On July 21, 2010, with the country reeling from a devastating financial crisis, President Obama signed into law the Dodd-Frank Wall Street Reform and Consumer Protection Act, which encompassed comprehensive financial reform the likes of which hadn’t been seen since the Great Depression. Over more than 2,000 pages, the Act created oversight, rules, regulations and various agencies designed to safeguard investors. From the Volcker Rule to the Financial Stability Oversight Council, whistleblower programs for the SEC and CFTC, and dozens of reforms in between, Congress sought to combat both systemic and endemic risk in the commercial markets.
Dodd-Frank was controversial from the start. Pushback from special interests and powerful corporate lobbies opposed its expansive regulatory requirements. Some–even Barney Frank–later asserted that the Act put too much burden on smaller financial institutions. In response, pieces of Dodd-Frank have been rolled back. For example, the threshold amount of assets for definition as a “systemically important financial institution” increased to $250 billion. Some other changes include re-classifying municipal securities as a liquid asset; eliminating escrow requirements for higher-cost mortgages made by banks and credit unions with assets of up to $10 billion; formally exempting from the Volcker Rule banks with less than $10 billion in assets; and altering the criteria for banks’ leverage ratios.
One of the ground-breaking programs established by Dodd-Frank, the SEC Whistleblower Program, has remained relatively unchanged. Intended to arm law enforcement with early and actionable intelligence to combat fraud, the program authorizes the SEC to pay monetary awards to individuals who voluntarily tip the SEC to violations of the federal securities laws. Unlike other bounty programs, the SEC program provides employment retaliation protections and anonymity in addition to major financial incentives. Indeed, an eligible whistleblower can receive 10 to 30 percent of monetary sanctions collected in a successful enforcement action.
Why Is the SEC’s Bounty Program So Successful?
By nearly every metric, the program has achieved its mission. Law enforcement has been empowered to prosecute major schemes with greater efficiency; organizations have been called to task for significant misconduct; employers who silence or retaliate against those who report misconduct have been exposed and punished; individuals outside of an organization have been deputized to come forward to report fraud; and, most importantly, courageous whistleblowers have been handsomely rewarded for speaking up despite the many risks of doing so. As of this writing, the SEC has paid out an astonishing $505 million in awards and, due to whistleblower assistance, the Commission has recovered billions of dollars prosecuting securities violators.
Accomplishments aside, the whistleblower program has faced no small amount of criticism, including aggressive opposition from its genesis. As more whistleblower-assisted actions have come forward, we have greater insight into why the program was so threatening to begin with and how it challenged the status quo. Sunshine may be a great disinfectant, but it can also cause quite a burn.
Does Dodd-Frank’s Whistleblower Program Undermine Corporate Compliance?
In the early days of the program’s crafting, it received widespread criticism from many in the corporate community. In more than 1,500 comment letters, the SEC encountered remarkable opposition, chiefly in the form of the argument that the whistleblower program would adversely impact corporate compliance. The commenters argued that if the SEC offered incentives to those who reported misconduct, employees would bypass, and thus undermine, internal reporting mechanisms.
As an obvious proponent of strong in-house compliance systems, the SEC responded by revising the rules in several ways to address this concern. Notably, the final rules (PDF: 1.1 MB) state that a whistleblower’s effort to utilize internal reporting systems is a factor that can increase the amount of an award. Conversely, a whistleblower’s interference with internal compliance processes would decrease the amount of an award.
The notion that Dodd-Frank’s whistleblower program would undercut employers’ compliance controls was nothing more than a straw man argument. The majority of whistleblowing employees have always reported misconduct internally in the first instance and continue to do so in a post-Dodd-Frank environment. In 2019, the SEC noted that 85 percent of whistleblower awards were paid to individuals who first reported internally. Let’s be clear: Healthy corporate compliance has never been at risk. To the contrary, risk has been shouldered by the ethical employee.
Bright Lights Can Expose Some Blemishes
As we take a closer look today at businesses and their handling of misconduct, there’s much to fear and much to fix. Based on data from the Ethics and Compliance Initiative’s 2018 survey, while the reporting of suspected wrongdoing is at an all-time high, the rate of retaliation against those who report misconduct doubled over the preceding two years. A full 69 percent of employees said they reported misconduct they observed. Most concerning, however, was that 44 percent of those ethical employees said they endured retaliation.
This is another example of where Dodd-Frank got it right. By providing truthtellers the ability to report anonymously and with significant employment protections, companies’ dirty little secrets can no longer hide under the corporate robe.
Or can they?
Many companies have creatively stifled truthtellers by crafting restrictive language in employment and confidentiality agreements. To do so is illegal, of course. No fancy language in the world can interfere with an employee’s right to communicate with the authorities. The SEC will strenuously protect that right. In 2015, for instance, the agency brought its first action (PDF: 154.88 KB) in such a case, fining KBR Inc. $130,000 for requiring witnesses in certain internal investigations to sign secrecy agreements barring the sharing of matters with outside parties without the prior approval of KBR’s legal department. The following year, the SEC went after BlueLinx Holdings (PDF: 223.83 KB) Inc. because its agreements outlining prohibited conduct by employees did not specifically exclude communications with government agencies.
While the SEC has made clear it will flex its muscle in taking on employers who silence whistleblowing, at some point the corporate community must take ownership of employees’ perceptions and misperceptions of appropriate conduct. A 2015 survey (PDF: 1.94 MB) of the financial services industry conducted by Labaton Sucharow and Notre Dame’s Mendoza College of Business found that 25 percent of professionals earning more than $500,000 annually have signed or have been asked to sign a confidentiality agreement barring the reporting of suspected misconduct to law enforcement. Consider the danger to those employees in a world post Digital Realty Trust, Inc. v. Somers, in which the Supreme Court ruled that Dodd-Frank’s anti-retaliation provisions can only be triggered after employees report to the SEC.
A Lesson in Physics
Can a butterfly flapping its wings in London cause a tornado on Wall Street weeks later? Sure can. According to the Butterfly Effect in chaos theory, one small change in a system can result in massive changes in the system down the road. This applies to the success of Dodd-Frank generally and its SEC whistleblower program in particular. The Act was never about creating an onerous and punishing regulatory burden for commercial institutions, rather, its goal was to create an ethical ecosystem in which investors, organizations, employees and the public-at-large might thrive. It has done so.
There is no doubt that crisis begets change; that one individual might feel emboldened to speak up and the course of an entire organization consequently can be corrected. We have seen this play out with Dodd-Frank emerging from the devastating effects of the 2008 financial crisis. In the #MeToo movement, one woman’s voice altered institutionalized sexual harassment and abuse in the workplace. And most recently, an act of unconscionable evil perpetrated by the police against a black man in Minnesota sparked a long overdue national movement to cease the endemic racism that has crippled the black community. There is no underestimating the power of one voice.
What Does the Future Hold?
The future of the whistleblower program rests not on the federal government, but on the integrity of corporations and financial institutions. Those that maintain strong ethics and compliance programs will detect and deter misconduct and, through voluntary self-reporting, secure favorable treatment from law enforcement. Research shows that in organizations with effective, values-based compliance programs, employee reporting of wrongdoing increases by 61 percent. These efforts also decrease retaliation by as much as 93 percent. The likelihood of retaliation against reporting employees is also lessened when employees believe that individuals at all levels of the organization will be held accountable if they violate organizational standards or the law.
Other concrete steps businesses can take include closely reviewing agreements and policies that bar—or even give the appearance of silencing—employees’ communications with law enforcement, including contracts that are already in place. Provide top-down messaging to meaningfully encourage the reporting and rooting out of misconduct. Clearly articulate reporting protocols and train managers on how to hear and act upon reports of wrongdoing. Employees at every level must feel safe conveying concerns without fear of marginalization and other forms of corrosive retaliation. When wrongdoing is suspected, investigate it swiftly. Most importantly, ensure that organizational leadership champions integrity along with profits.
Or, organizations can continue to protect fraudsters, shielding the bad actors over the ethical ones. This strategy will not work in the long run. As the SEC announces more and more awards to anonymous whistleblowers, and the global pandemic keeps employees in the safe confines of their homes, reporting will rise. In a recent keynote address, Steven Peikin, the Co-Director of the SEC’s Division of Enforcement noted that the SEC has received more than 4,000 tips between mid-March and mid-May 2020, a 35 percent increase over the same period last year. Remarkably, during this timeframe, the Commission has paid out more than $55 million to whistleblowers.
Over the last decade, has Dodd-Frank cured the pathology of corruption? Of course not. But in the words of Chris Dodd: “greed and recklessness will rear their heads again . . . . [W]hen that day comes, we have provided regulators with the tools they need to see it coming and put a stop to it in time.”
Jordan A. Thomas leads the SEC Whistleblower Representation practice at Labaton Sucharow. He previously served as an Assistant Director in the SEC’s Division of Enforcement.
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