Whistleblower Award Update

There was not much activity from the SEC Office of the Whistleblower (OWB) in the months since it announced the highest whistleblower award to date in September 2014, but that changed in February when it issued a number of denials. The following is a summary of what’s happened since our last whistleblower award update:

Awards:

In the Matter of the Claim for Award, Exchange Act Rel. No. 72947. On August 29, 2014, the SEC issued its first award under the Dodd-Frank Act to an employee who performed audit and compliance functions. The employee, who had compliance responsibilities, received an award of $300,000. Generally, information provided to an individual with compliance responsibilities is not considered “original.” Such an employee is entitled to an award, however, if they first report the misconduct to the company and it subsequently fails to take action within 120 days. See 17 C.F.R. §§ 240.21F-4(b)(4)(iii)(B),v(v). This exception applied to the claimant because he reported the conduct to his supervisor 120 days prior to submitting it to the Commission.

In the Matter of the Claim for Award, Exchange Act Rel. No. 73174. In September 2014, the SEC announced a record-breaking whistleblower award of $30 million. The significance of this award was discussed in a previous blog post. See SEC Announces Highest Whistleblower Award to Date.

In the Matter of the Claim for Award, Exchange Act Rel. No. 74404. The SEC did not announce its next whistleblower award until March 2015. This award was the first ever to a former corporate officer who learned of a violation as a result of another employee reporting misconduct through corporate and compliance channels. Typically, officers who learn about fraud through another employee or through a compliance process are not eligible for an award under the whistleblower program. See 17 C.F.R. § 240.21F-4(b)(4)(iii)(A). However, the SEC’s bounty rules provide an exception that makes an officer eligible for an award if he or she provides the information to the SEC more than 120 days after other responsible personnel possessed the information and failed to adequately act on it. See 17 C.F.R. § 240.21F-4(b)(4)(v)(C). The former corporate officer fell within that exception and the SEC awarded the officer between $475,000 and $575,000 for reporting original, high-quality information regarding misconduct under the Dodd-Frank Act.

Denials:

In the Matter of Pipeline Trading Systems LLC, Notice of Covered Action 2011-194. Pipeline Trading Systems LLC (“Pipeline”) and two of its top executives agreed to pay $1 million for the company’s failure to disclose to customers that a majority of orders placed on its “dark pool” trading platform were filled by a trading operation affiliated with Pipeline. The SEC denied the claimant an award because he did not meet the definition of a “whistleblower” under the Exchange Act. (Denial Order Aug. 15, 2014).

In the Matter of the Claim for Award, Exchange Act Rel. No. 72947. On August 29, 2014, the SEC denied an award to a second claimant because the information provided did not lead to the successful enforcement of the covered action and did not contribute to the ongoing investigation.

SEC v. James Roland Dial, Case No. 4.12-CV-01654 (S.D. Tex. 2012), Notice of Covered Action 2012-66. The defendants caused Grifco International Inc. to issue more than 13 million unrestricted securities to themselves and then sold the securities shortly after into a rising artificial market (caused by their dissemination of false and misleading information). The defendants were ordered to pay disgorgement and prejudgment interest. The SEC denied the claimant an award because (1) claimant did not provide “original information” within the meaning of Section 21F(a)(1) of the Exchange Act and Rule 21F-4(b)(1)(iv), (2) the information provided by claimant did not lead to successful enforcement of a covered judicial or administrative action within the meaning of Section 21F(b)(1) of the Exchange Act and Rules 21F-3(a) and 21F-4(c), and (3) claimant was not a “whistleblower” within the meaning of Section 21F(a)(6) of the Exchange Act and Rule 21F-2 because he did not provide information relating to a possible violation of the federal securities laws in accordance with the procedures set forth in Rule 21F-9(a) under the Exchange Act. (Denial Order Feb. 13, 2015).

SEC v. Harbert Management Corporation, HMC-New York, Inc. and HMC Investors, LLC, 12-cv-5029 (S.D.N.Y. 2012), Notice of Covered Action 2012-89. Here, the SEC denied the claimant an award because (1) he did not provide information that led to the successful enforcement within the meaning of Section 21F(b)(1) of the Exchange Act and Rules 21F-3(a)(3) and 21F-4(c), and (2) he failed to submit information in the form and manner that is required under Rules 21F-2(a)(2), 21F-8(a) and 21F-9(a) & (b) of the Exchange Act. (Denial Order Feb. 13, 2015).

SEC v. Kenneth Ira Starr, 10 civ 4270 (S.D.N.Y. 2010), Notice of Covered Action 2012-129. On March 3, 2011, Starr was sentenced to 90 months in prison, ordered to pay more than $30 million in restitution, and ordered to forfeit more than $29 million in connection with his misappropriation of investor funds in connection to a series of cases filed against him by the government, which included charges of money laundering, wire fraud, fraud by an investment advisor, and misappropriation of client funds. This specific action arose from Starr’s misappropriation of at least $8.7 million of his clients’ money. The SEC denied the claimant an award because he or she did not provide information that led to the successful enforcement within the meaning of Section 21F(b)(1) of the Exchange Act and Rules 21F-3(a)(3) and 21F-4(c). (Denial Order Feb. 13, 2015).

SEC v. George Wesley Harris, No. 3:09-cv-01809-M (N.D. Tex. 2009), Notice of Covered Action 2011-206. The Northern District of Texas entered a $4.8 million judgment against Harris and his co-defendants for operating a fraud scheme that promised returns for investing in oil drilling projects in Texas and New Mexico. The SEC denied the award because (1) claimant did not provide information that led to the successful enforcement within the meaning of Section 21F(b)(1) of the Exchange Act and Rules 21F-3(a) and 21F-4(c), and (2) claimant also did not provide the Commission with original information within the meaning for Section 21F(b)(1) of the Exchange Act because Claimant’s submission was not derived from claimant’s independent knowledge or independent analysis. The SEC further noted that the claimant made a false statement on the Form WB-APP, which was signed under penalty of perjury, by stating he or she was “the 44th President of the United States.” (Denial Order Feb. 13, 2015).

The OWB denied two other claims, one on February 13, 2015, and one on February 16, 2015, in orders that make it impossible to tell the name or nature of the underlying action. Both claims were denied, however, because the information provided by the whistleblowers did not provide information that led to the successful enforcement of an action within the meaning of Section 21F(b)(1) of the Exchange Act and Rules 21F-3(a)(3) and 21F-4(c). Specifically, the information did not (1) cause the Commission to (i) commence an examination, (ii) open or reopen an investigation, or (iii) inquire into different conduct as part of a current Commission examination or investigation under Rule 21F-4(c)(1) of the Exchange Act; or (2) significantly contribute to the success of a Commission judicial or administrative enforcement action under Rule 21F-4(c)(2) of the Exchange Act.

Finally, the Second Circuit upheld the SEC’s denial of an award to a whistleblower who provided information to the SEC before the enactment of the Dodd-Frank Act in July 2010. Styker v. S.E.C., No. 13-4404-ag, 2015 U.S. App. LEXIS 3765 (2d Cir. Mar. 11, 2015). The whistleblower submitted information from 2004-2009 to the SEC, which eventually led to a $24 million settlement with Advanced Technologies Group. The Second Circuit rejected the whistleblower’s argument that the SEC went beyond its congressionally mandated authority, and it deferred to the SEC’s interpretation of the law that information submitted prior to July 2010 does not qualify for an award. Id. at *8-9.

SEC Announces Highest Whistleblower Award to Date

The SEC recently announced a record-breaking whistleblower award of $30-35 million, which shattered the previous high award of $14 million. See SEC Awards More Than $14 Million to Whistleblower. Not only is this award noteworthy for its size, but also because it was made to a foreign resident and it could have been even higher if the whistleblower did not unreasonably delay in reporting the violations.

This was not the first award made to foreign residents, but it was the first award made to a foreign resident since the Court of Appeals for the Second Circuit found that the anti-retaliation protections of Section 21F(h) of the Dodd-Frank Act do not apply to foreign whistleblowers who experience retaliation overseas from foreign employers. Liu v. Siemens, __ F.3d __, 2014 WL 3953672 (2d Cir. Aug. 14, 2014); see also Made for the U.S.A. Only: Second Circuit Holds That the Dodd-Frank Act’s Antiretaliation Provision Applies Only Domestically. In making this award, the SEC reiterated that any extraterritorial aspects of tips, such as a whistleblower’s foreign residency or alleged misconduct that occurs abroad, do not matter when there is a “sufficient U.S. territorial nexus”—i.e., “whenever a claimant’s information leads to a successful enforcement of a covered action brought in the United States, concerning violations of the U.S. securities laws, by the Commission, the U.S. regulatory agency with enforcement authority for such violations.” Order Determining Whistleblower Award Claim, Whistleblower Award Proceeding, File No. 2014-10 (Sept. 22, 2014). It found that the Second Court’s holding in Liu v. Siemens, __ F.3d __, 2014 WL 3953672 (2d Cir. Aug. 14, 2014), was not controlling and that “the whistleblower award provisions have a different Congressional focus than the anti-retaliation provisions, which are generally focused on preventing retaliatory employment actions and protecting the employment relationship.”

In announcing the award Sean McKessy, Chief of the Office of the Whistleblower, underscored the extraterritorial reach of the program: “This award of more than $30 million shows the international breadth of our whistleblower program as we effectively utilize valuable tips from anyone, anywhere to bring wrongdoers to justice. Whistleblowers from all over the world should feel similarly incentivized to come forward with credible information about potential violations of the U.S. securities laws.” See SEC Press Release: “SEC Announces Largest-Ever Whistleblower Award.”

Further, this already staggering award amount had the potential to be even higher if the whistleblower did not unreasonably delay in reporting to the SEC. The whistleblower delayed for an undisclosed period of time after first learning of the violations, which the SEC said caused investors to suffer significant losses that might have been avoided. The SEC found that the whistlblower’s delay was unreasonable under the circumstances and reduced the award from the maximum percentage allowed under the statute. It rejected the whistleblower’s argument that the percentage awarded was below the average percentage awarded to other whistleblowers as irrelevant. The SEC, however, did not apply the unreasonable delay consideration as severely as it otherwise might have done because a period of the delay occurred before the implementation of the whistleblower program established by the Dodd-Frank Act.

This latest award shows the SEC’s willingness to make awards to whistleblowers across the globe.

Quarterly Whistleblower Award Update

Since our last quarterly update, the SEC’s Office of the Whistleblower (“OWB”) has issued four denial orders and three award orders. Here are some lessons learned from this activity:

The SEC Will Not Award Whistleblowers Who Provide Frivolous Information. The SEC determined that a claimant (who submitted “tips” relating to almost every single Notice of Covered Action”) was ineligible for awards because he/she “has knowingly and willfully made false, fictitious, or fraudulent statements and representations to the Commission over a course of years and continues to do so.” Under Rule 21F-8, persons are not eligible for an award if they “knowingly and willfully make any false, fictitious, or fraudulent statement or representation, or use any false writing or document knowing that it contains any false, fictitious, or fraudulent statement or entry with intent to mislead or otherwise hinder the Commission or another authority.” 17 C.F.R. § 240.21F-8(c)(7). The OWB found that a number of passages submitted by the claimant were patently false or fictitious and that the person had the requisite intent because of the (1) incredible nature of the statements, (2) continued submissions that lack any factual nexus to the overall actions, and (3) refusal to withdraw unsupported claims at the request of the OWB. (May 12, 2104.)

The SEC Will Enforce the Time Frames Set Forth in the Statue. The OWB denied two awards because the claimants did not submit an award claim within the 90-day period established by Rule 21F-10(b). The claimants argued that OWB should waive the 90-day period due to extraordinary circumstances. See 17 C.F.R. § 240.21F-8(a). The OWB determined that neither a lack of awareness that the information that the whistleblower had shared would lead to a successful enforcement action nor the lack of awareness that the Commission posted Notices of Covered Actions on its website constitutes an extraordinary circumstance to waive the timing requirement. See SEC Release No. 72178 (May 16, 2014) and SEC Release No. 72659 (July 23, 2014).

Whistleblowers are Not Eligible for an Award Unless the Information Leads to a Successful Enforcement Action. The OWB denied an award to a claimant because the provided information did not lead to a “successful enforcement by the Commission of a federal court or administrative action, as required by Rules 21F-3(a)(3) and 21F-4(c) of the Exchange Act.” OWB also noted that the claimant did not submit information in the form and manner required by Rules 21F-2(a)(2), 21F-8(a), and 21F-9(a) & (b) of the Exchange Act. See In the Matter of Harbinger Capital Partners, LLC, File No. 3-14928 (July 4, 2014).

The OWB Can Be Persuaded to Change Its Preliminary Determination. Although the OWB initially denied the whistleblower’s award claim on the basis that the information did not appear to have been voluntarily submitted within Rule 21F-4(a)(ii) because it was submitted in response to a prior inquiry conducted bya self-regulatory organization (“SRO”). In a Final Determination issued on July 31, 2014, however, the OWB determined that claimant was entitled to more than $400,000. OWB noted that a submission is voluntary if it is provided before a request, inquiry, or demand for information by the SEC in connection with an investigation by the Public Company Accounting Oversight Board, any self-regulatory organization, Congress, the federal government, or any state Attorney General.

On the basis of the unique circumstances of this case, the OWB decided to waive the voluntary requirement of Rule 21F-4(a) for this claimant. The SEC noted that the claimant “worked aggressively … to bring the securities law violations to the attention of appropriate personnel,” the SRO inquiry originated from information that in part described claimant’s role, claimant believed that the company had provided the SRO with all the materials that claimant developed during his/her own internal efforts, and claimant promptly reporting to the SEC that the company’s internal efforts as a result of the SRO inquiry would not protect investors from future harm. Sean McKessy, chief of the SEC’s Office of the Whistleblower, remarked that “[t]he whistleblower did everything feasible to correct the issue internally. When it became apparent that the company would not address the issue, the whistleblower came to the SEC in a final effort to correct the fraud and prevent investors from being harmed. This award recognizes the significance of the information that the whistleblower provided us and the balanced efforts made by the whistleblower to protect investors and report the violation internally.” See SEC Release No. 72727 (July 31, 2014); SEC Press Release, “SEC Announces Award for Whistleblower Who Reported Fraud to SEC After Company Failed to Address Issue Internally,” (July 31, 2014).

SEC Continues to Make Awards to Qualified Claimants. On June 3, 2014, the SEC awarded two claimants 15% each for a total of 30% percent of the monetary sanctions collected in the covered action. See SEC Release No. 72301 (June 3, 2014). On July 22, 2014, the SEC awarded three claimants 15%, 10%, and 5% respectively (for a total of 30%) of the monetary sanctions collected in the Covered Action. See SEC Release No. 72652 (July 22, 2014).

Quarterly Whistleblower Award Update

The SEC recently announced that it has denied whistleblower claims in connection with three different matters and awarded an additional $150,000 to the inaugural recipient of an award under the SEC’s whistleblower program.

The SEC denied a whistleblower award claim relating to its case against penny stock promoters for fraudulently hyping Anscott Industries.  See SEC v. Esposito, No. 08:00494 T26 (M.D. Fla. June 30, 2011).  In Esposito, the court entered final judgments against the defendants ordering them to pay more than $20 million in disgorgement and civil penalties in a fraudulent touting case.  The SEC denied the award because (1) the claimant failed to submit the claim within 90 days of the Notice of Covered Action and failed to demonstrate such tardiness should be waived based on extraordinary circumstances as “claimant failed to diligently pursue the claim for award upon termination of the purported ‘extraordinary circumstances’”; and (2) the claimant failed to provide original information since claimant did not provide information for the first time to the SEC after the date of enactment of Dodd-Frank.

The SEC denied a second set of whistleblower award claims because claimant failed to demonstrate she provided original information.  In what the SEC described as “an unusual award application,” the claimant did not contend she provided information directly to the SEC, but instead contends that she provided information to the U.S. Department of Housing and Urban Development (“HUD”) and the FBI, which in turn shared that information with the SEC.  The claimant alleged that this information helped the SEC in its case against former officers of subprime lender New Century Financial Corp., who allegedly lied about the company’s losses from loan defaults.  See SEC v. Morrice, No. 09-0426 (C.D. Cal.); SEC v. Mozilo, No. 09-03994 (C.D. Cal.).  The SEC reached a settlement with the officers that included more than $1,000,000 in disgorgement and civil penalties.  The SEC denied the award because (1) any information provided by HUD or the FBI to the SEC prior to the enactment of Dodd-Frank in July 2010 would not be original information under Rule 21F-4(b)(1)(iv) and (2) any information provided after July 21, 2010, failed to meet the procedural requirements that original information must be provided to the SEC in writing by the claimant under Rule 21F-9(b).

The SEC denied two other whistleblower award claims determining that the first claimant failed to provide original information that led to a successful enforcement action and that the second claimant did not timely submit his application in response to the Notice of Covered Action.  The first claimant had provided information to the SEC both before and after the enactment of Dodd-Frank.  With respect to the first claimant’s pre-Dodd-Frank information, the SEC reiterated that information provided by the claimant to the SEC before the enactment of Dodd-Frank in July 2010 did not constitute original information under Rule 21F-4(b)(1)(iv).  With respect to the post-Dodd-Frank information, the SEC concluded that the information did not lead to a successful enforcement action.  According to the SEC, under Rule 21F-4(c)(1)-(2), “original information ‘leads to’ a successful enforcement action if either:  (i) the original information caused the staff to open an investigation, and the Commission brought a successful action based in whole or in part on conduct that was the subject of the original information; or (ii) the conduct was already under investigation, and the original information significantly contributed to the success of the action.”  The SEC determined the second claimant did not submit his Form WB-APP (Application for Award for Original Information Submitted Pursuant to Section 21F of the Securities Exchange Act of 1934) within 90 days of the Notice of Covered Action as required by Rule 21F-10(b).  The SEC rejected claimant’s argument the SEC lost his original, timely WB-APP because the late-filed WB-APP did not cross-reference an earlier submission, claimant did not argue he had filed an earlier WB-APP until the SEC issued its Preliminary Determination, the claimant did not produce a copy of his alleged original submission, the SEC did not find it after an “exhaustive review of [its] records,” and the claimant did not offer any explanation why he filed the “second” WB-APP if he already had filed a timely form.

The first person to receive an award under the SEC’s whistleblower program received another $150,000 after the SEC collected an additional $500,000 in the case.  This award represents the maximum percentage payout (30%) under the whistleblower program.  Sean McKessy, chief of the SEC’s whistleblower office, commented “[t]his latest payment shows that the SEC’s aggressive collection efforts pay dividends not only for harmed investors but also for whistleblowers,” and emphasized that “[a]s [the SEC collects] additional funds from securities law violators, we can increase the payouts to whistleblowers.”