The Magazine of Corporate Responsibility

Companies Seek to Challenge SEC Bounties for Whistleblowers

by James Hyatt

Corporate America is pulling out all the stops to challenge the Securities and Exchange Commission’s proposed whistleblower regulations.

Whistle-Blower_iS_000007907470The regulations implement the whistleblower program established in the 2010 Dodd-Frank Wall Street Reform Act.

The “Securities Whistleblower Incentives and Protection” section requires the SEC to pay a cash award to whistleblowers who voluntarily provide original information about violations of federal securities laws that lead to a successful enforcement action.  It also prohibits retaliation by employers against individuals who provide information to the SEC.

A particularly divisive issue: the proposed rules don’t require a whistleblower to first use internal compliance procedures. “What’s at stake?” asks Susan Hackett, senior vice president and general counsel of the Association of Corporate Counsel. “If you’re a company that relies on your employees to assure that work is done legally and responsibly, the answer is pretty much everything,she writes at the group’s website.

The SEC proposals, she says, “essentially kick the legs out from under the carefully constructed compliance and reporting systems emanating from federal and state mandates, the U.S. Sentencing Guidelines, and growing public expectations of corporate self-policing.”

She adds:  “Basically, regulators have moved from an interest in protecting whistleblowers and facilitating their reports toward a system that establishes huge potential rewards for bounty hunters who don’t have interest or investment in making sure their company is doing the right thing, but rather are rewarded only when the company can be shown to do the wrong thing.”

The ACC on Dec. 15 spelled out those concerns in a comment letter signed by more than 260 in-house legal executives.  The group argued that the SEC proposal encourages employees “to find way to profit from corporate wrongdoing,” invites employees “to focus on timing their report so as to maximize the bounty they’ll receive, potentially allowing misconduct to fester…,”  and promotes “less effective responses to serious problems” by inviting an “end-run” to internal investigations.  (A footnote observes: “From our perspective and based on the traditional understanding of the term, an individual who merely learns of a problem and heads for Door Number 1 to recover a large award is not a whistleblower.”)

There is, of course, another point of view. Critics assert the SEC has failed to follow-up on tips about corporate financial scandals – see Bernard Madoff – and hope the new whistleblower law will provide better procedures and more incentives to trigger investigations.  The SEC has estimated that it may get as many as 30,000 tips a year under the new regulations, although budget and staffing restrictions raise questions about whether the agency will be able to handle the deluge.

The SEC has received more than 800 letters or petitions declaring “more whistleblowing about corporate malfeasance could have made the foreclosure crisis and economic meltdown less severe.  Whistleblowers should never be forced or encouraged to take their concerns to their potentially corrupt bosses first.”  And another 100 or so express similar concerns in more detail along these lines:  “The SEC proposed rules completely undermine efforts to protect employees who risk their careers to expose fraud.”

And whistleblowers still take tremendous personal risks, observes Houston attorney Wayne Isaacks, in a comment on the Harvard Law School Forum on Corporate Governance and Financial Regulation.

“In the 5th Circuit,” he writes,  “whistleblowers act in their peril, unless they have already quit their jobs or have been fired. Even so, they may be subject to effective civil suit, injunction and criminal charges, depending on what they know, how they know it, and if they have confidential documents and records.”  (He was commenting on a posting from the Wachtell, Lipton, Rosen & Katz law firm arguing the SEC proposed rules “do not go far enough to avoid undermining corporate compliance systems.”)

(Coincidentally, Congress is moving forward on amending whistleblower procedures involving federal employees and agencies – S. 372, the Whistleblower Protection Enhancement Act, a measure which has pro-whistleblower groups split.  The issues are even more muddled with the recent Wikileaks situation, which has prompted legislative efforts to clamp down on leaks of sensitive government information.

(Shanna Devine, legislative officer for the Government Accountability Project, a whistleblower protection organization based in Washington, D.C., declares “we will never be safe until national security whistleblowers can tell the truth. That cannot happen until Congress gives them normal rights against retaliation, a reform stalled since last year by secret procedural holds that haven’t even been challenged. It is time for the politicians to get serious about protecting those who protect us.”

(On the other hand, the National Whistleblowers Center argues that S. 372 “threatens to significantly undermine the ability of federal employees to report fraud in taxpayer spending.”)

The Senate and House in 2010 each passed versions of the act, but differences weren’t resolved.  Rep. Darrell Issa, who will head the Commission on Oversight & Government Reform in the 2011 Congress, has said he intends “to continue the discussion about providing appropriate protections for federal employees who expose wrongdoing through legal and responsible channels.”  The committee’s website includes a “Blow the Whistle” form intnded “to alert the Republican Staff … to fraud and abuse in your agency or other organization.”

The Ethics Resource Center, which conducts an annual National Business Ethics Survey, found in 2009 that more than six out of ten employees said they reported workplace misconduct when they saw it.

When employees report misconduct, “the company hotline is one of the lasts places they go,” the survey found, with only three of 100 reports about internal misconduct coming to hotlines.  (And only four percent reported misconduct to someone outside the company.)  There are hazards to whistleblowing, the report indicated -- 15% of employees who reported misconduct “perceive retaliation as a result – most commonly a cold shoulder or verbal abuse from colleagues or a supervisor.”  More than four in ten said they almost lost their job or were denied a raise because of reporting misconduct.

It appears, the ERC study said, that “employees in weak cultures tend to report to higher management rather than direct supervisors because they aren’t confident that lower level managers are fully committed to strong ethics.”

The ERC has told the SEC that its whistleblowing rules should be “actively encouraging employees to initially work through their own institutions’ processes.”  And, it noted, most reported misconduct doesn’t involve securities violations.  “It would be unpardonable if a program designed to address the single area of securities law violations was to reduce the effectiveness of (Ethics and Compliance) efforts aimed at a wider range of issues.”

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