On Wednesday, 25 May 2011, the Securities and Exchange Commission adopted its final rules implementing the Whistleblower Program under Section 922 of the Dodd-Frank Act. What follows is a summary of those key provisions of the rules which have a particular impact on employers. This is not a comprehensive review of the rules in their entirety.
The SEC Whistleblower Program rewards individuals who provide the SEC with high-quality tips that lead to successful enforcement actions. Individuals are eligible for awards of between 10% and 30% of the amount recovered. To be considered for an award, an individual must alone or jointly with others voluntarily provide original information to the SEC relating to a possible violation of the securities laws that has occurred, is ongoing or is about to occur, and the information provided must "lead to the successful enforcement by the SEC of a federal court or administrative action in which the SEC obtains monetary sanctions totaling more than $1 million."
Reward eligibility - No requirement that employee report internally
The rules do not require employees to first report information internally in order to be eligible for a reward, but they do provide incentives for employees to report internally first. For example, the SEC would take into account as a positive factor in determining the percentage of the recovery to award the individual whether the individual had participated in internal compliance procedures by, for example, first reporting the information to the company. Also, the SEC would give credit to an internal whistleblower not just for the information he or she provided internally but rather for all information the company uncovered and reported to the SEC as a result of the investigation prompted in whole or in part by the whistleblower. Further, the SEC stated in the adopting release that the Enforcement Division would, in most instances, ask companies to investigate whistleblower complaints made in the first instance to the SEC. It is unclear whether these incentives will have the intended effect given the substantial rewards at stake and the uncertainty as to whether or to what extent the SEC reward will increase an award if a whistleblower does not bypass internal reporting mechanisms. Further, as discussed in more detail below, employees may be motivated to report to the SEC, in addition to or instead of reporting internally, to become eligible for protections under the rules' retaliation provisions.
The rules provide narrow exceptions to the categories of employees who may qualify for an award. Employees who likely will not posses original information, and thus do not qualify for a reward, include the following: 1) employees whose principal duties involve compliance or internal audit responsibilities; 2) officers, directors, trustees, or partners of an entity who are informed by another person of allegations of misconduct, or who learn the information in connection with the entity's internal processes, such as through a company's hotline. However, compliance and internal audit personnel are eligible, nonetheless, where they have a reasonable basis to believe either that tipping the SEC is necessary to prevent conduct that is likely to cause substantial injury to investors or that the company is engaging in conduct that will impede an investigation of misconduct, or whenever 120 days have elapsed since the officer, director or compliance or internal audit personnel provided information about misconduct to a supervisor or became aware that the audit committee, general counsel, chief compliance officer, or a supervisor became aware of the allegation of misconduct. In-house lawyers and others employed in the legal department are for the most part ineligible for awards under another exclusion based on the provision of information subject to the attorney-client privilege.
Employer may take no action to prevent employee from reporting, and SEC may bypass employer's legal counsel
Employers may not take any action to impede an individual from communicating directly with the SEC staff about a securities law violation, including enforcing, or threatening to enforce, a confidentiality agreement. The rules specifically authorize SEC staff to communicate directly with employees, including control persons of companies, without first contacting the company's lawyers, where the employee initiated communications with the SEC as a whistleblower.
The anti-retaliation protections afforded to whistleblowers through Section 21F(h)(1) of the Exchange Act (15 U.S.C. 78u-6(h)(1)) ("Section 21F(h)(1)") apply whether or not an individual is ultimately eligible for an award under the SEC Whistleblower Program. The rules provide whistleblower status and retaliation protection where the individual had a "reasonable belief" that the information provided "relates to a possible securities law violation. . . that has occurred, is ongoing, or is about to occur." Section 21F(h)(1) prohibits employers from discharging, demoting, suspending, threatening, harassing, directly or indirectly, or in any other manner discriminating against a whistleblower in the terms and conditions of employment for providing information to the SEC. An individual who alleges retaliation under Section 21F(h)(1) may bring an action directly in federal court. There is no requirement, as there is under the Sarbanes-Oxley Act (SOX), that the whistleblower first file an administrative complaint with the Department of Labor, OSHA, and then wait the requisite 180 days for the department to investigate the claim before bringing a civil suit. In comparison to SOX's 180-day statute of limitations, the statute of limitations under the SEC Whistleblower Rules is six years after the date on which the retaliation occurred (or three years after the date when facts material to the right of action are known or reasonably should have been known by the employee alleging the retaliation, but in any case no more than ten years after the date of the retaliatory behavior). Relief includes reinstatement, double back-pay damages (as opposed to just back-pay under SOX) plus interest, and legal fees.
In Egan v. TradingScreen, Inc., the Southern District of New York recently clarified that the Act's anti-retaliation provisions provide a cause of action to individuals who have reported information to the SEC, and also to those who have not reported to the SEC but who made disclosures under an existing duty protected under SOX, the Securities Exchange Act, 18 U.S.C. § 1513(e), or other laws and regulations subject to the jurisdiction of the SEC. Further, the Egan court held that a whistleblower plaintiff need not personally report information to the SEC – if information they provide internally is in turn provided to the SEC, for example by the employer as the result of an internal investigation in which employee participated, or by a lawyer retained by the individual, the employee may be a "covered employee" under the new rules.
It is important to note that even if an employee is not covered by the SEC whistleblower anti-retaliation provisions, the employee could still be covered under another statute with anti-retaliation provisions, such as SOX. For example, an employee working for a publicly traded company and who was retaliated against for reporting internally allegations of potential violations of securities laws may not be covered by the SEC Whistleblower Rules' anti-retaliation provisions where the information was not reported to the SEC, but may be protected from retaliation under SOX.
In light of the anticipated increase in whistleblowing resulting from the available rewards and the ability of whistleblowers to bypass internal reporting procedures, employers should consider taking certain measures. The following actions are recommended to reduce the chances that whistleblowers will be in position to report possible violations of the federal securities laws and to enhance the chances that the SEC will refer matters to the company for investigation:
- Review existing whistleblower and compliance procedures and programs to make sure that they are effective and result in timely reports to management;
- Consider conditioning any bonus compensation on an employee's statement that the employee has reported any securities law violations of which the employee is aware and will report any that the employee becomes aware of in the future with possible clawback language;
- Enhance communications and training efforts regarding internal whistleblower and compliance programs to ensure a proper understanding of the company's programs and to reinforce a culture of compliance;
- Ensure that the company can demonstrate to the SEC its ability to conduct a thorough and fair internal investigation, such as by being able to present written investigatory guidelines and reports of prior investigations;
- Streamline investigation procedures to ensure that allegations of misconduct are assessed in a timely manner, particularly given the proscribed 120-day window for whistleblowers to report their allegations internally and still be eligible for a reward;
- Remind officers and other supervisors that retaliation is unlawful and will not be permitted, and that, upon learning the identity of a whistleblower, all employment-related documents regarding the individual should be retained for the entire 10-year period during which a retaliation claim may be made by the employee;
- Determine whether an employee to be affected by an employment action has made a whistleblower report, either internally or externally;
- Require that any decision to terminate a whistleblower should be reviewed by the general counsel or a general counsel designee before the termination is carried out; and
- Consider bringing in outside counsel to review a planned termination of a whistleblower.