Recent Decision Demonstrates Reach of Lawson; Extends SOX Whistleblower Protections to Employee of a Nonpublic Subsidiary of a Public Issuer

We recently blogged about the U.S. Supreme Court’s decision in Lawson v. FMR LLC, 571 S. Ct. __, 188 L. Ed. 2d 158 (Mar. 4, 2014), which held that the whistleblower protections in section 1514A applied not only to the direct employees of public companies, but also to employees of private contractors and subcontractors serving public companies. See Lawson and Doral Expand Whistleblower Protections,” SECurities Law Perspectives (Apr. 2, 2014). Taking the lead from Lawson and more recent decisions from the Department of Labor’s Administrative Review Board (“ARB”), the U.S. District Court for the Eastern District of Pennsylvania has ruled that an employee of a nonpublic subsidiary of a public issuer could proceed with his retaliation claims against the company. Wiest v. Lynch, __ F. Supp. 2d __, Civil Action No. 10-3288, 2014 WL 1490250, at *18–23 (E.D. Pa. Apr. 16, 2014).

In reaching this conclusion, the court considered Lawson and more recent ARB decisions interpreting the scope of section 1514A’s “agent” language. The court said, “There is no reason to think that the Supreme Court’s holding in Lawson does not also apply, beyond contractors of public companies, to agents of public companies and those agents’ employees.” Id. at *19; see also 18 U.S.C. § 1514A(a) (“No [public] company . . . or any officer, employee, contractor, subcontractor, or agent of such company, may discharge, demote, suspend, threaten, harass, or in any other manner discriminate against an employee in the terms and conditions of employment because of any lawful act done by the employee . . . to provide information, cause information to be provided, or otherwise assist in an investigation regarding any conduct which the employee reasonably believes constitutes a violation of section 1341, 1343, 1344, or 1348, any rule or regulation of the Securities and Exchange Commission, or any provision of Federal law relating to fraud against shareholders . . . .” (emphasis added)).

Noting “some disagreement among lower courts and the ARB as to the scope or nature of the required agency relationship,” the court rejected the narrower view—i.e., that an agency is created for purposes of section 1514A only when the public-issuer parent is involved in hiring, supervising, or terminating its nonpublic subsidiary’s employees—for more traditional agency principles. The court found persuasive the ARB’s decision in Johnson v. Siemens Building Techs., Inc., ARB No. 08-032, 2011 WL 1247202 (Dep’t of Labor Mar. 31, 2011), which held that section 1514A applied to a subsidiary whose financial information was included in the consolidated financial statements of a public-issuer parent.

In combination with Lawson, the Wiest court found the concurrence in Johnson suggestive of “the direction in which the ARB is headed.” Wiest, 2014 WL 1490250, at *20. Specifically, the concurrence observed that to focus the agency coverage question on whether the public issuer was involved in employment/labor law issues would “fly in the face” of two other bases for finding agency—i.e., apparent authority and respondeat superior. Id. at *20–21 (quoting Johnson, 2011 WL 1247202, at *16). Rather, it explained, “[A]n entity will be held independently liable as a covered agent under [section 1514A] where it is established that the entity engaged in retaliatory conduct was serving as the public company’s agent with respect to securities related matters.” Id. at *21 (quoting Wiest, 2011 WL 1247202, at *17).

In resolving the motion to dismiss before it, the Wiest court concluded that the complaint sufficiently alleged that Wiest’s employer, the nonpublic subsidiary, acted as an agent of its public-issuer parent. For example, the court found Wiest’s allegation that executives of the public-issuer parent had approved certain expenses about which Wiest had complained to be “a strong indicator of an agency relationship regarding accounting and taxes between [the two entities].” 2014 WL 1490250, at *22. The court noted, however, that “[t]his theory will quite likely be tested on the evidence later . . . .” Id. at *23.

While Lawson opened the door for employees of nonpublic companies to bring whistleblower claims, there still will be legal challenges to the scope of such protections. The Wiest decision highlights at least one area about which there may be substantial disagreement and on which companies may fight back on the courts’ expansion of these claims.

Lawson and Doral Expand Whistleblower Protections

Two recent decisions interpreting the Sarbanes-Oxley Act have significantly expanded the protections available for federal whistleblowers and increase the potential liability for public companies and private companies that contract for public companies.

In Lawson v. FMR LLC, 571 S. Ct. __, 188 L. Ed. 2d 158 (Mar. 4, 2014), the U.S. Supreme Court held that SOX protects from retaliation not only the direct employees of public companies, but also employees of private contractors and subcontractors serving public companies.  At issue in Lawson was the scope of the protected class in section 1514A of the statute:

No [public] company … or any officer, employee, contractor, subcontractor, or agent of such company, may discharge, demote, suspend, threaten, harass, or in any other manner discriminate against an employee in the terms and conditions of employment because of any lawful act done by the employee … to provide information, cause information to be provided, or otherwise assist in an investigation regarding any conduct which the employee reasonably believes constitutes a violation of section 1341, 1343, 1344, or 1348, any rule or regulation of the Securities and Exchange Commission, or any provision of Federal law relating to fraud against shareholders ….

18 U.S.C. § 1514A(a).  The plaintiffs in Lawson were former employees of privately held companies that provide advisory and management services to a mutual fund, a public company.  The mutual fund itself has no employees.  The defendants argued that the plaintiffs could not bring whistleblower claims under SOX because the statute only protects those directly employed by the public company.

In a 6–3 opinion, Justice Ginsburg, writing for the Court, concluded that section 1514A shields employees of privately held contractors and subcontractors, including investment advisors, law firms, and accounting enterprises, that contract for public companies.  The Court reasoned that “nothing in § 1514A’s language confines the class of employees protected to those of a designated employer.”  188 L. Ed. at 175.  In addition to its textual interpretation of the statute, the Court recognized that including employees of contractors and subcontractors would comport with Congress’s goal of encouraging outside professionals to report fraud without fear of retribution.

In Stewart v. Doral Financial Corporation, No. 13-1349, 2014 U.S. Dist. LEXIS 22441 (D.P.R. Feb. 21, 2014), the U.S. District Court for the District of Puerto Rico addressed the standard for pleading protected conduct.  The plaintiff claimed that he was terminated illegally after expressing concerns to the company’s audit committee that certain financial information would not be reported accurately in quarterly filings.  Relying on the Department of Labor’s Administrative Review Board’s (“ARB”) decision in Platone v. FLYi, Inc., 2006 WL 3193772 (Dept’ of Labor Sept. 29, 2006), the company moved to dismiss the plaintiff’s claim for failing to plead that the alleged protected activity “definitively and specifically” implicated the federal laws upon which section 1514A is based.  After Platone, however, the ARB abandoned the “definitively and specifically” standard in favor of a more liberal standard:  that a plaintiff must only plead she had “a reasonable belief” the alleged protected activity that the reported conduct violated applicable federal law.  Sylvester v. Parexel Int’l LLC, ARB Case No. 07-123, 2011 WL 2165854 (Dep’t of Labor May 25, 2011).  Even though the First Circuit already had adopted the “definitively and specifically” standard, see Day v. Staples, Inc., 555 F.3d 42, 56 (1st Cir. 2009), the Doral court ruled that the ARB’s more recent “reasonable belief” standard controlled and that plaintiff’s pleading was sufficient, 2014 U.S. Dist. LEXIS 22441, at *19–24.

Both the Lawson and Doral rulings dramatically broaden the scope of whistleblower liability for public companies and private companies that contract for public companies.  In fact, the dissent in Lawson points out that the Court’s interpretation gives section 1514A a “stunning reach” that will allow babysitters and cleaning staff who work for people employed by a public company to file federal cases claiming retaliation.  And the Doral decision—which echoes the conclusions of the U.S. Courts of Appeals for the Third and Tenth Circuits—allows those claims to survive the pleading stage by demonstrating only that the employee had a reasonable belief that the perceived illegal conduct implicated the federal laws upon which SOX is based.  Lawson and Doral demonstrate that it is vital for public companies and private companies who contract for public companies to have robust reporting policies in place to address employee complaints of misconduct.

Drinker Biddle & Reath LLP filed an amicus curiae brief in the Lawson case on behalf of the National Federation of Independent Business.  That brief advocated that the whistleblower protections of section 1514A not extend to employees of private contractors and subcontractors of public companies.