(FORTUNE Magazine) – THE PHONE RINGS at home late one evening. At first your caller will not give his name. After you have assured him three times that your office is confidential, you are asked to an early morning breakfast in the crowded anonymity of a restaurant downtown. Over breakfast a very nervous research manager from your company describes a serious problem brought to him by two of his engineers. The manager wants first to tell you about his loyalty to the company, his 100% commitment to his boss, the hours of hard work he put in to try to prevent this from happening. Then comes the problem: The two young engineers began last week to do thorough tests of new equipment the company is producing for the Defense Department. The tests indicate some production problems. Even worse, there may be serious design flaws. The equipment may not be safe to use. Worse yet, the first shipments went out a week ago. The manager admits that very little of the testing required by the contract ever got done. He has been working around the clock; so have his people. But critical deadlines slipped away, and no one at the top was willing to wait for adequate testing. His immediate superior insisted on shipping the equipment to meet the contract deadline. It's a possible disaster in the making for the company. And now it's your baby. How will your top management respond? In too many bureaucracies, corporate or otherwise, the boss's attitude to disturbing whispers from below approximates that of the witch in the film The Wiz: ''Don't bring me no bad news.'' Then the bad news gets out, and the company's reputation takes a pounding. Just ask Manville Corp. or Morton- Thiokol. The lesson: If bad news isn't dealt with in-house, public whistleblowing by employees can generate disastrous headlines, 60 Minutes specials, inquiries by state and federal regulatory agencies, congressional investigations, and multimillion-dollar class-action lawsuits. Sadly, this is true even if the whistleblower turns out to have been wrong, as Karen Silkwood was in accusing Kerr-McGee Corp. of covering up defective welds in nuclear fuel rods. Making sure that bad news gets passed up the chain of command is a topic receiving a lot of attention in executive suites these days. Many companies have long had ''open door'' policies. IBM, for example, guarantees the right of any employee to appeal a supervisor's decision without fear of retaliation. But in the past few years, dozens of other major companies have set up formal ''ombudsman'' systems, in which a senior executive operating outside the normal chain of command is permanently available at the end of a hot line to deal with employee grievances and alarms on a confidential basis. The name ''ombudsman,'' off-putting enough in the original Swedish -- the word was coined as the name for a civil servant who investigates citizen complaints about government bureaucracy -- is even worse in its sensitized form, ombudsperson. But after kicking around for years, the idea appears to be catching on in the U.S. The four-year-old Corporate Ombudsman Association (from whose training materials the whistleblowing scenario above is borrowed) already includes many members of the FORTUNE 500, from Anheuser- Busch to Control Data to Upjohn. In the discreet spirit of her trade, the association's president, professor Mary Rowe of MIT, will not release the membership list. Dozens of other companies, ranging from McDonald's to Martin Marietta, have ombudsmen but aren't in the association. Companies untouched by scandal have set up such hot lines as a healthy preventative. Others have introduced the system only after public embarrassments. The latter group includes some big defense contractors. General Electric, after disclosures of fraudulent billing in its defense electronics business just over a year ago, pulled executive John Peterson out of the company's internal financial controls operation and put him in charge of an ombudsman office. Most defense firms insist that the new systems are part of an overall interest in improving internal communications and business ethics, not just a response to scandal. At McDonnell Douglas, for example, both McDonnell Aircraft in St. Louis and Douglas Aircraft in Long Beach, California, have set up ombudsman programs in the past year. In a report for other interested companies, the St. Louis operation takes pains to characterize its system as far broader than just a hot line for ''snitching'' on waste, fraud, and abuse. Ombudsmen Virgil Marti in St. Louis and Gene Dubil in Long Beach have found that most of their cases concern corporate housekeeping matters: conflicts with supervisors, arguments over promotions and transfers, claims of discrimination, misunderstandings over benefits. Most such problems can be sorted out by a direct call to the department head involved, without invoking higher authority. Only a few calls have raised questions as to the safety of a product design or the billings on a defense contract. A SINGLE IMPORTANT phone call, of course, could convince a chief executive that his ombudsman is his own best friend. Nationwide the grapevine among ombudsmen buzzes with rumors of potential front-page scandals they have averted, from the dumping of hazardous wastes to airline disasters. As might be expected, though, companies are loath to talk about scandals that no one else ever heard of because the company's system caught them in time. The sort of engineering disputes that could trigger public outcry about defective products are obviously among the most sensitive subjects. At Douglas, ombudsman Gene Dubil, the former head of engineering for the company, says that he has received only one safety-related complaint from an engineer in the past six months. Dubil told the man that it didn't sound to him like a safety problem, but that the employee, if he chose, could jump ranks to take it up with the vice president for engineering. At Martin Marietta, corporate ombudsman Winant Sidle, a retired general, says he has faced only one engineering-related alarm to date, raised by a young engineer new to the plant. When investigated, it proved to be a false alarm. Companies that put these systems in place some time back say they are worth the modest cost even if they don't uncover corporate scandals. The sheer number of calls logged -- over 3,000 so far this year at General Dynamics, for example -- suggests that workers like and trust ombudsmen. By monitoring the complaints, companies can pinpoint plants, programs, or managers causing serious morale problems. At AT&T's Bell Labs, ombudsman Martha Maselko says that the costs of recruiting and training a skilled engineer are so high that simply keeping three employees a year from quitting is enough to cover the $200,000-a-year cost of her office. The savings in legal costs may be substantial as well, and not just from avoiding lawsuits alleging discrimination or sexual harassment. Increasing protection for whistleblowers is a hot trend both in the courts and in the legislatures. Courts in roughly half the states have cut back the employer's traditional right to hire and fire at will, ruling that employees cannot be discharged for refusing to violate state laws or for revealing violations of those laws. Five states -- California, Michigan, New York, Connecticut, and Maine -- have passed statutes codifying such rights. The U.S. Senate has passed and sent to the House legislation sponsored by Senator Charles Grassley (R-Iowa) that would strengthen the rights of employees under the False Claims Act, a law that dates from the Civil War. That act already allows a whistleblower fired by a government contractor to sue his boss in the federal courts for defrauding the government. Grassley's bill would impose triple damages and a criminal penalty of up to $1 million if the case is proved; the whistleblower could collect his attorney's fees and up to 30% of the funds recovered. Two major suits are already pending against defense contractors under the existing act: one against TRW Inc. over what is alleged to be falsified billing on defense contracts; the other against FMC Corp., filed by an engineer dismissed after he claimed that the company had falsified test results for the controversial Bradley armored troop carrier. Not everyone is a fan of the ombudsman system. Former Du Pont chairman Irving Shapiro thinks an extensive personal grapevine is a top executive's best protection against nasty surprises; his own version of management by wandering around, he notes, was ''doing a lot of business in the men's room.'' In a company where everyone knows the boss wants to hear about things, Shapiro suggests, if the engineers down below are arguing with their superiors over the safety of some product, ''there will be someone along the line who will get on the phone and call the boss and say, 'We've got a problem you'd better know about.' '' But in corporations that have not traditionally fostered upward communication, traditional methods may not suffice. A companywide 800 number to an executive with clout can go a long way to encouraging troubled employees to speak up -- before they speak out.