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Sarbanes-Oxley Whistleblowers: Experts Only, Please

Published in The National Law Journal

Katz, Marshall & Banks partners Lisa J. Banks and Debra S. Katz published an article in The National Law Journal entitled “Experts Only, Please.” The article, published on February 18, 2008, discussed the Fifth Circuit Court of Appeals decision in Allen v. Administrative Review Board, which undermined the ability of employees to comfortably come forward and complain about suspected corporate malfeasance.  The full-text of the article is available below.


by Debra S. Katz and Justine F. Andronici1
Special to The National Law Journal

The 5th U.S. Circuit Court of Appeals’ recent decision in Allen v. Administrative Review Board, No. 06-60849, 2008 WL 171588 (5th Cir. Jan. 22, 2008), constitutes a dramatic departure from the purpose of the whistleblower law under Section 806 of the Sarbanes Oxley Act of 2002, 18 U.S.C. 1514A. The Allen court offered a cramped and narrow view of the law that undermines the ability of employees to comfortably come forward and complain about suspected corporate malfeasance. In essence, the decision requires employees to become experts in securities law before making complaints.

The decision contravenes the broad remedial purpose of the act’s whistleblower provision, an important law passed by Congress as part of an overall attempt to curb serious corporate fraud and abuse in the wake of the Enron, MCI and other major corporate scandals. In hopes of creating a climate where employees felt comfortable addressing issues of corporate fraud and abuse, Congress included a provision designed to maximize the protection for whistleblowers. The Allen decision severely undercuts this purpose.

Allen concerned three employees serving as “Quality Assurance Representatives” of a large publicly traded funeral home and cemetery business who made internal complaints about a series of alleged accounting improprieties including faulty interest calculations; potentially illegal delays in the processing of customer refunds and payoffs that they believed could expose the company to liability; and inaccurate internal financial statements. The plaintiffs alleged that, following their complaints to various company officials, they were subjected to a series of retaliatory actions ending in termination.

The Allen court held that one of the employee’s complaints did not constitute protected activity under the statute because it did not “definitively and specifically relate” to a particular Securities and Exchange Commission (SEC) rule. The court stated, “an employee’s complaint must ‘definitively and specifically relate’ to one of the six enumerated categories found in § 1514A: (1) 18 U.S.C. § 1341 (mail fraud); (2) 18 U.S.C. § 1343 (wire fraud); (3) 18 U.S.C. § 1344 (bank fraud); (4) 18 U.S.C. § 1348 (securities fraud); (5) any rule or regulation of the SEC; or (6) any provision of federal law relating to fraud against shareholders.”

The court reached this conclusion notwithstanding the fact the plain language of the statute requires no such “definitive or specific” relationship. Furthermore, the employee in question, a certified public accountant, complained not only that the company was overstating gross profits but that it was not in compliance with a particular SEC Staff Accounting Bulletin, SAB-101, issued to offer guidance on proper accounting practices for SEC reporting. The court found that, although the company’s failure to comply with SEC guidance on proper accounting practices may have caused the employee to suspect that the company was not compliant in its SEC filings, her complaints did not constitute protected activity. This interpretation of the law fundamentally undermines the purpose of whistleblower protections, to provide employees protection when they point out potentially fraudulent practices.

Other decisions have squarely rejected the cramped view of the law presented in Allen. See Smith v. Corning Inc., 496 F. Supp. 2d 244 (W.D.N.Y. 2007) (disclosing a violation of generally accepted accounting principles or deficient internal controls can constitute protected activity); Mahoney v. KeySpan Corp., No. 04 CV 554, 2007 WL 805813 (E.D.N.Y. March 12, 2007). Unfortunately, the 5th Circuit is following another line of cases that drives employees out from the umbrella of Sarbanes-Oxley protection. See, e.g., Welch v. Cardinal Bankshares Corp., ARB No. 05-064, ALJ No. 2003-SOX-15 (ARB May 31, 2007). Allen leaves little room for the type of positive proactive employee conduct the act sought to encourage and protect.

Undermining the act’s purpose

While it is not the first to narrowly construe the scope of protected activity under Sarbanes-Oxley, the Allen decision serves to significantly narrow and undermine the general purpose of the statute because it is the first circuit court opinion to place such a tremendous burden on the retaliated-against employee. The 5th Circuit requirement that the complaint definitively and specifically relate to one of the enumerated categories in the statute, and then in turn, that complainants articulate their complaints with specificity, in effect, requires complainants to become experts in securities law, including experts on the specific categories of activity protected under the act, and to articulate their complaints in legally precise terms, before they can comfortably and safely assert complaints against their employer for what they believe is fraudulent activity.

Sarbanes-Oxley was passed to encourage employees to come forward with complaints about fraud, or potential violations of securities fraud, not to set such a high standard for protection that employees may actually be deterred from reporting suspected fraud and abuse or fired with impunity when they do.

1  Debra S. Katz is a partner at Washington-based Katz, Marshall & Bank, an employment and whistleblower firm. She specializes in Sarbanes-Oxley claims. Justine F. Andronici is a senior associate at the firm.