Whistleblowing in the Workplace: An Evaluation of the Effectiveness of Sox

Whistleblowing in the Workplace: An Evaluation of the Effectiveness of SOX

Before the establishment of the Sarbanes-Oxley Act in 2002, employees were wary of the repercussions and consequences of whistleblowing. They felt that they were either forced to keep any knowledge of illegal activity within a company a secret or risk unknown and negative consequences. The law in place in the United States before 2002 was the Lloyd-La Follette Act of 1912, which specifically protected and guaranteed whistleblowers the right to provide any information to the United States Congress. However, as events such as the WorldCom and Enron scandals prove, this law is outdated and not specific enough for the scope of influence that today's corporations have. The United States Department of Labor also has an Office of the Whistleblower Protection Program but the actions of this office are vague and the steps to report whistleblowing through this channel are not practical for most whistleblowing situations.

The beginning of the WorldCom scandal that resulted in employee whistleblowing was in 1999. Between 1999 and 2002, the company used fraudulent accounting methods to mask declining earnings and made it seem as though WorldCom was experiencing financial growth. The public was seeing an increased stock price and employees within the company were seeing promising earnings on the surface. However, after looking closely at WorldCom's numbers, a small team of auditors discovered that the company was underreporting line costs and inflating revenues. Because the team of whistleblowers led by Cynthia Cooper feared for their jobs and possible retribution, they worked at night and in secret to gather the necessary evidence against their employer. The investigation eventually revealed that the company's assets had been inflated by an estimated $11 Billion. Because the Sarbanes-Oxley Act had yet to be passed, these auditors had to work in fear and at night to undercover their employer's fraudulent acts.

The Enron scandal developed a similar set of whistleblowers. Sherron Watkins, who was the vice president for corporate development, sent an anonymous letter to Enron's CEO about the company's fraudulent accounting practices. Because Texas law at the time did not protect company whistleblowers, Watkins was risking her position within the company by revealing her discovery of the fraudulent practices. As in the WorldCom situation, the whistleblower was forced to choose between maintain a position within the company or informing the public about the fraudulent practices. Before the Sarbanes-Oxley Act of 2002, whistleblowers lacked support in most companies and were usually risking their own jobs and professions for the sake of the public.

Throughout the 1980s and 1990s, there was a dramatic increase in the number of whistleblowers. With the culmination of the Enron and WorldCom scandals, Congress passed the Sarbanes-Oxley Act, which changed many of the standards that publicly traded companies had to comply with. One of the major changes affected by Sarbanes-Oxley were the new protections that whistleblowers were guaranteed under the law.

Within Sarbanes-Oxley, there were three sections that specifically addressed protections for whistleblowers: Section 806, Section 301, and Section 1107. Section 806 is perhaps the most important protection for individual whistleblowers, as it prevents companies from taking retaliatory actions against a whistleblower, including firing, demoting, threatening, or harassing an employee who reports any suspected wrongdoings to an investigatory agency. If the company takes retaliatory action against an employee, the employee may file a civil suit against the company. A whistleblower does not have to be correct in order to receive these protections. Instead, they only need a reasonable suspicion that they have information concerning a covered violation. However, the whistleblower must go to a government agency, such as the SEC, a law enforcement agency, or a member of Congress in order to receive these protections. If a whistleblower goes to a member of the media first, they will not be afforded these protections.

Section 301 regulates the Audit Committee of Boards of Directors. With specific regards to whistleblowing, Section 301 of Sarbanes-Oxley requires audit committees to set up internal whistleblowing avenues where employees can anonymously report concerns regarding accounting or auditing matters. The argument for this procedure is that it allows potential issues to be dealt with internally before a regulatory investigation occurs. However, some argue that this allows companies a chance to cover up scandals before they are reported to authorities.

Lastly, Section 1107 imposed stricter criminal penalties against companies and their officers who knowingly engage in retaliatory actions against whistleblowers. If convicted, the retaliator is subject to fines from the SEC and up to a ten-year prison sentence. Section 1107 is very broadly written to protect whistleblowers who report any federal violation, not only accounting and securities frauds.

Since Sarbanes-Oxley has taken effect, many sections regarding the protections of whistleblowers have been tested and challenged, including in the following notable cases.

Sarbanes-Oxley has increased the risks employers face when firing employees. Shortly after Sarbanes-Oxley was enacted in 2002, Lexmark International, Inc. came under fire when it discharged an employee who the day before his termination had issued a report that cast the company in a negative light. Lexmark had previously come close to firing this employee due to what it termed well-documented performance problems and difficulties getting along with his coworkers. There were several documents released in the months prior to his termination that suggested that the company would terminate him in early 2003.

However, the day before his termination, the plaintiff in the case had completed a report in which he described the company's levels of inventory as inflated. He stated in his report that the company's methods would lead to what he termed erroneous inventory management. The day after the plaintiff released his report, he was terminated. The plaintiff filed a lawsuit with Lexmark, who believed that it had acted within the legal requirements set forth under the Sarbanes-Oxley Act of 2002. Despite this, an Administrative Law Judge found that the lack of time between the release of his report and his termination was proof enough to suggest that there was an inference of causation between the two events. The ALJ also found that Lexmark had failed to prove that they had provided enough evidence to suggest that the company would have fired the plaintiff regardless of the report he had written. The problem

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