Client Alerts
Dec. 03, 2019

SEC Accuses Issuer and CEO of Violating Whistleblower Protection Laws to Silence Investor Complaints

On Nov. 4, 2019, the Securities and Exchange Commission (SEC) filed an amended complaint against Collectors Café and its CEO, Mykalai Kontilai, to add charges against defendants for alleged violations of whistleblower protection laws. According to the complaint, the defendants violated Rule 21F-17 of the Exchange Act by taking actions to impede individuals from communicating directly with the SEC staff about a possible securities law violation.

Rule 21F-17 (a) provides that “no person may take any action to impede an individual from communicating directly with the Commission staff about a possible securities law violation, including enforcing, or threatening to enforce, a confidentiality agreement … with respect to such communications.” The rule is mostly applied to employee severance agreements and employment agreements; however, Jane Norberg, the chief of the SEC’s Office of the Whistleblower, noted that the SEC’s whistleblower protections broadly protect not just employees, but anyone who seeks to report potential securities law violations to the commission.

In May 2019, the SEC filed an original antifraud complaint charging Collectors Café and Kontilai with misappropriating over $6 million of investor funds in a $23 million offering between 2007 and 2013. The SEC’s amended complaint alleges that the defendants in at least two instances attempted to resolve investor allegations of wrongdoing by conditioning the return of investor money on the investors signing agreements prohibiting them from reporting potential securities law violations to law enforcement, including the SEC. In 2015, the CEO entered into a stock purchase agreement to buy back the shares of certain investors who accused him of fraud. The agreement included a provision stating that “[investors] … further warrant and affirm that … they will not, directly or indirectly, individually, collectively or otherwise, contact any third-party, including, but not limited to governmental or administrative agencies or enforcement bodies, for the purpose of commencing or otherwise prompting investigation or other action relative to [Collectors Café] or the subject matter herein.”

Further, in 2017, Collectors Café and its CEO entered into a settlement agreement with other investors that had previously filed a lawsuit against them alleging, among others, securities fraud. The settlement agreement contained a provision similar to the share purchase agreement in 2015, stating that “the Shareholders, for themselves and their counsel and advisors, confirm that they are not aware of, and have not had to date, and will not initiate on a going forward basis, any communications with any regulatory agencies such as the United States Securities and Exchange Commission or any other Federal, State, or Local governmental agency concerning the matters related to this Agreement.” Collectors Café and Kontilai went a step further and attempted to enforce the confidentiality provisions by filing a lawsuit claiming that the investors breached the confidentiality provision by communicating with the SEC staff about possible securities law violations.

The Collectors Café case illustrates that agreements with confidentiality provisions that try to silence whistleblowers from communicating securities law violations have come under greater scrutiny and the SEC has been actively enforcing prohibitions of such provisions.

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