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June 21, 2023

SEC Charges Company With Whistleblower Retaliation and Impeding Reporting

Advisory

On May 23, 2023, the U.S. Securities and Exchange Commission (SEC) issued an Order Instituting Proceedings (Order) reflecting a $2 million settlement with Gaia Inc. (Gaia or the Company), an internet streaming company offering digital video subscription services focusing on yoga, transformation, and alternative healing. The Order included findings that the Company (i) made material misstatements about the number of paid subscribers, (ii) engaged in whistleblower retaliation against an employee who reported internally and to the SEC about overstating the number of its paying subscribers, and (iii) impeded whistleblowing to the SEC by including language in severance agreements that required the employees to waive their right to monetary incentives that are intended to encourage direct reporting to the SEC about possible securities law violations.1 As part of the settlement, Gaia agreed to make reasonable efforts to contact the former Gaia employees who entered into the severance agreements, provide a link to the Order, and advise them in writing that Gaia “does not prohibit former employees from accepting a whistleblower award from the Commission pursuant to Section 21F of the Exchange Act.”

Relevant Facts in Gaia

Internal Reporting and Company Investigation

According to the Order, an employee internally reported concerns that Gaia was overstating the number of its paying subscribers–a key metric tracked by analysts–at least twice to management. Gaia management looked into these allegations but determined the subscriber count was accurate. The Audit Committee of the Board of Directors also determined the issue “presented no financial reporting issues.” The whistleblower was informed that no further action would be taken on the complaint. The Order notes that when the Company “did not fully investigate or remediate the issue,” the whistleblower reported the matter to the SEC.

Whistleblower Retaliation

According to the Order, over the next few months, the employee continued to complain internally to Gaia managers about “a range of issues.” The company subsequently terminated the employee “for cause” for making “unfounded complaints that required a significant expenditure of company resources to fully investigate,” including the complaint about overstated subscribers. The SEC found that Gaia’s actions violated the anti-retaliation provisions of Section 21F(h) of the Securities Exchange Act of 1934 (Exchange Act).

Whistleblower Impeding

The Order separately states that between July 2018 through August 2021, Gaia entered into severance agreements with employees that contained the following language (emphasis added):

Nothing in this Section shall be construed or deemed to interfere with any protected right to file a charge or complaint with any applicable federal, state or local governmental administrative agency charged with enforcement of any law, or with any protected right to participate in an investigation or proceeding conducted by such administrative agency. You are however waiving your right to any monetary recovery or other individual relief in connection with any charge or complaint filed by you or anyone else.

The Order found that Gaia violated Exchange Act Rule 21F-17(a) by requiring departing employees to waive their right to receive monetary awards intended to incentivize direct reporting to the SEC about possible securities law violations.

Key Takeaways

The Gaia matter provides several key takeaways for consideration.

  • Thoroughly Investigate and Remediate Internal Complaints. It appears that Gaia made some inquiries into the allegations, but the true scope of the problem was not uncovered and remediated. While not every internal complaint may warrant a full-scale investigation by outside counsel, if allegations involve items that may impact disclosures to investors or company financial statements such as key reporting metrics, or allegations that may implicate C-suite executives, a company should consider retaining outside counsel to independently review and investigate the allegations. Independent counsel can also help assuage an employee’s concerns that their allegations are not being taken seriously.
  • Take a Fresh Look at Agreements for “Impeding” Language. Because this is the second impeding case brought by the SEC in three months, companies should conduct a thorough review of severance agreements and other employee documents, such as codes of conduct, employee trainings, and manuals, for imprecise or residual language that the SEC might scrutinize under Rule 21F-17. As noted in a recent Advisory, the SEC views the reach of Rule 21F-17 as wide, and carveouts that fail to go far enough or that contradict other sections of the agreement without appropriate cross references may be viewed as impeding whistleblowing to the SEC.
  • Take Care When Making Employment Decisions Related to Internal Reporters. An employee who reports internally is not forever shielded from negative employment action. However, reasons for employment action, particularly termination, should be well-documented and legally sound. The Gaia Order provides that the employee continued to report internally on a “range of issues.” This could indicate that some of the employee’s internal reporting was unfounded, although the Order makes clear the inaccurate subscriber issue was not without merit. There may be times that the employment relationship can rapidly deteriorate after an internal report is unsubstantiated. This can result in costly litigation and, at times, public reputational damage for the company. Consider seeking advice of outside counsel before proceeding with employment actions that may be seen as adverse.
  • A Record-Breaking $279 Million Award Means the SEC Will Protect Whistleblowers. The SEC has paid whistleblowers over $1 billion in awards to date, including a recent record-breaking $279 million award to one individual. The SEC has received tips from whistleblowers in every US State and over 130 foreign countries, which has led the SEC to bring cases against companies and individuals where over $6 billion in monetary sanctions have been ordered. Because whistleblowers are an important source of information to the SEC Division of Enforcement, the SEC will continue to protect the free flow of information from whistleblowers (e.g., company employees) to the SEC. Clients should expect the SEC to continue to scrutinize actions taken against internal reporters and SEC whistleblowers.

As the former Chief of the Office of the Whistleblower at the SEC and a Senior Officer in the Division of Enforcement, Ms. Norberg has deep insights into whistleblower issues and best practices for companies in dealing with both internal whistleblowers and those that have reported to the government. In addition, Dan Hawke and Christian Schultz were also former SEC Enforcement Division attorneys. Mr. Hawke was a Senior Officer in the Division of Enforcement, serving as the head of the SEC’s Philadelphia Regional Office and Chief of the Market Abuse Unit. Mr. Schultz was Assistant Chief Litigation Counsel in Washington, D.C. All are partners in Arnold & Porter’s Securities Enforcement & Litigation group and assist clients with whistleblower strategy, internal investigations and SEC defense work.

© Arnold & Porter Kaye Scholer LLP 2023 All Rights Reserved. This Advisory is intended to be a general summary of the law and does not constitute legal advice. You should consult with counsel to determine applicable legal requirements in a specific fact situation.

  1. Gaia settled with the SEC without admitting or denying the findings in the Order. The SEC also settled with Gaia’s chief financial officer, Paul C. Tarell, Jr., a certified public accountant, for causing the Company’s misstatements related to the number of paid subscribers, and he agreed to pay a $50,000 penalty as part of the settlement.