With SEC on the Prowl, Companies Should Comprehensively Review Worker Pacts

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By Yin Wilczek

• Practice Tip: Companies may find themselves subject to an SEC enforcement action if they don't review their employment agreements and other documents.

March 19 — As the Securities and Exchange Commission hones its focus on workplace agreements that may impede whistle-blowing activity, companies should take this time to carefully scrutinize their employment pacts and practices, attorneys say.

Problematic confidentiality, non-disparagement and waiver provisions could appear in a broad range of employment documents, including severance agreements, settlement agreements, executive agreements, intellectual property agreements, compliance policies, and even employee handbooks and codes of conduct, attorneys told Bloomberg BNA.

This could be a potential landmine, warned Lloyd Chinn, a partner at Proskauer Rose LLP in New York. He observed that companies develop their contract provisions over time, and then use that language over and over again in any number of places.

“There are just these little time bombs sitting around in forms that employers have relied on for many years and presume to be lawful and proper,” he said. “And they may not be if they contain these sorts of provisions that arguably can be said to impede a whistle-blower's access to the SEC.”

Chinn also warned that the SEC's search for offensive language could have broader ramifications across the employment sphere. It may make disputes with former employees harder to settle, and employers potentially may be less willing to pay up in separation deals, he said.

SEC Program 

Under the SEC's whistle-blower program, 1934 Securities Exchange Act Rule 21F-17(a) states that employers may not “take any action to impede” their workers from contacting the SEC about possible securities violations, “including enforcing, or threatening to enforce, a confidentiality agreement” with respect to the worker's communication with the agency.

Sean McKessy, chief of the SEC's Whistleblower Office, and other SEC officials repeatedly have voiced their concern about problematic employment provisions that may, directly or indirectly, interfere with an employee's ability to approach the SEC about a tip or complaint.

More recently, SEC Chairman Mary Jo White told House Democrats that she shared their concerns over “the misuse of employee confidentiality, severance, and other kinds of agreements to hinder an employee's ability to report potential wrongdoing to the Commission”.

The Wall Street Journal reported in February that the SEC sent requests to a number of companies seeking years of nondisclosure and other documents in its investigation of whether these agreements may have crossed the line. The commission also wants training materials related to confidentiality, documents that refer to whistle-blowing and lists of fired workers.

Speaking to BBNA March 17 on the sidelines of a D.C. Bar event, McKessy declined to provide any updates on the SEC's probe. However, he confirmed that the commission continues to “actively” scrutinize potentially problematic employment pacts.

There is a pending petition from a coalition of whistle-blower representatives asking the SEC to clarify, via rulemaking, the extent to which employers may use agreements to limit or condition their employees' right to receive whistle-blower bounties.

SEC's Anti-Retaliation Authority 

The Dodd-Frank Wall Street Reform and Consumer Protection Act authorized the commission to enforce the statute's whistle-blower anti-retaliation provisions. Under the agency's rules, the anti-retaliation provisions “shall be enforceable in an action or proceeding brought by the Commission.”

The SEC thus far has brought one anti-retaliation case—In re Paradigm Capital Management Inc.—a settled administrative case in which it alleged that hedge fund adviser Paradigm Capital Management Inc. retaliated against its head trader when it found out he tipped off the commission about the firm's improper principal transactions.

Attorneys told BBNA that if the commission finds employer language that it objects to, the agency may bring an anti-retaliation enforcement action against the company in question.

“That's obviously the threat,” said Bryan House, a Milwaukee-based partner at Foley & Lardner LLP.

“I don’t think the SEC is looking to bring lots of standalone retaliation claims based on nitpicking language in somebody’s agreements, but certainly, you can easily imagine circumstances where it would be appropriate given the law and the SEC rules in the area,” House continued. “I think it would probably take pretty egregious circumstances, but I don’t doubt that they’re out there somewhere.”

Problematic Language 

So what kind of language may prove problematic? Whistle-blowers and their counsel have complained to the SEC about confidentiality, non-disparagement or other provisions that would bar or limit employees' ability to:

• produce documents or communicate with government agencies, including the SEC;

• consult with independent legal counsel; or

• receive compensation or relief with respect to a complaint or claim to a government agency. 

Other contract language that they cited includes those requiring employees to certify that they:

• have not made a prior claim or complaint about the employer to a government agency;

• have not shared confidential information with a third party, such as a government agency;

• have reported all knowledge of workplace wrongdoing and will cooperate, going forward, with the employer on its investigation;

• will promptly inform the employer of any knowledge of workplace wrongdoing;

• will promptly notify the employer if contacted by a government agency with respect to the workplace;

• will share information with a government agency only in response to an inquiry from the agency or a court order;

• will share information with a government agency only after providing that same information to the employer; or

• will continue to cooperate with their employer in any workplace investigation after they leave its employ. 

People may disagree on whether all of these terms are problematic. House, for example, observed that it is a “gray area” whether employers may require their workers to certify that they have disclosed all workplace misconduct of which they are aware.

It also is by no means clear what exactly the SEC would consider too aggressive. McKessy has shied away from spelling out precisely what the agency is looking for, suggesting previously that companies should be careful where they, “either in words or substance, suggest that [internal reporting] is the exclusive means and that some untoward action may happen if a person decides that a regulator is the right person to report to”. 

Chinn suggested that companies may still require their employees to report wrongdoing internally, as long as they take care not to discipline any worker just because he or she violated the policy by approaching the SEC.

Companies should use the language of Rule 21F-17(a) as their “touchstone,” Chinn said. “‘Impede' is the key word here,” he said. “Employers cannot impede the whistle-blower's access.”

Jason Schwartz, a partner in Gibson Dunn & Crutcher LLP's Washington office, also recommended that companies strive for “balance.”

“You want to provide the maximum protection for the company while avoiding provisions that could be viewed by regulators as overreaching,” Schwartz told BBNA.

Comprehensive Review 

In any case, given the SEC's interest, employers should undertake a comprehensive, privileged review of their agreements, confidentiality provisions, policies and codes of conduct, the attorneys said.

Connie Bertram, a Washington-based partner in Proskauer Rose, noted that if agreements or provisions are problematic, the employer should either:

• revise them and require employees to execute new agreements; or

• draft a short amendment to the existing agreement. 

Most employer agreements may be easily updated with simple edits to make them more amenable to the SEC, such as including a carve-out stating that nothing in the provisions or policies are to be construed as impeding an employee's right to communicate with or participate in a government investigation.

However, drafting the language to explain an amendment can be challenging, Bertram said. She noted that any amendments to the agreements must comply with the requirements of the amendment clause in the agreement and state law. Moreover, employers shouldn't make any statements admitting that the existing agreements violate the law, even potentially, she said.

“Employers, for instance, could explain that employees have always had the right to provide information in good faith to federal, state and local authorities concerning conduct they believe violates the law and that these amendments clarify that right,” Bertram said.

Right Tone 

Beyond document revision, the attorneys also suggested that a culture of compliance and the right tone at the top are critical to ensure employers don't run afoul of the SEC's anti-retaliation provisions.

“Training and corporate culture are as important as the agreements themselves,” Bertram said. “It is critical that managers understand how to interact and communicate with employees who have raised or are raising concerns about fraud or other protected allegations.”

Bertram added that many retaliation cases rise and fall on the statements of individual managers and human resource personnel interacting with the whistle-blower.

“The most challenging situation involves the whistle-blower—such as an employee in the legal, finance or internal audit departments—who is responsible for identifying and/or addressing fraud or for corporate compliance,” she said. “Managers in those departments need to be particularly sensitive to concerns raised by employees.”

Schwartz also suggested that the companies' lawyers and HR division work closely with securities counsel or other experts in the area in which the employee claims to be blowing the whistle. “Some cases might call for voluntary disclosures to the government, internal investigations or other remedial measures,” he said. “There is no one-size-fits-all.”

Moreover, employers should be ready to speedily respond should there be problems, House said. Retaliation, as viewed by the SEC and the Department of Labor, encompasses many things “that a lot of people won't expect,” he added. “An adverse employment action can be many things; it's not simply firing someone.”

Accordingly, companies should have a plan in place—should issues escalate—to process and investigate the complaint and resolve it, House continued. “You want to be able to move quickly on those things.”

Broader Implications?

Meanwhile, Chinn noted that the SEC focus could change the dynamics of employer/employee negotiations in the separation process. The bottom line is that employers must acknowledge in their separation agreements that the employee, after his or her employment ends, can still pursue avenues that may prove problematic for the company, he said.

For the most part, employers haven't “a lot to worry about” with respect to “plain vanilla” separation agreements from a reduction in force for employees who have never complained about workplace issues, Chinn said. “All you have to do is adjust your documents and you're fine.”

However, employers may find they can no longer buy the same “complete peace” with departing employees whom they perceive as problematic, he said. “I think it will make some of these cases harder to settle, make some of the disputes with former employees harder to resolve, and it will make employers potentially less willing to pay money.”

David Marshall, a partner at Katz, Marshall & Banks LLP in Washington who represents whistle-blowers, told BBNA that for their part, employees negotiating separations from their employers should pay careful attention to what they sign. Before committing to anything, it may be helpful for them to read and be familiar with the SEC's whistle-blower rules, he suggested.

Katz, Marshall & Banks was one of the first law firms that brought problematic separation and severance agreements to the SEC's attention, telling the commission in a May 2013 letter that it was witnessing more and more aggressive language.

Marshall told BBNA that a few months before the SEC issued its information requests to the companies, the agency reached out to him to “discuss and help identify the types of practices” that would most offend the bounty program.

Marshall added that employees are at a particular disadvantage with respect to settlement and separation pacts because they fear the deal will be yanked should they balk at the terms. If that happens, they may want to contact the SEC's Whistleblower Office and/or an attorney who has experience with these issues, he said.

Ultimately, Marshall urged the SEC to take action regarding overly aggressive agreements. A public action against an employer for interfering with an employee's access to the commission “will have a very beneficial effect for the whistle-blower program,” he said.

To contact the reporter on this story: Yin Wilczek in Washington at ywilczek@bna.com

To contact the editor responsible for this story: Ryan Tuck at rtuck@bna.com

Possibly problematic documents: 

• severance agreements;

• separation agreements;

• form agreements;

• employment agreements with senior executives;

• executive compensation/equity award agreements;

• intellectual property agreements;

• compliance policies;

• codes of conduct;

• employee handbooks; and

• conflict-of-interest disclosure forms and affirmations.



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