Analysis of Section 16 (b) of the 1934 Securities Exchange Act

Below is a verbatim copy of Section 16 (b) of the 1934 Act, with the parts relating to the purpose of 16 (b) and exemptions in bold print.


"(b) For the purpose of preventing the unfair use of information which may have been obtained by such beneficial owner, director, or officer by reason of his relationship to the issuer, any profit realized by him from any purchase and sale, or any sale and purchase, of any equity security of such issuer (other than an exempted security) or a security-based swap agreement involving any such equity security within any period of less than six months, unless such security or security-based swap agreement was acquired in good faith in connection with a debt previously contracted, shall inure to and be recoverable by the issuer, irrespective of any intention on the part of such beneficial owner, director, or officer in entering into such transaction of holding the security or security-based swap agreement purchased or of not repurchasing the security or security-based swap agreement sold for a period exceeding six months.

Suit to recover such profit may be instituted at law or in equity in any court of competent jurisdiction by the issuer, or by the owner of any security of the issuer in the name and in behalf of the issuer if the issuer shall fail or refuse to bring such suit within sixty days after request or shall fail diligently to prosecute the same thereafter; but no such suit shall be brought more than two years after the date such profit was realized.

This subsection shall not be construed to cover any transaction where such beneficial owner was not such both at the time of the purchase and sale, or the sale and purchase, of the security or security-based swap agreement or a security-based swap involved, or any transaction or transactions which the Commission by rules and regulations may exempt as not comprehended within the purpose of this subsection."

End of Section 16 (b)

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This section says that if an officer or director or a 10 % owner makes non exempt purchases and non exempt sales of company equity securities within less than 6 months, any profit made is recoverable by the issuer. The SEC leaves it up the the issuer or a share holder to enforce the law.

The question arises ...Are dispositions to the company considered non exempt sales for Section 16 (b) purposes that can be matched with a non exempt purchase of stock in the market? The answer is that sometime these dispositions are exempt and sometimes they are not and can be matched with purchases.

The SEC can exempt only transactions that are "not  comprehended within the purpose of "16 (b).  If the transaction is "comprehended within the purpose of the statute" it can not be exempt regardless of any attempt to have it considered exempt by claiming the transaction was approved by the board or the compensation committee.

If the transaction is not comprehended within the purpose of the statute and meets the necessary specific approval requirements pursuant to SEC Rule 16 (b) (3)(e) and Note (3), it would be exempt.

Being non comprehended and having the specific approvals satisfied is not the easiest thing and it is often that executives and their advisers think the transactions are exempt when they are not exempt.

The American Bar Association and the New York State Bar Association wrote letters to the SEC in August of 2004 on the topic which the SEC adopted as accurate. Essentially these letters said that dispositions from an officer or director to the the issuer are exempt from 16 (b) if both the insider and the issuer are on equal footing at the time of the dispositions.

So assume dispositions to the issuer are made where the officer or director had inside information as does the issuer and the officer or director had the choice to deliver shares or cash for an exercise price payment or a tax payment and the issuer had no choice but to accept the disposition. The officer or director had far superior standing and the transaction (i.e. the disposition to the issuer) was not exempt from section 16 (b).



Regards

John Olagues

Edited Thu, Jun 1, 2017 5:46 PM

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