United States Supreme Court Holds That SOX Whistleblower Provision Protects Employees of Contractors and Subcontractors of Public Companies

In a ground-breaking decision, on March 4, 2014, the United States Supreme Court held in Lawson v. FMR LLC, 571 U.S. __ Case 12-3 (Mar. 4, 2014), that §1514A of the Sarbanes-Oxley Act of 2002 provides a right of action for retaliation for employees of contractors and subcontractors of public companies. See our March 5, 2014 Legal News Alert. Now employees of investment advisers, law firms and accounting firms, who are aware of fraud at the public company, raise concerns about the fraud, and are retaliated against by their own firms for raising those concerns, can seek relief for such retaliation.

SEC’s Whistleblower Chief Again Warns Attorneys Regarding Contracts That Seek to Silence Whistleblowers

At the March 14, 2014 Georgetown University Law Center Corporate Counsel Institute, Sean McKessy, the head of the SEC’s Office of the Whistleblower, warned corporate counsel that his office was actively looking for employment contracts or severance provisions that tried to incent whistleblowers to keep their complaints in-house rather than sharing their information with the SEC. While the Dodd-Frank Act does not expressly restrict such contracts, the SEC’s Rule 21F-17 prohibits “any action to impede an individual from communicating directly with the Commission staff about a possible securities law violation, including enforcing or threatening to enforce, a confidentiality agreement… with respect to such communications.” Reiterating comments he has made since 2012, McKessy was quoted as saying “[W]e are actively looking for examples of confidentiality agreements, separat[ion] agreements, employment agreements that… in substance say ‘as a prerequisite to get this benefit you agree you’re not going to come to the Commission or you’re not going to report anything to a regulator.'” McKessy added that not only will companies whose contracts have such language find themselves in an enforcement proceeding, but the lawyers who draft the provisions could be subject to suspension of their ability to practice before the SEC.

The hypothetical language McKessy describes provides a relatively easy case, but other potential attempts by employers to restrict former employees are not as clear. For example, in exchange for a severance package, can employees renounce their right to receive an award from the SEC? Can a company require the employee to disclose to the company any communications the employee has with the SEC? Can an employer legitimately restrict an employee’s right to share sensitive confidential information with others, including the SEC? There are no clear answers to these questions thus far, but there is little dispute that it remains an area of focus as the SEC continues its efforts to strengthen its whistleblower program.

The SEC Tells the Second Circuit that Dodd-Frank Whistleblowers Need Not File a Whistleblower Report With the SEC

On February 20, 2014 the SEC submitted an amicus brief to the United States Court of Appeals for the Second Circuit in Liu v. Siemens AG, No. 13-4385, in which the SEC pressed its view that whistleblowers need not report wrongdoing to the SEC in order for that person to be protected under the Dodd-Frank Act’s whistleblower anti-retaliation provision, 15 U.S.C. §78u-6(h)(1). The Second Circuit proceedings are being closely watched because district courts have been divided on the issue for several years. The only other appellate court to consider the issue, the United States Court of Appeals for the Fifth Circuit, held last year in Asadi v. G.E. Energy (U.S.A.), L.L.C., 720 F.3d 620 (5th Cir. 2013), that wrongdoing had to be reported to the SEC because a different Dodd-Frank provision, 15 U.S.C. § 78u-6, unambiguously defines a “whistleblower” as someone who provides information to the SEC. See our July 19, 2013 Legal News Alert.

The SEC argued in its amicus brief that the Second Circuit should reverse because its rules interpret Dodd-Frank’s anti-retaliation provision to protect any individual who engages in whistleblowing activities described in 15 U.S.C. §78u-6(h)(1), regardless of whether the individual files a report with the SEC. The SEC argued that the statute was ambiguous because, despite the definition of “whistleblower,” it defines a broad array of whistleblowing activities, including “making disclosures required or protected under the Sarbanes-Oxley Act of 2002” – such as internal disclosures that do not involve filing a report with the SEC. The SEC dismissed the Asadi court’s interpretation as “based on a flawed understanding of the statutory scheme.”

The SEC asserted that 15 U.S.C. §78u-6(h)(1) is “best read as an implied exception to the definition of whistleblower….” In light of this ambiguity, the SEC promulgated a rule that clarifies “[f]or purposes of the anti-retaliation protections afforded by [15 U.S.C. §78u-6(h)(1)], you are a whistleblower if… [y]ou provide that information in a manner described in 15 U.S.C. §78u-6(h)(1)(A).” The SEC argued in its brief that its interpretation is reasonable because it resolves the statutory ambiguity and effectuates the broad anti-retaliation protections that the statute contemplates. The SEC further argued that its interpretation avoids disincentivizing individuals from reporting internally to their employers – one of the SEC’s core objectives. Otherwise, individuals might be discouraged from reporting internally if doing so disqualifies those individuals from anti-retaliation protection.

Whether the Second Circuit will answer the question of whether a Dodd-Frank whistleblower must report to the SEC to gain protection is not certain. The district court did not reach the issue, dismissing the plaintiff’s complaint on the grounds that the Dodd-Frank anti-retaliation provisions did not apply outside the United States. However, if the Second Circuit addresses the issues and decides it differently from the Fifth Circuit, the question of whether one must report to the SEC in order to be protected from retaliation under the Dodd-Frank whistleblower provisions may be on its way to the United States Supreme Court.

Two District Courts Grant Defendants’ Motions to Arbitrate Whistleblower Employment Disputes

In Khazin v. TD Ameritrade, Civ. No. 13-4149 (D.N.J. March 11, 2014), the district court faced two questions. First, was the plaintiff a whistleblower under the Dodd-Frank Act, even though he had not reported wrongdoing to the SEC at the time he was terminated? Second, was the plaintiff required to arbitrate his employment termination claims?

On the first point, the court disagreed with the Fifth Circuit’s ruling in Asadi v. G.E. Energy (U.S.A.), L.L.C., 720 F.3d 620 (5th Cir. 2013), and sided with the many district courts that have concluded that the Dodd-Frank anti-retaliation protections extend to whistleblowers protected under the Sarbanes-Oxley Act regardless of whether any disclosures were made to the SEC. Because the Dodd-Frank Act is ambiguous on the issue, the court concluded that it should look to the SEC’s construction of the statute for guidance.

On the second issue, the court again faced conflicting caselaw, this time regarding whether the Dodd-Frank Act’s bar of pre-dispute arbitration provisions for whistleblower claims brought pursuant to the Sarbanes-Oxley Act can be applied retroactively. Assuming that the bar applied to claims made under the Dodd-Frank Act, the court sided with those courts that have held that the pre-dispute arbitration bar does not apply retroactively.

Several weeks earlier, in Murray v. UBS Securities, LLC, Case 2:12-cv-05914 (S.D.N.Y. January 27, 2014), the court addressed head-on whether retaliation claims brought under the Dodd-Frank Act were subject to a pre-dispute arbitration bar. The court ruled that they were not because the Dodd-Frank Act amended the Sarbanes-Oxley Act to provide such a bar, but the Dodd-Frank Act itself contains no such bar. The court rejected the plaintiff’s attempt to recast his claim as arising under the Sarbanes-Oxley Act, even though his Dodd-Frank Act claim was premised on making disclosures that were protected under Sarbanes-Oxley.

Federal Appeals Court Declines to Consider Extraterritorial Application of SOX Whistleblower Provision

In Villanueva v. United States Department of Labor, No. 12-60122 (5th Cir. Feb. 12, 2014), the United States Court of Appeals for the Fifth Circuit affirmed the district court’s dismissal of a Sarbanes-Oxley Act whistleblower case. The decision was noteworthy, however, for what was not decided – whether SOX’s whistleblower provisions apply to complaints made outside of the United States.

The complainant was employed in Colombia by an affiliate of a company that is publicly-traded in the United States. He claimed he had been fired for reporting an alleged transfer-pricing scheme that allowed his employer to underreport its taxable revenue to Colombian taxing authorities. His SOX whistleblower claim was rejected by OSHA, an administrative law judge, and the Department of Labor’s Administrative Review Board (ARB). In each case, the claim was rejected on the theory that §806 of SOX does not apply to a foreign worker’s complaints of fraud and retaliation that occurred entirely in a foreign country.

Although the company and the Department of Labor argued to the Fifth Circuit that the ARB had correctly concluded that §806 of SOX did not apply extraterritorially, the court sidestepped the issue entirely. Rather, the court affirmed on the narrower ground that the complainant had not demonstrated that he had engaged in an activity protected by the statute. Specifically, the complainant had not provided information that he reasonably believed to violate one of SOX’s six enumerated categories of law, which include mail fraud, wire fraud, bank fraud, securities fraud, rules and regulations of the SEC, and any other law related to fraud against shareholders. The court rejected the argument that SOX applied because the fraud had been directed by email and telephone communications originating at the defendant’s offices in Houston. Rather, the court said the gist of the claim was that the company had retaliated against him for violation of Colombian tax laws.

The court’s strict reading of SOX’s statutory language will no doubt be seen by the whistleblower defense bar as favorable to employers. Undoubtedly, though, the most significant point of Villanueva is what was not decided. No appellate court has yet decided whether the SOX whistleblower provisions apply extraterritorially. While a few district courts and the ARB have agreed that SOX does not apply extraterritorially, employers can continue to expect employees working overseas to assert whistleblower claims, arguing that there is a sufficient nexus to the U.S. and U.S. law so as to remain viable.