On January 10, 2025, the United States Court of Appeals for the Ninth Circuit Court affirmed the dismissal of a putative securities class action brought by a pension plan alleging that a hearing aid manufacturer (the “Company”) violated the Securities Act of 1933 (the “Securities Act”) by issuing a prospectus for its initial public offering (“IPO”) that allegedly included false and misleading statements regarding revenue recognition, risk factors, and potential growth. Cai v. Eargo, Inc., No. 23-3470, 3:21-cv-08597-CRB (9th Cir. Jan. 10, 2025). Plaintiffs also alleged violations of the Securities Exchange Act of 1934 (the “Exchange Act”) based on certain post-IPO statements concerning an audit by an insurance carrier, revenue recognition, risk factors, and the Company’s growth. The Court, in an unpublished opinion, affirmed the district court’s decision dismissing the complaint (which we previously covered here) holding that the alleged misstatements were not misleading or were puffery and thus not actionable under the securities laws and that plaintiffs failed to plead facts giving rise to a strong inference of scienter.
Plaintiffs’ claim under the Securities Act was based on allegations that the Company’s IPO prospectus contained misstatements concerning the Company’s assessment of insurance eligibility and that the Company should not have recognized insurance revenue because the insurance claims were ultimately non-reimbursable. The Court affirmed dismissal given that insurers had reimbursed the Company’s claims for many years prior to the allegedly misleading statements and fraud by hindsight is not actionable. The Court also dismissed claims based on statements in the prospectus that the Company “assesses” insurance eligibility because, in context, the prospectus “made clear” that the Company in fact was merely evaluating customer insurance policies and payouts. Further, the Court held that the Company sufficiently “disclosed a wide range of potential risks,” including its new market-disrupting business model, the existence of varying degrees of insurance coverage, and certain legal risks. Finally, the Company’s statements about potential growth were held to be inactionable puffery.
Plaintiffs’ Exchange Act claim fared no better. Plaintiffs alleged, for example, that the Company’s statements about the insurer’s audit being “routine” and “not questioning claims” misled investors about revenue recognition and risks that had already materialized. In affirming the dismissal of the claims, the Court reasoned that the Company disclosed the audit and the fact that the insurer was questioning the Company’s process for establishing medical necessity rather than whether there was an underlying medical necessity. The Court also found that many of the statements about the Company’s growth were projections and thus inactionable statements of corporate optimism.
Finally, the Court held that plaintiffs failed to plead facts giving rise to a strong inference of scienter as is required to assert a claim under the Exchange Act. The Court explained that plaintiffs failed to plead facts giving rise to a strong inference of scienter given that the Company’s CEO and CFO increased their Company stock holdings during the class period.
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