There are reasons to believe that the Atkins SEC may be less inclined than its predecessor to bring enforcement actions based on “hypothetical risk factors,” but the same can’t be said for private plaintiffs.  In that regard, the 2nd Circuit’s recent decision in City of Hialeah Employees’ Retirement System v. Peloton Interactive (2d. Cir; 8/25) to revive fraud claims premised on hypothetical risk factor disclosure is likely to bolster their appeal to members of the plaintiffs’ bar.

In that case, the 2nd Circuit overruled the SDNY’s prior decision and reinstated Rule 10b-5 claims against Peloton arising out of, among other things, hypothetical risk factor disclosure concerning excess inventory levels. Here’s an excerpt from the Court’s opinion:

In its SEC filings of May 7, August 26, and November 4, 2021, Peloton warned: “If we fail to accurately forecast consumer demand, we may experience excess inventory levels or a shortage of products available for sale. Inventory levels in excess of consumer demand may result in inventory write-downs or write-offs and the sale of excess inventory at discounted prices, which would cause our gross margins to suffer.”

We agree with the district court that the risk disclosure in the Form 10-Q of May 2021 was not actionable. But the risk disclosures in the Form 10-K and the Form 10-Q of August and November 2021 were plausibly false or misleading. The SAC plausibly alleged that by August 26, 2021, the specific financial consequences described in these disclosures were not merely hypothetical “but had already materialized and resulted in significant disruption to [Peloton’s] business.” Teladoc, 2024 WL 4274362, at *5.

The SAC alleged that following the earnings call on August 26, 2021, Peloton reduced the price of the original Bike by $400. See App’x 237 (¶ 187). According to CW1, this reduced price was a direct response to Peloton’s “excess inventory.” Id. at 184 (¶ 31). Moreover, on November 4, 2021, Peloton disclosed that 91 percent of its inventory was unsold and reduced its earnings guidance by approximately $1 billion. See id. at 178 (¶ 7); id. at 252-53 (¶¶ 219-23). In other words, Peloton was already engaging in “the sale of excess inventory at discounted prices.” Id. at 424.

The Court concluded that, accepting the plaintiffs’ allegations as true, the presentation of these inventory-related risks as hypothetical in Peloton’s August and November 2021 SEC filings was potentially misleading.

– John Jenkins