ See Section III.A, above.
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Pursuant to the reporting scheme contemplated by the 1995 Release,
exempt grants, awards and dispositions of securities in plans that are
not tax-conditioned, as well as intra-plan transfers and cash
distributions in tax-conditioned plans, would have been reported on
Form 4 no later than ten days after the close of the month in which the
transaction occurred. The Commission has determined to require
reporting of these transactions on Form 5 rather than Form 4, in view
of the remarks of many commenters who felt that the accelerated
reporting of exempt transactions on Form 4 would prove unworkable as
the result of the necessary plan information not being available in
sufficient time to meet Form 4 filing deadlines. Further, while some
commenters expressed a preference for reporting transactions on Form 4
rather than waiting until year-end to file a Form 5 and possibly
overlooking a transaction, others expressed a need for flexibility and
indicated that annual reporting is preferable. Those who prefer
voluntarily to report exempt transactions on Form 4, of course, may
continue to do so, as is currently permitted.
The 1995 Release also proposed elimination of the requirement that
gifts be reported. Since some commenters find gift activity to be a
useful indication of an insider's view of the company's prospects (for
example, where a large charitable gift effects a significant
disposition) the requirement to report gifts on Form 5 is retained.
Small acquisitions, which currently are reported on a next required
Form 4 or Form 5 basis, will be reported on Form 5.122 The 1994
Release solicited
[[Page 30386]]
comment as to whether reporting could be made more convenient for
insiders, consistent with the informational needs of the investing
public, by permitting small acquisitions to be reported solely on Form
5, and the majority of commenters favored this approach.123
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\122\ New Rule 16a-6, like the current rule, provides only a
deferral, not an exemption, from reporting. All small acquisitions,
unless otherwise exempt, must be reported on Form 5. As is currently
the case, if an acquisition no longer qualifies for the reporting
deferral in paragraph (a) of Rule 16a-6, all such acquisitions that
have not yet been reported will continue to be reported on Form 4
within ten days after the close of the calendar month in which the
conditions of that paragraph no longer are met. See Rule 16a-6(b)
(17 CFR 240.16a-6(b)).
\123\ As discussed below, exempt exercises and conversions of
derivative securities will be reported on Form 4 under the revised
rules.
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Additionally, as proposed in the 1994 Release, the small
acquisitions reporting rule is revised to exclude from the $10,000
threshold acquisitions occurring within the prior six months of the
current acquisition that were exempted by rule from Section 16(b), or
previously reported on Form 4 or 5. The revised rule also clarifies, as
proposed, that the current acquisition cannot be disregarded in
calculating the $10,000 threshold. All the commenters remarking on
these clarifications supported them.
D. Transactions to be Reported on Form 4
Transactions not exempt from Section 16(b), except for
small acquisitions 124
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\124\ New Rule 16a-3(g)(1).
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Exercises or conversions of a derivative security, whether
or not exempt from Section 16(b) 125
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\125\ Id.
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Transactions not exempt from short-swing profit recovery that
currently are reported on Form 4 generally will continue to be reported
on Form 4, including non-exempt exercises and conversions of derivative
securities. In addition, as a change from the current system, exercises
and conversions of derivative securities exempt from short-swing profit
recovery under either new Rule 16b-3 or Rule 16b-6(b) always will be
reported on Form 4,126 since the Commission is eliminating the
current method of reporting these transactions on a next Form 4 or Form
5 basis. Reporting of these transactions has been shifted to Form 4
rather than Form 5 due to concerns expressed by commenters that the
timing of option exercises represents an important indication of
insiders' views of their companies' prospects.
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\126\ If a derivative security is exercised or converted before
its exempt grant otherwise must be reported, the grant should be
reported at the same time as the exercise or conversion.
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E. Joint and Group Reporting
Currently, when more than one person subject to Section 16 is
deemed to be a beneficial owner of the same equity securities, all such
persons must report as beneficial owners and file separate reports. To
reduce this duplicative reporting, the Commission is adopting rules
that permit such persons to file their reports either separately or
jointly, as proposed in the 1994 Release.127
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\127\ New Rules 16a-3(j) and 16a-1(a)(3) reflect this change.
Forms 3, 4 and 5 and the Instructions thereto also are modified to
permit joint and group filings. In response to a commenter's request
for clarification, the revised instructions to the forms indicate
that, for their convenience, joint filers may reflect transactions
in separately owned securities either in an individually filed or
jointly filed report.
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Under the new reporting scheme, where persons in a group have
reporting obligations, the filing of collective reports on behalf of
all group members is permitted.128 Such joint and group filings,
and any amendments, may be submitted by any designated constituent
beneficial owner. Required information must be given for each
beneficial owner, and such filings must be signed by, or on behalf of,
each beneficial owner by an authorized person, with statements
confirming the delegation of signature authority attached to the
filing.
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\128\ Joint and group filings can be used, for example, by
parents and subsidiaries, trusts and trust beneficiaries,
partnerships, or Schedule 13D groups (17 CFR 240.13d-101). The group
itself is not a reporting person for section 16 purposes, but under
the revised rules, group members may choose to file collective
reports to satisfy their individual filing obligations. A group
member is not required to report transactions by another group
member, however, unless he or she has or shares a pecuniary interest
in the securities held by such other member.
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Beneficial owners making a joint or group filing may authorize one
of the beneficial owners or a third party to sign on their behalf,
provided that confirming statements are attached to the filing, or are
provided by amendment as soon as practicable, with respect to each
owner delegating signature authority, unless such a confirmation still
in effect is on file with the Commission.129 Of course, to the
extent a sufficiently broad power of attorney previously was filed,
such as with a Schedule 13D, that power of attorney may be incorporated
by reference in a Section 16(a) filing. Each beneficial owner will
retain individual liability for compliance with the filing
requirements, including the obligation to assure that the filing is
timely and accurately made.130
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\129\ Currently, General Instruction 7 to Forms 3, 4 and 5
permits a form filed for an individual to be signed on behalf of the
individual by an authorized person. This instruction remains the
same. General Instruction 5 to Form 3 and General Instruction 4 to
Forms 4 and 5 are amended to specify the means of reporting
pecuniary interest of multiple beneficial owners. A corresponding
amendment also has been made to General Instruction 6 to each Form.
\130\ Cf. In the Matter of Bettina Bancroft, Release No. 34-
32033, AP 3-7999 (Mar. 23, 1993).
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Comment was solicited in the 1994 Release as to whether, in the
alternative, authority to make a group Section 16 filing could be
presumed based on the filing of a group Schedule 13D, such that all
group members thereby would be deemed to have granted authority to any
group member to file a Section 16 form. The commenters rejected the
creation of such a presumption under any circumstances other than a
sufficiently broad power of attorney, i.e., one that specifically
authorizes the beneficial owner to file Section 16 reports on his or
her behalf. One of the commenters noted that a Schedule 13D group
member could file Section 16 reports on behalf of another group member
who may not even be aware that he or she has become subject to Section
16, or who may file duplicative reports. Therefore, authority to make a
group Section 16 filing will not be presumed based upon the filing of a
group Schedule 13D.
F. Trust Transactions
Under the revised rules, and as proposed in the 1994 Release, a
trust is subject to section 16 only if it beneficially owns more than
ten percent of a class of registered equity securities of an
issuer.131 The Commission has rescinded the provision imposing
section 16 reporting obligations on a trust that does not own more than
ten percent of an issuer's securities if it has an insider trustee with
investment control over the issuer's securities held by the trust, and
the trustee or a member of the trustee's immediate family has a
pecuniary interest in the securities.132 Since the primary effect
of the current dual reporting standard is to create duplicative
reporting obligations, particularly with respect to family trusts, the
imposition of independent Section 16 obligations on the trusts does not
appear necessary.
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\131\ New Rule 16a-8(a)(1). See Proskauer Rose Goetz &
Mendelsohn (Apr. 29, 1991) (a trust that holds more than ten percent
of a class of equity securities registered under section 12 is the
beneficial owner of those securities for purposes of section 16).
\132\ Current Rule 16a-8(a)(1)(ii) (17 CFR 240.16a-8(a)(1)(ii)).
A conforming amendment to Rule 16a-2(d)(2) (17 CFR 16a-2(d)(2))
reflects the rescission of Rule 16a-8(a)(1)(ii).
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There will continue to be some instances where a trust and a trust
beneficiary that both are subject to Section 16 must report separately
with respect to the same transaction because they share investment
control. The 1994 Release proposed adding a new note to the reporting
rules to provide that transactions attributed to a trust beneficiary
may be reported by the trustee on behalf of the beneficiary. A
[[Page 30387]]
commenter objected to the proposed note on grounds that a trustee
should not report on behalf of a trust beneficiary unless formally
authorized to do so. Therefore, the note has been modified to indicate
that, as currently, a trustee may file a separate report on behalf of a
beneficiary if a statement confirming the delegation of signature
authority is filed with the Commission.133 The trustee also may
file a consolidated report on behalf of the trust and one or more trust
beneficiaries if authorized to do so by the beneficiaries. Regardless
of whether the trustee reports on behalf of a beneficiary or the
beneficiary personally files reports, the beneficiary subject to a
reporting requirement retains individual liability for compliance with
that requirement.
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\133\ Note to new Rule 16a-8(b)(3).
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G. Compliance With the Reporting Requirements
Under the revised rules, as proposed, registrants will be required
to set off any disclosure required by Item 405 of Regulation S-K or S-B
of insider non-compliance with Section 16(a) reporting obligations
under an appropriate and discrete caption.134 In response to
commenters' remarks, this new caption will read ``Section 16(a)
Beneficial Ownership Reporting Compliance'' rather than ``Section 16(a)
Reporting Delinquencies,'' as proposed in the 1994 Release. The new
caption should enable interested parties readily to locate this
disclosure, which often consists of only a sentence or two, and prevent
the information from being buried among unrelated disclosure.
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\134\ New Item 405(a)(1) of Regulations S-K and S-B.
Additionally, a technical amendment has been made to Item 405 of
Regulation S-B to correct the reference to Rule 16a-3(d) (17 CFR
240.16a-(d)) by replacing it with a reference to Rule 16a-3(e) (17
CFR 240.16a-3(e)).
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In addition, Item 405 is revised to clarify the nature of the
issuer's obligation to review insiders' filings in order to determine
whether there are any delinquent reports that must be disclosed. The
issuer is entitled to rely on the Forms 3, 4 and 5 furnished to it, as
well as written representations by the insider that no Form 5 is
required.
New language has been added, as proposed, to make it clear that the
issuer is obligated to consider the absence of certain forms.135
The absence of a Form 3 is an indication that disclosure is required.
Similarly, the absence of a Form 5 is an indication that disclosure is
required, unless the issuer has received a written representation that
no Form 5 is required, or otherwise knows that no such filing is
required.136 While some commenters objected to this clarification
on grounds that it would place an inappropriate burden of investigation
on issuers to determine that a form is not required, the Commission
views it merely as a codification of previous Commission guidance
concerning issuers' obligations.
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\135\ New Item 405(a)(2) of Regulations S-K and S-B. This
obligation was set forth in the 1991 Adopting Release, n. 231 and
surrounding text.
\136\ A ``safe harbor'' from disclosure is available for an
issuer who receives a written representation and keeps it for two
years. See Item 405(b)(2).
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The 1994 Release solicited comment on whether Item 405 should
require issuers to include in their filings an affirmative statement
that no section 16(a) delinquencies were required to be reported, if
such was the case. It had been suggested that an affirmative statement
requirement would prevent issuers from overlooking the Item 405
disclosure requirement. Since most of the commenters addressing the
issue opposed an affirmative statement requirement, and there is little
evidence that issuers are overlooking Item 405 disclosure, the
Commission is not adopting such a requirement.
Finally, as noted in the 1994 Release, the Commission is aware of
and encourages the practice of many issuers to assist their officers
and directors in complying with their section 16(a) reporting
obligations. 137 Since the use of powers of attorney is permitted,
it is also possible for an issuer to coordinate the filing of its
officers' and directors' reports by having the corporate secretary or
other agent obtain powers of attorney from these reporting persons,
collect information every month about their transactions subject to
Section 16, and file required reports by the due date.138
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\137\ On February 14, 1996, the Commission included in the SEC
News Digest and posted on the Commission's Internet Web Site an
announcement encouraging the electronic filing of Forms 3, 4 and 5
(as well as Form 144) and providing guidance on how companies that
choose to do so may assist filers in the electronic filing process.
\138\ Of course, insiders giving powers of attorney would still
retain individual liability for compliance. See n. 130, above.
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H. Equity Swaps
The 1994 Release contained a section analyzing Section 16 issues
relating to equity swaps, and soliciting comments upon the analysis and
related issues.139 Equity swaps are individually negotiated
contracts in which the specific terms may vary from agreement to
agreement. For instance, an equity swap may take the form of an
agreement in which one party holding shares of equity securities agrees
to pay, or ``swap,'' the return 140 on those securities in
exchange for the return on an equity index, basket of equities, or an
interest rate-based cash flow. Generally, commenters agreed that the
Commission's analysis of equity swaps as involving the economic
equivalent of tandem stock appreciation and depreciation rights
reflects economic reality. Some, however, suggested simplified
approaches to analysis and reporting.
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\139\ See Section III.G of the 1994 Release for the Commission's
detailed analysis.
\140\ For purposes of this analysis, ``return'' may include
dividends paid on the equity instrument, as well as the change in
market value.
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The Commission reiterates that Section 16 consequences arise from
an equity swap transaction where either party to the transaction is a
Section 16 insider with respect to a security to which the swap
agreement relates.141 The Commission agrees with commenters,
however, that any manner of reporting an equity swap, or an instrument
with similar characteristics, that provides an adequate description is
appropriate. The specific method of reporting described in the 1994
Release is not the only acceptable method. However, there are certain
items of information that must be set forth for an adequate
presentation. To provide an adequate description, an insider must
report the entry into and termination of the equity swap, as well as
any interim events to the extent such events change the insider's call
or put equivalent position.142 To be adequate, each report must
provide the following information: (1) The date of the transaction; (2)
the term; (3) the number of underlying shares; (4) the exercise price
(i.e., the dollar value locked in); (5) the non-
[[Page 30388]]
exempt disposition (acquisition) of shares at the outset of the term;
(6) the non-exempt acquisition (disposition) of shares at the end of
the term (and at such earlier dates, if any, where events under the
equity swap cause a change in a call or put equivalent position); (7)
the total number of shares held after the transaction; and (8) any
other material terms.143
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\141\ This analysis addresses solely the application of Section
16 to equity swaps to the extent that they are engaged in by
insiders. The discussion does not analyze the status of these
transactions or the parties thereto under any other provision of the
federal securities laws.
However, as stated in the 1994 Release, no Section 16
consequences would flow from an equity swap to the extent that the
equity swap relates solely to interests in securities comprising
part of a broad-based, publicly traded market basket or index of
stocks, approved for trading by the appropriate federal governmental
authority, that are deemed not to confer beneficial ownership for
purposes of section 16 pursuant to Rule 16a-1(a)(5)(iii) (17 CFR
240.16a-1(a)(5)(iii)) and/or are excluded from the definition of
``derivative securities'' pursuant to current Rule 16a-1(c)(4).
\142\ See 1994 Release n. 106, which stated that to the extent
settlement of the parties' obligations occurs on an interim basis
during the term of the swap the insider's section 16 obligations
would arise with respect to each settlement, commenters expressed
concern over the need to report interim events. As noted above and
consistent with the section 16 reporting scheme in general, such
events need be reported only to the extent that they cause a change
in an insider's call or put equivalent position.
\143\ New Code K is added to Forms 4 and 5 for reporting equity
swaps and instruments with similar characteristics. See Section
IV.I, below.
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Some commenters suggested that equity swaps in general or certain
aspects of them should be regarded as excluded or exempt from Section
16. The Commission is not persuaded, however, that any exclusion or
exemption currently is available or that equity swaps should be so
excluded or exempted.
Numerous issues are raised under the federal securities laws by
equity swaps and other instruments that shift some or all of the
economic interests and risks of an equity security. Since record and
beneficial ownership does not necessarily reflect who holds the voting,
investment or income interests of a security, it may be appropriate in
areas other than Section 16 to assure that the regulatory structure
reflects the economic realities of these transactions. The Commission
is continuing to consider the legal and disclosure issues raised by
these arrangements under the federal securities laws, including
Schedule 13D reporting, Rule 144,144 Rule 144A, Regulation
S,145 and disclosure of security holdings and executive
compensation.146
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\144\ See Release No. 33-7187 (June 27, 1995) (60 FR 35645).
\145\ See Release No. 33-7190 (June 27, 1995) (60 FR 35663).
\146\ See the Commission's Report of the Task Force on
Disclosure Simplification, Part III.A.3.b.
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I. Changes in Forms and Reporting Codes
As proposed in the 1994 Release, when an insider exercises an
option acquired pursuant to a Rule 16b-3 plan and immediately sells a
portion of the shares to pay the exercise price under a cashless
exercise program, the insider will be able to reflect the sale of the
portion of shares necessary to satisfy the exercise price by using the
transaction code for payment of an option exercise price by delivery or
withholding of securities,147 rather than the general sale of
security code,148 provided that the sale is to the issuer.
Commenters agreed that it was appropriate to use the same code for
these transactions since they all constitute cashless exercises.
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\147\ Transaction code ``F.'' The sale of shares to pay the
exercise price of an option under a cashless exercise program is
exempt from Section 16(b) if the issuer is the purchaser, but not if
the shares are sold on the open market by a broker or other third
party. Code ``F'' may be used to reflect only exempt transactions.
The amendments clarify that code ``F'' also should be used to report
the withholding of securities incident to satisfaction of tax
liability incurred upon the receipt, exercise or vesting of a
security.
\148\ Transaction code ``S.''
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A new transaction code also has been included in Forms 4 and 5 to
be used for transactions in equity swaps and instruments with similar
characteristics.149 This will be in addition to whatever other
codes are used to describe the transaction.150 The new code will
assist the Commission and users of Section 16 information in
identifying these transactions.
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\149\ New transaction code ``K'' and General Instruction 8 to
Forms 4 and 5.
\150\ For example, an equity swap transaction reported as a
disposition will be reported as S/K, using the codes for ``sale''
and ``equity swap.''
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Additionally, the Instructions to Forms 3, 4 and 5 are revised to
state that the forms may be submitted to the Commission in electronic
format at the option of the reporting person.151 The Instructions
also are modified to indicate that insiders may attach a page of 8\1/2\
by 11 inch white paper to reflect additional comments to the forms, if
the space provided on the forms is insufficient.152 The current
rules require insiders to reflect supplemental information on
additional copies of the forms.
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\151\ General Instruction 3(a) to Form 3, and General
Instruction 2(a) to Forms 4 and 5.
\152\ General Instruction 6 to Forms 3, 4 and 5. Specified
information must be included at the top of the page so that the
filing can be identified if the page is detached.
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Several transaction codes have been modified or deleted from the
Instructions to Forms 4 and 5 in accordance with the revisions.153
Finally, Forms 3, 4 and 5 have been revised to accommodate joint and
group filing.154
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\153\ Transaction codes ``A,'' ``F,'' ``H,'' ``I,'' and ``M''
have been modified and codes ``B,'' ``N,'' ``Q,'' ``R'' and ``T''
have been deleted.
\154\ Item 1 of the forms has been revised to explain how the
names and addresses of more than one reporting person should be
indicated, and a new Item 7 has been added to the forms to indicate
whether the form is being filed by one or more reporting persons.
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V. Additional Exemptions and Revisions
A. Dividend or Interest Reinvestment Plans
Current Rule 16b-2 exempts from the short-swing profit recovery
provisions of section 16(b) the acquisition of issuer equity securities
resulting from reinvestment of dividends or interest on securities of
the same class, if made pursuant to a plan, available on the same terms
to all holders of that class of securities, providing for regular
reinvestment of dividends or interest. Concerns have been expressed
that the requirement that the plan be made available to all holders of
the class (the ``all-holders requirement'') can impose significant
burdens, such as the outlay of significant sums to comply with laws
governing securities offerings in foreign jurisdictions, on companies
that wish to allow for insider participation.
Accordingly, in 1995 the Commission proposed to modify this
requirement, noting that such a stringent participation requirement did
not appear necessary to preclude the opportunity for speculative abuse
by insiders. The rule was proposed to be amended to exempt acquisitions
resulting from reinvestment of dividends or interest on securities of
the same class if made pursuant to a plan that meets three conditions:
First, it must provide for the regular reinvestment of dividends or
interest. Second, the plan must be broad-based and not discriminate in
favor of employees of the issuer.155 Third, the plan must operate
on substantially the same terms for all plan participants.156
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\155\ This standard would be evaluated by reference to all
shareholders of the class. For example, the requirement would not be
satisfied merely by making the plan available to all employees of
the issuer.
\156\ Consistent with current interpretation, the rule as
amended would exempt only the reinvestment of dividends or interest.
Additional securities acquired through voluntary cash contributions
to such plans will not be exempt pursuant to this rule, but may be
exempt under new Rule 16b-3, assuming other conditions are met. See
Release No. 34-28869, n. 89. The amended rule also continues to
exempt the acquisition of issuer equity securities pursuant to a
dividend reinvestment feature of an employee benefit plan so long as
the company maintains a separate dividend reinvestment plan that
satisfies the conditions of the rule. See Simpson Thacher & Bartlett
(Jun. 19, 1991) and Release No. 34-18114, Q. 76. Finally, consistent
with current interpretations, the amended rule will continue to be
available to exempt the reinvestment of dividends in the securities
of a publicly traded parent or subsidiary, and will exempt the
reinvestment of all pro rata distributions to security holders, not
just dividends and interest. See Middle South Utilities, Inc. (Aug.
21, 1982) and Investment Company Institute (Sept. 18, 1992).
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Commenters agreed that the proposed modification is appropriate and
serves the goal of reducing administrative burdens while protecting
against possible speculative abuse by officers and directors.
Commenters noted particularly that the ``all-holders'' provision is not
essential to eliminate abuse, and that modification of this provision
would substantially reduce the costs imposed by the requirement that
such plans be made available to
[[Page 30389]]
odd-lot holders and shareholders domiciled abroad. The amendment is
adopted as proposed, with minor clarifying changes.157
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\157\ New Rule 16a-11. The rule has been renumbered as a Section
16(a) rule, since reporting of these transactions no longer will be
required, as discussed above.
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B. New Exemption for Domestic Relations Orders
The current rules limit the exemption for the disposition of
securities pursuant to a qualified domestic relations order (``QDRO''),
as defined in the Internal Revenue Code or Title I of ERISA, and the
rules thereunder, to employee plan securities.158 Since such
dispositions are unlikely to be influenced by access to inside
information, this limitation appears unnecessary. Accordingly, the 1994
proposal included a general exemption for such dispositions.
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\158\ Current Rule 16b-3(f)(3).
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By interpretation, the current exemption has been construed to
permit the transfer of securities, issued under a plan that is not
subject to Section 401(a) of the Internal Revenue Code, pursuant to a
``domestic relations order'' that satisfies certain conditions of the
Internal Revenue Code,159 but does not satisfy QDRO
standards.160 Comment was requested as to whether the proposed
exemption should require satisfaction of the QDRO standards in all
circumstances, or whether satisfaction of the Internal Revenue Code
``domestic relations order'' standards would suffice.
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\159\ I.R.C. Sections 414(p)(1)(A) and (B). Among other things,
the order must create or recognize an alternate payee's right to
receive all or a portion of the benefits payable to a participant
under a plan; relate to the provisions of child support, alimony
payments, or marital property rights to a spouse, former spouse,
child, or other dependent of the participant; and be made pursuant
to a state domestic relations law (including a community property
law).
\160\ The order need not satisfy, among other things, conditions
applicable to payments made after the participant's earliest
retirement age, and requirements to treat the former spouse as
surviving spouse for purposes of determining survivor benefits. See
Premark International, Inc. (Mar. 6, 1992), which further provides
that the plan may permit such transfers consistent with the
transferability restriction of current Rule 16b-3(a)(2).
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Commenters who addressed this proposal supported it overwhelmingly,
noting that these dispositions are unlikely to give rise to the types
of abuse of inside information that the section 16 rules are designed
to prevent and that satisfaction of the ``domestic relations order''
standards should suffice. Commenters also suggested that the rule
should exempt acquisitions as well as dispositions. The Commission is
persuaded that the likelihood of abuse is equally remote whether the
transaction is an acquisition or disposition, so long as the ``domestic
relations order'' standards are satisfied. The rule as adopted reflects
these modifications.161
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\161\ New Rule 16a-12, which replaces current Rule 16b-3(f)(3).
This amendment was proposed in the 1994 Release as proposed Rule
16b-5(b), but instead is adopted as a section 16(a) rule since
reporting of these transactions no longer will be required, as
discussed above.
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C. Exemption for Stock Dividend Transactions
The Commission proposed in 1994 to expand the exemption for stock
splits and stock dividends to include specifically a stock dividend in
which equity securities of a different issuer are distributed. The
primary application of this exemption would be to ``spinoff''
transactions, in which assets previously owned by the issuer are
distributed pro rata to shareholders in the form of equity securities
of another issuer.
The Division has interpreted the current rule to apply to stock
splits or stock dividends involving the issuance, on a pro rata basis,
of a different class of equity securities of the same issuer.162
Commenters addressing this proposal expressed support, noting that this
type of dividend involves the distribution of an ownership interest
already held indirectly through the distributing entity, and thus
involves a change in the form of ownership from indirect through the
distributing entity to direct by the recipient. Commenters also noted
that since there is no purchase or sale, there is no significant
opportunity for abuse. The proposal is adopted substantially as
proposed, with minor technical revisions.163
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\162\ See Emergent Group, Inc. (Apr. 6, 1992).
\163\ New Rule 16a-9(a).
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VI. 1995 Solicitation of Comment Regarding the On-Going Merit of the
Short-Swing Profit Recovery Provisions of Section 16
The 1995 Release solicited comment as to whether the Commission
should recommend that Congress rescind the short-swing profit recovery
provisions of section 16(b). Commenters were asked to address whether
insider trading and market manipulation would be deterred adequately by
Rule 10b-5, as interpreted by case law, and whether state laws
establishing a fiduciary duty on the part of officers and directors
would protect adequately the interests of public company shareholders.
Although the majority of commenters addressing this issue favored
the legislative rescission of section 16(b), the Commission is of the
view that the short-swing profit recovery provisions continue to
fulfill a useful and effective role in maintaining investor confidence
in the integrity of United States securities markets and accordingly
should be retained. Instead, the Commission has attempted to craft the
amended rules in a manner that retains the market protections provided
by section 16(b) while curtailing compliance costs, thereby striking an
appropriate balance between benefits and costs.
VII. Transition to New Rules
A. General Application
All of the rules adopted today, except for new Rule 16b-3, become
effective August 15, 1996 (the ``Effective Date''). Accordingly, the
section 16 treatment of all transactions effected on or after the
Effective Date will be governed by the new rules. As discussed below, a
phase-in period until November 1, 1996 is provided for new Rule 16b-3.
Of course, to the extent that the new rules codify current interpretive
positions,164 those positions continue to be valid before the
Effective Date. Trusts currently subject to section 16 that will be
relieved of section 16 obligations under the new rules will not be
subject to any post-termination reporting obligations or required to
file a final Form 4 or Form 5. The amendments to Item 405 of
Regulations S-K and S-B will apply to documents containing Item 405
disclosure that are filed after the Effective Date. The new Forms
should be used for filings made on and after the Effective Date.
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\164\ E.g., new Rule 16a-1(c)(7) and Item 405(a)(2) of
Regulations S-K and S-B.
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Cash-only instruments excludable from the definition of
``derivative security'' under current Rule 16a-1(c)(3) originally
issued before the Effective Date will remain exempt from the reporting
requirements of section 16(a) after the Effective Date. With respect to
such cash-only securities, a transaction on or after the Effective Date
that is consistent with the conditions of the exclusion pursuant to
which the security was issued also will not to be subject to Section
16.165
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\165\ Post-Effective Date transactions in cash-only securities
that were originally issued prior to May 1, 1991 will continue not
to be subject to section 16 to the extent provided in Cravath,
Swaine & Moore (Oct. 22, 1991).
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Transactions not exempt from section 16(b) under the current rules
that are conducted prior to the Effective Date will continue to be
matchable with non-exempt transactions conducted after the Effective
Date for short-swing profit recovery purposes.
[[Page 30390]]
B. New Rule 16b-3
In extending the phase-in date for current Rule 16b-3, the
Commission stated that this period would continue until September 1,
1996.166 However, given the timing of the adoption of new Rule
16b-3, the Commission is extending the phase-in date until November 1,
1996.167 While new Rule 16b-3 will become available for issuers
that wish to use it on August 15, 1996, current and former Rule 16b-3
168 will remain available for transactions effected prior to
November 1, 1996. When an issuer adopts a plan that complies with new
Rule 16b-3 or converts one of its existing plans to the new rule, all
plans must be converted,169 provided that any transaction between
an issuer and its officers or directors that occurs outside the scope
of a formal plan or pursuant to a plan that permits only the issuance
of cash-only instruments may rely on new Rule 16b-3 without triggering
this conversion requirement. Current and former Rule 16b-3 may not
continue to be relied on by issuers and insiders after November 1,
1996. Transactions exempt under current and former Rule 16b-3 should be
reported as provided by the new rules during the phase-in
period.170
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\166\ See the 1995 Phase-in Release.
\167\ See Release No. 34-37261, issued today.
\168\ Former Rules 16a-8(b) and 16a-8(g)(3) also remain
available for purposes of providing an exemption from Section 16(b).
See the 1991 Adopting Release at Section VII.C.
\169\ Following conversion of an existing plan to new Rule 16b-
3, the amendment of outstanding derivative securities to permit
their transfer will not be deemed a cancellation of such securities
and a grant of new securities for Section 16 purposes. Compare Time
Warner (Dec. 18, 1992) Q.3 and Jesse M. Brill (Mar. 25, 1994) Q.4,
where following amendment outstanding options no longer were exempt
pursuant to current and former Rule 16b-3, respectively.
\170\ The new reporting exemption for tax-conditioned plans will
not be available until new Rule 16b-3 is used because that reporting
exemption applies only to transactions exempted by new Rule 16b-
3(c).
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As stated above, the new Forms should be used for filings made on
and after the Effective Date. Since the new transaction codes are keyed
to transactions exempted by new Rule 16b-3, insiders reporting
transactions under the former or current rule may either use the new
code most analogous to the transaction or code ``J'' (for ``other''
transactions) with an explanatory footnote.
VIII. Cost-Benefit Analysis
The amendments adopted herein are expected to decrease
significantly the compliance burden imposed on persons subject to
Section 16 and attendant costs without undercutting the statutory
objectives of disclosing information concerning insider trading and
discouraging speculative short-term insider trading.
The simplified treatment of transactions between an issuer and its
officers and directors, whether or not pursuant to a formal employee
benefit plan, will constitute the most important reduction in
compliance burden. With respect to these transactions, the conditions
that must be met for an exemption to be available have been
substantially simplified. The amended rules also will simplify issuers'
administration of dividend and interest reinvestment plans, and expand
the exemption for stock splits and stock dividends to include stock
dividends in which securities of a different issuer are distributed.
The rules also will reduce compliance costs by: providing that many
transactions no longer need be reported at all; permitting joint and
group reporting where more than one person is deemed to be a beneficial
owner of the same securities; providing that section 16 applies to a
trust only if the trust beneficially owns more than ten percent of a
class of registered equity securities; and limiting officers' and
directors' post-termination reporting obligations. Where the amendments
may increase compliance costs, such as by requiring reporting with
respect to transactions in cash-only securities and by accelerating the
reporting of option exercises, such costs should be outweighed by the
benefit of having additional information available to the public on an
accelerated basis, as well as the ease of compliance with a simplified
reporting scheme. The amendments also will eliminate regulatory
complexity and uncertainty that discourages the use of equity as
compensation.
IX. Summary of Final Regulatory Flexibility Analysis
The Commission has prepared a final regulatory flexibility analysis
in accordance with 5 U.S.C. 604 regarding the adoption of new Rules
16a-11, 16a-12 and 16a-13, and the changes to Rules 16a-1, 16a-2, 16a-
3, 16a-4, 16a-6, 16a-8, 16a-9, 16b-3 and 16b-6, Forms 3, 4 and 5, and
Item 405 of Regulations S-B and S-K. A summary of the corresponding
Initial Regulatory Flexibility Analysis was included in the 1994
Release and the 1995 Release. A copy of the final regulatory
flexibility analysis may be obtained by contacting Anne M. Krauskopf,
Division of Corporation Finance, U.S. Securities and Exchange
Commission, 450 Fifth Street NW., Washington, DC 20549 at (202) 942-
2900.
As more fully discussed in the analysis, since 1994 the Commission
has been engaged in rulemaking to modify the Rules under Section 16,
particularly to alleviate unanticipated practical difficulties that
arose since adoption of the 1991 amendments, simplify section 16
requirements applicable to employee benefit plans, and codify several
staff interpretive positions. The amendments to Rule 16b-3 adopted
today will significantly expand the exemption as it applies to broad-
based non-discriminatory plans, will impose different conditions
applicable to grants, awards and other acquisitions from the issuer,
and will provide new exemptions for the disposition of issuer equity
securities to the issuer.
Other rule amendments will modify the section 16(a) reporting
system to provide that most exempt transactions and small acquisitions
will be reported annually on Form 5, with earlier reporting on Form 4
permitted. Exercises and conversions of derivative securities, whether
or not exempt from section 16(b), will be reported on Form 4. However,
routine transactions pursuant to tax-conditioned plans, dividend or
interest reinvestment plan transactions, transactions pursuant to
domestic relations orders and transactions that change only the form of
beneficial ownership will be exempt from reporting. The exemption for
reinvestment transactions pursuant to dividend and interest
reinvestment plans is amended to replace the requirement that such a
plan must be available to all holders of the class of securities with a
condition that the plan require both wide participation and equal
treatment of all participants.
No significant issues were raised by public comment in response to
the initial regulatory flexibility analysis.
The amendments adopted today primarily will affect individuals who
are corporate insiders, the majority of whom may fall within the
definition of ``small business'' under the Exchange Act. To the extent
that these persons are affected, it is expected that the proposals will
reduce their compliance burdens associated with section 16.
It is expected that the amendments adopted today will result in a
material decrease in reporting and compliance requirements since they
will streamline the requirements applicable to employee benefit plans.
Although exercises and conversions of derivative securities will be
reported earlier than previously required, and certain types of cash-
only instruments will become
[[Page 30391]]
reportable, many other transactions no longer will be reported at all,
and the overall reporting scheme will be simplified as a result.
The amendments adopted today will benefit corporate insiders by
simplifying the section 16 rules and eliminating unnecessary
requirements. Separate requirements for small issuers are inappropriate
because most of the corporate insiders subject to the section 16 rules
are individuals who meet the small business definition. The use of
performance rather than design standards for small issuers is
inconsistent with the Commission's mandate of investor protection.
Other proposals to further reduce the compliance requirements were
considered but rejected on grounds that they would be inconsistent with
the section 16 statutory objectives.
X. Statutory Basis
The amendments to Regulation S-B, Regulation S-K, and the section
16 rules and forms are adopted by the Commission pursuant to Exchange
Act sections 3(a)(11),171 3(a)(12),172 3(b),173
9(b),174 10(a),175 12(h),176 13(a),177 14,178
16, and 23(a). As the Section 16 rules and forms relate to the
Investment Company Act and the Public Utility Holding Company Act, they
also are adopted pursuant to Investment Company Act sections 30
179 and 38,180 and Public Utility Holding Company Act
Sections 17 181 and 20,182 respectively.
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\171\ 15 U.S.C. 78c(a)(11).
\172\ 15 U.S.C. 78c(a)(12).
\173\ 15 U.S.C. 78c(b).
\174\ 15 U.S.C. 78i(b).
\175\ 15 U.S.C. 78j(a).
\176\ 15 U.S.C. 78l(h).
\177\ 15 U.S.C. 78m(a).
\178\ 15 U.S.C. 78n.
\179\ 15 U.S.C. 80a-29.
\180\ 15 U.S.C. 80a-37.
\181\ 15 U.S.C. 79q.
\182\ 15 U.S.C. 79t.
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List of Subjects in 17 CFR 228, 229, 240, and 249
Reporting, Recordkeeping requirements, and Securities.
Text of the Amendments
In accordance with the foregoing, Title 17, Chapter II of the Code
of Federal Regulations is amended as follows:
PART 228--INTEGRATED DISCLOSURE SYSTEM FOR SMALL BUSINESS ISSUERS
1. The authority citation for part 228 continues to read as
follows:
Authority: 15 U.S.C. 77e, 77f, 77g, 77h, 77j, 77k, 77s,
77aa(25), 77aa(26), 77ddd, 77eee, 77ggg, 77hhh, 77jjj, 77nnn, 77sss,
78l, 78m, 78n, 78o, 78w, 78ll, 80a-8, 80a-29, 80a-30, 80a-37, 80b-
11, unless otherwise noted.
2. By amending Sec. 228.405 by revising the reference to ``Rule
16a-3(d)'' in paragraph (a) to read ``Rule 16a-3(e)'' and by revising
paragraphs (a)(1) and (a)(2) before the Note to read as follows:
Sec. 228.405 (Item 405) Compliance with section 16(a) of the Exchange
Act.
* * * * *
(a) * * *
(1) Under the caption ``Section 16(a) Beneficial Ownership
Reporting Compliance,'' identify each person who, at any time during
the fiscal year, was a director, officer, beneficial owner of more than
ten percent of any class of equity securities of the registrant
registered pursuant to section 12 (``reporting person'') that failed to
file on a timely basis, as disclosed in the above Forms, reports
required by section 16(a) of the Exchange Act during the most recent
fiscal year or prior fiscal years.
(2) For each such person, set forth the number of late reports, the
number of transactions that were not reported on a timely basis, and
any known failure to file a required Form. A known failure to file
would include, but not be limited to, a failure to file a Form 3, which
is required of all reporting persons, and a failure to file a Form 5 in
the absence of the written representation referred to in paragraph
(b)(2)(i) of this section, unless the registrant otherwise knows that
no Form 5 is required.
* * * * *
PART 229--STANDARD INSTRUCTIONS FOR FILING FORMS UNDER SECURITIES
ACT OF 1933, SECURITIES EXCHANGE ACT OF 1934 AND ENERGY POLICY AND
CONSERVATION ACT OF 1975--REGULATION S-K
3. The authority citation for part 229 continues to read in part as
follows:
Authority: 15 U.S.C. 77e, 77f, 77g, 77h, 77j, 77k, 77s,
77aa(25), 77aa(26), 77ddd, 77eee, 77ggg, 77hhh, 77iii, 77jjj, 77nnn,
77sss, 78c, 78i, 78j, 78l, 78m, 78n, 78o, 78w, 78ll(d), 79e, 79n,
79t, 80a-8, 80a-29, 80a-30, 80a-37, 80b-11, unless otherwise noted.
* * * * *
4. By amending Sec. 229.405 by revising paragraphs (a)(1) and
(a)(2) before the Note to read as follows:
Sec. 229.405 (Item 405) Compliance with section 16(a) of the Exchange
Act.
* * * * *
(a) * * *
(1) Under the caption ``Section 16(a) Beneficial Ownership
Reporting Compliance,'' identify each person who, at any time during
the fiscal year, was a director, officer, beneficial owner of more than
ten percent of any class of equity securities of the registrant
registered pursuant to section 12 of the Exchange Act, or any other
person subject to section 16 of the Exchange Act with respect to the
registrant because of the requirements of section 30 of the Investment
Company Act or section 17 of the Public Utility Holding Company Act
(``reporting person'') that failed to file on a timely basis, as
disclosed in the above Forms, reports required by section 16(a) of the
Exchange Act during the most recent fiscal year or prior fiscal years.
(2) For each such person, set forth the number of late reports, the
number of transactions that were not reported on a timely basis, and
any known failure to file a required Form. A known failure to file
would include, but not be limited to, a failure to file a Form 3, which
is required of all reporting persons, and a failure to file a Form 5 in
the absence of the written representation referred to in paragraph
(b)(2)(i) of this section, unless the registrant otherwise knows that
no Form 5 is required.
* * * * *
PART 240--GENERAL RULES AND REGULATIONS, SECURITIES EXCHANGE ACT OF
1934
5. The authority citation for part 240 continues to read in part as
follows:
Authority: 15 U.S.C. 77c, 77d, 77g, 77j, 77s, 77eee, 77ggg,
77nnn, 77sss, 77ttt, 78c, 78d, 78i, 78j, 78l, 78m, 78n, 78o, 78p,
78q, 78s, 78w, 78x, 78ll(d), 79q, 79t, 80a-20, 80a-23, 80a-29, 80a-
37, 80b-3, 80b-4, and 80b-11, unless otherwise noted.
* * * * *
6. By amending Sec. 240.16a-1 by revising paragraphs (a)(3) and
(c)(3), removing the word ``or'' at the end of paragraph (c)(5),
replacing the period at the end of paragraph (c)(6) with a semi-colon
followed by the word ``or'', and adding paragraph (c)(7) to read as
follows:
Sec. 240.16a-1 Definition of terms.
* * * * *
(a) * * *
(3) Where more than one person subject to section 16 of the Act is
deemed to be a beneficial owner of the same equity securities, all such
persons must report as beneficial owners of the securities, either
separately or jointly, as provided in Sec. 240.16a-3(j). In such cases,
the amount of short-swing profit recoverable shall not be increased
above
[[Page 30392]]
the amount recoverable if there were only one beneficial owner.
* * * * *
(c) * * *
(3) Rights or obligations to surrender a security, or have a
security withheld, upon the receipt or exercise of a derivative
security or the receipt or vesting of equity securities, in order to
satisfy the exercise price or the tax withholding consequences of
receipt, exercise or vesting;
* * * * *
(7) Options granted to an underwriter in a registered public
offering for the purpose of satisfying over-allotments in such
offering.
* * * * *
7. By amending Sec. 240.16a-2 by revising paragraphs (b) and (d)(2)
to read as follows:
Sec. 240.16a-2 Persons and transactions subject to section 16.
* * * * *
(b) A transaction(s) following the cessation of director or officer
status shall be subject to section 16 of the Act only if:
(1) Executed within a period of less than six months of an opposite
transaction subject to section 16(b) of the Act that occurred while
that person was a director or officer; and
(2) Not otherwise exempted from section 16(b) of the Act pursuant
to the provisions of this chapter.
Note to Paragraph (b): For purposes of this paragraph, an
acquisition and a disposition each shall be an opposite transaction
with respect to the other.
* * * * *
(d)(1) * * *
(2) Transactions by such person or entity acting in a capacity
specified in paragraph (d)(1) of this section after the period
specified in that paragraph shall be subject to section 16 of the Act
only where the estate, trust or other entity is a beneficial owner of
more than ten percent of any class of equity security registered
pursuant to section 12 of the Act.
8. By amending Sec. 240.16a-3 by revising paragraph (f)(1)(i),
redesignating paragraphs (f)(1)(ii) and (f)(1)(iii) as (f)(1)(iii) and
(f)(1)(iv), adding paragraph (f)(1)(ii), revising paragraph (g), and
adding paragraph (j) to read as follows:
Sec. 240.16a-3 Reporting transactions and holdings.
* * * * *
(f)(1) * * *
(i) All transactions during the most recent fiscal year that were
exempt from section 16(b) of the Act, except:
(A) Exercises and conversions of derivative securities exempt under
either Sec. 240.16b-3 or Sec. 240.16b-6(b) (these are required to be
reported on Form 4);
(B) Transactions exempt from section 16(b) of the Act pursuant to
Sec. 240.16b-3(c), which shall be exempt from section 16(a) of the Act;
and
(C) Transactions exempt from section 16(a) of the Act pursuant to
another rule;
(ii) Transactions that constituted small acquisitions pursuant to
Sec. 240.16a-6(a);
* * * * *
(g) (1) A Form 4 shall be filed to report all transactions not
exempt from section 16(b) of the Act and all exercises and conversions
of derivative securities, regardless of whether exempt from section
16(b) of the Act.
(2) At the option of the reporting person, transactions that are
reportable on Form 5 may be reported on Form 4, provided that the Form
4 is filed no later than the due date of the Form 5 with respect to the
fiscal year in which the transaction occurred.
* * * * *
(j) Where more than one person subject to section 16 of the Act is
deemed to be a beneficial owner of the same equity securities, all such
persons must report as beneficial owners of the securities, either
separately or jointly. Where persons in a group are deemed to be
beneficial owners of equity securities pursuant to Sec. 240.16a-1(a)(1)
due to the aggregation of holdings, a single Form 3, 4 or 5 may be
filed on behalf of all persons in the group. Joint and group filings
must include all required information for each beneficial owner, and
such filings must be signed by each beneficial owner, or on behalf of
such owner by an authorized person.
9. By amending Sec. 240.16a-4 by revising paragraphs (b), (c) and
(d) and the Note to read as follows:
Sec. 240.16a-4 Derivative securities.
* * * * *
(b) The exercise or conversion of a call equivalent position shall
be reported on Form 4 and treated for reporting purposes as:
(1) A purchase of the underlying security; and
(2) A closing of the derivative security position.
(c) The exercise or conversion of a put equivalent position shall
be reported on Form 4 and treated for reporting purposes as:
(1) A sale of the underlying security; and
(2) A closing of the derivative security position.
(d) The disposition or closing of a long derivative security
position, as a result of cancellation or expiration, shall be exempt
from section 16(a) of the Act if exempt from section 16(b) of the Act
pursuant to Sec. 240.16b-6(d).
Note to Sec. 240.16a-4: A purchase or sale resulting from an
exercise or conversion of a derivative security may be exempt from
section 16(b) of the Act pursuant to Sec. 240.16b-3 or Sec. 240.16b-
6(b).
10. By amending Sec. 240.16a-6 by revising paragraph (a) and
removing paragraph (c) to read as follows:
Sec. 240.16a-6 Small acquisitions.
(a) Any acquisition of an equity security not exceeding $10,000 in
market value, or of the right to acquire such securities, shall be
reported on Form 5, subject to the following conditions:
(1) Such acquisition, when aggregated with other acquisitions of
securities of the same class (including securities underlying
derivative securities, but excluding acquisitions exempted by rule from
section 16(b) or previously reported on Form 4 or Form 5) within the
prior six months, does not exceed a total of $10,000 in market value;
and
(2) The person making the acquisition does not within six months
thereafter make any disposition, other than by a transaction exempt
from section 16(b) of the Act.
* * * * *
11. By amending Sec. 240.16a-8 by revising paragraph (a)(1) and
adding a note at the end of paragraph (b)(3) to read as follows:
Sec. 240.16a-8 Trusts.
(a) Persons subject to section 16.--(1) Trusts. A trust shall be
subject to section 16 of the Act with respect to securities of the
issuer if the trust is a beneficial owner, pursuant to Sec. 240.16a-
1(a)(1), of more than ten percent of any class of equity securities of
the issuer registered pursuant to section 12 of the Act (``ten percent
beneficial owner'').
* * * * *
(b) Trust holdings and transactions. * * *
(3) Beneficiaries. * * *
Note to Paragraph (b)(3): Transactions and holdings attributed
to a trust beneficiary may be reported by the trustee on behalf of
the beneficiary, provided that the report is signed by the
beneficiary or other authorized person. Where the transactions and
holdings are attributed both to the trustee and trust beneficiary, a
joint report may be filed in accordance with Sec. 240.16a-3(j).
* * * * *
12. By amending Sec. 240.16a-9 by revising paragraph (a) to read as
follows:
[[Page 30393]]
Sec. 240.16a-9 Stock splits, stock dividends, and pro rata rights.
* * * * *
(a) The increase or decrease in the number of securities held as a
result of a stock split or stock dividend applying equally to all
securities of a class, including a stock dividend in which equity
securities of a different issuer are distributed; and
* * * * *
13. By adding Sec. 240.16a-11 to read as follows:
Sec. 240.16a-11 Dividend or interest reinvestment plans.
Any acquisition of securities resulting from the reinvestment of
dividends or interest on securities of the same issuer shall be exempt
from section 16 of the Act if the acquisition is made pursuant to a
plan providing for the regular reinvestment of dividends or interest
and the plan provides for broad-based participation, does not
discriminate in favor of employees of the issuer, and operates on
substantially the same terms for all plan participants.
14. By adding Sec. 240.16a-12 to read as follows:
Sec. 240.16a-12 Domestic relations orders.
The acquisition or disposition of equity securities pursuant to a
domestic relations order, as defined in the Internal Revenue Code or
Title I of the Employee Retirement Income Security Act, or the rules
thereunder, shall be exempt from section 16 of the Act.
15. By adding Sec. 240.16a-13 to read as follows:
Sec. 240.16a-13 Change in form of beneficial ownership.
A transaction, other than the exercise or conversion of a
derivative security or deposit into or withdrawal from a voting trust,
that effects only a change in the form of beneficial ownership without
changing a person's pecuniary interest in the subject equity securities
shall be exempt from section 16 of the Act.
Sec. 240.16b-2 [Removed and reserved]
16. By removing and reserving Sec. 240.16b-2.
17. By revising Sec. 240.16b-3 to read as follows:
Sec. 240.16b-3 Transactions between an issuer and its officers or
directors.
(a) General. A transaction between the issuer (including an
employee benefit plan sponsored by the issuer) and an officer or
director of the issuer that involves issuer equity securities shall be
exempt from section 16(b) of the Act if the transaction satisfies the
applicable conditions set forth in this section.
(b) Definitions.
(1) A Discretionary Transaction shall mean a transaction pursuant
to an employee benefit plan that:
(i) Is at the volition of a plan participant;
(ii) Is not made in connection with the participant's death,
disability, retirement or termination of employment;
(iii) Is not required to be made available to a plan participant
pursuant to a provision of the Internal Revenue Code; and
(iv) Results in either an intra-plan transfer involving an issuer
equity securities fund, or a cash distribution funded by a volitional
disposition of an issuer equity security.
(2) An Excess Benefit Plan shall mean an employee benefit plan that
is operated in conjunction with a Qualified Plan, and provides only the
benefits or contributions that would be provided under a Qualified Plan
but for any benefit or contribution limitations set forth in the
Internal Revenue Code of 1986, or any successor provisions thereof.
(3) (i) A Non-Employee Director shall mean a director who:
(A) Is not currently an officer (as defined in Sec. 240.16a-1(f))
of the issuer or a parent or subsidiary of the issuer, or otherwise
currently employed by the issuer or a parent or subsidiary of the
issuer;
(B) Does not receive compensation, either directly or indirectly,
from the issuer or a parent or subsidiary of the issuer, for services
rendered as a consultant or in any capacity other than as a director,
except for an amount that does not exceed the dollar amount for which
disclosure would be required pursuant to Sec. 229.404(a) of this
chapter;
(C) Does not possess an interest in any other transaction for which
disclosure would be required pursuant to Sec. 229.404(a) of this
chapter; and
(D) Is not engaged in a business relationship for which disclosure
would be required pursuant to Sec. 229.404(b) of this chapter.
(ii) Notwithstanding paragraph (b)(3)(i) of this section, a Non-
Employee Director of a closed-end investment company shall mean a
director who is not an ``interested person'' of the issuer, as that
term is defined in Section 2(a)(19) of the Investment Company Act of
1940.
(4) A Qualified Plan shall mean an employee benefit plan that
satisfies the coverage and participation requirements of sections 410
and 401(a)(26) of the Internal Revenue Code of 1986, or any successor
provisions thereof.
(5) A Stock Purchase Plan shall mean an employee benefit plan that
satisfies the coverage and participation requirements of sections
423(b)(3) and 423(b)(5), or section 410, of the Internal Revenue Code
of 1986, or any successor provisions thereof.
(c) Tax-conditioned plans. Any transaction (other than a
Discretionary Transaction) pursuant to a Qualified Plan, an Excess
Benefit Plan, or a Stock Purchase Plan shall be exempt without
condition.
(d) Grants, awards and other acquisitions from the issuer. Any
transaction involving a grant, award or other acquisition from the
issuer (other than a Discretionary Transaction) shall be exempt if:
(1) The transaction is approved by the board of directors of the
issuer, or a committee of the board of directors that is composed
solely of two or more Non-Employee Directors;
(2) The transaction is approved or ratified, in compliance with
section 14 of the Act, by either: the affirmative votes of the holders
of a majority of the securities of the issuer present, or represented,
and entitled to vote at a meeting duly held in accordance with the
applicable laws of the state or other jurisdiction in which the issuer
is incorporated; or the written consent of the holders of a majority of
the securities of the issuer entitled to vote; provided that such
ratification occurs no later than the date of the next annual meeting
of shareholders; or
(3) The issuer equity securities so acquired are held by the
officer or director for a period of six months following the date of
such acquisition, provided that this condition shall be satisfied with
respect to a derivative security if at least six months elapse from the
date of acquisition of the derivative security to the date of
disposition of the derivative security (other than upon exercise or
conversion) or its underlying equity security.
(e) Dispositions to the issuer. Any transaction involving the
disposition to the issuer of issuer equity securities (other than a
Discretionary Transaction) shall be exempt, provided that the terms of
such disposition are approved in advance in the manner prescribed by
either paragraph (d)(1) or paragraph (d)(2) of this section.
(f) Discretionary Transactions. A Discretionary Transaction shall
be exempt only if effected pursuant to an election made at least six
months following the date of the most recent election, with respect to
any plan of the issuer, that effected a Discretionary Transaction that
was:
(1) An acquisition, if the transaction to be exempted would be a
disposition; or
[[Page 30394]]
(2) A disposition, if the transaction to be exempted would be an
acquisition.
Notes to Sec. 240.16b-3
Note (1): The exercise or conversion of a derivative security
that does not satisfy the conditions of this section is eligible for
exemption from section 16(b) of the Act to the extent that the
conditions of Sec. 240.16b-6(b) are satisfied.
Note (2): Section 16(a) reporting requirements applicable to
transactions exempt pursuant to this section are set forth in
Sec. 240.16a-3(f) and (g) and Sec. 240.16a-4.
Note (3): The approval conditions of paragraphs (d)(1), (d)(2)
and (e) of this section require the approval of each specific
transaction, and are not satisfied by approval of a plan in its
entirety except for the approval of a plan pursuant to which the
terms and conditions of each transaction are fixed in advance, such
as a formula plan. Where the terms of a subsequent transaction (such
as the exercise price of an option, or the provision of an exercise
or tax withholding right) are provided for in a transaction as
initially approved pursuant to paragraphs (d)(1), (d)(2) or (e),
such subsequent transaction shall not require further specific
approval.
18. By amending Sec. 240.16b-6 by adding a note following paragraph
(b) to read as follows:
Sec. 240.16b-6 Derivative securities.
* * * * *
Note to Paragraph (b): The exercise or conversion of a
derivative security that does not satisfy the conditions of this
section is eligible for exemption from section 16(b) of the Act to
the extent that the conditions of Sec. 240.16b-3 are satisfied.
* * * * *
PART 249--FORMS, SECURITIES EXCHANGE ACT OF 1934
19. The authority citation for part 249 continues to read in part
as follows:
Authority: 15 U.S.C. 78a, et seq., unless otherwise noted;
* * * * *
20. By amending Form 3 (referenced in Sec. 249.103) and the General
Instructions thereto by adding a sentence at the end of paragraph (a)
to General Instruction 3 after the note, adding paragraph (b)(v) to
General Instruction 5, by revising General Instruction 6, and by
revising Item 1 and adding Item 7 to the information preceding Table I
to read as follows:
Note: The text of Form 3 does not and this amendment will not
appear in the Code of Federal Regulations.
Form 3 Initial Statement of Beneficial Ownership of Securities
* * * * *
General Instructions
* * * * *
3. Where Form Must be Filed
(a) * * * Alternatively, this Form is permitted to be submitted
to the Commission in electronic format at the option of the
reporting person pursuant to Sec. 232.101(b)(4) of this chapter.
* * * * *
5. Holdings Required to be R
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