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The Securities and Exchange Commission is cracking down on anti-whistleblower language in employee severance agreements and there may be implications for employers. Through recent orders, the SEC fined two employers over $600,000 for prohibiting departing employees from disclosing information deemed “confidential” and requiring them to waive whistleblower awards as a condition for obtaining their severance package.

The rulings could have significant implications for both publicly listed and non-listed companies. In light of recent SEC enforcement actions, employers may need to revise employee severance agreements, codes of conduct, confidentiality agreements, and other employment-related policies and agreements. The agreements and policies should be carefully worded so as not to excessively restrict employees from reporting potentially illegal conduct to government agencies including the SEC, Equal Employment Opportunity Commission, and the National Labor Relations Board.

Securities Law Enforcement and the SEC Whistleblower Program

The recent SEC enforcement actions addressed employee severance agreements that restricted departing employees from reporting information through the SEC whistleblower program. As part of the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010, Congress allowed monetary incentives for whistleblowers who tip off the SEC to securities law violations. If a whistleblower makes a tip that leads to an SEC enforcement action with at least $1 million in sanctions, the whistleblower is eligible for a 10-30 percent bounty on the monetary recovery.

In 2011, the SEC issued controversial rules to implement the program. The rules do not require employee whistleblowers to internally report their concerns to corporate compliance programs before seeking a monetary award through outside reporting to the SEC.

Employees may now “race” to report potential securities laws violations to the SEC, while employers must quickly identify, self-remediate, and maintain confidentiality regarding potential violations. Unfounded or insignificant employee concerns that could have been handled in-house prior to the whistleblower program may now mean a costly and public SEC investigation.

SEC Fines BlueLinx and Health Net

To protect themselves from adverse consequences of the SEC bounty program, some employers amended employee severance agreements. But such efforts have run up against SEC Rule 21F-17, which provides in pertinent part: “No person may take any action to impede an individual from communicating directly with the Commission staff about a possible securities law violation, including enforcing, or threatening to enforce, a confidentiality agreement...with respect to such communications.”

Indeed, the SEC targeted two employers that made efforts to curb the effects of the SEC whistleblower program through language in severance agreements, namely BlueLinx Holdings, Inc. and Health Net, Inc. To resolve SEC enforcement actions, BlueLinx and Health Net reached an agreement with the SEC to amend their severance agreements and pay hefty fines of $340,000 and $265,000, respectively.

In the BlueLinx order, the SEC held that an employee severance agreement violated Rule 21F-17 in two respects. First, the confidentiality provision in the agreement prohibited employees from disclosing confidential corporate information unless compelled to do so through legal process. The SEC found the language to offend Rule 21F-17 because it did not provide an exception for voluntary disclosures of confidential information to the government. According to the SEC, BlueLinx “forced those employees to choose between identifying themselves to the company as whistleblowers or potentially losing their severance pay and benefits.”

Second, the SEC objected to language requiring departing BlueLinx employees to waive monetary awards for reporting potential securities law violations to the SEC. The SEC held that this language “removed the critically important financial incentives that are intended to encourage persons to communicate directly with the Commission staff about possible securities law violations.” The SEC’s Health Net order similarly issued a fine for severance agreement language that required departing employees to waive SEC bounties.

Implications and Recommendations

The BlueLinx and Health Net orders have put employers on notice that the SEC, and potentially other government agencies, may issue harsh fines where it perceives them as overly aggressive in restricting former employees from reporting potentially unlawful conduct to government agencies.

Employers should therefore review their employee severance agreements and confidentiality agreements, among others, to ensure that they do not interfere with former employees’ ability to communicate with government agencies regarding potentially illegal behavior. The SEC in particular is sensitive to severance agreements that may restrict departing employees’ ability to report potential securities laws violations or collect whistleblower bounties.

If there are overly restrictive agreements, employers may wish to notify former employees that unlawful portions of their severance agreements will not be enforced, and that they are free to report potentially illegal behavior and apply for awards such as whistleblower bounties. Employers are additionally encouraged to amend their agreements. The agreements should either be silent on the matter or affirmatively state that employees are permitted to report and provide information regarding potentially unlawful conduct to government agencies, including reports of potential securities laws violations to the SEC.

Legal counsel may assist with ensuring that current and past practices are legally compliant. For questions, please contact one of the attorneys listed below.
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