Securities Law
AUGUST 2002
New Law Requires Accelerated Ownership Reporting by
Officers, Directors and Principal Security Holders
Among the sweeping changes in corporate governance
and operation resulting from the Sarbanes-Oxley Act
(the “Act”) is the imposition of a two business day filing
requirement for Form 4 ownership reports under Section
16 of the Securities Exchange Act of 1934, as amended.
Section 16 applies to officers, directors and greater than
10% shareholders (“insiders”) of most public companies
as well as to insiders and certain other affiliates of
registered closed-end investment companies. The Act
also substantially restricts the classes of transactions that
will qualify for deferred reporting on Form 5. The
Securities and Exchange Commission (the “SEC”) has
announced that it will adopt final rules with regard to
the accelerated reporting requirements no later than
August 29, 2002, which is the effective date of the new
requirements.
Under prior law, nonexempt transactions were generally
required to be reported monthly on Form 4 while most
exempt transactions were eligible for deferred reporting
on the year-end Form 5. The Act amended these
reporting requirements to significantly accelerate the
deadline for reporting many types of transactions in
issuer equity securities. In general, the Act requires
insiders to report such transactions on Form 4 before the
end of the second business day following the day on
which the transaction has been executed. Thus, open
market transactions must be reported before the
settlement date occurs. In addition to covering open
market purchases and sales of stock, the two business
day reporting requirement will apply to common
transactions in stock options and other derivative
securities, such as option grants, exercises, cancellations
and regrants, as well as to other stock transactions with
the issuer. Many such transactions were previously
eligible for deferred reporting.
The SEC is authorized to specify by rule later filing
deadlines for narrowly defined transactions with respect
to which such a two business day period is not feasible.
The SEC has stated that it will consider deferred
reporting only where “objective criteria prevent the
insider from controlling (and in many cases knowing)
the timing of transaction execution.” Examples of
transactions that are likely to qualify for deferred
reporting include trades that occur under a preexisting
arrangement such as a Rule 10b5-1 plan and fund-tofund transfers involving company stock under a 401(k)
plan. It is likely that transactions that are currently
exempt from reporting (dividend reinvestment plan
transactions, gifts and certain transactions under taxqualified plans) will continue to be exempt.
The Act also amended Section 16 to require, not later
than one year after enactment (July 30, 2003), electronic
filing of all Section 16 reports. Once the electronic
filing is required, the issuer will be required to post the
filings on its website. The SEC is encouraging insiders
to file reports electronically even prior to the date
electronic filing becomes mandatory.
Although Section 16 reporting is the legal responsibility
of the individual insider, many public companies assist
their officers and directors in the preparation and filing
of the reports. Failure by an insider to strictly comply
with the reporting requirements must be disclosed by the
company in its annual proxy statement and Form 10-K
annual report. Under current law, in the event of
violations of the reporting requirements of Section 16,
the SEC can bring an administrative proceeding for a
cease and desist order, and civil and criminal penalties
can be assessed under certain circumstances. The Act
authorizes the SEC to obtain equitable relief for
Kirkpatrick & Lockhart LLP
–
violations of the insider reporting requirements and
other provisions of the Act.
The Act also makes unlawful, with certain limited
exceptions, for a public company and its subsidiaries to
extend or maintain credit, and to arrange or renew the
extension of credit, on behalf of any director or
executive officer of such a company. This provision
applies to loans made, modified or renewed after July
30, 2002, subject to the SEC’s general rulemaking and
exemptive authority. This provision is very broad and
can be read to preclude, among other things, certain
types of cashless option exercise arrangements for
directors and executive officers (where a company
issues shares on exercise of an option and the broker
pays the exercise price after settlement of a simultaneous
sale of the option shares in the public market). Issurers
with cashless exercise programs in which directors and
executive officers participate are urged to consult with
counsel regarding how to address this issue.
■
Obtaining powers of attorney from each officer and
director will enable company personnel to make
Section 16 filings on their behalf without having to
obtain signatures on each filing.
■
Directors and officers should be informed in writing
of the new filing requirements, any new procedures
the company puts in place to ensure compliance and
the penalties associated with noncompliance.
Companies should begin immediately to prepare for the
accelerated reporting requirements. Among other
things, issuers should consider the following:
■
■
Paper filings of Section 16 ownership reports will be
a logistical problem under the two business day
reporting requirements. Therefore, companies should
prepare to assist officers and directors with electronic
filings of such reports.
Perhaps the most difficult aspect of achieving
compliance with the new requirements is ensuring
the prompt flow of information about transactions
from insiders and their brokers to the company
personnel who are responsible for preparing and
filing Section 16 reports.
–
Officers and directors should be encouraged to
coordinate with their brokers to ensure that the
necessary information is timely communicated to
the persons responsible for preparing and filing
the reports.
Requiring all officers and directors to pre-clear
their transactions with a designated company
official (a common feature of many company
insider trading policies) will provide advance
notice that will enable the company to prepare the
required reports on a timely basis. Insiders should
be told to inform the company’s compliance
officer immediately in the event of an inadvertent
failure to pre-clear a transaction.
RICHARD E. WOOD
rwood@kl.com
412.355.8676
CARY J. MEER
cmeer@kl.com
202.778.9107
If you have questions or would like more information about K&L’s
securities practice, please contact one of the lawyers listed below.
Boston
Stephen L. Palmer
617.951.9211
spalmer@kl.com
Dallas
Norman R. Miller
214.939.4906
nmiller@kl.com
Los Angeles
Mark A. Klein
Thomas J. Poletti
310.552.5033
310.552.5045
mklein@kl.com
tpoletti@kl.com
Miami
Clayton E. Parker
305.539.3306
cparker@kl.com
Newark
Stephen A. Timoni
973.848.4020
stimoni@kl.com
New York
John D. Vaughan
Stephen R. Connoni
212.536.4006
212.536.4040
jvaughan@kl.com
sconnoni@kl.com
Pittsburgh
Janice C. Hartman
Michael C. McLean
412.355.6444
412.355.6458
jhartman@kl.com
mmclean@kl.com
San Francisco
Mark H. Davis
Peter W. Sheats
415.249.1020
415.249.1030
mdavis@kl.com
psheats@kl.com
Washington
Alan J. Berkeley
Cary J. Meer
202.778.9050
202.778.9107
aberkeley@kl.com
cmeer@kl.com
®
Kirkpatrick & Lockhart LLP
Challenge us. ®
www.kl.com
BOSTON
■
DALLAS
■
HARRISBURG
■
LOS ANGELES
■
MIAMI
■
NEWARK
■
NEW YORK
■
PITTSBURGH
■
SAN FRANCISCO
■
WASHINGTON
.........................................................................................................................................................
This publication/newsletter is for informational purposes and does not contain or convey legal advice. The information herein
should not be used or relied upon in regard to any particular facts or circumstances without first consulting a lawyer.
© 2002 KIRKPATRICK & LOCKHART LLP.
ALL RIGHTS RESERVED.