Securities Regulation Daily Wrap Up, TOP STORY—S.D. Cal.: Whistleblower’s retaliation and defamation claims against BofI survive dismissal, (Sept. 14, 2017)
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Thursday, September 14, 2017

Securities Regulation Daily Wrap Up, TOP STORY—S.D. Cal.: Whistleblower’s retaliation and defamation claims against BofI survive dismissal, (Sept. 14, 2017)

By Rebecca Kahn, J.D.

A whistleblower adequately alleged that his bank employer violated state defamation law as well as retaliation under the Sarbanes-Oxley and the Dodd-Frank Acts. The internal auditor claimed that the bank retaliated against him for reporting what he believed to be unlawful conduct to the government. The bank countersued, claiming breach of confidentiality agreement, misappropriation of confidential data, and disseminating that data to family members, the government, and the press. The California district court found most of the whistleblower’s claims were adequately pleaded and granted him leave to amend state law claims (Erhart v. Bofi Holding, Inc., September 11, 2017, Bashant, C.).

Misconduct discovered. In performing his duties as an internal auditor at Bank of Internet (BofI), Charles Erhart uncovered what he believed to be numerous instances of misconduct, running the gamut from miscalculating accounting entries to making loans to notorious criminals.

Also concerned about internal wrongdoing, the vice president of the internal audit department ultimately resigned. Erhart called off sick the next day and learned that a senior vice president was trying to access his email and other documents. He learned that the bank had prepared a letter to fire him, which it tried to deliver, and that it also tried to engage the police to access his apartment. Erhart became concerned that the bank would destroy the records and he reached out to the Treasury Department’s Office of the Comptroller of the Currency (OCC), provided files to the agency, and sought assurances of whistleblower protection. He had also reported findings to the SEC and was subsequently fired.

Suit, countersuit, and consolidation. Ultimately, Erhart filed ten claims against BofI, alleging that it retaliated against him for reporting unlawful conduct, in violation of California state law and the Sarbanes-Oxley, Dodd–Frank federal whistleblower protection statutes. The day after Erhart sued, the national media reported it and BofI's shares plummeted. BofI countersued, claiming Erhart violated state law and the Computer Fraud and Abuse Act for disseminating confidential information, causing its stock price to plummet, and for deleting hundreds of files from his company-issued laptop. The two suits were consolidated and BofI moved to dismiss on the pleadings.

Alleged wrongdoing. Erhart reported concerns of the bank’s concentration risk to the chief risk officer, but was chastised for putting his concerns in writing. A month later, his performance review downgraded his rating, adversely affecting his bonus. He also suspected that the CEO was misappropriating funds.

Erhart discovered that he was being held responsible for a negative article about BofI on the Seeking Alpha website. The CEO told bank employees he was going to "bury the BofI whistleblower" and published false and defamatory statements, claiming that Erhart "colluded and/or collaborated with ‘short sellers’ of BofI’s stock," and "was a dishonest and incompetent employee." Because of this conduct and "the notoriety of this case," Erhart claimed he has "been unable to retain employment."

Sarbanes-Oxley whistleblower retaliation. A plaintiff "can have an objectively reasonable belief of a [Sarbanes-Oxley] violation" even if he "fails to allege, prove, or approximate specific elements of fraud, which would be required under a fraud claim against the defrauder directly." Erhart’s Sarbanes-Oxley claim had been previously dismissed for failing to allege the subjective component of the reasonable belief standard. But the court ruled that the deficiency had been corrected in Erhart’s First Amended Complaint, alleging that he believed, at the time, that the wrongdoing he discovered "constituted a violation of federal fraud statutes and regulations . . ."

Accordingly, Erhart adequately alleged his engagement in protected activity under Sarbanes-Oxley, that BofI "knew or suspected that [he] engaged in the protected activity" as he had reported much of the conduct he discovered to members of BofI’s management team and when he called off sick from work, BofI "suspected that [he] engaged in the protected activity." Therefore, a factfinder could infer that BofI suspected or knew Erhart engaged in protected activity.

Adverse action and causation. Aside from his discharge, Erhart alleged that his performance rating was downgraded, his bonus was adversely affected, he was threatened, and harassed. Upon learning Erhart was communicating with the OCC, BofI allegedly engaged in conduct that may be viewed as attempting to intimidate or discourage him from sharing any more information with the government. Therefore, the court ruled, a factfinder could reasonably infer that management expected that these threats and derogatory statements would be shared with him. And they were. Such actions could have a chilling effect on protected activity, are unfavorable, and are more than trivial, the court found.

Also, because BofI’s retaliatory conduct occurred within close temporal proximity to Erhart’s whistleblowing activities, causation could be inferred from the timing alone. Consequently, he raised an inference that the protected activity was a contributing factor in the unfavorable action.

Dodd-Frank Act in the Ninth Circuit. In 2017, the Ninth Circuit adopted the broader interpretation of Dodd-Frank’s anti-retaliation provision: that Dodd-Frank incorporates protection for Sarbanes-Oxley disclosures that are not made directly to the SEC. As Erhart sufficiently alleged his engagement in protected activity under Sarbanes-Oxley, he stated a plausible claim for whistleblower retaliation under Dodd-Frank as well.

Defamation claim survives. BofI employees had been told that Erhart was responsible for a negative article about BofI published on the Seeking Alpha website. Moreover, Erhart alleged that BofI’s agents and employees had widely published claims that Erhart "colluded and/or collaborated with ‘short sellers’ of BofI’s stock." The court ruled that BofI’s alleged statement that Erhart caused the negative article to be published was "a provably false factual assertion." The implication was that Erhart acted unprofessionally by liaising with the Seeking Alpha website to disclose negative information about his employer. Such an implication "has a natural tendency to injure" someone employed as an internal auditor—a profession that requires integrity and confidentiality.

Further, BofI’s alleged statement that Erhart "colluded and/or collaborated with ‘short sellers’ of BofI’s stock," was also provably false and raised the same concern about Erhart’s adherence to professional standards.Erhart alleged that BofI’s statement that he was responsible for a negative article was made to third parties and that BofI was aware that he would be under significant pressure to disclose the contents of the alleged defamatory statements described in his pleading to various other third-parties, including prospective employers. Given the nature of the financial industry and the requirements of the auditing profession, Erhart plausibly alleged that he felt compelled to disclose and explain the circumstances of BofI’s statements to prospective employers. Under this strong compulsion to disclose, Erhart contends that he in fact did republish the alleged defamatory statements to third persons.

Other state claims dismissed. The court ruled that Erhart failed to sufficiently allege violation of the California Confidentiality of Medical Information Act because he failed to claim he received services from a healthcare provider. Erhart also failed to sufficiently allege a plausible claim for breach of the implied covenant of good faith and fair dealing. As Erhart’s employment with BofI was presumed to be at-will, BofI had the right to terminate Erhart for any or no reason. Finally, Erhart’s state claim for intentional infliction of emotional distress was dismissed as it was barred by the exclusive remedy rule under California’s Workers’ Compensation Act. These actions were dismissed with leave to amend.

The case is No. 15-cv-02287 (consolidated with 15-cv-02353).

Attorneys: Carol Gillam (The Gillam Law Firm) for Charles Matthew Erhart. Polly Towill (Sheppard, Mullin, Richter & Hampton LLP) for BofI Holding Inc. d/b/a BofI Federal Bank d/b/a Bank of the Internet.

Companies: BofI Holding Inc. d/b/a BofI Federal Bank d/b/a Bank of the Internet.

MainStory: TopStory DoddFrankAct FraudManipulation SarbanesOxleyAct WhistleblowerNews CaliforniaNews

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