In connection with the upcoming Form 10-K/proxy season, public companies with a fiscal year ending on December 31 will be required, for the first time, to publicly file their insider trading policies as exhibits to their Annual Report on Form 10-K pursuant to Item 408(b) of Regulation S-K. Prior to this SEC rules requirement, it was fairly uncommon for public companies to make their insider trading policies publicly available (on a voluntary basis).
Under Item 408(b) of Regulation S-K, which is first applicable to public companies filing their Form 10-K covering a fiscal year that begins on or after October 1, 2023, public companies are required to do both of the following:
- Disclose whether they have adopted insider trading policies and procedures governing the purchase, sale, and/or other dispositions of the company's securities by directors, officers and employees or by the company itself (and, if the company has not adopted such policies and procedures, provide an explanation as to why not).
- File any such insider trading policies and procedures as an exhibit to Form 10-K pursuant to Item 601(b)(19) of Regulation S-K.
In light of this upcoming filing requirements, and taking into account recent SEC enforcement cases (including the recent SEC v. Panuwat enforcement action addressing "shadow trading" as summarized below and a separate recent SEC enforcement action against an executive of a public company which was the first insider trading action based exclusively on the use of a Rule 10b5-1 trading plan), public companies may want to give consideration as to whether any updates should be made to their insider trading policies in advance of the filing of their next Form 10-K, including to consider whether their policy should address shadow trading, the manner in which their trading policy addresses Rule 10b5-1 trading plans, and whether any revisions should be made to the policy based on a review of publicly available insider trading plans of public companies which have now been filed as exhibits to Form 10-K as noted below.
Shadow Trading – SEC v. Panuwat
In SEC v. Panuwat, the SEC successfully argued that insider trading laws apply where an insider uses material nonpublic information about their own company to trade securities of another "economically-linked" company, such as a competitor or peer operating in the same industry; this theory is informally known as "shadow trading." In Panuwat, the SEC alleged that the defendant, Matthew Panuwat, a former senior director of business development at Medivation Inc. (Medivation), purchased call options of an economically-linked industry competitor shortly after obtaining material nonpublic information about a potential acquisition involving Medivation.
After the acquisition was announced to the public, the competitor's share price increased, and Mr. Panuwat sold the call options, realizing a profit of over $107,000. The SEC charged Mr. Panuwat with violating Section 10(b) of the Securities Exchange Act of 1934 (the Exchange Act) and Rule 10b-5 under the Exchange Act.
As a part of its case, the SEC alleged that the purchase of the call options violated Medivation's insider trading policy. Medivation's insider trading policy stated as follows:
During the course of your employment ... with the Company, you may receive important information that is not yet publicly disseminated ... about the Company. ... Because of your access to this information, you may be in a position to profit financially by buying or selling or in some other way dealing in the Company's securities ... or the securities of another publicly traded company, including all significant collaborators, customers, partners, suppliers, or competitors of the Company. ... For anyone to use such information to gain personal benefit is illegal.
After an eight-day trial, a federal jury found Mr. Panuwat liable under the "shadow trading" theory in the civil enforcement action brought by the SEC.
After Panuwat
In light of the SEC's success in Panuwat, companies should consider whether to update their insider trading policies to include limitations on trading by insiders in companies that are considered "economically-linked" to the company. Additionally, companies should ensure that "economically-linked" companies are clearly defined within the insider trading policy; broad references such as "customers" or "competitors" can lead to ambiguity about whether a particular company fits within the definition.
However, including a list of specific companies in relation to such a provision may give insiders a false sense of security when trading in the securities of economically-linked companies that are not included on the list and may also require this list to be periodically updated in a manner that is preferable from an administrative perspective.
How Have Early Adopters of Item 408 Adapted to Shadow Trading?
From January 1, 2024, through August 30, 2024, over 60 public companies listed on the S&P 500 with a filing status of either accelerated filer or large accelerated filer have voluntarily filed an insider trading policy as an exhibit to Form 10-K. Of these early filers, only Microsoft Corporation (Microsoft) has explicitly incorporated the "economically-linked" language derived from the Panuwat decision. The relevant language from Microsoft's insider trading policy reads as follows (emphasis added):
Similarly, when you possess material, nonpublic information about any publicly traded company that you acquired through your role at Microsoft, including but not limited to a customer or partner of Microsoft or an economically-linked company such as a competitor of Microsoft, the securities laws and Microsoft prohibit you from buying or selling securities in that company.
However, various other early filers listed in the S&P 500 have included language in their insider trading policies that is similar to the Microsoft language set forth above while not using language directly derived from the Panuwat decision. For example, Oracle Corporation's (Oracle) insider trading policy reads as follows (emphasis added):
This Insider Trading Policy also applies to trading in securities of other companies. You may not trade in the securities of another company while you possess inside information regarding that company gained through your work at Oracle or while you possess inside information regarding Oracle that could potentially affect the other company.
Additionally, a handful of public companies outside of the S&P 500 have chosen to include a specific reference to "shadow trading" within their insider trading policies. For example, Voya Financial, Inc.'s insider trading policy reads as follows (emphasis added):
In addition, the SEC recently expanded its theory of insider trading liability to include an employee's trading while in possession of material non-public information relating to "economically-linked" companies that the employee had obtained during the course of employment. This type of insider trading has been called "shadow trading."
As reflected by the insider trading policies that have been filed to date, some public companies are taking the opportunity provided by the SEC's adoption of Item 408 to update their insider trading policies to address the shadow trading theory referenced in Panuwat.
Current practice varies with respect to how companies address the Panuwat decision in their insider trading policies, but the SEC's approach to cases involving the shadow trading theory will continue to be relevant as public companies consider the contours of their insider trading policies.
Key Takeaways
The following are recommended action items to help prepare for the impacts of Item 408:
- For companies with a fiscal year ending on December 31 and
other companies with upcoming Form 10-K filings that will be
subject to these insider trading exhibit filing requirements, be
sure to do the following:
- Address the insider trading disclosure requirements.
- File an insider trading policy that is compliant with Item 408 as an exhibit to the Form 10-K to be filed in early 2025.
- Prior to filing its insider trading policy as an exhibit, companies should consider incorporating updates to address the shadow trading theory referenced in the Panuwat decision.
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