Securities Regulation and Corporate Governance

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As many companies prepare their quarterly reports on Form 10-Q for the quarter ended June 30, 2023, we offer the following observations and reminders regarding new disclosure requirements taking effect for this reporting period, as well as risk factor considerations that may be relevant to upcoming Form 10-Q reporting.  For convenience, this publication also includes a summary of certain upcoming compliance dates for public companies.

Rule 10b5-1 Trading Arrangement Disclosures

Beginning with the filing that covers the first full fiscal period that begins on or after April 1, 2023 (i.e., Q2 2023 Form 10-Q for calendar year companies), the “Other Information" section of each periodic report (i.e., Part II, Item 5 of Form 10-Q and Part II, Item 9B of Form 10-K) must disclose whether any director or Section 16 officer adopted or terminated a trading arrangement intended to satisfy the affirmative defense conditions of Rule 10b5-1(c) or a “non-Rule 10b5–1 trading arrangement."  By its terms, the disclosure requirement (Item 408(a) of Regulation S-K) is triggered when a trading arrangement is “adopted or terminated"; however, the SEC deems certain modifications to a trading arrangement to be the termination of one arrangement and entry into another.

The disclosure must identify whether the arrangement is a Rule 10b5-1 trading arrangement or a non-Rule 10b5-1 trading arrangement, and provide a brief description of the material terms (other than price), including (i) the name and title of the director or officer, (ii) the date of adoption or termination of the trading arrangement, (iii) the duration of the trading arrangement, and (iv) the aggregate number of securities to be sold or purchased under the trading arrangement (including pursuant to the exercise of any options).

Disclosure Format

The new rules do not prescribe the format for the disclosure, but require that it be tagged in Inline XBRL.  We expect that companies will provide either narrative or tabular disclosure. Because the “Other Information" sections of periodic reports can encompass disclosure of a variety of matters, companies may wish to provide a reference to the specific item instruction (that is, “(c)" for Forms 10-Q) and/or a subheading preceding their disclosure, such as “Trading Plans."  The narrative disclosure could read as follows:  

Companies providing tabular disclosure might use the following format:

In determining which format to use, companies should be mindful of the fact that, beginning in the fourth quarter, this disclosure will also include any Rule 10b5-1 plans adopted or terminated by the company.

While the SEC's adopting release is unclear on whether disclosure is required when there is no activity to report, the rule's language calling for disclosure of “whether" any Section 16 officer or director adopted or terminated a plan, combined with the requirement for XBRL tagging of the disclosure, suggest that the SEC may have expected explicit negative disclosure.  Thus, while some companies may determine to remain silent when there is nothing to disclose, the better approach may be to disclose that there is no activity to report.  For example, companies could include the Item 5 heading and under a subheading of “(c) Trading Plans" either state “None" (which we believe would be more appropriate than “Not applicable") or something to the effect of:  “During the quarter ended [date], no director or Section 16 officer adopted or terminated any Rule 10b5-1 trading arrangements or non-Rule 10b5-1 trading arrangements [(in each case, as defined in Item 408(a) of Regulation S-K)]."

Interpretive Questions

Several other interpretive issues related to the new requirements remain open.  In the absence of interpretive guidance from the SEC Staff, companies will need to take reasonable, good faith approaches in implementing the new rules.  For example, we believe that companies reasonably can:

• adopt a textualist approach and provide the disclosure only with respect to trading plans entered into by directors and Section 16 officers, and not by other persons or entities that might appear on the insiders' Section 16 filings;
• treat the defined term “non-Rule 10b5-1 trading arrangement" as including formal trading plans that affirmatively state that they are intended to satisfy the conditions of the prior version of Rule 10b5-1(c), but not as applying to routine elections relating to employer securities under employee benefit plans, such as 401(k) plans, non-qualified deferred compensation arrangements, and employee stock purchase plans or to routine limit orders; and
• provide the required disclosure only when an individual is a director or Section 16 officer at the time that they entered into or terminated the trading plan.  

Gibson Dunn lawyers are available to advise companies as they assess these and other interpretive issues raised by the new requirements.

Disclosure Controls and Procedures

Companies should evaluate their disclosure controls and procedures to determine what changes should be made in light of these new requirements (including for Inline XBRL tagging) to “ensure that [required information] is recorded, processed, summarized and reported, within the time periods specified in the Commission's rules and forms."  This will be particularly important given the interpretive questions that remain regarding the scope of the disclosure requirement.

Risk Factor and Forward-Looking Statement Considerations

Separately, as with each quarter, companies should consider whether there have been any material changes to the risk factors disclosed in their most recent Form 10-K. For this reporting period, disclosures regarding the following may warrant consideration for the risk factors, the cautions of the forward-looking statement disclaimer or other forward-looking disclosure in the Form 10-Q:

1. Technology Developments.  Recent developments in artificial intelligence (AI), including generative AI, may accelerate or exacerbate potential risks related to technological developments. Companies should consider ways in which the company's strategy, demand for the company's products, investments and the company's reputation and legal and regulatory risks could be affected by AI. These updates may affect existing risk factors or merit a new standalone risk factor or mention in the forward-looking statement disclaimer, depending on the importance of AI to the company's business.
2. Emerging Cybersecurity and Data Privacy Risks.  Consider whether it would be appropriate to specifically address the recent vulnerability in the popular MOVEit file transfer application, which has posed a serious threat to the operations and data of numerous companies, government organizations, and their supply chains. 
3. COVID-19.  Consider whether any specific risk factors regarding COVID-19 should be modified to reflect the current situation and any lingering risks to the business.
4. Macroeconomic Conditions.  Consider whether recent macroeconomic developments, including continued inflation, rising interest rates, disruption in the banking industry, and volatility in capital markets, present particular risks to the company's business.
5. Geopolitical Conditions.  Consider whether rising tensions between China and Taiwan or the continued conflict between Russia and Ukraine pose material risks for the business, including as a result of any direct or indirect reliance on goods, services, supply chains, and relationships with impacted countries.  For more discussion, see the section titled “China-Specific Disclosure Considerations" below.
6. Emerging Corporate Responsibility Regulations. Companies should also evaluate the proposal and adoption of recent environmental, social, and governance (“ESG") regulations and the potential impacts they may have on the business, the company's liquidity (if material investments or related costs are anticipated) and its risk factors. These developments include the recent adoption of the Corporate Sustainability Reporting Directive in the European Union, the pending adoption of the Corporate Sustainability Due Diligence Directive by the European Commission, the pending adoption of the SEC's anticipated climate-related disclosure requirements (which the recent SEC Reg Flex Agenda indicated is anticipated by October 2023), and pending bills in California that would require reporting of greenhouse gas emissions and in line with the recommendations of the Task Force on Climate-related Financial Disclosures. Gibson Dunn's Environmental, Social and Governance practice group will continue to track these developments and provide updates on these and other matters.
7. Prospect of U.S. Government Shutdown.  Consider whether the looming prospect of a shutdown of the U.S. federal government poses new risks for the business.

China-Specific Disclosure Considerations

Companies with operations in the People's Republic of China should review the Division of Corporation Finance's recent sample comment letter (published today on its website here) highlighting three focus areas for periodic disclosures related to China-specific matters, including those arising from the Holding Foreign Companies Accountable Act (the “HFCAA"), the Uyghur Forced Labor Prevention Act, and specific government-related operational risks.  In addition to posing questions regarding HFCAA disclosures, the sample letter includes comments directed at risk factor and MD&A disclosure.

Upcoming Compliance Dates

For reference, set forth below are the dates by which U.S. companies must comply with certain of the recently adopted SEC and stock exchange rules:

*Form 10-K can incorporate this information from proxy statements by reference (similar to other Part III information).

In addition to the foregoing, generally applicative requirements, the SEC's recent rulemaking includes many additional disclosures that may be required in particular circumstances (such as when a company experiences a restatement during the year, grants options near the announcement of material information, makes certain buyback announcements near the time when Section 16 officers or directors trade shares, or is a Schedule 13F reporting company). These and other SEC rules are discussed elsewhere on Gibson Dunn's Securities Regulation Monitor and Client Alert websites.

We would like to thank Chris Ayers and Lauren Assaf-Holmes in our Orange County office for their work on this post.