Supreme Court Extends Sarbanes-Oxley Protections to Non-Public Company Contractors

The Supreme Court formally extended the whistleblower protections of the Sarbanes-Oxley Act of 2002, determining that whistleblowing employees of contractors performing work for public companies are covered by the Act's provisions against employment retaliation.

You may recall that Sarbanes-Oxley ("SOX") was enacted by Congress following the widespread malfeasance by executives of the Enron Corporation, as well as their accounting and legal service providers. The statute was enacted to control conduct of accountants, auditors, and attorneys who work with public companies. It contains fairly elaborate provisions to protect whistleblowers, who might face employer retaliation for reporting corporate misconduct such as mail or wire fraud, bank fraud or securities or commodities fraud or fraud affecting stock prices. The language relating to whistleblower protection specifically states that it applies to public companies, or officers, employees, contractors, subcontractors or agents of such companies. The question before the Court in this case was whether the statute shielded "only those employed by the public company itself" or employees of privately held contractors and subcontractors-such as investment advisors, law firms, or accounting enterprises-performing work for the public company.

This particular case involved contract employees who were performing services for mutual funds, which the Court noted typically have no actual employees. That was true in this case; the plaintiffs were hired by the defendant contractor under a contract between the defendant and the mutual fund and serving as portfolio managers for the various fund entities. After reporting what they believed was improper accounting or costing methods relating to management of the funds, the plaintiffs were terminated.  They filed administrative complaints under SOX, and then proceeded into federal court. A federal district judge initially denied the employer's motion to dismiss, but on appeal, the First Circuit granted the motion, finding that the SOX anti-retaliation provision was restricted to employees of public companies, and not third-party contractor employees.

The Supreme Court reversed, determining that the plain language of the statute indicated that it was to apply to the employees of contractors performing services for public companies. In its decision, the Court said that such an interpretation was consistent with the purpose of the statute, i.e., helping ferret out potential fraud in public company financial operation.

In an interesting side discussion, the Court noted the contractor's defense that the original statutory language was focused only on situations where a public company hires a contractor to effectuate terminations, something referred to as an "ax wielding specialist", and portrayed by actor George Clooney in the movie Up in the Air. The Court said that the history of SOX indicated that retaliatory axe-wielding specialists were not the real world problem that prompted Congress to add contractors to the statute.

Corporate lumberjacking aside, this decision potentially breaks a lot of new ground. Although, as noted by the majority, the Department of Labor already takes the position that contractors of public entities are covered by the whistleblower protections of SOX, the majority expands the scope of the coverage even further. Virtually all employees of private businesses that do business with a public company can now avail themselves of SOX protection.  And public company employees who hire other people to work for them (think babysitters and gardeners) theoretically extend SOX protection to those personal hires, as well.  The majority noted that these concerns were more theoretical than real, but employers should note that this decision now allows virtually anyone to trigger the highly invasive and expensive SOX charge investigative procedure.  So private employers must now put in place at least some of the mechanisms used by public companies to ensure compliance with SOX requirements.  Typically this takes the form of internal policies to identify potential retaliation issues and outside management of complaints that might trigger a SOX investigation.  Some of this should already be in place; virtually all employers must be aware that any type of retaliatory-like discharge opens up the potential for litigation, either under federal law, or under a variety state wrongful discharge claims. But the Court's decision broadens the range of employers who have to to examine carefully the bases for any termination decision, especially where the employee has raised a concern about the business activities of the employer in servicing the employer's customers.

Some White Collar Concerns, And I Don't Mean Laundry

In a corporate compliance world, companies need to be constantly on the lookout for business practices undertaken by their employees that could expose the company to significant liability, even (or especially) where the company management is unaware of these activities.  A couple of recent cases drive this point home.

The Fifth Circuit held that a corporate entity could be gouged for the unauthorized kickback activity of its employees under the provisions of Anti-Kickback Act.  In this particular case, employers of the federal contractor were accepting meals, drinks and recreational activities from subcontractors in exchange for providing the subcontractors with, well, subcontracts.  Two employees brought a qui tam suit for the alleged kickbacks and the USDOJ intervened, filing its own complaint under the kickback statute.  The Fifth Circuit determined that the Anti-Kickback Act not only allowed recovery from a “person” , but that the term “person” was broadly enough defined to include corporations and other business entities.  The Court then held that the acts of the corporation’s agents and employees could be imputed of the corporation under a theory of vicarious liability.

This is a a new holding and a scary one.  Employers must assure that their employees are aware of the anti-bribery and anti-kickback statutes.  Moreover, companies should be taking steps to periodically monitor the conduct of their employees to insure problems (in this case routine acceptance of gifts), or even the opportunity for problems, is not arising.

Along these same lines, publicly held companies should be aware of the differing standards of liability that arise out of the Sarbanes-Oxley and the Dodd-Frank Acts.  Both statutes protect whistle blowers, i.e, employees who raise concerns about potential SEC violations with their employers and then suffer some type of adverse employment action.  Here is the key difference – Dodd-Frank requires a report by the employee not only to the employer, but to the SEC as well.  Sarbanes-Oxley only requires a report to the employer (although other Sarbanes-Oxley provisions are not quite as employee friendly as Dodd-Frank).  There is a good discussion in this recent Fifth Circuit case.

An employee who makes an internal complaint regarding the company’s securities practices should set off a red flag in any event, but be aware that Dodd-Frank liability only attaches under one set of circumstances, versus the easier reporting requirements of Sarbanes-Oxley .  There are differences in how you respond to each one.