Editor’s Note: This recent post from our sister blog – Federal Securities Law Blog – highlights one of the important employment law cases that the U.S. Supreme Court will address this year. As Kelly Johnson explains, the Court’s decision in Lawson v. FMR LLC extending whistleblower SOX whistleblower protection to employees of contractors and subcontractors of public companies greatly expands the scope of SOX’s reach. Indeed, the Court refused to limit its decision to private companies whose actions contributed to shareholder fraud because the requisite facts were not properly before it. As Justice Sotomoyer noted in her dissenting opinion, the Lawson decision “threatens to subject private companies to a costly new front of employment litigation.” Private employers that provide services to public companies need to beware of this new development.

In a 6-3 decision, the U.S. Supreme Court decided last week that whistleblower protection under the Sarbanes-Oxley Act of 2002 includes employees of a public company’s private contractors and subcontractors. In Lawson v. FMR LLC, the court, in a majority opinion written by Justice Ginsburg, concluded that extending protection to employees of a contractor was consistent with the purpose and intent of Sarbanes-Oxley: to protect investors and restore trust in financial markets.

As background, plaintiffs Lawson and Zang separately initiated lawsuits against their former employer, a privately held company that provided advisory management services to the Fidelity family of mutual funds. The mutual funds were not parties to the action because, as is common in the mutual fund industry, the Fidelity funds had no employees. Instead, the funds contracted with investment advisors like FMR to handle the day-to-day operations of the funds. After they were terminated, Lawson and Zang alleged that they were fired in retaliation for raising concerns about cost accounting methodologies and inaccuracies in SEC registration statements for the funds. FMR sought to have the actions dismissed, but those motions were rejected by the trial court.

In a 2-1 decision, the U.S. First Circuit Court of Appeals reversed the trial court and found that the whistleblower protections of Sarbanes-Oxley were available only to employees of the public companies, and did not cover a contractor’s employees.

In deciding that whistleblower protection extended to contractors of public companies, the Supreme Court focused on a narrow provision of Section 1514A which provides that “no company … or any … contractor … of such company may [retaliate] against an employee … because of [whistleblowing].” In reaching its decision, the court focused on a plain reading of the statute and concluded that “A contractor may not retaliate against its own employees for engaging in protected whistleblowing activity.”

The majority found this interpretation consistent with the history and purpose of Sarbanes-Oxley, which was enacted in response to the collapse of Enron. The congressional record confirmed the focus of Congress on the activities of contractors, including accountants and attorneys, who had failed to disclose accounting reporting irregularities concerning Enron to regulators, out of fear of retaliation by their employers.

In its decision, the court rejected two arguments forwarded by FMR. FMR argued that an “employee” must be limited to public company employees to avoid the “absurd” result of extending protection to the personal employees of company officers and employees. The court rejected this argument and found that nothing in the record suggested that Congress intended this interpretation or that “ few housekeepers and gardeners” would be likely to be exposed to evidence of their employers complicity in fraud.

In addition, FMR argued that the statutory headings of Sarbanes-Oxley, including the heading “Whistleblower Protection for Employees of Publicly Traded Companies,” provided evidence that Congress intended to limit the focus of the act to employees of public companies. The high court relied on the decision of Trainmen v. Baltimore & Ohio R. Co. to find that the headings and titles of the act were not meant to take the place of the detailed provisions of the act.

An analysis of the decision indicates that the history and background of Sarbanes-Oxley underlies the basis for the court’s interpretation. Specifically, the court found that Congress included whistleblower protection in Sarbanes-Oxley as a means to ward off another Enron “debacle.” The Senate report recognized that outside professionals, including accountants, lawyers and contractors were complicit in, if not integral to, the shareholder fraud and subsequent cover-up. In fact, Congress cited examples that focused on outside professionals and discussed possible retaliation by their employers to support Sarbanes-Oxley. Further, the majority could not accept that it was Congress’ intent to leave professionals vulnerable to discharge in retaliatory action for complying with federal securities law.

The court also rejected the practical effect of FMR’s arguments which would have virtually insulated the mutual fund industry from Sarbanes-Oxley whistleblower protection. Because virtually all mutual funds have no employees, and are managed by independent investment advisors and consultants, whistleblower protection is necessary to protect insiders who are the only firsthand witnesses of shareholder fraud.