Being a compliance officer just got a little riskier, at least for those who work in the heart of America's financial center.
New York's highest court recently threw out a suit by a hedge fund compliance officer, Joseph Sullivan, who claimed he was fired for complaining to his boss about alleged improper stock trades. No matter that bringing to light potential compliance issues is a key part of a compliance officer's job.
The court's reason: Sullivan was an "at-will" employee - as are most employees in New York state - who could be fired for any reason, and there are no exceptions to that rule in New York for compliance officers, the court said.
The May 8 ruling makes clear that compliance officers in the state where Bernard Madoff ran a multi-billion-dollar Ponzi scheme can be fired for pointing out the very violations they were hired to detect.
New York is home to roughly 2,100 registered investment advisers and 3,400 brokerages. Federal securities and industry regulations require registered investment advisers and brokerages to appoint a compliance officer.
The nature of the role of compliance officers already puts them at risk of retaliation by employers and scrutiny by regulators, say compliance professionals. Now New York's compliance officers have to worry about being fired - legally - for doing their job.
The court's own chief justice, Jonathan Lippman, who cast one of the two no votes in the 5-2 ruling, in a scathing dissent summed up the message he said the case sends: Compliance officers who want to keep their jobs "should keep their heads down and ignore good-faith suspicious or evidence they may have that their employers have engaged in illegal and unethical behavior."
It "flies in the face of what we have learned from the Madoff debacle," in which the largest-ever Ponzi scheme eluded even U.S. regulators for nearly two decades, wrote Lippman.
The court, too, was cognizant of the risks posed and suggested in its ruling that Congress develop laws to protect securities industry compliance officers.
For now compliance officers in New York have limited measures for protection.
"Any chief compliance officer has to look at this and say, 'What am I doing in this industry?'," said Guy Talarico, chief executive of Alaric Compliance Services, a New York-based consultancy that advises hedge funds and private equity funds. "They're making being the chief compliance officer the worst position in the financial services industry."
Joseph Sullivan, in a 2008 lawsuit, claimed he objected to stock sales in family accounts of William Harnisch, the majority owner and chief executive of New York-based Peconic Partners LLC and Peconic Asset Managers LLC, which collectively ran a hedge fund, according to the court opinion. The timing of those sales, he claimed, gave a financial edge to Harnisch that was not available to clients - a practice called "frontrunning."
While other factors that could have impacted the court's thinking - Sullivan, a 15 percent partner in the hedge fund, was in a dispute with Harnisch over a proposal to push him out and Sullivan held other roles like chief operating officer at the firm - the ruling sets precedent nonetheless.
The court could have extended to compliance officers an exception that is already part of the case law that protects certain lawyers because of their role in self-policing their own profession, it declined to do so.
Timothy Selby, president of the New York Hedge Fund Roundtable, a group that promotes best practices in the hedge fund industry, said New York should update its laws to protect compliance officers.
"Whistle-blowing should not result in termination," said Selby, also a New York-based lawyer who advises private funds.
In the meantime, compliance officers who are retaliated against after voicing their concerns can try to claim an award through the U.S. Securities and Exchange Commission's whistleblower program, which took effect last August.
But the program, which has yet to pay an award, requires certain steps before the tip is eligible. For example, there must be an investigation that must lead to a completed regulatory action - not an easy requirement to meet if a compliance officer is stopped at the point a potential problem is identified.
The Sarbanes-Oxley Act of 2002 also provides whistleblower protection, but usually only for employees of public companies.
For now, compliance officers should demand an employment contract to avoid becoming an "at will" employee, Selby said. Negotiate a provision that prohibits retaliation for telling senior management about indiscretions at the firm, he said.
Investors in hedge funds and at other types of securities firms can also demand the same protection for compliance officers, which in turn would protect their assets.
"The free market could take care of it that way," Selby said.
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