Categorization of Whistleblowers Using the Whistleblowing Triangle

Abstract

In view of recent studies that identified certain interest groups as potential whistleblowers, we propose an integrative conceptual framework to examine whistleblower behavior by whistleblower type. The framework, dubbed the whistleblowing triangle, is modeled on the fraud triangle and is comprised of three factors that condition the act of whistleblowing: pressure, opportunity, and rationalization. For a rich examination, we use a qualitative research framework to analyze 11 whistleblowing cases of corporate financial statement fraud in Canada that were publicly denounced between 1995 and 2012. Our analysis indicates that whistleblowers are not only insiders (employees, managers, and shareholders involved in management) but also outsiders [financial analysts (short sellers), auditing firms, journalists, politicians, customers, and investors]. It also suggests that a dynamic relation may exist between whistleblowers. In addition, our findings show that most whistleblowers opt for external channels when they fail to receive an adequate response from management, seek media exposure, are interested in financial benefits resulting from the act of whistleblowing (short sellers), or are interested in protecting their investment. Lastly, we propose categorizing whistleblowers into four conceptual types: protective, skeptical, role-prescribed, and self-interested.

Appendix 1: Further Descriptions of the Most Publicized Case Studies

Cinar

There were four whistleblowers in the Cinar case. In 1995, the first whistleblower, independent writer and cartoonist Claude Robinson, noted that Cinar had developed a new TV show based on a project he had presented to Cinar’s owners, whom he had paid to hear his pitch. As Robinson prepared evidence to sue the company, he also discovered that Cinar’s TV series had used the names of Canadians to take advantage of provincial and federal tax credits (Scott 2000). Robinson had to wait until October 1999 to get the necessary evidence for this tax fraud, which he then took to an officer of the Montreal Urban Community Police (SPVM).

Although there is no formal indication that Mr. Robinson’s denunciations were ultimately examined by federal authorities, or more specifically, by the Royal Canadian Mounted Police (RCMP), Radio Canada (an arm of the CBC, the Canadian Broadcasting Corporation) and Members of Parliament blew the whistle regarding the tax fraud investigation that was underway at that time. On October 15, 1999, CBC (second whistleblower) reported that Canadian authorities were conducting an investigation to determine whether Cinar had availed itself illegally of an incentive plan that granted tax credits to Canadian television productions that programmed Canadian-authored content. The report mentioned that Bloc Quebecois Member of Parliament (MP) Stephane Bergeron (third whistleblower) used his parliamentary privilege to name the company in the House of Commons. Indeed, Mr. Bergeron stated during the Oral Question Period (Bergeron 1999) at the Parliament that: “this morning (October 15, 1999) the Journal de Montréal reports that the Montreal urban community police department just completed an investigation on a production company that allegedly falsified the identity of some screen writers and unduly benefited from federal tax credits… My question is for the Minister of Canadian Heritage. Can the minister assure us that she will do her utmost to shed light on this issue, even if some people close to the Liberal party might be directly involved?”

The MP pursued his accusation thus: “Mr. Speaker, since the minister presumably made some checks, can she confirm that the production company CINAR, which is a contributor to the Liberal Party of Canada and which is headed by Micheline Charest, who is said to have organized a fundraising evening for the Liberal Party of Canada that was attended by the Prime Minister, is not the target of this investigation?” The Minister of Canadian Heritage did not confirm that Cinar was a target of that accusation, stating: “I did not have any discussions with anyone about the investigation, because it is a police investigation. I respect that and I do not get involved in police matters.”

The denunciations were quickly reported by the media, including Bloomberg, which immediately relayed the news to the financial markets. On October 18, 1999, CINAR announced through a press release that any tax liability would be minimal and that its audit committee would conduct an inquiry into the matter. The press release pointed out that “the Board of Directors has given a special mandate to members of the Audit Committee of the Board, composed only of outside directors, to review the various issues associated with the allegations. The Committee has been instructed to report its findings and recommendations to the Board of Directors at the earliest possible date.” On February 18, 2000, Cinar issued a press release stating that the “financial and accounting impacts” of its investigation would be “greater than initially anticipated.” In fact, the audit committee ordered an independent audit by Ernest and Young (fourth whistleblower), which detected and reported a second fraud consisting of illegal fund transfers to the Bahamas. In March 2000, Cinar announced that its financial reports would need to be restated for issues related to tax incentives, disclosure of related-party transactions, and unauthorized transactions, which were revealed by its internal investigation.

Livent

The Livent case was uncovered by two whistleblowers, Maria Messina, the former CFO of Livent, and Livent’s new management team led by Mr. Webster. According to her defense arguments during the trial before the Ontario Superior Court of Justice (2009), Ms. Messina had disagreed with the accounting manipulations that were occurring at Livent and had explained her concerns to the former management team, but she refrained from blowing the whistle to other members of the organization (audit committee) out of fear. She testified to the Ontario Superior Court that she found “the atmosphere at Livent toxic and abusive … and that the strong and angry personalities at the company contributed to her decision to stay quiet about the fraud for so long.” She also asserted that “I did not have the strength to go up against Mr. Drabinsky and Mr. Gottlieb … They were men of money, power and influence. I was nobody … I was completely numb. It was complete shock and disbelief … I panicked, and I was completely immobilized by fear.” (Gray 2008).

However, once new equity investors took control of Livent in June 1998, conditions became more propitious. The Vice President of Finance and Administration was terminated one month later, triggering a cascade of events. That same day, Ms. Messina told one of the members of the accounting team that “the time had come; they had to tell the truth” (Ontario Superior Court of Justice 2009, p. 22). She decided to blow the whistle at the end of August 1998 after the new executive vice president, Mr. Webster, suspected accounting irregularities were taking place and strongly suggested that she expose the wrongdoing. Ms. Messina discussed this possibility with her accounting team and finally agreed to reveal the truth. In the words of the judgment of the Ontario Superior Court of Justice (2009), “Ms. Messina did not see a way to extricate herself from the fraud without incriminating herself. She was waiting for a reasonable exit plan that would minimize her own exposure to more serious consequences of the fraud. That exit plan did not come until Mr. Webster took over.” The judge’s verdict also highlights that “Ms. Messina portrayed herself and the others as ‘whistleblowers.’ That is not an accurate characterization. Once Mr. Webster asked about the Chicago theatre account, he was well on the way to uncovering the fraud. She saw the curtain coming down. She knew she could not hide the fraud. The disclosure was self-preservation not whistle blowing” (p. 62).

Mr. Webster was thus the second whistleblower. In fact, according to the judgment of the Ontario Superior Court of Justice (2009), “as soon as the staff members spoke to him on August 6, 1998 about the books, Mr. Webster sprung into action. He called in lawyers from Stikeman Elliott and forensic investigation people from KPMG” (page 34). Moreover, Mr. Webster immediately reported the irregularities to the board of directors and followed up with financial authorities one day later.

Nortel

The Nortel case involved three whistleblowers. The first financial fraud allegation against Nortel occurred in February 16, 2001, when an institutional investor filed a class action suit in the United States District Court for the Eastern District of New York. The complaint stated that former high-level employees at Nortel (first whistleblowers) reported to plaintiff attorneys that the company had “deliberately engaged in various types of improper conduct, including, among other things, violations of several generally accepted accounting rules and principles” (United States District Court for the Southern District of New York 2002). The names of these whistleblowers are not mentioned, but the document refers to several interviews conducted by undersigned attorneys during the preparation period of the class action (pp. 4–5). For example, the document mentions that “a former Nortel employee recalled that, in certain instances, this ‘risky practice’ of booking revenues based upon letters of intent resulted in actual purchase orders not being submitted and the deals later collapsing, after the quarter ended.” The document moreover highlights that the same former Nortel employee confirmed this practice when the President of Nortel’s eBusiness Solutions “made statements indicating that he approved of the use of this practice and other practices to pull revenues from future quarters into the current quarter” (p. 41).

The media refers to another former employee, Mr. Foster (project manager), as a whistleblower. In an interview with CBC News (2004), Mr. Foster mentions that he alerted managers in 2000, following the internal procedure, and also reported his concerns to the auditing firm. After being dismissed in 2001, Mr. Foster passed on this information to the SEC and provided as evidence a number of pieces of internal correspondence but never heard back from the SEC and was never recognized as a whistleblower by the regulator.

In fact, according to the SEC Civil Action document (SEC 2007a, b), the firm’s compliance personnel approached corporate executives in November 2000 to voice their concerns about the manner in which Nortel was obtaining “risk of loss letters” (revenue recognition procedures), fearing the firm was breaking from US GAAP requirements. Nortel executives disagreed with this assessment and made no change to their procedures. That same month, outside auditors (Deloitte) also warned the firm about its revenue recognition guidance but Nortel ignored their suggestions, the SEC said. Although these warnings are not considered whistleblowing acts per se, they were used by the SEC to support its fraud allegations.

Deloitte’s role as whistleblower took shape in the second and third quarters of 2003, when the firm cautioned Nortel’s senior executives and the audit committee about the company’s handling of reserves (SEC 2007a, b, p. 5). Senior executives decided to conduct a comprehensive review of Nortel’s assets and liabilities, which ultimately resulted in the first restatement of its financials for fiscal years 2000, 2001, and 2002. In addition, as the SEC document relates, Nortel’s audit committee “commenced an independent investigation and hired outside counsel to help it gain a full understanding of the events that caused significant excess liabilities.” Based on the results of this independent investigation by outside counsel (third whistleblower), several corporate executives were laid off and a second restatement was released in January 2005. In May 2006, Nortel admitted in its 2005 Form 10-K that the “restated revenues in part had resulted from management fraud … in an effort to meet internal and external targets, the senior corporate finance management team … changed the accounting policies of the Company several times during 2000 … those changes were driven by the need to close revenue and earnings gaps” (SEC 2007a, b).

Hollinger

Three whistleblowers acted in the Hollinger case: Paul Winkler, General Manager of the Okanagan group of Lower Mainland Publishing Ltd., and then years later, the “Special Committee” requested by one institutional investor (third whistleblower) to examine related-party transactions at the company, among other irregularities.

Paul Winkler was hired in 1996 as General Manager of the Kelowna Capital News, a paper Hollinger Inc. took over in 1998. In 1999, Mr. Winkler expressed his concerns to the President of the Group regarding the joint ownership of two papers (Capital and Daily) that should be competitors, and whether this would cause a problem with the Competition Bureau. Although his superior responded that “this is beneath their radar” (BCSC 2002, p. 10), Mr. Winkler remained concerned about the ownership of the Daily and his own career development as General Manager. In November 1999, he requested a “constructive dismissal.” A few days later, he was fired as the publisher of the Kelowna Capital News. He then sued the company for wrongful dismissal and informed the Competition Bureau that two Kelowna papers were not competing fairly. After winning a wrongful dismissal suit against the company in August 2002, Mr. Winkler sent the OSC a copy of the judgment, but the regulator concluded after a preliminary review that there was no need for it to get involved (Howlett and Waldie 2009). According to the same article published by the Globe and Mail, a spokesman at the OSC said that “the regulator did not pursue the matter at that time because Mr. Winkler’s allegations involved Horizon, a private company that is not a reporting issuer in Ontario.”

In May 2003, one institutional investor complained about the activities of Hollinger’s main shareholders and demanded that the board of directors investigate and take corrective action (Boritz and Robinson 2004). The board created a “Special Committee” in June 2003 to investigate, among other things, certain allegations regarding related-party transactions (OSC 2005). The Special Committee interviewed more than 60 witnesses in depth, reviewed several documents as background for its analysis, and met on more than 40 occasions to discuss the findings. On November 17, 2003, Hollinger International issued a press release announcing the Special Committee’s findings pursuant to its investigation. The press release made it clear that accounting manipulations had taken place at Hollinger.

After the press release, the SEC launched a formal investigation and a civil action was undertaken in November 2004 (SEC 2004). Although the document does not name Paul Winkler, the Globe and Mail reported that “Mr. Winkler sent a letter to the SEC and the OSC, outlining the Hollinger Inc. deals with Horizon. The SEC responded within days and two officials interviewed him for nearly 2 h” (Howlett and Waldie 2009). However, according to the SEC Civil Action, allegations of unauthorized transfers of corporate assets were raised by shareholders. Following these allegations, Hollinger International’s Board established the “Special Committee of independent directors to investigate possible misconduct, initiate and prosecute litigation based on its investigation, recover misappropriated assets, and protect the interest of all Hollinger International shareholders” (SEC 2004, p. 60).

Sino-Forest

The Sino-Forest case involved a lone whistleblower, short seller Carson Block of Muddy Waters Research, a Hong Kong investment firm that researches Chinese businesses. On June 2, 2011, Mr. Block released an incriminating report alleging that Sino-Forest had been fraudulently inflating its assets and earnings, and that the company’s shares were essentially worthless. He claimed that Sino-Forest was a “multibillion-dollar Ponzi scheme” that was “accompanied by substantial theft.” He had a short position in Sino-Forest at the time he published his report.

Mr. Block has a law degree and experience alleging fraudulent accounting practices in publicly traded Chinese companies. He relies on his own business experience in China as well as his own investigations. Ranked as one of the 50 Most Influential Thinkers by Bloomberg Markets in 2011, Mr. Block appears very confident in all his interviews and does not feel responsible for investors’ dramatic losses after he released his controversial reports. In an interview published by the Globe and Mail in July 15, 2011 (Hoffman 2011), Mr. Block declared that “You know what industry I do understand pretty well … The fraud industry. So I don’t need to know trees to know fraud.” He also told Bloomberg (Bloomberg 2012) that “[…] if you build a house of cards, the wind blows and the house collapses, you can’t blame the wind: you built a house of cards.”

Sino-Forest’s independent committee released two reports refuting some of the allegations but indicated that evidence could not be obtained to refute other allegations (Ontario Superior Court of Justice 2012).