Rule 10b5-1

Definition

Rule 10b5-1 is a rule established by the U.S Securities and Exchange Commission (SEC) providing a legal defense against insider trading charges. The rule stipulates that company insiders can set up a predetermined plan for buying or selling stocks they hold in their own company while the insider is non-privileged information. The plan must specify dates, prices, and quantities of the intended transactions or articulate a written formula or algorithm determining them.

Phonetic

The phonetics of the keyword “Rule 10b5-1” would be “rool ten bee five dash one”.

Key Takeaways

Three main takeaways about Rule 10b5-1:

1. Insider Trading Prevention: Rule 10b5-1 was designed by the U.S. Securities and Exchange Commission (SEC) to prevent insider trading. It provides a defense against charges of insider trading if you can demonstrate that the trades were planned prior to you gaining insider information.

2. Pre-set Trading Plan: According to this rule, individuals with access to non-public information can set up a written, pre-set trading plan to buy or sell a certain amount of stock at a future date, regardless of any material non-public information they receive after the plan is set.

3. Affirmative Defenses: Rule 10b5-1 offers affirmative defenses for individuals to execute pre-planned transactions, even when they have material confidential information at the time of executing the trade, provided the trade was pre-planned at a time when the individual was not in possession of material non-public information.

Importance

Rule 10b5-1 is an important business/finance term as it provides a legal defense against accusations of insider trading for company executives who buy and sell their company’s stock. Established by the U.S. Securities and Exchange Commission (SEC), this rule allows these individuals to make predetermined trades while they’re not in possession of material, nonpublic information, thus ensuring fairness, transparency, and credibility in the market. It’s significant because it enables corporate officers to plan trades in advance at a time when they are not in possession of non-public knowledge that could impact the stock’s price, mitigating potential conflicts of interest and reducing the risk of allegations of insider trading.

Explanation

Rule 10b5-1, established by the U.S. Securities and Exchange Commission (SEC), serves the important purpose of providing a legal framework for company insiders to buy or sell a specific number of shares at a predetermined time. This rule provision is especially relevant to those who possess non-public, material information, often referred to as insider information, a concept that includes top executives and directors, and gives them a method to plan trades in advance in a legal manner which is also beneficial for managing personal financial planning. By using such a plan, individuals with insider information can evade accusations of insider trading, provided these trades occur based on the parameters set in the 10b5-1 plan.The rule is designed to govern the conduct of corporate insiders, mitigating the likelihood of insider trading, and thereby maintaining fairness and integrity in the stock markets. Many corporate executives use the rule to avoid concerns about transactions based on insider knowledge, as well as potential legal trouble. The primary condition for a 10b5-1 plan is that it must be established at a time when the plan maker isn’t in possession of any insider information. Once the plan is set up, the transactions will automatically be carried out according to its terms, irrespective of any non-public knowledge the trader may acquire thereafter.

Examples

1. Martha Stewart Case: A prominent real world example is that of Martha Stewart, the famous television personality and businesswoman. In 2004, Stewart was convicted on several charges related to insider trading. The SEC alleged that she sold shares of ImClone Systems based on non-public material information. Although the charges were not precisely under Rule 10b5-1, her case is a prime example of how the government uses the rules related to this provision to prosecute insider trading cases.2. Intel CEO Case: In 2018, the former CEO of Intel, Brian Krzanich, resigned after it was revealed that he had a past consensual relationship with an employee, which was against company policy. However, prior to his resignation, he sold millions of dollars’ worth of Intel stock, which he had learned would miss its earnings targets. It was later revealed that his stock sales were prearranged under a Rule 10b5-1 trading plan, which protected him from accusations of insider trading.3. Equifax Data Breach: In 2017, the financial services company Equifax suffered a massive data breach. Prior to the public announcement of the breach, several executives sold substantial amounts of their shares. The SEC charged them with insider trading, but one of the executives was not charged because his sales were executed according to a prearranged 10b5-1 trading plan.

Frequently Asked Questions(FAQ)

Related Finance Terms

• Insider Trading
• Securities and Exchange Commission (SEC)
• Publicly Traded Companies
• Material Non-Public Information (MNPI)
• Pre-arranged Trading Plan

Sources for More Information

• U.S. Securities and Exchange Commission (SEC)
• Investopedia
• Harvard Law School Forum on Corporate Governance
• Fidelity