United States: Supreme Court To Decide Whether Dodd-Frank Whistleblowers Must Report To The SEC

On November 28, 2017, the United States Supreme Court will hear oral argument on whether the anti-retaliation protections afforded to whistleblowers under the Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank) apply to individuals who have reported potential violations of the federal securities laws internally to their employers, but not to the Securities and Exchange Commission (SEC or Commission). In Digital Realty Trust, Inc. v. Somers (No. 16-1276), on appeal from the Ninth Circuit, the Supreme Court will resolve a circuit split on the issue. The Ninth and Second Circuits applied Chevron deference 1 to the SEC's interpretive rule that individuals are not required to report to the SEC to be entitled to Dodd-Frank anti-retaliation protections. The Fifth Circuit held that Dodd-Frank's anti-retaliation provision did not apply to internal reporting because the statute defines "whistleblower" as an individual who provides information regarding securities violations to the Commission.

The Supreme Court's decision may have significant implications for companies, as well as for auditors, attorneys, and certain other categories of potential whistleblowers who are subject to mandatory internal reporting requirements under the Sarbanes-Oxley Act of 2002 (SOX).

Background

Paul Somers made several reports regarding possible securities law violations to members of senior management of his employer, Digital Realty Trust, Inc. (Digital Realty), a publicly traded real-estate investment trust. Mr. Somers was later terminated and sued Digital Realty alleging that his termination was in violation of Dodd-Frank's anti-retaliation provisions. Digital Realty moved to dismiss, arguing that because Mr. Somers had reported only internally, and not to the SEC, he was not a "whistleblower" within the meaning of Dodd-Frank. The district court denied the motion to dismiss, and a divided panel of the Ninth Circuit affirmed, holding that the anti-retaliation provision of Dodd-Frank applied to an individual who reports alleged misconduct internally, regardless of whether the individual makes a report to the SEC. 2

The Statutory Regimes

Both Dodd-Frank in 2010 and SOX in 2002 were enacted in the wake of financial crises. Both statutes provide incentives and protections to individuals who voluntarily report suspected wrongdoing, and both create a private right of action for whistleblowers to sue their employers for retaliatory actions. However, important distinctions exist. For example, Dodd Frank provides: (i) direct access to federal courts without the initial requirement of filing a claim with a federal agency; 3 (ii) greater monetary damages under most circumstances; 4 and (iii) a substantially longer statute of limitations. 5

The question of whether Dodd-Frank's anti-retaliation provision protects the broad category of whistleblowers recognized under SOX has prompted an SEC rule and has divided the federal courts. SOX contains an anti-retaliation provision that provides whistleblower protections for "employees" of publicly traded companies who, among other things, provide information regarding certain alleged violations to an internal supervisor, a federal regulatory or law enforcement agency, or Congress. 6 Section 21F(a)(6) of the later-enacted Dodd-Frank Act expressly defines a "whistleblower" as "any individual who provides . . . information relating to a violation of the securities laws to the Commission." 7 However, subdivision (iii) of Dodd-Frank's anti-retaliation provision expressly references SOX, providing that "[n]o employer may" retaliate against "a whistleblower . . . because of any lawful act done by the whistleblower" in providing information to or assisting the Commission or "in making disclosures that are required or protected under the Sarbanes-Oxley Act of 2002 . . . and any other law, rule, or regulation subject to the jurisdiction of the Commission." 8

A key question is whether Dodd-Frank's explicit reference to SOX provisions that do not require reporting to the SEC expands the categories of individuals protected by Dodd-Frank's anti-retaliation provision beyond its more narrow definition of "whistleblowers" (i.e., those who report to the SEC). While some argue that the statutory definition of "whistleblower" as one who provides information "to the Commission" is a clear limitation, others argue that to apply that definition as a limit on Dodd-Frank's anti-retaliation protections would all but read subdivision (iii) out of the anti-retaliation provision and would produce perverse results. Proponents of the more expansive interpretation note that certain professionals, such as attorneys and auditors, are subject to mandatory internal reporting requirements under SOX. 9 Auditors, who are subject to Section 78j-1–a section explicitly referenced in Dodd-Frank's anti-retaliation provision–must await the company's response and determine that it has failed to take the appropriate remedial actions before they may report to the SEC. 10 Attorneys are subject to similar requirements. 11

The SEC Interpretive Rule

Cognizant of this tension, the SEC promulgated in 2011 an interpretive rule that defined "whistleblower" for purposes of Dodd-Frank's anti-retaliation provision to include internal-only reporting. Specifically, Exchange Act Rule 21-F provides that for the purposes of the anti-retaliation protections under Dodd-Frank, a whistleblower is an individual who reasonably believes there has been a possible securities law violation and "provide[s] that information in a manner described in Section 21F(h)(1)(A)." 12 In the accompanying release, the SEC explicitly stated that the "change to the rule reflects the fact that the [Dodd-Frank] statutory anti-retaliation protections apply to three different categories of whistleblowers, and the third category includes individuals who report to persons or governmental authorities other than the Commission."13

The Circuit Split

The SEC's 2011 rule interpretation did not resolve the issue. In the years since, a number of alleged whistleblowers who reported suspected wrongdoing internally, but not to the SEC, have sued their former employers for retaliation under Dodd-Frank, with mixed results.

The Fifth Circuit was the first appeals court to address this question. In Asadi v. G.E. Energy (USA), L.L.C., 720 F.3d 620 (5th Cir. 2013), the Fifth Circuit strictly construed the Dodd-Frank anti-retaliation provision to protect only those who report to the SEC. 14 Noting that Dodd-Frank and SOX provide distinct remedies for whistleblowers, the Court also expressed concerns that the SOX enforcement scheme might be rendered moot from a practical perspective because whistleblowers would have little incentive to pursue retaliation claims under SOX due to the perceived advantages (discussed above) of pursuing them under Dodd-Frank. 15

The Second Circuit arrived at the opposite conclusion in Berman v. Neo@Ogilvy LLC, 801 F.3d 145 (2d Cir. 2015). The Court reasoned that sufficient ambiguity regarding the statutory definition of "whistleblower" was created by the fact that Dodd-Frank's anti-retaliation provision cross-referenced whistleblowers who reported pursuant to SOX and other laws. 16 The Second Circuit was particularly concerned that certain categories of whistleblowers, such as auditors and attorneys, cannot report wrongdoing to the SEC until after they have reported the wrongdoing to their employers. Consequently, a narrow interpretation would leave such individuals with almost no protections under Dodd-Frank because any retaliation would almost always precede SEC reporting. 17 Unable to find any evidence of congressional intent in enacting the Dodd-Frank anti-retaliation provision, the Second Circuit concluded that the SEC's interpretation was entitled to deference under Chevron, U.S.A., Inc. v. Natural Resources Defense Council, Inc., 467 U.S. 837 (1984), and furthered the apparent purpose of Dodd-Frank to enhance incentives and protections for whistleblowers. 18

The Ninth Circuit applied similar reasoning in affirming the lower court's ruling that Mr. Somers could pursue Section 21F claims against his former employer. 19 Like the Second Circuit, the Court was troubled by the possibility of extinguishing Dodd-Frank's protections for auditors and other whistleblowers who are required to first report internally. 20The Ninth Circuit also emphasized the historical backdrop of SOX and Dodd-Frank legislation, recognizing that whistleblower protection was a key safeguard against abuses of the securities laws. 21 In addition, the Court highlighted the SEC's amicus brief arguments, which responded to the Fifth Circuit's concern that the SOX enforcement scheme might be rendered moot. 22 The SEC argued that SOX might be more attractive to certain whistleblowers because: (i) the administrative review requirement also means that the Department of Labor would take responsibility for asserting the claim on the whistleblower's behalf, which may be less costly and stressful; 23 and (ii) SOX allows compensation for special damages, which may be preferable to whistleblowers who suffered greater emotional than financial injuries. 24

Potential Implications

The Supreme Court's decision will likely resolve the question of whether whistleblowers must report potential misconduct to the SEC to qualify for Dodd-Frank's anti-retaliation protections, and it may revisit the Chevron doctrine in doing so. The decision may have significant implications for businesses, as well as for auditors, attorneys, and certain other categories of whistleblowers who are subject to mandatory internal reporting requirements under SOX.

The Chamber of Commerce filed an amicus brief in support of Digital Realty's position. It voiced the business community's concern that a broad reading of the statute would lead to a proliferation of Dodd-Frank whistleblower litigation and render SOX, which limits claimants and fosters early resolution, obsolete. 25 The Chamber of Commerce also responded to the Second and Ninth Circuits' concern that auditors and attorneys may lack a remedy under Dodd-Frank because retaliation would likely occur before they have the opportunity to report to the SEC. According to the Chamber of Commerce, such a concern is unsupported by empirical evidence, which indicates that there is often an appreciable lag in time between the initial report and the alleged retaliation, which would give whistleblowers adequate time to report to the SEC. 26

The SEC filed an amicus brief in support of Mr. Somers' position, arguing that a broad interpretation of the Dodd-Frank anti-retaliation provision is consistent with Congress' intent to strengthen the protections under SOX for internal whistleblowers, and in turn, promote corporate compliance. 27 The SEC argued that one potential benefit for employers under a broad interpretation of Dodd-Frank's anti-retaliation provision is that employees would be encouraged to report potential misconduct internally first, which would enable employers to limit meritless claims and to self-correct without the need for intrusive external investigations. 28

A decision is expected by June 2018.

Footnotes

1 The Supreme Court held in Chevron, U.S.A., Inc. v. Natural Resources Defense Council, Inc., 467 U.S. 837 (1984) that the interpretation of an administrative agency charged with enforcing a statute is entitled to deference in the face of statutory ambiguity, unless such interpretation is unreasonable.

2 See Somers v. Digital Realty Trust Inc., 850 F.3d 1045 (9th Cir. 2017).

3 Compare 15 U.S.C. § 78u–6(h)(1)(B), with 18 U.S.C. § 1514A(b)(1).

4 Compare 15 U.S.C. § 78u–6(h)(1)(C) (two times the amount of back pay), with 18 U.S.C. § 1514A(c)(2) (only back pay).

5 Compare 15 U.S.C. § 78u–6(h)(1)(B)(iii) (six years after the violation occurs or three years after the facts material to the right of action are known or should have been known, but no more than 10 years after the violation occurs), with 18 U.S.C. § 1514A(b)(2)(D) (180 days after the violation occurs or the employee becomes aware of the violation).

6 18 U.S.C. § 1514A(a)(1).

7 15 U.S.C. § 78u-6(a)(6).

8 15 U.S.C. § 78u-6(h)(1)(A)(iii) (emphasis added).

9 15 U.S.C. § 7245(1); 15 U.S.C. § 78j-1(b).

10 15 U.S.C. § 78j-1(b)(3).

11 17 C.F.R. § 205.3 (b).

12 17 C.F.R. § 240.21F-2.;17 C.F.R. § 240.21F-2(b)(ii).

13 Securities Whistleblower Incentives and Protections, Release No. 34–64545, 76 Fed. Reg. 34300–01, at *34304 (June 13, 2011) (emphasis added).

14 Asadi, 720 F.3dat625-27.

15 Id. at 628-629.

16 Berman, 801 F.3d at 155.

17 Id. at 151-52.

18 Id. at 155.

19 See Somers v. Digital Realty Trust Inc., 850 F.3d 1045 (9th Cir. 2017).

20 Id. at 1049-50.

21 Id. at 1048.

22 Id. at 1050.

23 18 U.S.C. § 1514A(b).

24 18 U.S.C. § 1514A(c)(2)(C).

25 Brief for the Chamber of Commerce of the United States of America as Amicus Curiae Supporting Petitioner at 18-21, Digital Realty Trust, Inc. v. Somers (No. 16-1276).

26 Id. at 14.

27 Brief for the United States as Amicus Curiae Supporting Respondent at 30-31, Digital Realty Trust, Inc. v. Somers (No. 16-1276).

28 Id. at 29-30.

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