SEC Proposed Rules on Dodd-Frank Anti-Hedging Policies

If you tax your memory, you may recall that five years ago, Congress passed and the President signed something called the Dodd-Frank Wall Street Reform and Consumer Protection Act. Section 955 of the Dodd-Frank Act added Section 14(j) to the Securities Exchange Act of 1934, which required the Securities and Exchange Commission (SEC) to promulgate rules requiring companies to disclose in their annual proxy statement whether the company permits employees or directors to engage in transactions to hedge or offset any decrease in the market value of company stock granted to or owned by an employee or board member. 

Back in February of 2015, the SEC proposed rules to implement Section 955 by adding a new proposed Item 407(i). Again, the SEC did not bother to hold an open meeting for us annoying citizens. I did not blog on this then because (i) the rules were not particularly enlightening and (ii) we were all too busy with proxy season to worry about less consequential matters (such as our spouses, children, and rules that only apply in the future). However, most of our proxies are (or are about to be) filed now, so let’s look at an issue for post-proxy season (known as “summer” by folks not in the profession).

The proposed rules have been out there for a few months now, and most companies already prohibit most types of hedging and disclose that fact in their proxy statements. Therefore, I will try to highlight just a few key points for readers.

  • The proposed rule actually expands the types of transactions affected by Sections 955 and 14(j) by adding the phrase “or otherwise engage in transactions that are designed to or have the effect of hedging or offsetting any decrease in the market value of equity securities.” The SEC is “concerned that if the proposed disclosure requirement is not sufficiently principles-based, the result would be incomplete disclosure as to the scope of hedging transactions that an issuer permits.” 
  • A company that permits hedging transactions by some, but not all, of its employees and directors must disclose the categories of persons who are permitted to engage in hedging transactions and those who are not.
  • If a company does not permit any hedging transactions or permits all hedging transactions, it can simply state that fact and need not describe them by category.
  • A company must disclose the categories of hedging transactions it permits and those it prohibits. In disclosing these categories, a company may disclose that it prohibits or permits particular categories and permits or prohibits, respectively, all other hedging transactions.
  • A company that permits hedging transactions must disclose “sufficient detail to explain the scope of such permitted transactions.”
  • The proposed rule would not consider a pledge or loan of company stock that does not involve a prepaid variable forward or similar transaction to be a hedging transaction “even though such a pledge or loan may be viewed as an ‘offer or sale’ of a security under Securities Act ... This is because such stand-alone pledges and loans generally contemplate the return of the pledged or borrowed securities to the employee, with no consequent change in the employee’s economic risk in ownership of the securities.” 
  • The proposed rule does not provide an exemption for emerging growth or smaller reporting companies.
  • The information required by proposed Item 407(i) would not be deemed to be incorporated by reference into any filing under the Securities Act, the Exchange Act or the Investment Company Act, except to the extent that the company specifically incorporates it by reference.

Happy Tax Day.

This entry has been created for information and planning purposes. It is not intended to be, nor should it be substituted for, legal advice, which turns on specific facts.