The Securities and Exchange Commission’s whistleblower program continues to be a remarkable tool for combating securities fraud in the United States and strengthening capital markets.
As indicated in its 2017 Annual Report to Congress, the SEC awarded almost $50 million in fiscal year 2017 to 12 whistleblowers, who had provided valuable information to the SEC that significantly contributed to the success of the Commission’s enforcement actions and related actions against wrongdoers.
In fact, in fiscal year 2017, the SEC ordered three of the 10 largest awards granted since the initiation of the whistleblower program in August 2011. In November 2016, the SEC awarded more than $20 million, the third-largest award ever made, to an individual who timely provided a tip, which allowed the SEC to initiate a successful enforcement action against wrongdoers that led to a near total recovery of investors’ funds.
Following the November 2016 award, the commission announced on Jan. 23, 2017 an award of more than $7 million to three individuals who assisted the SEC in ending a fraud investment scheme affecting hundreds of investors. Also, in January 2017, the commission granted an award of over $5.5 million to a company insider whose original and valuable tip helped the SEC end another securities fraud.
Since the program’s inception through the end of fiscal year 2017, the SEC has awarded nearly $160 million to 46 whistleblowers whose tips helped the commission or other enforcement agencies bring successful enforcement actions that led to over $975 million in total monetary sanctions, most of which have been or will be returned to defrauded investors.
In addition, after the fiscal year 2017 ended and through Dec. 5, 2017, the commission issued four more awards, one of which was for $4.1 million to a foreign national working outside the United States. Considering these last four awards, the SEC has now rewarded 50 whistleblowers with more than $179 million since the Dodd-Frank Whistleblower Program’s inception.
Established in July 2010 by the Dodd-Frank Wall Street Reform and Consumer Protection Act, the SEC whistleblower program relies on three fundamental features: monetary awards, protection from employer retaliation, and safeguards to protect the identity of the whistleblower.
Under the program, which is administered by the commission’s Office of the Whistleblower, the SEC is directed to issue monetary awards to eligible individuals who, following the procedures in the SEC final rules, voluntarily supplied the commission with original information about a federal securities law violation that leads to a successful SEC enforcement action (and/or related action) resulting in a final judgment or order of monetary sanction over $1 million.
To be eligible for an award, the whistleblower must be an individual, and two or more individuals can jointly submit a tip. In addition, it’s not necessary for an individual to be an employee of the company about which the individual is reporting the tip. Company outsiders may also be whistleblowers.
While the SEC has discretion to determine the amount of the award, the SEC may not make awards of less than 10 percent or more than 30 percent of the monetary sanctions imposed on the wrongdoers. Awards are not paid unless sanctions are collected.
Factors that the SEC will consider to increase the award percentage within the legal interval include the importance of the information provided by the whistleblower, the degree of assistance supplied by the whistleblower, the commission’s law enforcement priorities, and whether the whistleblower reported the possible federal securities law violation through the company’s internal compliance system.
Factors that the SEC will consider to reduce the award percentage within the legal range include the whistleblower’s culpability in relation to the federal securities law violation that he reported, the informant’s unjustifiable delay in reporting the illegal act to the commission, and the whistleblower’s interference with his company’s internal compliance system to preclude or postpone the detection of the reported securities violation.
The Dodd-Frank Act established a segregated fund termed the Investor Protection Fund from which awards are paid to whistleblowers so the awards paid are not taken from the recoveries for victims of securities fraud. The fund’s balance as of Sept. 30, 2017, the fiscal year end, was approximately $321.7 million.
Classes of law violations that can be reported under the SEC Whistleblower Program
Since the program’s implementation in August 2011 through September 30, 2017, the SEC has received 22,818 tips, of which 4,484 were received in fiscal year 2017 alone, representing the highest amount ever and an increase of 6.3% over fiscal year 2016.
The violations of federal securities laws that can trigger an award include fraudulent financial statements of public companies whose securities are traded in U.S. capital markets, deceitful offering materials, Ponzi schemes, the sale of unregistered stock to the public, securities manipulation, insider trading, and trading and pricing violations among others.
In addition, the Dodd-Frank Whistleblower Program extends to the reporting of violations of the Foreign Corrupt Practices Act. Common violations of the FCPA include bribes paid to foreign government officials by U.S. companies (public and private) and foreign companies that have securities registered in the United States, including their subsidiaries. Violations of the FCPA also encompass inaccurate books and records and a deficient system of internal accounting controls in companies with securities listed in the U.S. stock exchanges and their subsidiaries that may facilitate the payment and concealment of bribes.
For fiscal year 2017, excluding the “Other” category, the most common types of violations reported were:
a) Corporate Disclosure and Financials (19.0 percent). This category includes corporate governance violations, executive compensation violations, failure to notify shareholders of corporate events, false financial statements, false offering documents, failure to file reports with the SEC, etc.;
b) Offering fraud, including Ponzi schemes (18.0 percent);
c) Manipulation of securities/prices (12.0 percent);
d) Trading and pricing violations, including late trading and inaccurate quotes (6.0%);
e) Insider trading (5.2 percent); and
f) FCPA violations (4.7 percent).
Where are the tips coming from?
In fiscal year 2017, the SEC received tips from 4,652 individuals, of which 68.4 percent were from the United States, 12.2 percent were from a foreign country, and 19.3 percent did not specify a country. Under the Dodd-Frank Whistleblower Program, two or more individuals can jointly submit a tip. This explains why the number of individuals submitting a tip in fiscal year 2017 (4,652) exceeded the number of tips received (4,484).
Of the 3,184 individuals in the United States who reported tips to SEC in fiscal year 2017, 15.7 percent were located in California, 13.8 percent in New York, 7.9 percent in Texas, 7.2 percent in Florida, and 5.5 percent in New Jersey.
The SEC whistleblower program is not restricted to United States citizens and residents, but extends also to foreign individuals living abroad. In fact, in September 2014, the SEC awarded more than $30 million, the largest award ever made by the SEC to date, to a foreign national living outside the United States who supplied original information related to an ongoing fraud.
Since the program’s inception through Sep. 30, 2017, the SEC has received tips from 2,661 individuals living in 114 foreign countries. In fiscal year 2017 alone, the SEC received tips from 568 whistleblowers in 72 foreign countries, including United Kingdom (14.8 percent), Canada (12.9 percent), Australia (8.5 percent), China (6.9 percent), Mexico and Russia (each representing 4.6 percent of the total foreign whistleblowers).
An intriguing case is Chile whose economy and population are just a fraction of Germany’s and India’s, but where the number of whistleblowers reporting tips to the SEC in fiscal year 2017 represented 3.7 percent of the total foreign whistleblowers, exceeding both Germany (3.3 percent) and India (2.5 percent).
What are the common characteristics of award recipients?
The SEC reported that whistleblowers who have received awards since the beginning of the program through Sept. 30, 2017, share certain common characteristics. First, the tips supplied were specific, credible and timely. For instance, successful whistleblowers identified the names of the individuals involved in the fraud, provided documents that proved the allegations or indicated where these documents could be found, and/or described the specific fraudulent transactions. The award recipients’ tips reported illegal acts that were recent or ongoing at the time they were informed to the SEC. Also, 96 percent of award recipients provided the SEC additional help and/or information after their initial submission.
Second, 66 percent of successful whistleblowers supplied original information that caused the Commission to open an investigation, while the remaining 34 percent provided original information that significantly assisted with an investigation that was already open. Thus, when the SEC denies an award to a whistleblower for non-procedural reasons, it is frequently because the whistleblower’s tip neither causes the SEC to open an investigation, nor significantly contributes to an existing investigation.
Third, 55 percent of award recipients were current or former employees (including compliance officers and internal auditors) of the company committing the illegal act, while 7 percent were other company insiders. The remaining 38 percent were either investors who were harmed by the fraud, professionals working in the same or related business, or people who had a personal relationship with one of the defendants.
Fourth, approximately 54 percent of award recipients were represented by counsel when they initially filed their tips and 19 percent filed anonymously. Whistleblowers do no need an attorney to represent them when they submit their tips to the SEC unless they opt do so anonymously.
Fifth, 28 percent of the defendants in enforcement actions that resulted in whistleblower awards were registered entities including broker-dealers and investment advisers, while 47 percent of the defendants were individuals and the remaining 25 percent unregistered companies.
Sixth, the types of securities law violations reported by award recipients include misrepresentation/omission violations (28 percent), corporate/issuer disclosure violations including false statements in a company’s offering memoranda, FCPA violations, accounting and internal control violations (22 percent), offering frauds, such as Ponzi schemes, (22 percent), trading violations, including insider trading, (11 percent), sales and advisory practices violations (8 percent), and other violations (9 percent).
Finally, almost 20 percent of the award recipients were foreign nationals or resided in a foreign country at the time they filed their tips with the SEC.
Protecting employees’ rights to report to the SEC and enforcing the anti-retaliation protection
During fiscal year 2017, the SEC brought four enforcement actions against companies that used severance and separation agreements that required employees to waive potential whistleblower awards, or otherwise barred employees from communicating with the commission, in exchange for receiving severance payments and other post-employment benefits.
Under the SEC’s Whistleblower Program Final Rules, no person may take any action to prevent an individual from communicating directly with the SEC about a possible securities law violation, including enforcing, or threating to enforce, a confidentiality agreement with respect to such communication.
In January 2017, the SEC announced that a Seattle-based financial services company settled charges brought by the commission for conducting inappropriate hedge accounting and interfering with potential whistleblower employees. According to the SEC, the company tried to uncover the identity of a presumed whistleblower who reported the accounting violation to the SEC by taking actions that included asking employees to assert that they were not the whistleblower.
The company also entered into severance agreements with former employees that required them to renounce potential whistleblower awards as a condition for receiving severance payments and other post-employment benefits. As part of the settlement with the SEC, the company agreed to the payment of a $500,000 civil penalty and to notify former employees who had executed the severance agreements that they were not prohibited from communicating with the SEC or from seeking a whistleblower award from it.
The Dodd-Frank Act makes it illegal for companies to retaliate against their employees for reporting to the commission the employer’s possible violation of federal securities laws. Accordingly, employers may not suspend, demote, discharge, harass, threaten or discriminate against their whistleblower employees for reporting the employer’s misconduct to the SEC when the employee’s report was based on his reasonable belief that the employer violated federal securities laws.
Individuals who are subject to such retaliation have the right to pursue a private action against their employer in the appropriate United States federal district court. Furthermore, the commission may bring an anti-retaliation enforcement action against a company even when its whistleblower employee does not pursue a private action, or qualifies for an award.
During fiscal year 2017, after an enforcement action brought by the SEC, an Oklahoma-based oil and gas company settled charges that it illegally terminated a whistleblower employee in retaliation for reporting his concerns to company management about how the company computed its oil and gas reserves. The company also agreed to settle charges that it had entered into severance agreements with more than 500 former employees that prohibited terminated employees from voluntarily cooperating with any governmental agency investigation or disclosing information that could harm the company. As part of the settlement, the company agreed to pay a penalty of $1.4 million.
When a company retaliates against whistleblower employees, it is violating the Dodd-Frank Whistleblower Program anti-retaliation protection established by the Dodd-Frank Act. Since the employer’s actions constitute a violation of a federal securities law, employees who are victims of such retaliatory actions may report them to the SEC and claim an award if the commission’s monetary sanctions against the company exceed $1 million. In April 2015, the SEC announced an award of 30 percent of the monetary sanctions imposed on an investment advisory company, after the firm retaliated against its head trader because he had previously tipped the commission about the company’s prohibited principal transactions. The whistleblower employee in this anti-retaliation case was awarded over $600,000 for supplying original information that led to the success of the commission enforcement action.
Federal Courts of Appeals are split on whether the anti-retaliation protection of the Dodd-Frank Whistleblower Program covers employees who inform about possible federal securities law violations through their employer’s internal compliance system without also reporting directly to the commission. The U.S. Court of Appeals for the Second and Ninth Circuits agree with the SEC interpretative guidance, which indicates that employees are protected from employer retaliatory actions if they internally disclose the potential securities violations regardless of whether they have separately reported this information to the SEC. Conversely, the U.S. Court of Appeals for the Fifth Circuit has stated that the program’s anti-retaliation protection extends only to those employees who report federal securities law violations directly to the SEC.
In June 2017, the United States Supreme Court granted certiorari in the case decided by the Court of Appeals for the Ninth Circuit to address the scope of the anti-retaliation protection of the Dodd-Frank Whistleblower Program. In October 2017, the United States Solicitor General filed an amicus curiae brief with the Supreme Court in support of the whistleblower-respondent and the unrestricted anti-retaliation protection stated in the SEC interpretative guidance.
Based on case law, it is noteworthy to clarify that the whistleblower anti-retaliation provision of the Dodd-Frank Act does not apply extraterritorially. Following an August 2014 United States Court of Appeals Second Circuit decision in Liu Meng-Lin v. Siemens AG, foreign whistleblower employees are not protected by the anti-retaliation provision of the Dodd-Frank Act when they are employed abroad by a foreign company where all events related to their disclosures occurred outside the United States.
The increasing significance of the program
The information and assistance provided by 46 whistleblowers who received approximately $160 million in awards since the program was implemented in August 2011 through September 30, 2017, led to successful SEC enforcement actions that resulted in monetary sanctions of over $975 million. And after taking into account the latest SEC announcement made on Dec. 5, 2017, the commission has now awarded more than $179 million to 50 whistleblowers.
The SEC whistleblower program encourages individuals, both U.S. citizens and residents and foreign nationals worldwide, to report to the commission violations of federal securities laws and the Foreign Corrupt Practices Act. The program’s success is based on the possibility of significant monetary awards, its anti-retaliation protection, and the confidentiality of the whistleblower’s identity.
The Office of the Whistleblower currently is tracking more than 700 matters originating from whistleblowers’ tips, many of which will result in SEC enforcement actions that will protect investors against securities fraud and strengthen the United States capital markets.