Ninth Circuit Clarifies Loss Causation Pleading Standards

On October 8, 2020, the U.S. Court of Appeals for the Ninth Circuit reversed and remanded a district court’s dismissal of a securities fraud class action against Bofl Holding, Inc. (“Bofl”), finding that in the Ninth Circuit, a whistleblower lawsuit filed by a former company insider could be a potential corrective disclosure.

Bofl shareholders alleged the Company misled investors regarding the bank’s loan underwriting standards and internal controls, and that the truth was only revealed after a whistleblower lawsuit was filed by a former company auditor and a series of eight blog posts were published by anonymous short-sellers. The district court dismissed the complaint, holding that neither alleged corrective disclosure was sufficient to demonstrate loss causation. Erhart v. BofI Holding, Inc., 387 F. Supp. 3d 1046 (S.D. Cal. 2019). Furthermore, the district court found that to adequately plead loss causation, using a whistleblower complaint, the lawsuit must be followed by “a subsequent confirmation” of the fraud. Id. With respect to the blog posts, the district court found that they could not constitute a corrective disclosure because they relied on already publicly available information. Id.

On appeal, the Ninth Circuit reversed the dismissal, holding the whistleblower allegations could constitute a corrective disclosure. The Ninth Circuit rejected the categorical rule that allegations in a lawsuit can never qualify as a corrective disclosure without additional confirmation and provided clarification as to when allegations in a lawsuit appropriately demonstrate loss causation. Specifically, “[i]f the market treats allegations in a lawsuit as sufficiently credible to be acted upon as truth, and the inflation in the stock price attributable to the defendant’s misstatements is dissipated as a result, then the allegations can serve as a corrective disclosure.” HMEPS v. BofI Holding, Inc., et al., Docket No. 18-55415, ECF # BL-41 (9th Cir. Mar 28, 2018).

With respect to the short-seller blog posts, the Ninth Circuit agreed with the District court that the blog posts cannot constitute a corrective disclosure as a matter of law because the “posts were authored by anonymous short-sellers who had a financial incentive to convince others to sell” and a “reasonable investor reading these posts would likely have taken their contents with a healthy grain of salt.” Id.