September 30, 2012

KEEPING CURRENT: SEC Issues First Whistleblower Award

The SEC announced on August 21, 2012, that it will pay its first award under its whistleblower program, slightly more than a year after the rules governing the program went into effect. See Order Determining Whistleblower Award, SEC Rel. No. 67698 (Aug. 21, 2012); SEC Release 2012-162 (Aug. 21, 2012).

The whistleblower, who was not identified by the SEC at the whistleblower's request, will receive the maximum payout of 30 percent of all monies collected by the SEC in connection with the underlying action. The whistleblower will receive an immediate payment of $50,000 and could ultimately receive payments in excess of $300,000. The SEC also announced that a second whistleblower's request for an award in the same action was denied. See Order Determining Whistleblower Award, SEC Rel. No. 67699 (Aug. 21, 2012).

This is an important development because the SEC awarded the maximum amount possible under the program and because the SEC went to great lengths to protect the anonymity of the whistleblower. But the award is otherwise quite disappointing in that it contains no detail or discussion regarding the underlying circumstances of the violation, the whistleblower's role therein, and why the second applicant did not receive an award. Indeed, the award to the first whistleblower and the decision not to make an award to the second are set forth in two two-paragraph orders. The SEC did issue an accompanying press release, but that too was largely silent on the SEC's analysis and decision-making process, saying only that the whistleblower had provided significant assistance to the SEC enforcement staff. It may be that the underlying matter--which seems likely to have been some kind of Ponzi/investment fraud scheme--did not provide a suitable framework for a more robust discussion, but we hope that future awards will be more detailed, and will discuss the SEC's thinking and shed light on how the SEC is applying its significant discretion under the rules. One thing seems certain, however: this award--and the quite considerable lengths to which the SEC went to protect the identity of the whistleblower--will embolden more whistleblowers to report securities violations.

The Dodd-Frank Whistleblower Program

Dodd-Frank added the whistleblower provisions by amending the Securities Exchange Act of 1934 to add section 21F. Under section 21F, a whistleblower who voluntarily provides original information to the SEC that leads to a successful enforcement action resulting in monetary sanctions exceeding $1 million will be eligible for an award of 10-30 percent of the funds collected. The SEC's final rules, which became effective in August 2011, are very broad, and allow any natural person--regardless of whether he or she is an employee, a third party, or even a culpable participant in the wrongdoing--to qualify for an award. Qualifying whistleblowers are eligible to receive not only 10-30 percent of monetary sanctions from SEC actions, but 10-30 percent of sanctions obtained in related actions brought by the Department of Justice and other agencies. The rules define sanctions broadly to include penalties, prejudgment interest, and disgorgement. The rules give the SEC significant discretion in administering the program, such as in determining the amount of the award and whether to permit companies to self-investigate the conduct before launching an investigation.

Award Provides Maximum Payout

The most notable aspect of the award is that it represents the maximum possible payout: 30 percent of the sanctions collected to date. Although the immediate payment to the whistleblower was less than $50,000--30 percent of approximately $150,000 collected by the SEC to date--the amounts the whistleblower could ultimately collect are significantly higher. The SEC's press release indicated that more than $1 million in sanctions have been ordered by the court in the action, meaning the whistleblower could ultimately receive an award of $300,000 or more. Further, the SEC's press release stated that the court is considering whether to issue a final judgment against other defendants in the action, which could additionally increase the amount of monies collected by the whistleblower.

Great Lengths Taken to Protect Anonymity

Under Dodd-Frank, the SEC must respect a whistleblower's request to remain anonymous and, in this case, the SEC amply complied with this mandate. The SEC did not provide any identifying details of the whistleblower, such as his or her relationship with the defendants, profession, or even gender, noting that "[Dodd-Frank] specifies that the SEC cannot disclose any information, including information the whistleblower provided to the SEC, which could reasonably be expected to directly or indirectly reveal a whistleblower's identity." But the SEC went even further and declined to identify the underlying case or any details of the matter, stating only that it involved a "multi-million dollar fraud" and multiple defendants. It remains unclear whether this vagueness was a function of the whistleblower's request for anonymity or whether this is a trend the SEC will follow as a matter of course in future awards.

SEC Provides Little Guidance

The most striking aspect of the award is that it and the accompanying press release provide little insight into the SEC's thinking, and says nothing about the SEC's reasoning for providing the award or determining the parameters of the award. This may be because the underlying action seems likely to have been a "garden-variety" type fraud--such as a Ponzi scheme or penny stock operation--that did not provide an ideal framework for fleshing out the nuances of the program. For example, such cases would likely not involve issues such as internal reporting or permitting the company to self-investigate.

Nevertheless, it would seem that the case must have involved some facts and factors that would be applicable to future cases and awards and that could illustrate how the SEC will handle whistleblower awards going forward. For example, the rules give the SEC significant discretion in terms of deciding how much to award, ranging from 10-30 percent, and enumerate several factors that "may" increase or decrease the award. In issuing the award, the SEC stuck to the text of the statute and its own rules, and only stated generally that the whistleblower provided "documents and significant information" permitting an "accelerated" investigation. The SEC provided no elaboration regarding the quality or timeliness of the information provided, and did not disclose if any of the enumerated factors beyond "significant information" had increased the award. In addition to passing up the opportunity to explain its reasoning for awarding the maximum payout, the SEC declined to provide basic details that could have shed light on how the SEC handles whistleblower tips. For instance, the SEC did not disclose whether the whistleblower's tip sparked the investigation, the length of the investigation, whether the alleged fraud involved a company or an individual, the whistleblower's relationship to the defendants, and whether the whistleblower was culpable.

Similarly, beyond stating that it denied the second claimant's request for an award on the grounds that the information provided "did not lead to or significantly contribute" to the action, the SEC did not elaborate on the amount or type of information the individual provided, whether this individual reported after the successful claimant, or other information that would provide guidance to a prospective whistleblower considering whether his or her claim might be successful.

What This Award Means

The SEC reported that it is currently receiving eight tips per day. The SEC's first award provides little insight into the whistleblower program, but does signal that it is willing to pay the maximum award and that it will respect the anonymity of whistleblowers. We can expect these pronouncements to fuel additional tips, as whistleblowers are reassured that they will not be identified and that the payout can be meaningful. But the SEC has touted the transparency of its whistleblower program, and we hope that future awards will be more detailed and shed light on the factors at play and how the SEC is applying and will apply its significant discretion under the rules. In the meantime, companies should remain vigilant in encouraging internal reporting and diligently investigating all potential wrongdoing.