SEC Cracks Down on Employer “Pretaliation”

September 15, 2016
Colleen E. Coveney

If you have an employment contract that includes a clause that impedes your ability to report potential securities violations to the U.S. Securities and Exchange Commission (“SEC”), you could have a “pretaliation” claim in which the SEC may be interested.

What is Pretaliation?

“Pretaliation” is a relatively new term that the SEC coined last year in its enforcement action against KBR, Inc., a Houston-based technology and engineering firm, to refer to employer conduct that impedes an employees’ right to report misconduct pursuant to Section 21F of the Securities and Exchange Act of 1934 (the “Exchange Act”).

Section 21F – which the Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank”) added to the Exchange Act in 2010 – establishes a whistleblower program that requires the SEC to pay an award, subject to certain limitations, to eligible whistleblowers who voluntarily provide the SEC with original information about a violation of federal securities law that leads to a successful enforcement action. Section 21F-2 prohibits an employer from retaliating against an employee who comes forward with original information, and Section 21F-17 prohibits an employer from taking “any action to impede an individual from communicating directly with the [SEC] staff about a possible securities law violation, including enforcing or threatening, a confidentiality agreement.”

Even though Section 21F retaliation claims – i.e., claims that an employer took adverse actions against an employee for reporting a securities violation to the SEC – have traditionally been the focus of the SEC, the SEC has made clear that pretaliation claims – i.e., claims that an employer attempted to prevent an employee from bringing information to the SEC – are equally as viable.

SEC Pretaliation Enforcement in Action

The SEC took its first pretaliation enforcement action last year against KBR, alleging that its confidentiality form pertaining to internal investigations violated Section 21F-17. Before and after the SEC enacted Section 21F-17, KBR required witnesses in internal investigations to sign a confidentiality statement prohibiting the witness, under threat of discipline, from discussing the particulars of interviews with anyone without prior authorization from the law department.

Although the SEC was unaware of any particular instance in which the confidentiality statement impeded a whistleblower from reporting information to the SEC, it nevertheless concluded that the confidentiality statement violated Rule 21F-17 because KBR’s confidentiality form, by its terms, quite obviously could prohibit an employee from communicating with the SEC about a possible securities law violation.

Since its action against KBR, the SEC has brought two additional pretaliation enforcement actions. Like the KBR action, the SEC’s most recent actions against BlueLinx Holdings, Inc. (“BlueLinx”) and Health Net, respectively, center on employment contract clauses that interfere with the employee’s right to participate in and/or benefit from Section 21F. Unlike the KBR action, however, these two recent actions do not relate to confidentiality provisions. Instead, the SEC alleged that BlueLinx and Health Net violated Section 21F by using severance agreements requiring outgoing employees to waive their right to monetary recovery if they filed a charge or complaint with the SEC. Even though the clauses only restricted the employee’s right to recover financial awards from their report to the SEC – and thus permitted employees from reporting information to the Commission – the SEC nevertheless alleged that the clauses violated 21F because the clauses directly targeted the SEC program by removing the critically important financial incentives that Congress recognized as vital to encouraging persons to communicate with the SEC about possible securities law violations.

On August 10 and 16, the SEC entered into consent agreements with BlueLinx and Health Net, respectively, under which BlueLinx agreed to pay a $265,000 penalty to the SEC and Health Net agreed to pay a $340,000 penalty.

Employees Must Remain Vigilant

Even though the jurisprudence around SEC pretaliation actions is still evolving, these three cases make clear that, at a minimum, employers cannot contractually interfere with an employee’s ability to report possible securities violations to the SEC. This includes confidentiality provisions that essentially gag employees from discussing possible securities violations with anyone outside the company’s legal department and severance agreements that limit an employee’s ability to recover financial awards under the SEC’s whistleblower program.

As the SEC’s latest enforcement actions demonstrate, the SEC interprets the prohibition against restricting an employee’s ability to provide information about a possible securities violation to the SEC Section 21F-17 quite broadly. Thus, as the law on this topic develops, employees should be vigilant of the prohibitions that their employer’s place on their ability to participate in the SEC’s whistleblower program and notify the SEC of any potentially concerning restrictions that they believe could give rise to a pretaliation claim.

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