SEC Adopts New Blackout, Financial Disclosure Rules

January 20, 2003 ( - Last week the Securities and Exchange Commission (SEC) unanimously adopted a series of rules as mandated by the Sarbanes-Oxley Act, including new rules that kick in during retirement plan "blackout" periods, as well as stepped up financial disclosures.

The newly approved rules, which will take effect on January 26, prohibit directors or executive officers of a firm from engaging in transactions involving stock (including derivative securities) acquired in connection with their service or employment as an executive during a period when participants of the plan are prohibited from trading company stock held in their accounts.  

The “blackout” must last more than three consecutive business days and affect 50% or more of the participants under all pension plans with individual accounts maintained by the issuer for the limit to kick in.

Blacked Out “Box”

The regulation states that any equity securities “sold or otherwise transferred” during a blackout period will be treated as acquired in connection with service as an executive unless the executive can prove otherwise.   The new rules also require that directors and executive officers, as well as the SEC, be notified of an impending blackout period on a timely basis.

In October, the Department of Labor’s Pension and Welfare Benefits Administration (PWBA) issued so-called “interim final rules” on new rules that require that participants and beneficiaries be given 30 calendar days of advance written notice of any “blackout” period, and also outlined the application of civil penalties under the Sarbanes-Oxley Act (see New  Blackout Rules, Penalties Published ).

The final regulation does exempt several categories of transactions that occur automatically, are made pursuant to an advance election, or are otherwise outside the control of the director or executive officer, including acquisitions of equity securities under dividend or interest reinvestment plans.  

Pro Forma Fallout

Another significant change affects the so-called pro forma earnings reports, a method used to measure profitability used by many public companies, especially newer technology firms.   In the new regulations, the SEC has tightened the release of material financial information that includes a “non-GAAP financial measure,” including pro forma reporting.

The pro forma method often excludes certain expenses, notably merger costs.   Pro forma earnings initially found utility as a good way to break out historical results of companies after mergers, but have more recently been actively used as a means to “spin” financial results.   The new rules require companies to clearly show differences between pro forma earnings and formal results that comply with generally accepted accounting principles, or GAAP – but won’t apply to foreign private issuers in most cases.

The SEC also ordered companies to state whether their board’s audit committee has a financial expert, although they are not required to have one.   In the final rule, the SEC also backed off an initial version that qualified only certified public accountants as financial experts for this purpose – and the final rule broadens the qualifications (see  SEC Publishes Blackout, Pro Forma Proposals ).

Finally, the new rules will require firms to publish codes of ethics (if they have them).