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From Securities Regulation Daily, May 28, 2015

SOX whistleblower had reasonable belief conduct was fraudulent

By Kathleen Kapusta, J.D.

Rejecting the standard first enunciated in Platone v. FLYi, Inc.—that a SOX whistleblower’s complaint must “definitively and specifically” relate to an enumerated legal violation to qualify for protection and that the complaint must “approximate . . . the basic elements” of the kind of fraud or violation alleged—the Sixth Circuit held that a complainant need only show that he reasonably believed the conduct complained of constituted a violation of the enumerated laws. Applying that standard to a jury verdict in favor a former U.S. Bancorp Investment financial analyst, who claimed he was disciplined and fired in retaliation for his complaint about fraud perpetrated on an elderly customer in violation of SOX, the appeals court found the evidence more than adequate to sustain the judgment that he possessed an objectively reasonable belief the complained-of conduct constituted unsuitability fraud. Accordingly, it affirmed the judgment of the court below (Rhinehimer v. U.S. Bancorp Investments, Inc., May 28, 2015, Clay, E.).

Stay out of it. The employee, a certified financial planner with more than 20 years of experience in financial consulting, alleged that while he was on disability leave, a coworker engaged in unsuitable trades to the detriment of the employee’s elderly client. When the employee learned of the trades, he called his immediate supervisor, who purportedly told him to stay out of it. Upon learning about a second trade placed by the coworker on behalf of the same elderly client, the employee again called his supervisor and sent an email to his supervising principal complaining that the trades were made behind the employee’s back, that the coworker destroyed the client’s estate plan, and that he was “untrained, uneducated, irresponsible & careless.”

Your career is over. Three days after he returned from leave, the employee was given a written warning for the unprofessional language used in his email regarding his coworker. He testified that he was informed his email prompted a FINRA investigation. Two months later, he was told his career was over. Shortly thereafter he was placed on a PIP and fired when he failed to meet his goal.

Jury verdict. The employee then sued, alleging retaliation in violation of SOX. After a five-day trial, the jury returned a verdict for the employee, finding that at the time of the complaint, he had an objectively reasonable belief his coworker had committed unsuitability fraud, his email was a contributing factor in his termination, and the bank failed to prove that it would have discharged him even if he had not sent the email.

Appropriate legal standard. Although the sole issue on appeal was whether the jury could find that the employee had engaged in protected activity under SOX Section 1514A, the court observed that resolving this issue first required it to determine the appropriate legal standard in this evolving area of law. Pursuant to the language of the statute, protected activity under Section 1514A includes “any lawful act done by the employee” to provide information to a supervisor (as relevant here) regarding any conduct the employee reasonably believes constitutes a violation of various enumerated sections, any rule or regulation of the Securities and Exchange Commission, or any provision of federal law relating to fraud against shareholders.

The employer argued the evidence did not support a finding that the employee could have had an objectively reasonable belief his coworker’s conduct constituted unsuitability fraud. It contended that pursuant to the Sixth Circuit’s unpublished decision in Riddle v. First Tennessee Bank, National Association, he was required to establish facts from which a reasonable person could infer each of the elements of an unsuitability fraud claim, including the misrepresentation or omission of material facts, and that the broker acted with intent or reckless disregard for the client’s needs. The district court accepted the employer’s statement of the legal standard and instructed the jury that the employee had to show he had “an objectively reasonable belief” that each of the elements of unsuitability fraud existed in connection with the sale by his coworker to his client. On appeal, the bank contended that the employee could not show he had adequate information to form a reasonable belief that it intentionally or with reckless disregard misrepresented or omitted material facts in its communications with him about the trades.

Emerging rule. In rejecting the “definitively and specifically” standard recited in Riddle as inconsistent with Section 1514A and the statutory scheme, and instead adopting the emerging rule that a reasonable belief is a simple factual question requiring no subset of findings that the employee had a justifiable belief as to each of the legally-defined elements of the suspected fraud, the appeals court first noted that the “definitively and specifically” standard was introduced into the adjudication of SOX whistleblower claims by the Administrative Review Board in 2006 in Platone and that the standard was soon adopted by a number of circuits.

ARB reverses course. However, in 2011, the ARB reversed course and abrogated Platone in Sylvester v. Parexel Int’l LLC, in which it concluded that the “definitively and specifically” requirement was “inapposite” in the SOX context and that it also presented a potential conflict with the express statutory authority of Section 1514A. Further, the ARB specifically rejected the requirement that a complainant’s theory of impropriety must closely imitate the elements of the pertinent fraud, stating instead that the SOX Act’s “plain language provides the proper standard for establishing protected activity,” i.e., whether the employee “‘reasonably believes’ that the conduct complained of constitutes a violation of the laws listed at Section 1514[A(a)(1)].”

Nielsen. Noting that federal courts have recognized that Sylvester casts substantial doubt on the continuing validity of the “definitively and specifically” standard, and that it had not decided whether the ARB’s reasonable interpretations of Section 1514A were entitled to Chevron deference, the appeals court turned to Nielsen v. AECOM Tech. Corp., in which the Second Circuit concluded that Sylvester’s rejection of the “definitively and specifically” standard “is persuasive even under lesser Skidmore deference” and declined to reach whether the ARB’s interpretations of  Section 1514A were entitled to Chevron deference. The court here did the same. Accordingly, it adopted as persuasive the reasoning of Sylvester and rejected the “definitively and specifically” standard applied in its previous unpublished Riddle opinion.

Reasonable belief. Agreeing that the statute’s “plain language provides the proper standard for establishing protected activity,” the court concluded that to sustain a complaint based on protected activity under Section 1514A, “the complainant need only show that he or she ‘reasonably believes’ that the conduct complained of constitutes a violation” of the enumerated laws.

Applying that standard here, the court observed that the employee knew the structure of his client’s long-held estate plans and learned of trades that a reasonable investment professional would recognize as inconsistent with those plans. Further, he understood that the trades changed how the affected funds were titled and how they would be distributed upon his client’s death, including whether they would be exposed to probate. He was also aware of his client’s vulnerability as an elderly man with increasingly diminished faculties, and he was familiar with his coworker’s incentives to place the trades and with his employer’s past efforts to encourage his client to invest the funds in his trust account so that the bank would earn more money.

Viewing the evidence in the light most favorable to the employee, the court also assumed that the coworker placed the contested trades after a phone call in which the employee warned him of the client’s diminished capacity and asked him not to make any trades for the client. Based on the totality of these circumstances, the court found that the evidence was more than sufficient to sustain the jury’s finding that the employee reasonably believed the trades constituted unsuitability fraud. Thus, when the bank retaliated against him for reporting that information, it violated SOX’s whistleblower protections.

The case number is 13-6641.

Attorneys: Gregory Parker Rogers (Taft, Stettinius & Hollister) for U.S. Bancorp Investments, Inc. Lynn D. Pundzak (Pundzak Law Office) for Michael Rhinehimer.

Companies: U.S. Bancorp Investments, Inc.

MainStory: TopStory WhistleblowerNews KentuckyNews MichiganNews OhioNews TennesseeNews

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