Big Changes Ahead for Whistleblower Standards

By William P. Barry and Jonathan D. Kossak
August 20, 2018

Given a recent Supreme Court decision, and resulting SEC amendments, boards can’t take “a laissez-faire” approach to anti-retaliation programs

 

The thorny issue of whistleblower retaliation may be getting thornier.

Evolving standards affecting the treatment of whistleblowers, including the U.S. Supreme Court's decision in Digital Realty Trust, Inc. v. Somers, and the U.S. Securities and Exchange Commission’s (SEC) recently proposed amendments to its whistleblower program, are changing the nature of the relationship between putative whistleblowers and companies.

The Supreme Court’s late February decision in Digital Realty invalidated an SEC rule that afforded anti-retaliation protections to whistleblowers who reported their concerns internally and not to the SEC under the Dodd-Frank Act.

The court found that the Act plainly required a whistleblower to report to the SEC. The high court drew this requirement from the statutory definition of a “whistleblower” as a person who “provides . . . information relating to a violation of the securities law to the Commission, in a manner established, by rule or regulation, by the Commission.”

On June 28, partially in response to Digital Realty, the SEC proposed a number of amendments to its whistleblower program.

In particular, it seeks to amend its prior rule to conform to Digital Realty by establishing a uniform definition for “whistleblower” and extending it to all aspects of its whistleblower program. The proposed amendments would require a purported whistleblower to report violations of federal securities laws in writing to the SEC and applies that definition to the award program (which already had an SEC reporting requirement), its anti-retaliation program and its heightened confidentiality requirement.

This was not a major change in the law given Digital Realty, but it staked yet another notice for whistleblowers that they must report directly to the SEC if they want to take advantage of the agency’s whistleblower program.

As a result, directors cannot afford to adopt a laissez-faire attitude about such programs once they are implemented because employees are now heavily incentivized to report directly to the SEC. Directors must be vigilant in cultivating a culture of internal reporting so that employees will report internally as well as to the SEC. This is crucial to protect the company from being blind-sided if an SEC investigation arises out of the whistleblower’s complaint.

Directors should satisfy themselves that both the company's formal whistleblower program and its culture promote an open dialogue regarding compliance challenges and successes, and that the message is clear that retaliation will not be tolerated. This approach is also critical to protecting each individual director’s personal liability, which at least one recent whistleblower case exposed as at risk under both Sarbanes Oxley and Dodd-Frank.

In an anti-retaliation and wrongful termination action brought by a company’s former general counsel, Wadler v. Bio-Rad Labs, Inc., the counsel asserted claims under SOX and Dodd-Frank against both the company and its board of directors. He claimed he was fired for raising concerns about a possible Foreign Corrupt Practices Act (FCPA) violation in relation to the company’s practices in China.

The counsel raised his concerns first to management and then to the audit committee, which re-engaged a law firm that had first investigated the practices several years prior and found no material evidence of misconduct. The law firm again found no material evidence of FCPA violations, but the general counsel challenged that conclusion. A few months later, after a vote of the company’s entire board of directors, the company terminated the general counsel. He then sued the company and individual board members directly.

The company moved to dismiss on numerous grounds, including that directors could not be held personally liable under either SOX or Dodd-Frank and that Dodd-Frank required reporting to the SEC. The trial court denied the company’s motion to dismiss on both grounds. The trial court noted the SEC’s former general counsel’s testimony before Congress during a hearing prior to SOX’s enactment that “just as tone from the top communicates corporate values and creates corporate culture, accountability starts as an individual matter from the top.” The trial court concluded, “nothing in this statement suggests that board members who vote to terminate a high-level employee for whistleblowing should be excused from individual liability merely because they act in their capacity as directors of the corporation.”

Though the individual defendants were ultimately dismissed for a failure of notice, the case proceeded to trial against the company where a jury found in favor of the former general counsel.

The case is currently on appeal (with Digital Realty likely eliminating the former general counsel’s Dodd-Frank claim), but serves as a warning that directors may be liable for anti-retaliation claims.

There are steps boards and directors can take now in order to help ensure compliance with anti-retaliation provisions and to incentivize whistleblowers to report internally rather than in writing to the SEC in light of Digital Realty and the SEC’s proposed amendments.

Here are some examples:

  • Update policies and procedures clarifying treatment of whistleblowers and whistleblower claims. Develop clear procedures designed to assist company personnel in identifying and escalating whistleblower claims and adhering to anti-retaliation policies. This will help ensure that appropriate personnel are involved early and will protect the company from finding out about retaliation after the fact.

Designate persons responsible for conducting independent, credible investigation into such claims; require reporting to the audit committee; and work proactively with HR leadership. This will assist the company in dealing with these types of claims without creating new problems along the way.

  • General training. The majority of retaliation issues arise in two contexts: (1) early stage retaliation by supervisory personnel who think they are helping the company by chilling whistleblower claims and do not understand the importance of ventilating them; and (2) baseless claims of retaliation put forward by employees whose personnel files do not reflect past performance concerns due to the failure of supervisors to complete regular reviews. Including a comprehensive, anti-retaliation component within the company's compliance training module is the most effective way to protect the company from such issues.
  • Compliance-based incentives or sanctions. Incorporating compliance-based incentives and sanctions into the company's compensation structure will incentivize supervisors, managers, and co-workers to comply with anti-retaliation requirements and encourage them to engage early with the compliance function when a concern arises. This will help the company build a culture of compliance and make it more likely that a potential whistleblower will report to the company rather than complaining solely in writing to the SEC in light of Digital Realty and the SEC’s proposed amendments.

Whistleblower claims pose complicated issues for public companies, particularly in light of evolving standards regarding anti-retaliation concerns. By directing the company to implement clear procedures that sends a strong message to personnel that retaliation will not be tolerated, boards and directors can protect the company, its shareholders, and themselves.

William P. Barry is a member of and Jonathan D. Kossak is a counsel with Washington, D.C.-based Miller & Chevalier Chartered.