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Freshfields Risk & Compliance

| 3 minutes read

SEC Wields “Stick” to Protect “Carrot” of Whistleblower Awards

Whistleblowing presents difficult challenges for compliance-minded global businesses. Voluntary disclosures frowned upon or prohibited by one jurisdiction may be encouraged or even required by another. For the foreseeable future, global businesses and their advisors will have to juggle those competing demands. A string of recent statements and enforcement actions by the US Securities and Exchange Commission suggest, however, that regulated entities should be particularly careful in drafting employee agreements that touch on whistleblowing in the US.

Two recent enforcement actions by the SEC illustrate some of the risks involved:

In re: HomeStreet, Inc. – In April 2015 HomeStreet, a Seattle-based financial services company, received a voluntary document request from the SEC.  The request concerned company accounting practices. Assuming that the request was prompted by a whistleblower complaint, HomeStreet began aggressively questioning employees in an effort to find the “leak”. The company then demanded that former employees confirm that they were not whistleblowers in order to receive payments for legal fees in connection with the SEC’s investigation. Moreover, as part of a standing policy, departing employees were required to sign separation agreements “waiv[ing]” their right to receive “damages or monetary recovery” resulting from discussions with a “government agency” concerning their employment (e.g., whistleblower awards).

The SEC took a dim view of those practices and concluded that HomeStreet had violated Rule 21F-17, which states:

“No person may take any action to impede an individual from communicating directly with the Commission staff about a possible securities law violation…”

Calling out the waivers in particular, the SEC stated that while it was unaware of any instances in which a current or former HomeStreet employee chose not to communicate with SEC staff as a result of HomeStreet’s actions, the waivers “removed the critically important financial incentives” the whistleblower awards provided. As a result, the waivers “impeded” communication with SEC staff.

As a result of HomeStreet’s violations of Rule 21F-17 and other SEC regulations, the SEC issued a cease-and-desist order on January 19, 2017. The order imposed a monetary penalty of $500,000. The order also required HomeStreet to inform former employees that they were not prohibited from communicating with the SEC and that the company would not seek to enforce the waiver provisions. The SEC did, however, give HomeStreet credit for revising its separation agreements during the course of the SEC’s investigation to state :

"Employee understands that nothing contained in this Agreement limits Employee’s ability to file a charge or complaint with any federal, state or local governmental agency or commission (“Government Agencies”). Employee further understands that this Agreement does not limit Employee’s ability to communicate with any Government Agencies or otherwise participate in any investigation or proceeding that may be commenced by any Government Agency including providing documents or other information without notice to the Company. This Agreement does not limit the Employee’s right to receive an award for information provided to any Government Agencies."

In re: BlackRock, Inc. – The HomeStreet order was the second of two the SEC issued related to whistleblowing in January 2017. In a January 17, 2017 cease-and-desist order issued to BlackRock, the SEC imposed monetary penalties on the company for requiring departing employees to “waive any right to recovery of[] incentives for reporting misconduct” under various statutes. Notably, the BlackRock cease-and-desist order did not indicate that the company had been involved in any substantive misconduct or otherwise taken affirmative steps to discourage whistleblowing. The order even acknowledged that BlackRock had voluntarily dropped the waiver language from its separation agreements before being contacted by the SEC. The order further acknowledged that the SEC was aware of no instance in which a former employee had failed to contact the SEC after signing a separation agreement containing the waiver. The SEC, nevertheless, imposed a $340,000 monetary penalty for past use of the waiver language and required BlackRock to send out notices similar to those required of HomeStreet.

These actions illustrate that the SEC is willing to take a broad view of Rule 21F-17. In the SEC’s view, merely reducing incentives for whistleblowing constitutes a violation of the rule – although it is far from clear that a company could actually use a waiver to prevent the SEC from issuing a whistleblower award if it wanted to do so. These actions also suggest that even if the Trump administration takes a narrower view of the rule, companies should make decisions in this area with an awareness that future administrations may take a broader view – and be willing to impose sanctions even after conduct has ceased.

Fortunately for compliance-minded global businesses, the language of the disclaimers added to the HomeStreet separation agreements (see above) may provide a starting point when revising employee agreements to comply with the SEC’s interpretation of Rule 21F-17.


securities, whistleblowing, whistleblower, whistle blowing, blackrock, homestreet, rule 21f-17, employment law, separation agreement, award, securities regulation