Third Circuit Supports Broader Access to Whistleblower Protection in Sarbanes-Oxley Cases

Third Circuit Supports Broader Access to Whistleblower Protection in Sarbanes-Oxley Cases

A federal appeals court made it easier for whistleblowers to claim protection under the Sarbanes-Oxley Act (SOX), adding dramatic weight to the U.S. Department of Labor's landmark ruling that such employees can be protected even if they fail to cite the exact rules their employer may have broken.

Instead, workers may simply show that they had a "reasonable belief" that their company acted fraudulently - or was about to do so - and that they were punished for raising a SOX-related issue. If such a complaint is plausibly and properly made, the U.S. Court of Appeals for the Third Circuit held in Wiest v. Lynch [an enhanced version of this opinion is available to lexis.com subscribers], judges may not dismiss it without further proceedings.

The Sarbanes-Oxley Act of 2002 sets strict accountability standards for financial behavior by public companies and, under Section 806, protects workers against retaliation for blowing the whistle on a number of specific violations.

Until now, employers have used a narrow interpretation of Section 806 to kill whistleblower lawsuits in their infancy. Many judges require workers to show a detailed understanding of fraud regulations - and to have warned their supervisors in very specific terms - in order to get a hearing on the merits.

Under the new decision, however, employees don't need legal expertise or "magic words" to trigger SOX protection, said R. Scott Oswald, managing principal of The Employment Law Group law firm. According to the Third Circuit, Congress never intended such a "formalistic approach;" rather, SOX protects any worker who identifies "conduct that falls within the ample bounds of the anti-fraud laws" listed in Section 806.

In short: If workers believe that SOX-related fraud is afoot, and if their belief would be shared by a reasonable person with similar training, they can't be punished for reporting their good-faith concerns - even if such concerns don't "ring the bell" on each element of an enumerated law.

The groundbreaking 2-1 opinion, released on March 19, 2013, helps to clear the way for the Obama administration's more vigorous approach to SOX violations. Wiest is the first appellate-level endorsement of the Labor Department's ruling in Sylvester v. Parexel, which abandoned the strict "definitive and specific" complaint standard that was formulated in 2006 under President George W. Bush.

Federal courts had deferred to the Bush-era interpretation, which the Labor Department's Administrative Review Board (ARB) rejected as inappropriate for SOX complaints in the Sylvester case. In Wiest, a key issue was whether the Obama-era ARB deserved similar judicial deference for its new, more employee-friendly reading of SOX.

The Third Circuit said yes: As long as the ARB follows a "permissible construction" of SOX and "adequately explains the reasons for a reversal of policy" - a test the ARB had passed, it held - courts must defer to the board's new interpretation of the law.

The decision is binding only on federal courts in the Third Circuit, but it covers important jurisdictions including Delaware, where many big companies are incorporated. It will "set the table" for debate by other federal circuits - including the Tenth Circuit, where another important appeal is pending - and potentially by the Supreme Court, which could provide the final word on the Sylvester standard, said Mr. Oswald.

The Wiest decision partially reversed a lower court's dismissal of a SOX retaliation lawsuit filed by Jeffrey Wiest against his employers at Tyco Electronics, formerly part of the scandal-ridden Tyco International conglomerate run by Dennis Kozlowski, who was convicted of stealing hundreds of millions of dollars.

In his original complaint, Mr. Wiest, who worked in Tyco's accounting department, claimed that he was punished and ultimately fired by Tyco for questioning the billing of extravagant corporate bashes. In one case, Mr. Wiest alleged, Tyco employees treated guests to a five-day, $350,000 event at a resort in the Bahamas - yet attended only a single, 90-minute business meeting.

Tyco changed its accounting for that event, but allegedly grew frustrated when Mr. Wiest kept questioning other matters. The company began investigating him for various infractions, including a relationship with a co-worker, according to the complaint. Mr. Wiest claimed that his health declined, resulting in a medical leave and his ultimate dismissal.

Despite applying the Sylvester standard, the Third Circuit still allowed the dismissal of parts of Mr. Wiest's complaint. For some claims, the court held, Mr. Wiest failed the "reasonable belief" test because, based on what he said he told Tyco, a reasonable person wouldn't agree that he was flagging fraud of the type covered by SOX.

But the court reinstated two of Mr. Wiest's most important claims of protected activity. Tyco now must defend the case in the U.S. District Court for the Eastern District of Pennsylvania.

Besides endorsing the "reasonable belief" test in Wiest, the Third Circuit also agreed with the ARB's interpretation of two closely related standards in Sylvester and subsequent cases:

  • When alerting their superiors to possible fraud, workers need not cite evidence that satisfies each individual legal element of fraud, such as intent; and
  • When alerting their superiors to possible fraud, workers need not cite existing violations at the company; it's enough to have a reasonable belief that a violation is "likely to happen."

In addition, SOX still protects employees from retaliation even if their "reasonable belief" turns out to be mistaken, the court said.

Read the full Third Circuit opinion here: http://www.ca3.uscourts.gov/opinarch/114257p.pdf

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