Corporations must recognize that they are responsible for their employees' "insider" trades. The ramifications associated with this responsibility are illuminated by the SEC changes to Section 16 of the Securities Exchange Act of 1934 that take effect on May 1. The major thrust of the Section 16 revision is to force corporate insiders to file reports of a stock purchase or sell in a timely manner.
Up until now, the Securities and Exchange Commission has been extremely patient with regard to the haphazardness that seems to go hand-in-hand with this reporting requirement.
As it illustrated in its response to infamous Wall Street sharks like Ivan Boesky, the SEC recognizes the need for greater controls in the overall securities arena. In fact, the Insider Trading and Securities Fraud Enforcement Act adopted in 1988 specifically addresses trading on insider information.
Now, changes to Section 16 focus the SEC'S probing eye on the area of insider reporting requirements as well as short-swing liability.
WHAT IS AN INSIDER?
As a starting point, Section 16 establishes new criteria to determine exactly who is an insider. Simply stated, the new regulation defines an insider as a person in charge of a principal business unit, division or function, as well as any person who sets policy.
For example, a bank might have a number of vice presidents, but this title does not automatically mean that those individuals are insiders. It is function," more than title," that determines who is an insider.
At the same time, one could argue that the new definition also broadens the field of insiders, since an executive no longer must have the title of "president" or "vice president" to be considered an insider by law. Conceivably, a manager of R&D could be considered an insider if he or she actually influenced corporate direction. And the company can designate such a person as a Section 16 insider through a board resolution. In addition, the SEC regulation still views directors and 10-percent owners as insiders.
The new Section 16(a) is designed to simplify the reporting process while improving the compliance rate. Toward this end, the regulation adds the new Form 5 to the already existing Forms 3 and 4.
Form 3 is still required to designate an individual who becomes an insider and must comply with the insider reporting requirements. Form 4 is used to report all non-exempt transactions that have liability attached to them such as an open-market purchase or an open-market sell. One change to Form 4 is that insiders must send the document to the SEC within 10 days after the end of the month in which the transaction occurred.
Form 5, filed 45 days after the close of the fiscal year, reports exempt transactions as well as any non-liability events that occurred in the last two years, but were not filed on a timely basis. Form 5 reports stock splits, deferred transactions and gifts. As of the enactment of the rule, Form 5 must include any unreported transactions for the last two years, regardless of where the insider is now. After this first year, companies will only be required to file one year's information.
Additionally, an "exit box" has been added to both Forms 4 and 5. This mandatory box should be checked to inform the SEC of the loss of insider status.
It is interesting to note that the SEC does not consider a report filed until it receives the physical form. If the SEC receives your form late, the only way to avoid penalty is to prove that it was deposited with an overnight courier the day before the due date.
Even though the insider is responsible for timely filing, Section 16 also seeks to involve the company in the process. Toward this end, the company must disclose in the proxy statement (Form 1OK') all of the people who did not file timely reports during the fiscal year or failed to resolve delinquent filings from the previous two years. …