Will Obstacles Deter the SEC's Dodd-Frank Whistleblower Program?

Will Obstacles Deter the SEC's Dodd-Frank Whistleblower Program?

Whistleblower information may be one of the SEC's "most effective weapons in its new enforcement arsenal," but the agency's whistleblower program "faces challenges on many fronts," according to an April 23, 2013 New York Times Dealbook article entitled "Hazy Future for Thriving S.E.C. Whistle-Blower Effort" (here). As evidence of the whistleblower program's promise that article cites several "previously undisclosed" enforcement actions that whistleblower information have triggered or aided. Yet due to several potential obstacles and impediments, the future of the program may, according to one source cited in the article "hang in the balance right now."

For its part, the agency says that it has "ramped up" its staffing and the program has "gained momentum." As evidence of the value the program has already delivered, the article cites the agency's investigation of Knight Capital. The SEC was already investigating problems the trading company was having following the company's bungled installation of new trading software. The investigation had been narrow until a whistleblower came forward and "the agency was able to shift gears and expand the investigation."

According to the article, with the help of a whistleblower, the agency's investigation of the Oppenheimer's investment firm's alleged overstatement of the performance of a private equity fund resulted in a fine of nearly $3 million.

The article also details an enforcement action that resulted in the first whistleblower bounty payment under the Dodd Frank Act's whistleblower provisions. According to the article, Dee Stone, an outside consultant to China Voice Holding Corp, received a whistleblower bounty of $46,000 (so far) for providing documents showing that the company was operating a Ponzi scheme. (Refer here for more about this award, which was the first and is so far the only award under the Dodd-Frank whistleblower bounty program). The identity of the whistleblower and the subject of her whistleblower report had not previously been disclosed.

But though the program has had its successes, the SEC has also encountered obstacles from companies. Some companies have "drafted policies compelling their staffs to report fraud internally," while other companies require employees to "attest annually that they never witnessed any fraud, a certification that could be used to discredit employees who later blew the whistle."

The article also notes that companies have been accused of retaliating against whistleblowers. The article cites the September 2012 complaint that James Nordgaard filed in the Southern District of New York against his employer, Paradigm Capital Management and related entities, as well as against its founder and President, in which Nordgaard alleged that his employer retaliated against him after he notified the employer that he had reported what he believed to be illegal activities to the SEC.

In his complaint, a copy of which can be found here, Nordgaard sought to recover damages for retaliation under the Dodd-Frank Act. Nordgaard alleged that after he made his report, he was stripped of trading duties and "constructively terminated." Initially, the company sought to have the dispute submitted to arbitration. In December 2012, Nordgaard voluntarily withdrew his complaint.


Even though the article highlights the successes that the whistleblower program has already produced, the article nevertheless also suggests that company efforts may undermine the program or limits its usefulness. It may be true that some companies may succeed in diverting would be whistleblowers to internal programs, but even that could still be useful as long as the whistleblower's reports are not swept under the rug but are dealt with.

And while company retaliation could well deter whistleblowing, the specific example of company retaliation that the article notes suggests that retaliation could be as big of a problem for the retaliating company than for the employee, given the retaliation protection available to whistleblowers under the Dodd-Frank Act.

The fact is that during the first full fiscal year of the whistleblower's operation, the SEC received 3,001 whistleblower reports (as discussed in the agency's 2012 annual whistleblower report, a copy of which can be found here). And while that number may be, as an unnamed source in the article suggests, "somewhat exaggerated," it is clear that the SEC is receiving a very substantial number of whistleblower reports - and that is despite the deterrent efforts of some companies noted in the article.

The agency has at this point made only a single whistleblower bounty award. As the agency makes further awards and as those awards attract publicity, would-be whistleblowers will likely be even further motivated to come forward. As a plaintiffs' law firm noted in a press release earlier this week, whistleblower awards provide "a reason for taking a risk." (And it should not be overlooked that the plaintiffs' bar clearly sees the development of a whistleblower practice as a growth opportunity. The efforts of the plaintiffs' bar may not by itself be sufficient to cancel out the efforts of companies to try to deter whistleblowers but it does at a minimum represent a countervailing force.)

My take is that though companies may be taking steps to avert whistleblower problems, the whistleblower program ultimately will prove, as the article suggests, to be "one of the most effective weapons in the new enforcement arsenal."

As I have said previously on this blog, if 2012 was the year in which the Dodd-Frank whistleblower program finally got off the ground, 2013 will likely be the year when the program picks up serious momentum. It seems likely  that - notwithstanding the impediments noted in the Times article -- we will not only see increased enforcement activity as a result of whistleblowers' tips, but that we will see increased numbers of whistleblowers' bounty awards, as well as the possibility of increased private civil litigation following in the wake of the enforcement actions.

Read other items of interest from the world of directors & officers liability, with occasional commentary, at the D&O Diary, a blog by Kevin LaCroix.

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