Small Hiccups Can Impact Section 16 Reporting Compliance

Last week, Compliance Week reported that a sample of 2000 proxies showed that 47 percent of companies disclosed in their proxies that at least one director of officer filed a late “insider trade” under Section 16(a) of the Securities Exchange Act of 1934.

Promulgated by Section 403 of The Sarbanes-Oxley Act, the rules require that insider trades—transactions that are reported on Form 4—be filed within two business days of the reportable event; prior to the passage of the Sarbanes-Oxley Act in 2002, insiders had 10 business days after the end of the month in which the trades occurred to file.

The two-day rule provides markets more information about insider trades, but the deadline is tight, even for the most technologically adept public companies. The SEC is generally sympathetic to late filings, as it does not issue sanctions as long as there are good-faith efforts to comply with no pattern of deception.

And, in fact, most reported infractions appear to be relatively minor.

At R.H. Donnelley, for example, one of the company's directors, Robert Kamerschen, filed reports on May 7,

2003, for trades that took place on May 1, 2003. He missed the deadline by two business days, enough to create a violation under the new rule; prior to August 2002, he would have had until June 13 to file.

Microsoft, which has an extensive employee stock ownership program, blamed an administrative error for filing delays affecting 15 executives. Although Microsoft is one of many companies that handle the Form 4 filing paperwork, the legal onus remains on the officer or director.

Phantoms And Vacations

Jim Petelle, vice president of law at Andrew Corp. in Orland Park, Ill., finds the two-day requirement to be tough. “We do jump through hoops on a regular basis to meet the requirement, and it is painful,” he says. His company disclosed in its latest proxy that one individual had not filed paperwork for a spouse’s trade, although Petelle says that generally, those officers and directors who fall under Section 16(a) reporting requirements are able to do the forms on time.

Rather, the headache for him is that Andrew’s directors defer some of their fees into a phantom stock account that is priced at the close of each quarter. The December and June quarter-end dates are followed almost immediately by holidays, so Petelle faces a scramble to get a lean staff to do the necessary work within the two-day window. So far, the firm has been able to do it, but “it is physically difficult.”

Seidel

“It only takes one person in the process to be tied up in meetings, on vacation, etc. for the process to break down,” says Amy Seidel at Faegre & Benson in Minneapolis. “Many companies that report filings that were only late by a day or two indicate that fact in their proxy disclosure so that investors don't think that the reporting system failed, but rather just had a hiccup.” Faegre & Benson, like many corporate law firms, helps clients comply with a number of filing procedures mandated by the Securities and Exchange Commission, including Section 16 filings (see related case study in box above, right).

To help in meeting the deadline, Seidel's firm recommends that client companies take the following steps:

Set up the reporting process so that the person making the trade (usually the broker) is in direct contact with the person making the filing (the lawyer or paralegal);

Work with a knowledgeable broker. Most large brokerage firms have corporate services departments that understand the rules applicable to insider stock transactions;

Require pre-clearance of trades. This not only helps avoid insider trading problems, but it also allows companies to start preparing the filings even before the trade occurs.

Dopkin

Anna Dopkin tracks insider filings and proxy reports at T. Rowe Price, where she is manager of the Growth & Income Fund and co-chair of the firm’s proxy committee. “We look at the size of the transaction relative to prior sales, how much ownership they have, and if they are buying from their own pocket,” she says.

Dopkin is concerned less about missed deadlines than about why they happen. “Is it the individual’s fault or the company’s fault? Are they intentionally delaying filings? Are there problems with their processes? The data has meaning,” she adds.

Dopkin notes that certain practices, like executives owning shares through trusts and pools, or selling through hedges rather than outright trades, may make it difficult to analyze insider transactions even if the forms are filled out properly and filed on time.

We've made available the most recently updated spreadsheet tracking Section 16 reporting compliance, in the box above, right. Additional coverage and guidance is available as well.