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Veal v. Lendingclub Corp.

United States District Court, N.D. California, San Jose Division

November 4, 2019

MATTHEW VEAL, et al., Plaintiffs,


          BETH LABSON FREEMAN United States District Judge

         This is a putative class action for securities fraud brought against LendingClub Corporation (“LendingClub” or “Company”) and its officers Scott Sanborn, Carrie L. Dolan, Bradley Coleman, and Thomas W. Casey (“Individual Defendants”), (collectively with LendingClub, “Defendants”). Plaintiffs have filed a Consolidated Amended Class Action Complaint alleging that Defendants violated Section 10(b) of the Securities Exchange Act of 1934 (“Exchange Act”) and Rule 10b-5, 17 C.F.R. § 240.10b-5. See ECF 63 (“CAC”). Plaintiffs also assert that the Individual Defendants are liable for violations of federal securities laws as “control persons” of LendingClub, pursuant to Section 20(a) of the Exchange Act, 15 U.S.C. § 78t(a). Id.

         Before the Court is defendants LendingClub, Thomas W. Casey, Bradley Coleman, and Scott Sanborn's motion to dismiss. Mot., ECF 67. Defendant Carrie L. Dolan has filed a separate motion to dismiss. Dolan Mot., ECF 69. The Court heard oral arguments on September 26, 2019. For the reasons set forth herein, both motions to dismiss are GRANTED WITH LEAVE TO AMEND.

         I. BACKGROUND

         Defendant LendingClub is a Delaware corporation that operates an online marketplace platform that connects borrowers and investors in the United States. CAC ¶ 20. Defendant Scott Sanborn (“Sanborn”) was LendingClub's Acting Chief Operating Officer (“CEO”) from May 6, 2016 until June 28, 2016 and has been LendingClub's CEO since June 28, 2016. Id. ¶ 21. In his tenure prior to becoming CEO, Sanborn acted as President, Chief Operating Officer, and Chief Marketing Officer. Id. Defendant Carrie L. Dolan (“Dolan”) served as the Company's Chief Financial Officer (“CFO”) from August 16, 2010 to August 8, 2016. Id. ¶ 22. Defendant Bradley Coleman (“Coleman”) served as LendingClub's Principal Accounting Officer and Interim-CFO from August 2016 to September 2016. Id. ¶ 23. Defendant Thomas W. Casey (“Casey”) has been the Company's CFO since September 19, 2016. Id. ¶ 24.

         Lead Plaintiffs, XiangHong Ding and Zhenbin Chen, have brought this federal securities class action on behalf of themselves and all persons and entities other than Defendants, who purchased or otherwise acquired the publicly traded securities of Lending Club Corporation between May 9, 2016 and April 25, 2018 (“Class Period”). Id. ¶ 1. Lead Plaintiffs allege that they purchased LendingClub securities during the Class Period at “inflated prices” and were “damaged upon the revelation of the alleged corrective disclosures and/or materialization of the undisclosed risks.” Id. ¶¶ 18-19.

         A. Lending Club's Lending and Borrowing Platform

         LendingClub's borrowers apply for loans through the Company's website. CAC ¶ 36. LendingClub reviews the applicants' creditworthiness and matches the borrower with a lender or lenders to fund entire loans, portions of individual loans, and/or portions of pools of loans. Id. LendingClub's primary issuing bank partner, WebBank, simultaneously originates each loan and sells it to LendingClub-at a price that includes fees and interest. Id. LendingClub buys these loans with the money from its “matched” lenders, and services the loans. Id. LendingClub receives an initial origination fee and subsequent servicing fees on each payment throughout the term of the loan. Id.

         B. LendingClub's Pre-Class Period Internal Control Weaknesses

         In May 2016, LendingClub disclosed that some of its senior officers had deceived an institutional investor by manipulating application dates to create the false appearance that loans conformed to the investor's express direction. CAC ¶ 2. In response, the Company terminated those senior executives, announced the resignation of its founder and CEO (Renaud Laplanche), and disclosed Department of Justice (“DOJ”) and Securities and Exchange Commission (“SEC”) investigations into the allegations regarding its lending practices. Id. Moreover, LendingClub disclosed “material weaknesses in internal control over financial reporting.” Id. ¶ 30. According to LendingClub's SEC filings, those “material weaknesses” related to: (1) inadequate system to detect and prevent sales of loans in direct contravention of a loan agreement, (2) failure to identify related party transactions so as to ensure proper review and approval or disapproval by the Company's audit committee or its board, and (3) failure to appropriately document, authorize, communicate, and monitor amendments to investor contracts. ECF 68-3 at 32; see also Mot. at 4. LendingClub claims that these material weaknesses were remedied by December 31, 2016. Id.

         C. FTC Allegations

         On April 25, 2018, Federal Trade Commission (“FTC”) issued a press release, disclosing that it had filed a complaint against LendingClub. CAC ¶ 12; see also Federal Trade Comm'n v. LendingClub Corp., Case 3:18-cv-02454-JSC (N.D. Cal.) (“FTC Action”). The complaint in the FTC Action (attached to and incorporated by reference in the CAC), alleges that LendingClub engaged in “deceptive acts” by (1) charging up-front “hidden fees” and (2) representing to borrowers that they would receive loans before making a final approval decision, resulting in some borrowers not receiving the loans they believed they were approved for. ECF 64-1 (“FTC Complaint”) ¶¶ 56-61. FTC further alleges that LendingClub engaged in “unfair acts” by withdrawing funds from borrowers' bank accounts without authorization, or in amounts in excess of borrowers' authorization. Id. ¶¶ 62-64. Finally, FTC alleges that LendingClub violated the Gramm-Leach-Bliley Act (“GLBA”) by failing to deliver initial privacy notices. Id. ¶¶ 65-67.

         On the day of FTC's announcement, shares of LendingClub fell $0.49 per share or over 15% from its previous day's closing price to close on April 25, 2018 at $2.77 per share on over 18.8 million shares traded. CAC ¶ 12.

         D. LendingClub's Allegedly Deceptive Lending practices Plaintiffs' allegations in the CAC mirror to those in the FTC Action. Plaintiffs allege that by the beginning of the Class Period, in violation of FTC regulations, “Defendants lured borrowers to the LendingClub platform through deceptive practices with respect to loan applications, processing, and approval.” CAC ¶ 5. Plaintiffs allege three deceptive lending practices: (1) hidden fees, (2) loans promised (and not delivered), and (3) unauthorized bank account withdrawals. Id. ¶¶ 40-67.

         First, Plaintiffs allege that Defendants “represented that the Company charged ‘no hidden fees, '” when in fact, LendingClub charged borrowers “an up-front fee that was not clearly and conspicuously disclosed, burying reference to the fee multiple clicks into the Company's website.” Id. ¶¶ 40-41. LendingClub deducted this fee-on average, approximately 5% of the requested loan amount-from the loan amount before disbursing the funds to the borrower. Id. ¶¶ 41-42. Borrowers frequently complained to Defendants throughout the Class Period that they were not aware of the origination fee that the Company deducted from the full loan amount. Id. ¶¶ 46, 47. LendingClub's customer service representative training materials list as one of the two most frequent post-loan disbursement complaints as “I didn't receive the full loan amount.” Id. ¶ 48. LendingClub's quarterly complaint reviews proposed “highlighting [the] origination fee” to address complaint volumes. Id. ¶ 49.

         Second, Plaintiffs allege that LendinClub “affirmatively deceived potential borrowers throughout the loan origination process by various means.” Id. ¶ 56. LendingClub follows a three-step loan approval process: (1) a “front-end” review, (2) investor backing, and (3) a “back-end” review. Id. ¶¶ 57-58. At step one, a front-end review is conducted when a potential borrower completes a personal loan application-at which point LendingClub notifies the consumer that “loan is on the way.” Id. ¶ 57. At step two, once the potential borrower's application generates investor funding and the borrower receives another notification. Id. ¶ 58. As an example, LendingClub sent approximately 196, 000 consumers an email where subject line read “Hooray! Investors Have Backed Your Loan.” Id. The body of the email began, in large, bold print, “Your Loan is 100% Backed, ” and continued: “Great news! Investors have backed your loan 100%. Your money is almost in your hands….” Id. At step three, a comprehensive back-end review is performed, which consists of substantial inquiries into the borrower's credit history. Id. ¶ 59. Many potential borrowers who received the investor backing notification (e.g., 22% of consumers who received the email mentioned above), were subsequently rejected as a result of the back-end review (and sometimes erroneously). Id. ¶¶ 59-60. LendingClub's training materials list “What does that mean? I thought I was approved” as a frequently asked question that customer service representatives should expect to hear. Id. ¶ 61.

         Third, Plaintiffs allege that in numerous instances during the Class Period, LendingClub withdrew money from borrowers' bank accounts without authorization, or in amounts in excess of what borrowers had authorized. Id. ¶ 63. Specifically, Plaintiffs allege that LendingClub, in numerous occasions, (1) withdrew borrowers' monthly payments twice in one month, (2) automatically withdrew monthly payments from borrowers' accounts after the loan was paid in full, and (3) disregarded borrowers' request to stop automatic withdrawals. Id. ¶ 64. Hundreds of borrowers contacted LendingClub to complain about its unauthorized withdrawals. Id. ¶ 65. The Company's monthly complaint reporting reflected a growing number of complaints about the payoff process and more generally, about payment processing. Id. ¶ 67. LendingClub's payments department self-reported increasing numbers of such transactions. Id.

         Additionally, Plaintiffs allege that in violation of the GLBA, LendingClub failed to provide consumers with clear and conspicuous privacy notices. Id. ¶ 9.

         E. Alleged False Statements

         Plaintiffs allege that Defendants made a number of false and misleading statements related to the allegation in the FTC Action. Primarily, these statements fall into the following categories:

i. Statements boasting LendingClub's commitment to compliance, trust, and transparency For example:
• “[a] key principle of the Company is maintaining the highest levels of trust with borrowers, investors, regulators, stockholders and employees.” CAC ¶ 68 (May 9, 2016); see also Id. ¶ 71 (same date).
• “[o]ur priority is to reaffirm our commitment to trust, compliance and risk management that have been so essential in the success of our online marketplace.” Id. ¶ 73 (May 9, 2016).
• “Our long-term success is dependent on coupling our technology and business model advantages with a relentless focus on compliance, security and risk management. Since May 9, we have initiated a comprehensive review of our controls, compliance and governance. As I highlighted at our annual meeting, we've made a number of improvements. … And we're retraining employees on both conduct and FX, and reinforcing the importance of a high compliance culture.” Id. ¶ 83 (August 8, 2016).
• “[i]t bears repeating that by supporting bank's demanding diligence and regulatory requirements, we become a better company.” Id. ¶ 87 (February 14, 2017).
• “Part of continuously delivering value to investors is maintaining a transparent, proactive and delivered approach to credit, a driver of long-term value for LendingClub.” Id. ¶ 89 (February 14, 2017).
• “[B]anks returning to the platform has been a priority for us and acts as an endorsement of our strength in compliance and controls.” Id. ¶ 91 (February 14, 2017).

         Plaintiffs allege that these statements' emphasis on LendingClub's commitment to compliance and its reassurance that maintaining trust was a “key principle” was false or misleading because “Defendants knew or recklessly disregarded” that the Company was engaging in the practices alleged in the FTC Action, which consequently, “would subject LendingClub's business practices to heightened FTC scrutiny and/or regulatory action.” Id. ¶¶ 69; 72, 74. Plaintiffs also allege that Defendants' discussion of the Company's “diligence and regulatory compliance imposed on them a duty to disclose” that LendingClub was engaged in the conduct alleged in the FTC Action. Id. ¶¶ 88; 84; 92. According to Plaintiffs, “Defendants knew or recklessly disregarded that LendingClub's loan processes were not ‘transparent.'” Id. ¶ 90.

         ii. Statements regarding LendingClub's 2016 Internal Control Weaknesses For example:

• “[a] violation of the company's business practices … was unacceptable to the board. And this is not something the board will compromise on in anyway.” CAC ¶ 71 (May 9, 2016); see also Id. ¶ 68 (same date).
• “As Scott mentioned, we have all the key banks back on the platform that purchased between January and April and added five more last quarter. Just as banks are an indication of our strong internal processes, I am pleased to report that during the quarter we are able to complete the planned remediation steps related to the material weakness.” Id. ¶ 91 (February 14, 2017).

         Plaintiffs allege that this statement was false or misleading because “Defendants' discussion of their compliance and completion of remediation imposed a duty on them to disclose adverse facts pertaining to the Company's lack of compliance and remediation of control issues, which were known to Defendants or recklessly disregarded by them.” Id. ¶ 92. Specifically, Plaintiffs allege that “Defendants made false and/or misleading statements and/or failed to disclose” the practices alleged in the FTC Action, subjecting “LendingClub's business practices to heightened FTC scrutiny and/or regulatory action.” Id.

         iii. Statements regarding LendingClub's process and website improvements For example:

• “We've redesigned our website to make it easier to find through organic search and easier to navigate, resulting in better conversion.
We conducted pricing tests to optimize borrower take rate, we rolled out a new strategy in technology for verifying income and employment, which streamlines the process for borrowers, while increasing efficiency for LendingClub. The sum total of these initiatives result in a better experience for borrowers and better conversion rates for the business. The proof is in the positive feedback we get from our customers, including the ease of use, money saved and the impact to their financial lives.” CAC ¶ 104 (August 7, 2017).
• “The efforts we have of making our process easier for our consumers and borrowers, as well as the number of tests that we've put in place to optimize the conversion rate. So we feel that those are competitive advantage. We think the data that we have, the insight we have from the many, many points of light we touch with our borrowers that we can actually continue to be very, very competitive despite the environment.” Id. ¶ 105 (August 7, 2017).

         Plaintiffs allege that these statements were materially false or misleading because Defendants knew or recklessly disregarded that LendingClub was engaging in the practices alleged to be deceptive or unfair in the FTC Action and that such conduct “would subject LendingClub's business practices to heightened FTC scrutiny and/or regulatory action.” Id. ¶ 106.

         iv. Certifications pursuant to the Sarbanes-Oxley Act of 2002 (“SOX”)

         For example:

• “[t]he information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company.” CAC ¶¶ 80 (May 16, 2016); 93 (February 28, 2017); 102 (May 5, 2017); 107 (February 22, 2018).

         Plaintiffs allege that these certifications were materially false or misleading because Defendants “knew or recklessly disregarded” that LendingClub engaged in the practices alleged in the FTC Action, contrary to Defendants' claims that “maintaining trust with potential borrowers and borrowers was a ‘key principle, '” and that such conduct “would subject LendingClub's business practices to heightened FTC scrutiny and/or regulatory action.” Id. ¶¶ 82; 94; 103; 108.

         v. Statements regarding LendingClub's privacy policy For example:

• “We have a detailed privacy policy, which complies with GLBA and is accessible from every page of our website.” CAC ¶¶ 98 (February 28, 2017); 111 (February 22, 2018).

         Plaintiffs allege that this statement was false and misleading because “Defendants knew or recklessly disregarded that LendingClub's privacy policy did not comply with the Gramm-Leach-Bliley Act, and this conduct would subject LendingClub's business practices to heightened regulatory scrutiny and/or regulatory action by the FTC.” Id. ¶¶ 99; 112.

         vi. Statements disclosing regulatory risks For example:

• “The collection, processing, storage, use and disclosure of personal data could give rise to liabilities as a result of governmental regulation, conflicting legal requirements or differing views of personal privacy rights…. Any inability to adequately address privacy concerns, even if unfounded, or to comply with applicable privacy or data protection laws, regulations and privacy standards, could result in additional cost and liability for us, damage our reputation, inhibit use of our marketplace and harm our business.” CAC ¶ 76 (incorporated by reference in SEC filings on May 16, 2016, August 9, 2016, and November 9, 2016).
• “We and our issuing bank partners are subject to borrower protection laws and federal and state consumer protection laws…. In particular, through our marketplace, we may be subject to laws, such as:
Section 5 of the Federal Trade Commission Act, which prohibits unfair and deceptive acts or practices in or affecting commerce, …
the Gramm-Leach-Bliley Act, which includes limitations on financial institutions' disclosure of nonpublic personal information about a consumer to nonaffiliated third parties … We may not always have been, and may not always be, in compliance with these laws. Compliance with these laws is also costly, time-consuming and limits our operational flexibility….” Id. ¶78 (incorporated by reference in SEC filings on May 16, 2016, August 9, 2016, and November 9, 2016); see also ¶ 100 (February 28, 2017).
• “While we have developed policies and procedures designed to assist in compliance with these laws and regulations, no assurance can be given that these policies and procedures will be effective in preventing violations of these laws and regulations. … Failure to comply with these laws and regulatory requirements applicable to our business may, among other things, limit our or a collection agency's ability to collect all or part of the principal of or interest on loans. As a result, we may not be able to collect our servicing fee with respect to the uncollected principal or interest, and investors may be discouraged from investing in loans. In addition, non-compliance could subject us to damages, revocation of required licenses, class action lawsuits, administrative enforcement actions, rescission rights held by investors in securities offerings and civil and criminal liability, which may harm our business and our ability to maintain our lending marketplace and may result in borrowers rescinding their loans.” Id. ¶ 113 (February 22, 2018).

         Plaintiffs allege that these statements were false and misleading because Defendants “failed to disclose that LendingClub's privacy policy did not comply with the Gramm-Leach-Bliley Act and, therefore, that the risks discussed with respect to its failure to comply with such regulations had already materialized.” Id. ¶ 77. Plaintiffs also allege that Defendants “were duty bound to disclose, but failed to disclose” that LendingClub engaged in the conduct alleged in FTC's Complaint, which “subject LendingClub's business practices to heightened FTC scrutiny and/or regulatory action; and therefore, the risks warned of in the [statements] with respect to the Company's compliance with borrower protection and federal and state consumer protection laws had already materialized.” Id. ¶¶ 79; 101; 114.

         vii. Statements regarding “hidden ...

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