A federal judge in Massachusetts has fired a dramatic new volley in the battles over who can file whistleblower retaliation claims under Section 806 of the Sarbanes-Oxley Act, ruling that two employees of a private contractor to Fidelity Investments can pursue retaliation complaints against Fidelity, because the business ultimately serves investors in public companies.
The decision, handed down March 31 in federal district court, is a sharp departure from previous rulings on the scope of Section 806. Until now, federal courts and the Labor Department’s Administrative Review Board (which also hears Section 806 complaints) have consistently said that the whistleblower protections of SOX only apply to employees of public companies. Judge Douglas Woodlock, however, ruled that for the intent of SOX protections to be met, those protections must extend to employees of contractors and sub-contractors that work for protected companies, even if those contractors are privately held.
Rosenthal
“It’s a very expansive view of the statute that’s different from way the agencies and other courts have interpreted the statute,” says David Rosenthal, a partner in the law firm Nixon Peabody. Likewise, Donn Meindertsma of the law firm Conner & Winters calls the ruling “a dramatic departure from settled law, particularly decisions of the Administrative Review Board.”
If the ruling sticks, Meindertsma says, “It’s likely to substantially increase the number of Section 806 complaints.”
The dispute involves two Fidelity employees, Jackie Hosang Lawson and Jonathan Zang, who claim they were wrongfully fired after complaining about improper business activities. Fidelity argued that Lawson and Zang, as employees of investment advisers to mutual funds—rather than employees of the mutual fund itself—aren’t covered by SOX whistleblower provisions. Woodlock did dismiss their state law complaints of wrongful discharge, but decided the complaints under Section 806 can proceed.
Woodlock’s ruling is only the latest in a string of decisions favoring employees in whistleblower suits. Just last month, the Occupational Health and Safety Administration ruled in favor of two workers who filed retaliation complaints, ordering their employers to re-instate them and pay a total of $1.6 million in back wages. On Dec. 31, a federal appeals court ruled that employees can also press their Section 806 claims in court, if the Labor Department ARB doesn’t resolve the complaint within six months.
Woodlocks’ decision, however, is the first to widen the scope of who can sue under Section 806 in the first place.
A Fidelity spokesman says the former employees’ claims “are without merit” and the company intends “to defend against them vigorously.”
If the ruling sticks, ‘it’s likely to substantially increase the number of Section 806 complaints.’
—Donn Meindertsma,
Partner,
Conner & Winters
In his decision, Woodlock wrote that for the spirit of SOX to be met, contractors and sub-contractors that perform tasks “essential to insuring that no fraud is committed against shareholders” cannot be allowed to retaliate against whistleblowers. Those concerns are “especially strong for mutual funds,” he said, since they have no direct employees and implement the funds’ management through contractual arrangements with investment advisers.
If Section 806 only protected employees of public companies, he continued, any reports of fraud involving a mutual fund’s shareholders would go unprotected “for the very simple reason that no ‘employee’ exists for this particular type of public company.”
Jennifer Taub, a professor of business law at the University of Massachusetts, says the Woodlock decision may appear to expand the scope of Section 806 protections, but “when you look at the statute itself and legislative history this is perfectly in line with both.” She praised the decision as one that “encourages a culture of questioning and compliance.”
Opening the Door
Employment lawyers, however, say the ruling is likely to encourage more complaints from employees who aren’t obviously covered by Section 806.
Martin
“Employees of private employers may be encouraged to bring claims for perceived retaliation, after they complain about something that could impact the balance sheet of their employer’s customers,” says Eric Martin, a lawyer with the law firm McGuireWoods.
Overall, most whistleblower complaints filed under SOX are unsuccessful. Many die during administrative hearings at the Labor Department, and even those that proceed to litigation frequently fail.
Legal experts also note that the statute’s language is unclear in some areas, which has left many questions about whistleblower complaints unanswered. For example, views differ on whether all six of the violations listed in Section 806 are limited by the phrase “relating to fraud against shareholders,” or whether that phrase only modifies the last clause, “any provision under federal law.” Woodlock took the former view.
COURT ORDER
Below is an excerpt from Lawson v. Fidelity that details the court’s views of whistleblowing:
I find that the Plaintiffs have alleged facts concerning reasonable belief sufficient to survive a motion to dismiss. In the case of Lawson, she has alleged that she had a reasonable belief that her employers were facilitating fraud against mutual fund investors. For example, she has alleged that she believed a group within Fidelity Brokerage had improperly retained $10 million in 12b-1 fees paid by the Funds. Federal securities laws regulate the payment of 12b-1 fees, and taking Lawson’s allegations as true, her belief that Fidelity Brokerage’s retention of fees constituted a securities violation could have been both objectively and subjectively reasonable. She has also alleged that her employer provided incorrect information to the Funds’ Board of Trustees that had a relation to the Funds’ contracts with Fidelity Investments. Section 15 of the ICA obligates the investment adviser to provide a mutual fund’s board of trustees with the information necessary to evaluate the terms of an investment adviser contract, 15 U.S.C. § 80a-15(c), and Lawson may have had a reasonable belief that Fidelity Investments was violating this provision. The Defendants have challenged the objective and subjective reasonableness of Lawson’s beliefs, but I am satisfied that Lawson’s pleadings have alleged sufficient facts to support her belief that fraudulent activity may have been taking place.
Fidelity Investments challenges the sufficiency of her pleadings on two additional bases. First, the Defendants argue that Lawson has not alleged any reports that “specifically related” to one of the six categories of violations listed in the statute. Lawson has alleged, however, that she reported her concerns about the improper 12b-1 fee retention to Vice President Komishane, and reported her concerns regarding the inaccurate reports that were allegedly made to the Board of Trustees. Generalized complaints or complaints of administrative missteps are not protected activity … Here, however, Lawson allegedly reported specific problems in corporate conduct which—because they involved the delicate and regulated relationship between mutual fund and investment adviser—she may have had reason to believe constituted fraudulent activity.
Fidelity Investments next argues that any communications that did take place were merely part of her job, rather than a reporting of fraud for whistleblower purposes. The legal principle cited to support this charge comes not from SOX, but rather from the federal Whistleblower Protection Act, 5 U.S.C. § 1211 et seq. See Huffman v. Office of Personnel Mgmt., 263 F.3d 1341, 1352 (Fed. Cir. 2001) (finding that protected activity did not include “reporting in connection with assigned normal duties”). Even if SOX incorporates such a rule, however, it would be a matter of fact, not law, whether or not Lawson’s activities were performed as part of her regular duties …
… As with Lawson’s claims, I cannot dispose of Zang’s
complaint before the factfinding stage of litigation. Zang has alleged facts supporting his belief that Fidelity’s compensation scheme was not transparent. As I have discussed, compensation of investment advisers generally is a matter that has received considerable attention from both Congress and the federal courts. Whether or not the SAI disclosures were in fact fraudulent statements that violated federal law is not at issue. Rather, the issue is one of belief, and I find that Zang has alleged facts relating to improper communications to the SEC regarding manager compensation. These allegations are sufficient to support a claim of objectively and subjectively reasonable belief that Fidelity was failing to meet its obligations under the ICA or SEC rules and regulations.
The Defendants maintain that Zang’s comments amounted to a “quibbling” over the technically correct description of the analyst compensation formula. How to characterize Zang’s comments is a matter for factual development, not legal resolution on a motion to dismiss. It is adequate at this stage to conclude that Zang’s characterizations of his communication could be supported by the allegations in his Complaint.
Source
Memo and Order in Lawson v. Fidelity (March 31, 2010)
“It’s a narrow holding that stems from the peculiar nature of mutual fund companies, but it provides support for the notion that employees of investment advisory firms that provide services to public companies, even in a non-mutual fund context, can be entitled to protection under the whistleblower provision of SOX,” Rosenthal says. “Woodlock is a well-respected judge whose opinions have a great deal of weight with appellate and district court judges elsewhere.”
Woodlock also held that Zang met the statute’s requirements for seeking review in federal court, even though Zang previously took his case before the administrative law judge at the Labor Department and lost. Since he appealed to the ARB and 30 days hadn’t yet passed, Woodlock held that the administrative judge’s decision wasn’t a “final decision” when Zang filed his complaint in federal district court.
Woodlock cited the December 2009 appellate court ruling Stone v. Instrumentation Laboratory Co., the only other opinion to address the issue. That was the appellate decision that employees are entitled to a de novo review in federal court if the Labor Department doesn’t give a final decision on their case within 180 days of filing a complaint.
Meindertsma
Meindertsma calls Woodlock’s interpretation absurd, since bureaucratic hurdles make it impossible for the Labor Department to decide any complaint within 180 days. Under that logic, he says, “every SOX case … has the potential be restarted in federal court—and, consequently, every ALJ ruling in every SOX case is at risk of being completely wiped out.”
Martin also calls the second part of Woodlock’s decision “extremely troubling,” since it “seems contrary to the intent of a quick and less-costly resolution of SOX whistleblower claims.” He and others expect to see more employees who lose in front of the Labor Department move their complaint to federal court and try again.
For now, Martin says, companies could try to seek agreement not to move a case to federal court as part of a motion requesting more time to conduct discovery—a point that is within an administrative law judge’s discretion.
Meindertsma says the Labor Department could amend its regulations to redefine what a “final order” is. For example, he says, it could define every decision at every stage as the “final” order unless a new order is issued that supersedes it.
As always, Rosenthal says, the best protection companies have is a rigorous internal compliance program to investigate complaints and correct any problems, along with training on anti-retaliation policies. In particular, managers should be trained on how to respond to complaints and on how to treat employees who raise concerns, to avoid providing ammunition for retaliation claims. Moreover, employers always need good documentation in case they have to defend any termination decisions.
If they haven’t already, Taub says public companies should ensure that their policies and procedures for investigating complaints and retaliation apply to employees of any private subsidiaries such as contractors and sub-contractors.
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