On Feb. 22, the U.S. Supreme Court issued a decision that significantly restricts the rights of whistleblowers, but ultimately may cause headaches for the targets of their whistleblower complaints. The Dodd-Frank Wall Street Reform and Consumer Protection Act defines a “whistleblower” to be someone who provides information concerning potential securities law violations to the U.S. Securities and Exchange Commission (SEC). The SEC and some federal courts took a broader view and interpreted the Dodd-Frank whistleblower definition to include those employees who report their complaints internally to their employer but not to the SEC. In Digital Realty Trust v. Somers, 583 U.S ____ (2018), issued on Feb. 22, the court disagreed and ruled that a whistleblower must report suspected securities violations to the SEC to be protected by Dodd-Frank. This decision likely will change how whistleblowers report their complaints and how companies respond to them.

The Digital Realty Decision

Respondent Paul Somers was, at one time, employed by Petitioner Digital Realty Trust, Inc., and reported suspected securities law violations to the company's senior management. Somers was terminated shortly after making his report. After his termination, Somers filed a suit in federal court against Digital Realty that included a claim of whistleblower retaliation under Dodd-Frank. He failed, however, to file an administrative complaint with OSHA as required under the Sarbanes-Oxley Act.

Dodd-Frank provides a series of protections aimed at protecting whistleblowers from retaliation. 15 U.S.C. §78u-6(h). Dodd-Frank's definition of a “whistleblower” is limited to persons that provide information regarding potential securities law violations to the SEC, see 15 U.S.C. §78u-6(a)(6). However, pursuant to the rulemaking authority granted to it, the SEC promulgated Rule 21F-2 that, for the purposes of Dodd-Frank's anti-retaliation protections, expanded the definition of a whistleblower to include those who reported potential violations only to their company supervisor. 17 C.F.R. §240.21F-2(b)(1).

While the Sarbanes-Oxley Act also contains some whistleblower protections, Dodd-Frank's protections are more favorable to whistleblower plaintiffs. For example, Dodd-Frank permits a whistleblower to sue a current or former employer in federal court, while Sarbanes-Oxley requires exhaustion of administrative remedies. Dodd-Frank contains a six-year statute of limitations, while Sarbanes-Oxley requires administrative complaints to be filed within 180 days of the retaliatory act. See 18 U.S.C. §1514A(b)(1)(A), (2)(D). Dodd-Frank also allows for awards of double backpay with interest, while Sarbanes-Oxley allows only actual backpay with interest. Compare 18 U.S.C. §1514A(c)(2)(B) with 15 U.S.C. §78u-6(h)(1)(C)(ii). Dodd-Frank also allows the SEC to bring actions against employers who retaliate against whistleblowers (which the SEC has already done, see, e.g., In the Matter of SandRidge Energy, Exchange Act Release No. 79607 (Dec. 20, 2016)). And a Dodd-Frank whistleblower may be eligible for an award from the SEC if the SEC successfully brings an enforcement action based on the whistleblower's tip and recovers more than $1 million.

Seizing on the narrow definition of a “whistleblower” in Dodd-Frank, Digital Realty moved to dismiss the claim because Somers had not complained to the SEC before his termination. The District Court denied the motion, giving Chevron deference to the SEC's Rule. The Ninth Circuit affirmed the District Court's decision in an interlocutory appeal. Such a ruling was consistent with the Second Circuit's opinion in Berman v. NEO@OGILVY, 801 F.3d 145 (2013), but at odds with the Fifth Circuit's opinion in Asadi v. G. E. Energy (USA), 720 F.3d 620 (2013). The Supreme Court granted certiorari to resolve the circuit split.

Justice Ginsburg, who authored the Supreme Court's opinion, concluded that Dodd-Frank's whistleblower definition limits protections under the act to those who report suspected securities violations to the SEC. Potential whistleblowers who report only internally to their employers without reporting to the SEC are not covered by Dodd-Frank. In reaching this decision, the Supreme Court expressly declined to give Chevron deference to the SEC's interpretation of the whistleblower definition, which could portend future successful Chevron challenges. Thus, the court found that Somers was not entitled to the anti-retaliation protections of Dodd-Frank based on his internal reporting.

Although the court's decision was joined by all nine justices, Justices Thomas and Sotomayor each wrote concurring opinions debating the merits of evaluating legislative history to aid in interpreting statutory language.

The SEC's Recent Track Record

Digital Realty is the latest in a string of one-sided Supreme Court losses for the SEC, with the court consistently finding that the SEC has exceeded its statutory authority.

In Gabelli v. SEC, 568 U.S. 442 (2013), a 9-0 Supreme Court found against the SEC's interpretation of the statute of limitations for the SEC to initiate an action for civil penalties for fraud under 28 U.S.C. §2462. More recently, in Kokesh v. SEC, 137 S. Ct. 1635 (2017), a unanimous Supreme Court ruled against the SEC again, holding that disgorgement was a civil monetary penalty, and thus subject to the same five-year statute of limitations at issue in Gabelli.

What Does It All Mean?

For potential whistleblowers, the message of Digital Reality is clear and simple: report to the SEC before or concurrently with any internal report. For companies, the outlook is more clouded. While there is no explicit drawback for employees to report suspected violations to their employers as well as the SEC, it's not a given that employees will do so. Thus, a company's first notice of a suspected violation is more likely than before to come in the form of an SEC subpoena, eroding a company's ability to conduct an early internal investigation and make its own determination regarding whether to self-report the violation and take advantage of the benefits that self-reporting to the SEC provides.

To encourage whistleblowers to report their complaint internally, companies should ensure that they have robust and effective compliance programs so employees are assured that their complaints will be addressed appropriately, and will be promptly and thoroughly investigated (if warranted). Employees must also be confident that they will not be subject to retaliation for raising whistleblower complaints, and that any managers who subject those employees to retaliation will be disciplined.

Nicolas Morgan and Thomas A. Zaccaro are partners at Paul Hastings LLP in Los Angeles. Morgan previously served as senior trial counsel in the SEC's Enforcement Division. Zaccaro previously served as the chief trial counsel of the SEC's Pacific Regional Office. Brian Kaewert is an associate at Paul Hastings LLP in Los Angeles.