The Supreme Court may finally settle one of the fiercest debates arising from the Dodd-Frank Act: What is a whistleblower and when are they protected against corporate retaliation?
At issue is a lack of clarity—and plenty of legal confusion—regarding reporting baselines in the Sarbanes-Oxley Act and Dodd-Frank Act. Confusing language in the latter is a big part of the problem.
Under one interpretation, whistleblowers are only entitled to anti-retaliation protections and cash awards if they report to the Securities and Exchange Commission. Another reading of the law implies that any effort at internal reporting is protected.
As for SOX, it has different statutes of limitations and, notably, requires whistleblowers to report both internally and to the Department of Labor.
“The question for resolution is whether a whistleblower must first report the information to the SEC to be protected under the statute,” says Thomas Gorman, a partner at international law firm Dorsey Whitney and former senior counsel for the SEC’s Division of Enforcement. “This was a significant issue when the statute was written and following its passage as the SEC wrote regulations. The circuit courts have split over the question with some concluding that those who report internally at the firm are entitled to such protection while others have concluded that there is no protection absent a report to the SEC.”
"This case has significant implications regarding the reach of the whistleblower provisions of Dodd-Frank which have been a key focus of SEC enforcement in recent months," he adds.
In 2016, the SEC awarded more than $57 million to 13 individuals who informed them of malfeasance and wrongdoing at their companies. The Commission has also stepped up enforcement of both retaliation and pre-retaliation, contractual clauses that could chill future reporting to a government agency.
The case under consideration, as announced by the Supreme Court on June 26, involves the case of Digital Realty Trust Inc. v. Paul Somers, and whether the namesake whistleblower, has the right to sue the company for alleged retaliation efforts.
Somers served as a vice president with Digital Realty Trust from 2010 to 2014. During that time, on several occasions, he reported internally regarding possible securities law violations by the company, including those allegedly perpetrated by a senior vice president who misreported and tried to hide millions of dollars of cost overruns associated with a development project in Hong Kong.
Somers was fired from the company before reporting the alleged misconduct to the SEC. He subsequently sued Digital Realty, alleging violations of various state and federal laws, including Section 21F of the Exchange Act. That section, entitled “Securities Whistleblower Incentives and Protection,” includes the anti-retaliation protections created by the Dodd-Frank Act.
Digital Realty sought to dismiss the case, claiming that because Somers only reported the possible violations internally and not to the SEC, he was not a “whistleblower” entitled to Dodd-Frank Act’s protections.
The pivotal issue in the case concerns a subdivision that gives whistleblower protection to those who make any required or protected disclosure under Sarbanes-Oxley and all other relevant laws. It was added after the bill went through Committee and there is no formal legislative history to explain its purpose.
“Resolving this issue in New York is important because, other than Dodd-Frank, there is no whistleblower statute that protects employees who complain to their employers about potential securities law violations.”
Anne Patin, Partner, Seward & Kissel
In previous cases, the U.S. Court of Appeals for the Second Circuit said Somers could proceed with his claim without reporting to the SEC. The Court of Appeals for the Fifth Circuit, however, said that in the case of Asadi v. GE Energy, the Dodd-Frank Act’s definition of a whistleblower required aggrieved employees to report to the SEC before receiving anti-retaliation protections.
A 2-1 decision, issued in March by the U.S. Court of Appeals for the Ninth Circuit, agreed with the Second Circuit’s decision that Dodd-Frank’s anti-retaliation provision equally protects both those who report to the Commission and those who report internally.
“In using the term ‘whistleblower,’ Congress did not intend to limit protections to those who disclose information to the SEC,” Judge Mary Schroeder wrote on behalf of the majority. “Rather, the anti-retaliation provision also protects those who were fired after making internal disclosures of alleged unlawful activity under the Sarbanes-Oxley Act and other laws, rules, and regulations.”
The panel agreed with the Second Circuit that, “even if the use of the word ‘whistleblower’ in a last-minute addition to the anti-retaliation provision created uncertainty, an SEC regulation resolved any ambiguity, and was entitled to deference,” she added.
The language of the provision “illuminates Congressional intent,” the majority opinion emphasizes.
“Provisions of Sarbanes-Oxley and the Exchange Act mandate internal reporting before external reporting,” Schroeder wrote. “Auditors, for example, must ‘as soon as practicable, inform the appropriate level of management’ of illegal acts, and only after such internal reporting may auditors bring their concerns to the SEC.”
“Leaving employees without protection for that required preliminary step would result in early retaliation before the information could reach the regulators,” she added. “If [the subdivision] requires reporting to the SEC, its express cross-reference to the provisions of Sarbanes-Oxley would afford an auditor almost no Dodd-Frank protection for retaliation because the auditor must await a company response to internal reporting before reporting to the Commission. Any retaliation would almost always precede Commission reporting.”
Dissenting, Judge Owens agreed with the Fifth Circuit. In doing so, he invoked both the Supreme Court ruling in King v. Burwell—regarding interpretations of congressional intent behind legislative provisions of the Patient Protection and Affordable Care Act—and director John Carpenter’s classic horror movie “The Thing.”
“In my view, we should quarantine King and its potentially dangerous shape-shifting nature to the specific facts of that case to avoid jurisprudential disruption on a cellular level,” he wrote, agreeing with the Fifth Circuit in Asadi v. G.E. Energy.
“The Supreme Court will consider a widening split among the federal courts and resolve an important issue of employment law,” says Anne Patin, a partner at law firm Seward & Kissel. “The issue of plain meaning versus the SEC’s interpretation will be squarely before the Court.”
The following is from the majority opinion of the U.S. Court of Appeals for the Ninth Circuit in the case of Paul Somers v. Digital Realty Trust.
Congress enacted the Sarbanes-Oxley Act in 2002, following a major financial scandal. Its purpose was “to safeguard investors in public companies and restore trust in the financial markets following the collapse of Enron Corporation.”
As a key part of its safeguards, Sarbanes-Oxley requires internal reporting by lawyers working for public companies. This is in addition to internal reporting by auditors, which was already mandated by the Exchange Act.
Further, Sarbanes-Oxley requires that companies maintain internal compliance systems that include procedures for employees to anonymously report concerns about accounting or auditing matters.
It also provides protections to these and other “whistleblower” employees in the event that companies retaliate against them. Sarbanes- Oxley expressly protects those who lawfully provide information to federal agencies, Congress, or “a person with supervisory authority over the employee.”
Like Sarbanes-Oxley, the Dodd-Frank Act was passed in the wake of a financial scandal—the subprime mortgage bubble and subsequent market collapse of 2008. In enacting DFA, Congress said the main purposes included “promoting the financial stability of the United States by improving accountability and transparency in the financial system” and “protecting consumers from abusive financial services practices.”
DFA provided new incentives and employment protections for whistleblowers by adding Section 21F to the Securities Exchange Act of 1934.
Section 21F defines a whistleblower as, “any individual who provides, or 2 or more individuals acting jointly who provide, information relating to a violation of the securities laws to the Commission, in a manner established, by rule or regulation, by the Commission.” This definition thus describes only those who report information to the SEC.
The anti-retaliation provision in question in this case is found in a later subsection of Section 21F. It provides broad protections and states:
No employer may discharge, demote, suspend, threaten, harass, directly or indirectly, or in any other manner discriminate against, a whistleblower in the terms and conditions of employment because of any lawful act done by the whistleblower.
The issue in this case concerns subdivision (iii), which gives whistleblower protection to all those who make any required or protected disclosure under Sarbanes-Oxley and all other relevant laws.
Subdivision (iii) was added after the bill went through Committee. There is no legislative history explaining its purpose, but its language illuminates congressional intent. By broadly incorporating, through subdivision (iii), Sarbanes- Oxley’s disclosure requirements and protections, DFA necessarily bars retaliation against an employee of a public company who reports violations to the boss.
Provisions of Sarbanes-Oxley and the Exchange Act mandate internal reporting before external reporting. Auditors, for example, must “as soon as practicable, inform the appropriate level of management” of illegal acts, and only after such internal reporting may auditors bring their concerns to the SEC.
Leaving employees without protection for that required preliminary step would result in early retaliation before the information could reach the regulators.
Sarbanes-Oxley likewise requires lawyers to report internally and the SEC’s Standards of Professional Conduct set forth only limited instances in which an attorney may reveal client confidences to the SEC. The attorney would be left with little DFA protection.
Source: U.S. Court of Appeals for the Ninth Circuit
“Whether or not the statute is ambiguous is a matter of interpretation itself,” she adds. “Resolving this issue in New York is important because, other than Dodd-Frank, there is no whistleblower statute that protects employees who complain to their employers about potential securities law violations.”
A notable amicus brief in the case was filed by the U.S. Chamber of commerce. It urged the Supreme Court to decide whether an individual who does not meet the definition of “whistleblower” in the Dodd-Frank Act may nevertheless seek relief under the Act’s anti-retaliation protections for whistleblowers.
In a statement, it added that the interpretation of the Dodd-Frank Act espoused by the Ninth and Second Circuits “has profound implications for employers across the country and in every industry.”
“If allowed to stand, it would severely disrupt the carefully constructed anti-retaliation programs established by Congress, and open the door to countless lawsuits that Congress never intended Dodd-Frank to cover,” the Chamber says. “Meritless claims and expanding litigation costs have a direct impact on the viability, growth, and survival of businesses nationwide.”
The interpretation of the Dodd-Frank Act espoused by the Ninth Circuit “would greatly expand the number of employees authorized to pursue the enhanced remedies of the Act, and the period of time in which they may sue for alleged retaliation, without yielding the law enforcement benefits Congress intended when it enacted a ‘bounty’ and heightened protections for persons who complain to the Securities and Exchange Commission, the Chamber argued.
The “carefully crafted” procedures established in 2002 with the Sarbanes-Oxley Act “would become largely moot and obsolete under the Ninth Circuit’s interpretation,” it added. “This circuit split should be resolved as speedily as possible. The conflict between the Fifth Circuit on the one hand, and the Second and Ninth Circuits on the other, creates an uneven playing field for employers, subjecting them to vastly different risks based on their geographic location alone…So long as the decision is left uncorrected, employers in the Second and Ninth Circuits face the threat of liability for claims that Congress never intended.”
The Ninth Circuit’s “counter-textual interpretation” of the Dodd-Frank Act, if left to stand, will result in a number of harmful consequences, the Chamber claims. Among them, it will undermine “the carefully constructed anti-retaliation provisions and procedures of the Sarbanes-Oxley Act, and impose unwarranted litigation costs on employers…If claimants may proceed under the Dodd-Frank Act’s whistleblower provision even when they do not meet its definition of ‘whistleblower,’ there will be a proliferation of whistleblower litigation.”
The case mayultimately be settled on which judicial theory the majority of Supreme Court justices espouse. On one team will be strict constitutionalists and constructionists who stick to a close, word-by-word analysis of the underlying legislation and want Congress itself to fix any ambiguities. Other jurists can be expected to take a more activist role and feel the need to embellish the Dodd-Frank Act’s language with what they believe Congress intended to say.
“This decision will test whether the current Supreme Court leans in a conservative ‘plain language’ direction or adopts a more liberal approach to statutory interpretation which considers the broad remedial purpose of the statute,” says Greg Keating, chair of the whistleblower defense practice groups at the law firm Choate Hall & Stewart. “The anticipated ruling will result in either narrow interpretation that would protect a small fraction of whistleblowers who actually go the SEC or a very broad swath that includes anyone who complains internally within a company.”
Amid “the recent flurry of seven-figure awards for whistleblower retaliation,” employers should invest in a more enhanced commitment to compliance in order to protect the organization going forward from the possibility of retaliation, he recommends. “This includes a comprehensive review of complaint procedures and investigation protocols as well as top-down training to ensure that management and in particular front-line managers understand the critical role they play in identifying and responding to subordinate concerns and ensuring against retaliation.”
During a recent speech at an event sponsored by the Practising Law Institute, Jane Norberg, chief of SEC’s whistleblower office, warned that the forthcoming Supreme Court decision may bear out the cliché of being careful what you wish for.
A ruling in Digital Realty Trust’s favor could force whistleblowers to contact federal authorities before they raise concerns internally.
Many of the same companies that fought for requiring or incentivizing internal reporting “are some of the very same companies who are in court now challenging an employee’s right to bring a whistleblower retaliation lawsuit for reporting the information internally,” Norberg said.