ARB limits SOX protections outside the US
By a 3-2 vote on a major case, the Department of Labor's Administrative Review Board (ARB) has limited the application of the Sarbanes-Oxley Act (SOX) whistleblower protection outside the boundaries of the United States. The case is Villanueva v. Core Laboratories, NV, ARB No. 09-108, ALJ No. 2009-SOX-6 (ARB Dec. 22, 2011) (en banc). The decision is particularly disappointing after the ARB had called for supplemental briefing. Stakeholders on both sides, including the National Whsitleblowers, submitted amicus briefs setting out the applicable caselaw, legislative history, and contextual effects of this important legal issue. Unlike prior decisions that summarily dismissed any extraterritorial application of SOX's whistleblower protection (such as the Canero and Ede), this time the ARB had full briefing of the relevant considerations and the majority still resists protecting whistleblowers from other countries.
Last August, I posted to this blog a description of the Villanueva case and the amicus brief submitted by NWC and the National Employment Lawyers Association (NELA). The brief argues that SOX should protect tax whistleblower William Villanueva, even though he worked for Core Lab's subsidiary in Columbia. Core Laboratories NV is a publicly traded company based in Houston, Texas. It provides services to the petroleum industry. For 16 years, William Villanueva worked as CEO of Saybolt Columbia, Core's subsidiary. On page 3, the ARB noted that "Saybolt Colombia does not register securities under Section 12 or file reports [with the SEC]." This fact became immaterial after the ARB's well-considered decision in Johnson v. Siemens Building Technologies, ARB No. 08-032, ALJ No. 2005-SOX-0151 (ARB March 31, 2011). In Johnson, the ARB held that SOX has always protected the employees of subsidiaries of publicly traded companies.
In 2008, Villanueva sent emails to corporate executives in Houston reporting how other company executives were engaged in tax transfer schemes that falsely transferred profits to low-tax Curacao, an island in the Caribbean Sea. He also reported that Core Labs accountants in Columbia were making false claims to evade the Columbian value added tax (VAT). After Villanueva refused to sign a false tax return, Core fired him.
Villanueva filed a complaint with the Department of Labor (DOL) claiming that he was fired in retaliation for raising his concerns. He claimed that his discharge violated the 2002 SOX law. An administrative law judge (ALJ) dismissed the case without a hearing on grounds that Villanueva worked outside the U.S. Villanueva appealed to the ARB. Earlier this Summer, the ARB asked for amicus briefs on the effect of the U.S. Supreme Court's decision in Morrison v. National Australia Bank, 130 S. Ct. 2869 (2010).
On page 5, the Villanueva majority notes that the president of Saybolt Latin America (an intermediate Core subsidiary) fired Villanueva in a letter "written in Spanish[.]" While reading this phrase, I had the sense that the ARB majority was motivated not so much by the remedial purpose of SOX as by the administrative inconvenience of helping whistleblowers from different cultures. On page 29, Judge E. Cooper Brown noted the majority's concern, on page 10, about how its decisions could be enforced extraterritorially. Certainly I would agree that the Department of Labor (DOL) ALJs are overworked. To me, however, the solution should not be to limit DOL services to whistleblowers in this country, but rather to explain how the remedial purpose of SOX requires protection of whistleblowers throughout the world, and then ask Congress to authorize the hiring of the necessary ALJs and enforcement attorneys.
Earlier this week, I submitted comments to DOL's new rules for SOX cases that reflect the changes enacted in the Dodd-Frank Act. On pages 5-6, I urged the DOL to adopted a new rule that makes clear that SOX has the same extraterritorial reach as the SEC's enforcement authority. It makes no sense that U.S. securities law would require publicly traded companies to file reports that accurately reflect the state of the entire business -- including foreign operations -- and then deny protection to employees operating within those foreign operations who raise concerns about the propriety of company operations and reports. Hopefully, DOL leadership will see this wisdom and correct this policy in their final SOX regulations.
In the continuation of this blog entry, I discuss the majority opinion's reasoning and the insights of the two dissents. I also provide a tip for SOX practitioners with extraterritorial issues.
The majority opinion in Villanueva got lost in the reeds when it applied the steps considered by the Supreme Court in Morrison. The majority noted on pages 8-9 that:
In analyzing “clear evidence of Congress’s intent, courts consider ‘all available evidence’ about the meaning of the statute, including its text, context, structure, and legislative history.” Carnero, 433 F.3d at 7 (citing Sale v. Haitian Ctrs. Council, Inc., 509 U.S. 155, 177 (1993).
Instead of considering SOX's "text, context, structure, and legislative history[,]" the majority then jumped to two steps the Supreme Court used in Morrison. This is where the majority missed the boat. As the dissents detail, Congress enacted SOX with full appreciation of the interconnections between transactions abroad and the integrity of reports made here in the US. On page 16, Judge Joanne Royce's dissent explains this precise point:
Congress adopted SOX against a backdrop of corporate misconduct conducted on a global arena and was well aware that sustaining market integrity would require more than a purely domestic focus. The SOX’s legislative history contains repeated references to the interconnectedness and internationalization of national markets. To quote just one such reference, Senator Bayh stated:
We exist in a global economy today and transparency and reliability of financial data is critically important to the functioning of the global economy. This has significant effects upon the United States. . . . We are affected by the reliability – or lack thereof – of financial accounting standards abroad. And our country, as we have seen several times in the last decade, can be affected by financial shocks abroad, occasionally brought on by a lack of financial transparency in some other markets.
With the passage of SOX, Congress sought to regulate the U.S. financial market in the second millennium – a market heavily globalized and complicated with vast foreign markets and substantial foreign ownership, not to mention outsourcing, off-shoring, and instantaneous cross-border electronic securities transactions in cyberspace. Limiting Section 806, a critical weapon in SOX’s arsenal of combating financial misconduct, to domestic activity would severely undercut Congress’ remedial purpose. Congress could not have intended a mechanism so anachronistic and ill-suited to modern market conditions. [Footnotes omitted.]
On page 11, the majority opinion reached the "narrow question" of "whether Section 806(a)(1) includes extraterritorial laws within its definition of protected activity . . .." The majority misses the connection between Core Lab's tax fraud and the reports it must make to the SEC right here in the US. If Core Labs is using a fraudulent scheme to underreport its tax liability to Columbia, then its SEC reports are also underreporting the company's known liabilities. Companies do not say in their public SEC reports that, "we were able to generate this much profit by cheating the Columbian government out of millions of dollars in taxes." Frauds don't work when you disclose them. SOX requires disclosure. That is why disclosing the fraud is protected by SOX.
This is my tip for SOX practitioners. Read the company's Form 10-k. Does the company report the concern raised by the whstleblower? If not, raise that as a SOX violation and explain how the whistleblower's concern was an issue that SOX requires the company to disclose. That is one tie between corporate frauds all over the world and the integrity of US stock markets. On page 13, the majority says that "Villanueva did not point to a U.S. law or domestic financial statement that was fraudulent." Certainly, Villanueva did raise SOX, and SOX does require Core Labs to disclose known deficiencies in its internal controls and reports. This connection might have been developed to the desired level of detail if the ARB had allowed Villanueva to have a hearing. It did not. That is unfair.
Judge E. Cooper Brown's dissent focused on the evidence in the record that supports finding that Villanueva's case actually arose here in the US. First, the fraud itself "was initiated and directed by Core Labs officials in Houston[.]" These officials used mail and wires thereby violating US laws against mail fraud and wire fraud. These laws are within the scope of SOX protected activity. When Villanueva raised his concerns, he did so to the Core Labs officials in Houston. These officials made the decision to fire Villanueva, and they did so from their offices here in the US.
Both Judge Royce and Judge Brown noted that the whistleblower protection is a "crucial" component of SOX. See pages 15 (Royce) and 23 (Brown). Big corporations could evade this protection simply by transferring their whistleblowers outside the US and then firing them. Judge Brown notices that since Villanueva was the company's top official in Columbia, and he reported directly to officials in Houston, the decision to fire him must have been made in Houston. The means by which the decision was communicated to Villanueva is immaterial to where that decision was made. "[I]t is the retaliation, and not the protected activity, that is the focus of congressional concern[.]" Page 28. As this decision was made in Houston, "appellate jurisdiction would thus rest with the Fifth Circuit, where the alleged retaliation occurred." Page 29.
I, for one, hope that Villanueva's attorney will petition for review to the Fifth Circuit, and that the Fifth Circuit will reverse this erroneous decision and adopt either or both dissents. Until then, whistleblowers around the world are deprived of SOX protection when they risk their careers by raising concerns that could improve the integrity of the stocks traded here in the US.
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