David Marshall Interviewed on SEC's Employer-Imposed Waiver Ban

Law360’s Carmen Germaine interviewed Katz, Marshall and Banks partner David Marshall for an article for Law360 on August 11, 2016, entitled, “SEC Shows No Patience For Muzzling Whistleblowers.” The article discussed the SEC's recent settlement with an Atlanta-based construction products distributor called BlueLinx Holdings, Inc. The Commission sanctioned the company $265,000 for requiring departing employees to sign severance agreements waiving their rights to receive whistleblower awards for reporting securities violations to the SEC. Mr. Marshall noted, "This enforcement action is a warning shot to the financial services industry that these agreements must change because they deter whistleblowers from speaking up." Read the full article below.

SEC Shows No Patience For Muzzling Whistleblowers

The U.S. Securities and Exchange Commission on Wednesday took aim at severance agreements that prevent whistleblowers from collecting cash for their tips, making clear that the agency has no patience for impeding whistleblowing in any form and suggesting it may impose even broader requirements on employers that step out of line.

The SEC's settlement with Atlanta-based construction product distributor BlueLinx Holdings Inc. marks the third time the agency has brought charges that a company's employment or severance agreements illegally discouraged employees from becoming whistleblowers, and experts said the SEC's continuing focus on the area means employers need to pay serious attention to their own agreements.

The agency extracted a hefty $265,000 penalty from BlueLinx over allegations that the company's severance agreements violated securities laws because they required employees to waive the right to receiving an award for information and to provide notice if they spoke with a government agency. Those requirements ran afoul of the SEC's Rule 21F-17, which prohibits impeding any individual's communication with agency staff regarding securities law violations, the settlement order said.

"This enforcement action is a warning shot to the financial services industry that these agreements must change because they deter whistleblowers from speaking up," said Jordan A. Thomas, the chair of Labaton Sucharow LLP's whistleblower representation practice.

Experts noted that this is the third time the SEC has fined companies for restricting employees' ability to provide information to the agency.

In April 2015, the agency brought its first-ever action over improperly restrictive language in employment agreements, extracting a $130,000 fine from technology and engineering firm KBR Inc. over confidentiality agreements that warned employees could face discipline or be fired for discussing internal investigations with outside parties without approval from KBR’s legal department.

At the time, the SEC said that such blanket provisions in confidentiality agreements have a "potential chilling effect" on any would-be whistleblowers, even if the provisions aren't enforced.

More recently, a June settlement agreement requiring Merrill Lynch Pierce Fenner & Smith Inc. to pay $415 million for allegedly misusing customer cash that should have been held in a reserve account included claims Merrill Lynch violated Rule 21F-17 because its severance agreements prohibited former employees from disclosing confidential information.

Although the agreements allowed former employees to disclose confidential information if ordered to by a court or agency, Merrill Lynch didn't include a carveout allowing individuals to voluntarily give confidential information to government agencies, something the SEC said impeded communications with its staff.

Notably, in each case the agency appears to have been tipped off about the restrictive agreements by a whistleblower. Attorneys for KBR qui tam relator Harry Barko, who had claimed the company violated the False Claims Act, sent a letter to the SEC and the U.S. Department of Justice in February 2014 asking the agencies to investigate KBR's confidentiality pacts.

Thomas, who represented a group of Bank of America executives who tipped the SEC about Merrill Lynch’s customer protection rule violations, said the agency started looking at the firm’s employment agreements in the process of investigating the tips.

"I can tell you with 100 percent certainty that they [the SEC] are paying attention to this. They're looking for this in their cases," Thomas said. "They are looking for these cases and asking for these agreements."

And Kenneth Gage, the chair of Paul Hastings LLP's workplace retaliation and whistleblower defense practice, noted that BlueLinx had already been sued by a former whistleblower claiming the company retaliated against him for reporting alleged accounting violations to the SEC and the Public Company Accounting Oversight Board.

Gage said that it was unlikely the SEC is actively pursuing investigations solely on agreements that violate 21F-17. But he agreed the latest action against BlueLinx is yet another sign that the agency is scrutinizing these agreements as part of its other investigations, and employers should pay close attention.

"It's just another reminder that the SEC is going to be vigilant, as it said it would, in enforcing 21F-17 and going after employers that have language in confidentiality agreements, severance agreements, et cetera, that discourage people from becoming whistleblowers," Gage said.

Steven J. Pearlman, co-head of Proskauer Rose LLP's whistleblowing and retaliation group, said that employers will likely take another "very hard look" at their settlement and severance agreements to make sure nothing can be construed as impeding employees' contact with government agencies.

"I think that this is really going to catch the attention of employers," Pearlman said.

Attorneys who represent whistleblowers said that the latest enforcement action is particularly important because it makes clear for the first time that employers can't prohibit their employees from accepting an award for providing information to the SEC.

"It sends a very strong statement to employers nationwide that are under the jurisdiction of the SEC that this type of thing will not be tolerated," said David J. Marshall, a founding partner of whistleblower firm Katz Marshall & Banks LLP.

Because most employees first report violations to their employers, Marshall said, they know that their employer will suspect them — and potentially fire them — if they take their information to the SEC, and may not have the courage to come forward with information unless they know they can make up for lost wages with a whistleblower award.

Bars on monetary awards for whistleblower tips are even more egregious, Marshall argued, because employers don't have any stake in the award itself. Although employees can earn 10 to 30 percent of the penalty the SEC ultimately obtains, that money comes from a common fund, not the employer.

"The only reason that employers like BlueLinx have for having a provision like this in their severance agreements is to interfere with the purpose of the SEC whistleblower program," Marshall said.

Thomas said that most companies have changed their employment agreements to remove clauses requiring employees to provide notice before going to a government agency or to make clear that employees can provide confidential company information to regulators, but that many agreements still require employees to waive their right to an award.

"Corporate America has made significant changes in becoming more compliant with Dodd-Frank in all of their agreements — separation agreements, severance agreements — but they've been dragging their feet on implementing the provision regarding not discouraging people by asking them to waive any monetary award,” Thomas said.

Gage said, however, that in some cases, it might be a relatively honest mistake, and one that companies need to look out for.

He noted that BlueLinx added the award waiver in 2013 when it updated its severance agreement, apparently in an attempt to bring it into compliance with Rule 21F-17, in a clause saying that the agreement would not prevent former employees from filing charges with the SEC, the U.S. Equal Employment Opportunity Commission, the National Labor Relations Board and the Occupational Safety and Health Administration.

While Wednesday's order makes clear employers can't prevent employees from collecting SEC awards, they are legally allowed to prohibit employees from recovering anything in an EEOC action after signing severance agreements that include a settlement payment.

"[BlueLinx] just added the Securities and Exchange Commission into that sentence after the EEOC, and I think they didn't pay attention to the fact that then that paragraph is also saying to the reader that if you file some complaint with the EEOC, you're contractually giving up your right to recover something," Gage explained.

To remedy the issue, BlueLinx agreed to update its severance agreements with a paragraph explaining employees have the right to communicate with government agencies, and that the "agreement does not limit employee’s right to receive an award for information provided to any government agencies."

But that language stuck out to some whistleblower defense attorneys.

"I think that this language that they've included goes beyond the section of Dodd-Frank that the SEC's order is relying on," Pearlman said.

Several other government agencies offer incentives to whistleblowers, including the DOJ, the U.S. Commodity Futures Trading Commission and the Internal Revenue Service, but Rule 21F-17 only covers communications with SEC staff.

"I think this does go a little bit too far," Gage said.

More concerning to some is the provision's effect on EEOC judgments. Orrick Herrington & Sutcliffe LLP sent a whistleblower alert saying the sentence "goes beyond applicable legal requirements with respect to the EEOC," suggesting companies should carefully consider whether to adopt such broad language.

Marshall disagreed, saying EEOC recoveries likely wouldn't be included because the EEOC takes action against companies directly on behalf of employees, and so doesn't provide awards for the receipt of information in the same way that the SEC does.

"It could be argued that the SEC here, using the threat of further action against the company, has required the company to go beyond what's in the SEC's jurisdiction," Marshall acknowledged.

But he added that he wouldn't agree with that view, and argued the issue isn't particularly important because, in this case, BlueLinx voluntarily agreed to include the language.

All the same, Pearlman said that even in the context of a settlement, employers take the SEC "extremely seriously" and will be thinking hard about their own employment agreements.

"When they see these sorts of settlements or any orders, they really wonder how do they keep the SEC at bay, and do they need to include this type of information," Pearlman said.

A representative for BlueLinx did not respond on Wednesday to a request for comment.

The SEC’s investigation was conducted by Tara Kelly and V.V. Cooke.

BlueLinx is represented by Jessica Corley of Alston & Bird LLP.

The case is In the Matter of BlueLinx Holdings Inc., case number 3-17371, before the U.S. Securities and Exchange Commission.

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