December 1, 2021

Volume XI, Number 335

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SDNY: SOX Whistleblower Protections Extend to Investors

On July 21, 2021, the U.S. District Court for the Southern District of New York held that the whistleblower protections established in SOX are not restricted to employee whistleblowers, but also extend to shareholders.  SEC v. Collector’s Coffee Inc., No. 19-cv-4355.

Background

As we previously reported, in 2019 the SEC sued online auction portal Collectors Coffee and its CEO, alleging in an amended complaint that the CEO attempted to prevent investors from communicating with the SEC in violation of Rule 21F-17.  Rule 21F-17, which was adopted by the SEC after the passage of the Dodd-Frank Act, prohibits company actions that impede individuals from reporting a possible securities law violation to the SEC.  Although the Obama-era SEC brought multiple enforcement actions to enforce Rule 21F-17, this action was notable as it was the SEC’s first public attempt to enforce Rule 21F-17 during the Trump administration.

The SEC alleged in its lawsuit that the CEO and Collectors Coffee attempted to enforce a settlement agreement they had reached with two investors who had accused the CEO of making material misrepresentations and omissions, which contained a provision prohibiting communications with regulatory agencies like the SEC.

On June 26, 2020, Defendants filed a motion to dismiss, and on May 17, 2021, Magistrate Judge Gabriel Gorenstein issued a Report & Recommendation recommending that the District Court deny their motion because SOX is not restricted to employee whistleblowers.  Collectors Coffee and the CEO objected to the Magistrate Judge’s Report, arguing that the SEC exceeded its rulemaking authority in promulgating Rule 21F-17, and that the Rule violates the First Amendment of the United States Constitution.

Ruling

District Judge Victor Marrero adopted the Magistrate Judge’s Report and Recommendation in its entirety.  Defendants argued that Rule 21F-17 exceeded the SEC’s rulemaking authority because Rule 21F-17 applies to any “person,” while Section 21F of the Exchange Act applies only to whistleblower-employees.  The court rejected this argument, holding that the broad definition of the term “whistleblower” in Section 21F—which includes “any individual who provides … information relating to a violation of the securities laws to the [SEC]”—is not restricted to the employer-employee context.  The court also relied on the Congressional intent behind Section 21F, which was to encourage whistleblowing activity and protect whistleblowers generally.

The court also rejected Defendants’ First Amendment argument, holding that because the contractual provisions they sought to enforce would be illegal and unenforceable under Rule 21F-17, no First Amendment right was abridged.

Implications

This decision provides for a broad reach of Rule 21F-17.  Companies should ensure that their internal investigation protocols and settlement agreements include language making clear that whistleblowers may report concerns to the SEC.

© 2021 Proskauer Rose LLP. National Law Review, Volume XI, Number 218
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About this Author

Steven J Pearlman, Labor Employment Law Firm, Proskauer Law firm
Partner

Steven Pearlman is a partner in the Labor & Employment Law Department and co-head of the firm's Whistleblowing & Retaliation Group, resident in the Chicago office. Steven’s practice focuses on defending complex employment litigation involving claims of discrimination and harassment, wage-and-hour laws and breaches of restrictive covenants (e.g., non-competition agreements). He has successfully tried cases to verdict before judges and juries in Illinois, Florida and California, and defended what is reported to be the largest Illinois-only class action in the history of the U.S....

312-962-3545
Pinny Goldberg Labor and Employment Lawyer Proskauer Rose Law Firm
Associate

Pinny Goldberg is an associate in the Labor & Employment Law Department. Pinny represents employers in a broad array of matters before federal and state courts, FINRA and other arbitration panels, and administrative agencies, including the EEOC and its state equivalents, and in pre-litigation negotiations. Matters he works on include discrimination and harassment, wage and hour, wrongful discharge, whistleblowing and retaliation, covenants not to compete, breaches of fiduciary duty, unjust enrichment, and tort and contract claims. 

In...

212.969.3074
Thomas Fiascone Labor Employment Attorney
Associate

Thomas Fiascone is an associate in the Labor & Employment Law Department.

Tom earned his J.D. from Boston College Law School, where he was a senior editor and staff writer on the Boston College Law Review. During law school, Tom served as a judicial intern in the U.S. District Court for the District of Massachusetts and was a tutor in BC Law’s Academic Success Program.

Prior to law school, Tom was a paralegal in Proskauer’s Labor and Employment Law Department.

617.526.9753
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