Narrowed Whistleblower Protections May Affect Companies’ Insurance Needs

The United States Supreme Court, ruling unanimously in Digital Realty Trust vs. Somers on February 21, 2018, has narrowed legal protections for corporate whistleblowers at publicly traded companies. It found that only those individuals who report a securities law violation directly to the Securities and Exchange Commission (SEC) are protected by the anti-retaliation provision under the 2010 Dodd-Frank Wall Street Reform and Consumer Protection Act.

The decision resolves a long-standing split between the Fifth and Ninth US Circuit Courts of Appeals. While the plain language of Dodd-Frank requires an individual to report violations to the SEC, the agency itself had promulgated an interpretation in 2011 that whistleblowers who only reported internally to their companies were also entitled to the protections of the anti-retaliation provision. The Supreme Court’s ruling definitively rejects the SEC’s interpretation.

Challenges for Employers

An internal whistleblower is still entitled to protection under the anti-retaliation provision in the Sarbanes-Oxley Act of 2002, but it’s not nearly as broad as Dodd-Frank’s language. The Dodd-Frank provision includes a generous six-year limitations period, potential recovery of double back pay, and no administrative exhaustion requirement.

Although the Digital Realty Trust decision is generally considered to be a victory for companies, they should still be prepared for possible unintended consequences as the dynamics of whistleblowing change. For example:

• There may be an increase in reports directly to the SEC so whistleblowers can avail themselves of Dodd-Frank’s protection.
• There may be fewer opportunities for companies to remedy perceived violations internally before the SEC becomes involved. That raises the prospect of regulatory action, which could ultimately lead to claims under directors and officers (D&O) insurance policies.
• Employees who only report a violation internally are still covered by the anti-retaliation provision of Sarbanes-Oxley, which could ultimately lead to claims under employment practices liability (EPL) policies.

Managing the Risk

In light of the ruling, employers should consider the following steps:

1. Promote internal reporting processes:  If they have not already done so, employers should establish robust internal reporting processes, which should be promoted internally. Employee hotlines and other mechanisms can help ensure that employees feel empowered to report complaints without going to outside authorities.
2. Emphasize anti-retaliation provisions:  Employers should reiterate their stance protecting whistleblowers from retaliation. Human resources and/or legal departments should monitor the internal reporting that occurs, in order to eliminate, or at least mitigate, potential retaliation claims.
3. Review insurance: EPL insurance could provide coverage for retaliation, wrongful termination, discrimination, and other claims related to an employee’s report of securities law violations. D&O insurance could respond in the event the SEC conducts an investigation or initiates an enforcement action against a company or its insured persons.

Now, as much as ever, employers must be ready in case they are accused of retaliating against employees who become whistleblowers, regardless of whether they report internally or externally.