5th Cir. Upholds SOX Decision of No Protected Activity

There are two ways a claimant's Sarbanes Oxley whistleblowing case can make it to the 5th Circuit. One is an appeal from a district court if a claimant had foregone the administrative route and chosen to file directly in federal court (permitted if the administrative proceedings are not concluded within 180 days).

The other is an appeal of a ruling from the Administrative Review Board. That is what led to yesterday's decision in Allen v. Administrative Review Board (5th Cir. 1/22/08) [pdf]. The plaintiffs alleged that their complaints about their employer's failure to report problems with its software that calculated payoff amounts was protected activity under SOX.

Unfortunately for the plaintiffs, both the ALJ and the ARB had disagreed. And on appeal, the 5th Circuit noted the deferential standard of review -- whether the ARB's decision was “arbitrary, capricious, an abuse of discretion, or otherwise contrary to law.” Here the Court found it was not.

Given the relative paucity of circuit level decisions under SOX, the Court did provide some helpful guidance for construing protected activity under SOX:

• an employee’s complaint must “definitively and specifically relate” to one of the six enumerated categories found in § 1514A: mail, wire, bank or securities fraud, any rule or regulation of the SEC, or any provision of federal law relating to fraud against shareholders;
• an employee’s reasonable belief must be scrutinized under both a subjective and objective standard;
• an employee’s reasonable but mistaken belief that an employer engaged in conduct that constitutes a violation of one of the six enumerated categories is protected;
• the “objective reasonableness” standard applicable to SOX whistleblower claims is similar to the “objective reasonableness” standard applicable to Title VII retaliation claims;
• while that can sometimes be decided as a matter of law, if there is a genuine issue of material fact it cannot be;
• perhaps most importantly, in the catch all provision (federal law relating to fraud against shareholders) the employee must reasonably believe that his or her employer acted with a mental state embracing intent to deceive, manipulate, or defraud its shareholders.

The Court did not decide about the requirement for scienter on the first 5 categories since the "issue [was] not before [them]" but perhaps tellingly noted that several ALJ's had made such a finding.

The Court also held that since one of the plaintiffs was a CPA, an "expert standard" had to be applied in reviewing the "objective standard."

An important opinion for those handling SOX claims, not to mention continued good news for Stewart Enterprises, the employer.

Not With a Bang, But A Whimper - 1st SOX "Reinstated" Employee Loses on Merits

What turned into an extended procedural battle over the power under Sarbanes Oxley to re-instate whistleblowers based on an interim determination took on another dimension last week when the Administrative Review Board reversed the ALJ determination which reinstated former CFO David Welch and held against him on the merits. Welch v. Cardinal Bankshares Corp., ARB No. 05-064, ALJ No. 2003-SOX-15 (ARB 5/31/07).

The ARB's determination were based on the ALJ's finding of three acts of protected activity — overstatement of income by $195,000, that the outside auditors preferred to deal with the CEO rather than Welch, and the CEO refused to take Welsh's advice on accounting issues. The ARB concluded:

We reverse the ALJ's conclusion that Cardinal violated the SOX because, as a matter of law, he erred in concluding that Welch engaged in SOX-protected activity. Welch's concerns that Cardinal misclassified the loan recoveries and consequently misled investors do not constitute protected activity because Welch could not have reasonably believed that Cardinal misstated its financial condition. Likewise, Welch's complaints about access to Larrowe & Co. and about Cardinal's internal accounting controls are not SOX-protected activity because they do not relate to the federal securities laws. Therefore, since Welch has not demonstrated that he engaged in protected activity, an essential element of his case, we DENY his complaint.

Although not over, as there is still the possibility of an appeal by Welch to the 4th Circuit, it certainly does not present the best case for SOX's procedural remedy that (at least theoretically) empowers reinstatement of whistleblowers based on an interim determination either by the DOL or as in this case, the ALJ. It also leaves unresolved the question of whether that enforcement scheme is viable.

For earlier discussions of the procedural wrangling over reinstatement see my earlier posts, Whistleblower Still Whistling in the Dark, 1st Test of SOX Preliminary Reinstatement Saga Continues , and Latest Step in First SOX Reinstatement Case.

How long has it been going? Welch was terminated in October 2002. Although one can understand the thought that leads to interim remedies, this case clearly shows the dangers. Here if Cardinal Bankshares had taken the frequent path of employers under similar statutes, they would have economically reinstated Welch and continued his pay for the duration of this fight. In fact, the ARB had itself suggested such an action in one of its earlier rulings during the procedural battle over reinstatement. If Cardinal had done so, but prevails following Welch's expected appeal, what realistic remedy would it have of recovering those sums, which my guess is would be in excess of $500,000?