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Second Circuit Upholds SEC Denial of Whistleblower Rewards to Three Claimants in Deutsche Bank Settlement

Posted  November 13, 2019

In May 2015, Deutsche Bank agreed to pay a $55 million penalty to the SEC to settle charges that its financial statements misreported the value of a portfolio of derivatives, failing to take account of the material risk of potential losses associated with the derivatives.  Subsequently, in November 2017, the SEC announced that it had awarded whistleblower rewards totaling $16 million to two whistleblowers “whose critical information and continuing assistance helped the agency bring” a successful enforcement action.  As is usual with such SEC whistleblower reward announcements, however, neither the underlying enforcement action nor the whistleblowers’ identity was disclosed by the SEC, and there was no apparent connection between the 2015 Deutsche Bank settlement and the 2017 whistleblower rewards, which amounted to 29% of the Deutsche Bank settlement.

Now, a Second Circuit opinion in Kilgour v. U.S. Securities and Exch. Comm’n connects those two SEC actions, in addition to upholding the SEC’s discretion to determine whistleblower reward eligibility and reward amount, and offering some critical lessons for whistleblowers on the importance of a good submission to the SEC. Since the Dodd-Frank Act was passed in 2010 and the SEC Whistleblower Program was created, there have been few reported court opinions analyzing the SEC Whistleblower Program outside of the context of retaliation claims and protections, making the Kilgour decision all the more significant.

A Wet Brown Bag of Evidence: How the Case Got to the Second Circuit

According to the facts recited in the court’s opinion, the SEC’s Enforcement Division opened its investigation into Deutsche Bank’s misstatement of its derivative risk in the summer of 2010, after receiving information from DB that a DB employee (“Claimant 1”) had filed an internal complaint about the practice.  Subsequently, the SEC Enforcement Division also began receiving information from “Claimant 2,” whom the SEC deemed a “highly credible source of information,” with information that was “invaluable” to the SEC investigation. Claimant 2 also submitted an expert report, prepared by the Kilgour Williams Group, which the SEC found “detailed,” “comprehensive,” and so “critical” to its investigation that the SEC used it in settlement negotiations with DB.

In the meantime, a third whistleblower, one of the appellants identified only as Doe, met with SEC staff in the Complex Financial Instruments Unit (not the Enforcement Division).  According to the SEC, Doe “had difficulty articulating credible and coherent information” – although he had brought with him “a wet brown bag containing what [he] claimed to be evidence.”  Doe later provided this and other information to the Enforcement Division, but the Enforcement Division found Doe’s information to be duplicative, redundant, or publicly-available, and found Doe to be “very difficult to follow.”

After the $55 million DB settlement was announced, a total of nine claimants submitted applications for a whistleblower reward, including the DB employee who had made the initial internal complaint (Claimant 1), Claimant 2, and Kilgour and Williams, the principals in the Kilgour Williams Group that had prepared the expert report submitted to the SEC by Claimant 2 (who, according to the opinion, agreed with them seeking individual whistleblower awards).

  • The SEC denied Doe’s application, stating that his information was “not of high quality” and duplicated information the SEC had already received from Claimants 1 and 2.
  • The SEC denied Kilgour and Williams’s claims, stating that they did not provide “original information” as required by the SEC Reward Program, because the SEC already had their information from Claimant 2.

(of note on the timeline: although there is little information in the opinion about Claimant 1’s contact with the SEC, that initial complaint was made before passage of Dodd-Frank in July, 2010; Claimant 2’s first contacts with the SEC came in the first months of the SEC’s whistleblower program, before the effective date of the program’s rules)

When the SEC denies an application for a whistleblower reward, a claimant may appeal that denial to the United States Court of Appeals for the District of Columbia Circuit, or to the circuit where the aggrieved person resides or has a principal place of business.  By contrast, if the whistleblower is awarded between 10 and 30% of the monetary recovery, but objects to the specific amount, the SEC’s determination is not appealable.  Because Doe, Kilgour, and Williams were denied any award, they were able to appeal.

Second Circuit Upholds Denial of Whistleblower Rewards to Doe, Kilgour, and Williams

The Dodd-Frank Act states that the SEC “shall pay an award” to a whistleblower who “voluntarily provided original information to the Commission that led to the successful enforcement [action].” That “shall pay” provision is one of the great strengths of the SEC Whistleblower program. Doe argued that he had provided original information – perhaps in the wet brown bag – which aided in a successful enforcement action, making an award to him not only authorized, but also non-discretionary.  The Second Circuit rejected this argument, agreeing with the SEC that the form of the whistleblower’s submission matters. The SEC had the authority to say that a data dump, absent meaningful curation of that information, failed to provide “original information to the Commission that led to” a successful enforcement action.

The Court also denied Kilgour and Williams’ appeal, finding that their information did not significantly contribute to the DB settlement success, because by the time they separately submitted their information, it had already been provided by Claimant 2.

Curate Submissions: What the Kilgour Decision Means for Whistleblowers – and their Lawyers

Brass thumbtacks scatteredIn 2018, the SEC Whistleblower program received over 5,200 whistleblower tips, continuing a steady upward trend in submissions since the program began.  The SEC has previously advised that successful whistleblowers were likely to have provided specific information – the names of individuals involved in the misconduct, copies of documents supporting their allegations (or and explanation of where such documents could be located), and, often, the identification of specific financial transactions – as well as ongoing assistance.  Doe appears to have failed to provide any of these things.

The Second Circuit offered a hypothetical:  Whistleblower A submits “one-thousand pages of scrambled documents, informing the SEC only that some incriminating information lies within.”  Later, Whistleblower B submits “a single incriminating document, 10 pages in length, and explains in an attached memorandum why the document is incriminating.”  The SEC plainly would rather deal with – and reward – Whistleblower B, and the Second Circuit held that the SEC’s preferences are consistent with Dodd-Frank. A contrary interpretation “might disincentivize whistleblowers from curating their submissions.”

An attorney experienced in representing SEC whistleblowers can provide invaluable assistance in submitting a strong claim to the SEC.  An experienced lawyer can help a whistleblower evaluate their potential claims, collect and present information to the relevant decision-makers at the SEC, provide effective assistance to the government throughout the investigation, and secure the whistleblower’s rights in proceedings to claim a whistleblower reward.

However, while whistleblower lawyers may be appropriately confident that they can properly curate a client’s submissions and provide the type of specific information and ongoing assistance that will support a whistleblower reward, Kilgour is not without its downside.  As said, Dodd-Frank’s “shall pay” provision is one of the critical components of the SEC Whistleblower Program, and any weakening of that mandate would be disappointing.  Neither SEC practice nor judicial decisions should add requirements to the SEC whistleblower rules that are not supported by the Dodd-Frank Act. While it may seem easy to dismiss an individual bearing a wet brown bag of documents who cannot tell a coherent story, not all cases will be so clear, and whistleblower lawyers will continue to play an important role in advocating for their clients and protecting the law.

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Tagged in: Court Decision, Financial and Investment Fraud, SEC Whistleblower Reward Program, Securities Fraud,