When I was on the SEC’s enforcement staff, I had a case once where we were pretty sure our prospective defendant had engaged in insider trading. Our conversation with his lawyer went something like this:¹

Us:      Did your guy sell those shares on the basis of material, nonpublic information?

Him:   No way. In fact, he had a 10b5-1 plan in place, and all of his sales were in accordance with that plan.

Us:     Um, was that plan written down anywhere?

Him:   No, it wasn’t written down, but it doesn’t have to be. If you look at the trading records, you’ll see the trades followed a regular pattern.

Us:     Hmmm.  We’ve actually reviewed those records. It looks like the plan was to sell all his shares as quickly as possible so he could get out before the share price cratered, as he knew was going to happen.


We recommended that the Commission bring an enforcement action against this person for insider trading, which it did. We settled the matter soon afterward. But let me tell you, if this defendant’s trading had followed a regular pattern, we wouldn’t have touched that case with a ten-foot pole. Even if we suspected that he was selling only to avoid suffering from the imminent death of the company whose shares he owned, an actual 10b5-1 plan would have protected him. We would not have wanted to attack sales that were obviously covered by such a plan, because the court would have rightly handed us our heads.

Rule 10b5-1 plans work like this: if, before becoming aware of material, nonpublic information, a corporate insider (1) enters into a binding contract to trade the securities; (2) instructs another person to trade the securities for the insider’s account; or (3) adopts a written plan for trading the securities, the trades are deemed not to be “on the basis of” that material, nonpublic information. The rule goes on in greater detail, but the gist is that the trader must not have discretion to adjust the trades once the information becomes known. If the plan is to sell 100 shares per month, the insider can’t change that number to 10,000 when the draft of a horrendous quarterly earnings report is circulated to senior management but not yet to investors. But Rule 10b5-1 plans that are strictly followed are extremely strong defenses against insider trading charges.

Which is why it surprised me on Tuesday to see the results from Broc Romanek’s survey on Rule 10b5-1 plan practices. None of the 35 companies responding to the survey require corporate insiders to sell shares pursuant to a 10b5-1 plan, and 68% of those companies do not explicitly encourage their use. I don’t get this.  It seems like such low-hanging corporate governance fruit to me to ask that senior executives cabin their trading in a way to minimize potential liability for themselves and their companies. Bruce Carton wrote a good piece in Compliance Week two years ago discussing the benefits of having a strong insider trading compliance program. They included:

  • Avoiding control person liability for companies whose executives are found liable for insider trading;
  • Protecting employees who don’t understand the intricacies of insider trading law, which are complex; and
  • Avoiding reputational damage and legal fees from disruptive investigations.

A Rule 10b5-1 plan, faithfully followed and not gamed for the insider’s benefit, is one relatively easy way to avoid those things. I’m surprised that more companies are apparently not taking advantage of them.

1.   Our actual conversation did not go like this. As we always did, we gathered facts in the investigation, and this “discussion” played out in the Wells process that followed.