Why CEOs and Boards Should Establish Robust Internal Whistleblower Policies
04/25/2013 | by Lipman, Frederick D.A robust internal whistleblower policy is an important internal control. Even the Center for Audit Quality has mentioned the key role played by this internal control for financial reporting purposes. Most CEOs and directors believe that, by installing a hotline and creating a paper whistleblower policy, they have established an effective internal whistleblower system. They are misled by the fact that occasionally the hotline is used for typical employee grievances, such as perceived discrimination or sexual harassment complaints.
Unfortunately, much more is required to create a robust internal whistleblower policy. Indeed, it requires a cultural change within the organization which must start with the "tone at the top". Although "tone at the top" usually means the tone set by the CEO, it also includes the tone set by the independent directors as well. CEO's and directors also tend to greatly underestimate the significant disincentives to internal whistleblowing, including both direct and subtle forms of retaliation to which internal whistleblowers are subject.
Both the federal and state governments have adopted external whistleblower reward systems to encourage employee whistleblowers to reveal misconduct directly to governmental authorities. The following chart is a brief summary of the external rewards now provided to employees for revealing wrongdoing to governmental authorities:
Dodd-Frank 10% to 30% of amount collected for violation of federal securities laws (including Foreign Corrupt Practices Act) or Commodity Exchange Act if monetary sanctions exceed $1 million.
False Claims Act 15% to 25% of collected recovery, but can be as high as 30% or as low as 10%
IRS Mandatory Awards of 15% to 30% of amount collected if amounts in dispute exceed $2 million and if target taxpayer is an individual, annual gross income must exceed $200,000. If target taxpayer is an entity, there is no gross income requirement. Discretionary awards authorized below the $2 million threshold.
Miscellaneous Statutes Act to Prevent Pollution From Ships (up to one-half of fine), state and local false claims laws etc.
The five primary reasons that organizations, whether public, private, governmental or non-profit, should adopt a robust whistleblower system are:
- To protect the organization from criminal indictment, conviction and fines and from related civil liability and, in the case of non-profit organizations, the loss of donor support;
- To protect the shareholders or other equity holders of the organization from loss of value of their equity interests;
- To protect the board of directors and officers from civil liability;
- To protect the chief executive officer ("CEO") from both criminal and civil liability; and
- To protect the business reputation of both the directors and the CEO as well as the reputation of the organization itself.
Many public companies have a "paper" whistleblower system. In such a system, the company has complied with the letter of the SOX requirements and exchange listing rules but has done nothing more. Management tolerates the whistleblower system but does not encourage whistleblowers. As a result, potential whistleblowers, facing daunting disincentives, refuse to participate in the system.
Many not-for-profit organizations and private companies have adopted similar ineffective whistleblower policies. Many CEOs and boards believe that by establishing a hotline service they have an effective whistleblower policy. However, according to the Ethics Resource Center ("ERC") only 5% of employees would use hotlines to first report misconduct. In 2011, 56% of first reports were made to the employee's direct supervisor.  However, the direct supervisor or a higher tier superior may be involved in the misconduct and will bury the report. One of the primary reasons employees will seek whistleblower rewards from governmental authorities, such as the SEC, is because of perceived retaliation against internal whistleblowers.
 Auditor Assessment Tool
 Ethics Resource Center: Inside the Mind of a Whistleblower – 2012 ("ERC Report"), p. 12
 ERC Report, p. 11CATEGORY: Internal Whistleblowing