Quarterly Securities Enforcement Briefing

• DOJ Prioritizes Prosecutions of Individuals in Corporate Criminal Investigations
• 2nd Circuit Says Dodd-Frank Protects Internal Whistleblowers
• Supreme Court Rejects 2nd Circuit Insider Trading Appeal in Blow to Enforcement Effort
• CEO vs. Worker Pay: SEC Weighs in on Income Inequality?

DOJ Prioritizes Prosecutions of Individuals in Corporate Criminal Investigations
By Jeffrey B. Coopersmith

On Sept. 9, 2015, Deputy Attorney General Sally Quillian Yates issued a memorandum (“Yates Memo”) announcing a renewed focus by the Department of Justice on prosecuting and bringing civil enforcement cases against individual directors, officers, and employees rather than just against the companies they serve. The memo contains six key policies designed to lead to more charges and lawsuits against individuals:

1. in order to qualify for any cooperation credit, corporations must provide to the Department all relevant facts relating to the individuals responsible for the misconduct;
2. criminal and civil corporate investigations should focus on individuals from the inception of the investigation;
3. criminal and civil attorneys handling corporate investigations should be in routine communication with one another;
4. absent extraordinary circumstances or approved departmental policy, the Department will not release culpable individuals from civil or criminal liability when resolving a matter with a corporation;
5. Department attorneys should not resolve matters with a corporation without a clear plan to resolve related individual cases, and should  memorialize any declinations as to individuals in such cases; and
6. civil attorneys should consistently focus on individuals as well as the company and evaluate whether to bring suit against an individual based on considerations beyond that individual's ability to pay. 

The head of DOJ’s Criminal Division, Leslie Caldwell, provided further information about the DOJ policy and gave examples of how it is working in practice in a Sept. 30, 2015 speech. Ms. Caldwell stressed the importance of individual prosecutions to the DOJ’s policy goals, commenting that such prosecutions “should send a powerful message to those who would engage in misconduct, as well as to companies that have engaged in wrongdoing and are seeking leniency in exchange for cooperating with a department investigation.”

The DOJ’s policy initiative appears to be a reaction to criticism leveled at DOJ for its failure to hold individuals accountable for conduct relating to the financial crisis of 2007-08.  As Ms. Caldwell stressed in her remarks on Sept. 30, 2015, the policies in the Yates Memo are not necessarily new. Especially in criminal matters, the DOJ has always been interested in prosecuting individuals and seeking prison sentences rather than just fines. Nevertheless, the Yates Memo directives may make it more difficult to negotiate corporate settlements with the DOJ that do not include charges against individuals. 

However, while the Yates Memo is certainly designed to send a message and to mute criticism of DOJ’s past charging decisions, it remains unclear whether the Yates Memo will actually lead to more charges and civil enforcement cases against individuals, directors, officers, and employees. Because company settlements basically involve the payment of money and agreement to remedial measures, decisions companies make to resolve criminal cases with the DOJ are much closer to being pure financial decisions compared to such decisions by individuals. Individuals face potential prison time and therefore are much more likely to go to trial compared to companies. As a result, the DOJ and other government agencies typically need to have more confidence in the evidence to indict or sue individuals, especially in corporate wrongdoing cases where there are more likely to be resources for retaining top notch defense counsel. 

2nd Circuit Says Dodd-Frank Protects Internal Whistleblowers
By John A. Goldmark

On Sept. 10, 2015, the 2nd Circuit issued its highly anticipated ruling in Berman v. Neo@Oglivy, finding that Dodd-Frank’s whistleblower protections cover those who only report their complaints internally before the alleged retaliation (without first going to the SEC). The 2nd Circuit ruling creates a conflict, as it is directly at odds with the 5th Circuit’s decision in Asadi v. G.E. Energy (USA) LLC, which we reported on earlier this year. This circuit split makes it more likely that the Supreme Court will address the question of whether pure internal reporting within a company triggers whistleblower protections under Dodd-Frank.

In Berman, the company’s finance director alleged he discovered various practices amounting to accounting fraud and reported them internally, which he claimed resulted in his termination. Notably, he did not report activity to the SEC until after his termination, which meant he could not rely on the SEC report as the basis for his retaliation claim. The district court dismissed the claim, reading Dodd-Frank (like the 5th Circuit did in Asadi) to only protect those who claim retaliation after reporting to the SEC. The 2nd Circuit disagreed, finding the Dodd-Frank whistleblower provision was ambiguous on the issue and giving deference to the SEC’s interpretation that the statute protects internal whistleblowers. The Berman ruling makes Dodd-Frank consistent with Section 806 of the Sarbanes-Oxley Act, which expressly protects internal whistleblowers.

An ultimate Supreme Court resolution of this issue could significantly alter the landscape for securities whistleblowers nationwide. If the high court sides with the Berman decision, whistleblowers beyond the Second Circuit will likely have more incentive to bring claims under Dodd-Frank than under Sarbanes-Oxley’s Section 806. Among other things, Dodd-Frank whistleblowers are eligible for potentially large bounty awards, have a longer timer period to bring a claim, and can sue directly in federal district court rather than having to first exhaust administrative remedies (as required for Sarbanes-Oxley whistleblowers). Further, successful Dodd-Frank whistleblowers may recover larger awards, up to double back-pay plus attorney’s fees. On the other hand, if the high court sides with the Asadi ruling, then internal whistleblowers beyond the 5th Circuit will be constrained to the administrative process and relief available under Sarbanes-Oxley.

Supreme Court Rejects 2nd Circuit Insider Trading Appeal in Blow to Enforcement Efforts
By Conner G. Peretti

In early October, the U.S. Supreme Court declined the federal government’s invitation to review the 2nd Circuit’s landmark U.S. v. Newman decision regarding insider trading. Newman significantly narrowed the definition of “personal benefit” to the tipper required to sustain a conviction. We previously reported on that decision in January 2015. Since Newman, the 9th Circuit weighed in on the same issue in U.S. v. Salman in July, but departed from Newman by declining to adopt the 2nd Circuit’s analysis. Interestingly, Judge Jed S. Rakoff, a district judge in the 2nd Circuit’s District Court for the Southern District of New York (S.D.N.Y), sat by designation on the 9th Circuit panel that decided Salman.

As we predicted in July, the U.S. Attorney’s Office for the S.D.N.Y. appealed the Newman decision, arguing that the 9th’s Circuit’s decision created a Circuit split that warranted resolution by the Supreme Court.  Now, the Supreme Court has denied that invitation. The Court’s decision, while without precedential effect, deals a significant blow to the enforcement efforts of tipper-tippee insider trading in the S.D.N.Y, as Davis Wright Tremaine’s Jeff Coopersmith noted in a recent Law360 article. Indeed, Preet Bharara, U.S. Attorney for the S.D.N.Y, announced last week that federal prosecutors would drop charges against Michael Steinberg, the former SAC Capital Advisors LP portfolio manager convicted of insider trading. The government will also drop charges against six cooperating witnesses who pled guilty in connection with the scheme in Newman. In the announcement, Mr. Bharara cited the Supreme Court’s refusal to review Newman as the primary motivation behind dropping the charges.

CEO vs. Worker Pay: SEC Weighs in on Income Inequality?
By Candice M. Tewell

On Aug. 5, 2015, the U.S. Securities and Exchange Commission approved a final rule requiring companies to reveal the pay gap between the company’s chief executive officer and its median worker. The new rule, which passed after a 3-2 vote of the Commission, will take effect in 2017. However, pay ratio data will likely only become publicly available in 2018, because companies will start disclosing the new pay ratios for the fiscal year beginning on or after Jan. 1, 2017.

The pay ratio rule generated heated debate before the Commission. The SEC received over 280,000 comments on the issue, since it was first proposed two years ago as a result of the 2010 Dodd-Frank Act, which requires the disclosure. Despite the statutory direction, the SEC delayed the progress of the rule for several years, leading to attacks from labor unions and Democratic lawmakers. Other groups—including Republican lawmakers and the U.S. Chamber of Commerce—strongly opposed the rule.

The final rule responds to concerns about the costs of compliance by providing companies with flexibility in determining median worker pay. For example, median employee pay must be identified only once every three years; companies can consider cost-of-living adjustments reflecting that lower wages in some areas result from a lower cost of living (resulting in higher median pay), and companies can calculate the median pay on any date within the last three months of the fiscal year, thus potentially excluding many seasonal workers from the calculation. Companies will be allowed to select their own methodology for identifying a median employee and that employee’s compensation, including through statistical sampling of its employee population or other reasonable methods. In addition, companies may exclude up to 5% of their foreign employees from the calculation if those employees work in countries where data privacy laws and regulations make compliance difficult.

The new rule does not apply to smaller reporting companies, emerging growth companies, foreign private issuers, multijurisdictional (“MJDS”) filers, or registered investment companies. The rule also provides transition periods for new companies, companies engaging in acquisitions or other business combinations, and companies that cease to be smaller reporting companies or emerging growth companies.

Detailed information from the SEC about the new pay ratio rule, including the full text of the final rule, can be found here.