Court Opinion

ID: 9918712
Source: CourtListenerOpinion
Date Created: 2024-01-16 16:00:40.159232+00
Date Added: 2024-06-11T08:04:40.717872
License: Public Domain

23-301
Qi Mi v. Waterdrop Inc.

                          UNITED STATES COURT OF APPEALS
                              FOR THE SECOND CIRCUIT
                                   SUMMARY ORDER
Rulings by summary order do not have precedential effect. Citation to a summary order
filed on or after January 1, 2007, is permitted and is governed by Federal Rule of Appellate
Procedure 32.1 and this court’s Local Rule 32.1.1. When citing a summary order in a
document filed with this court, a party must cite either the Federal Appendix or an
electronic database (with the notation “summary order”). A party citing a summary order
must serve a copy of it on any party not represented by counsel.
       At a stated term of the United States Court of Appeals for the Second Circuit,
held at the Thurgood Marshall United States Courthouse, 40 Foley Square, in the
City of New York, on the 16th day of January, two thousand twenty-four.

PRESENT:
               Steven J. Menashi,
               Alison J. Nathan,
               Maria Araújo Kahn,
                                Circuit Judges.
____________________________________________

Qi Mi,

                 Plaintiff-Appellant,

Sidney Sandoz,

                 Plaintiff,

          v.                                                   No. 23-301

Waterdrop Inc., Peng Shen, Kangping Shi, Nina
Zhou, Kai Huang, Guang Yang, Collen A. De
Vries, Cogency Global Inc., Goldman Sachs (Asia)
L.L.C., Morgan Stanley & Co. LLC, BofA
Securities, Inc., China Merchants Securities (HK)
Co.,    Limited,      CLSA     Limited,       Haitong
International Securities Company Limited, Yao
Hu, Haiyang Yu,

               Defendants–Appellees.
____________________________________________

For Plaintiff-Appellant:               CRAIG J. GERACI, JR., Kahn Swick & Foti,
                                       LLC, New Orleans, Louisiana (Kim E.
                                       Miller, Kahn Swick & Foti, LLC, New York,
                                       New York, on the brief).

For Defendants-Appellees:              SANFORD I. WEISBURST, Quinn Emanuel
                                       Urquhart & Sullivan, LLP, New York, New
                                       York (Michael B.        Carlinsky,   Jacob   J.
                                       Waldman, Quinn Emanuel Urquhart &
                                       Sullivan, LLP, New York, NY, Jonathan
                                       Rosenberg, Abby F. Rudzin, O’Melveny &
                                       Myers LLP, New York, New York, on the
                                       brief).

       Appeal from a judgment of the United States District Court for the Southern
District of New York (Cote, J.).

       Upon due consideration, it is hereby ORDERED, ADJUDGED, and
DECREED that the judgment of the district court is AFFIRMED.

       Plaintiff-Appellant Qi Mi is the lead plaintiff for a putative class consisting
of investors who purchased American Depositary Shares (“ADS”) in the May 2021
initial public offering (“IPO”) of Waterdrop, Inc., an Internet-based Chinese
insurance company. Mi’s complaint asserted claims against Waterdrop, certain of

                                          2
its officers, directors and representatives, and the underwriters of the IPO under
sections 11 and 15 of the Securities Act of 1933. Mi alleged that Waterdrop’s
registration statement—the document that informed prospective investors in the
IPO about Waterdrop—was materially misleading. The district court dismissed
the complaint for failure to state a claim. We assume the parties’ familiarity with
the facts, procedural history, and issues on appeal.

                                         I

      Waterdrop, founded in China in 2016, historically had three business
segments: a commercial insurance platform; a medical crowdfunding platform,
which enabled donations to people with high medical bills; and a mutual aid
platform, which enabled people suffering from critical illnesses to spread their
medical costs. While the commercial insurance platform generated the majority of
Waterdrop’s revenue, the crowdfunding and mutual aid programs gave
Waterdrop a competitive advantage because those programs “generate[d] cheaper
customer leads and lower[ed] Waterdrop’s customer acquisition costs.” J. App’x
25. In late 2020, the China Banking and Insurance Regulatory Commission
(“CBIRC”) began scrutinizing online insurance companies. The CBIRC focused
particularly on mutual aid platforms, which the agency deemed to present a high
risk of fraud. By early 2021, most of the mutual aid platforms in China, including
Waterdrop’s, had ceased operations. Despite the regulatory environment,
Waterdrop proceeded with its planned IPO on May 7, 2021. According to Mi,
“[t]he Registration Statement disclosed the cessation of Waterdrop’s mutual aid
platform, but it obscured the true reasoning behind the cessation, thus …
downplaying the effects that the hostile regulatory environment in China was
having and would continue to have on the Company.” Id. at 15.

      The IPO occurred approximately one month after the end of the first fiscal
quarter of 2021 (“Q1:21”). Mi alleged that the registration statement was
misleading for the additional reason that it disclosed certain interim financials
from Q1:21 but omitted the sharp increase in aggregate expenses during that

                                         3
quarter. Mi focuses on the following passage in the section of the registration
statement titled “Recent Development”:

      We have achieved a solid business growth in the first quarter of 2021.
      The FYP[ 1 ] generated through Waterdrop Insurance Marketplace
      reached RMB 4,469 million for the first quarter of 2021, demonstrating
      a 14.4% increase from the fourth quarter of 2020 or a 42.7% increase
      from the [first quarter] of 2020.

Id. at 235. According to Mi, “Waterdrop notably did not disclose that operating
costs and expenses had skyrocketed during Q1:21, increasing by more than 75%
year over year, which led to a significant net operating loss for the quarter.” Id. at
35. This increase largely resulted from Waterdrop’s reliance on costly third-party
traffic channels to grow its customer base after discontinuing the mutual aid
platform.

      This action began in the Southern District of New York on September 14,
2021, as a putative class action on behalf of all investors in Waterdrop’s IPO. The
defendants moved to dismiss the First Amended Complaint (“FAC”) for failure to
state a claim, and the district court granted the motion, explaining its decision as
follows:

      Read in context, the Registration Statement adequately warned
      investors of the risks associated with Waterdrop and its IPO,
      including the increase in operating costs, the regulatory regime, and
      the closure of Mutual Aid. The FAC has failed to plead that any of the
      statements in the Registration Statement were materially misleading

1 First-year premiums, or FYP, include “all premiums that policyholders are obligated to
pay for short-term policies and the premiums that policyholders are obligated to pay in
the first policy year for long-term policies.” Appellees’ Br. 6-7 (quoting J. App’x 239).
Thus, FYP serves as a measure of new insurance business generated in a given period.

                                           4
      or that there were material omissions from the Registration
      Statement.

Sandoz v. Waterdrop Inc., No. 21-CV-7683, 2023 WL 1767526, at *8 (S.D.N.Y. Feb. 3,
2023). The district court denied leave to amend the complaint. This appeal
followed.

                                         II

      “We review a district court’s grant of a motion to dismiss de novo, accepting
as true all factual claims in the complaint and drawing all reasonable inferences in
the plaintiff’s favor.” Altimeo Asset Mgmt. v. Qihoo 360 Tech. Co., 19 F.4th 145, 147
(2d Cir. 2021) (quoting Henry v. County of Nassau, 6 F.4th 324, 328 (2d Cir. 2021)).
“Although we generally review denials of leave to amend for abuse of discretion,
in cases in which the denial is based on futility, we review de novo that legal
conclusion.” Shimon v. Equifax Info. Servs. LLC, 994 F.3d 88, 91 (2d Cir. 2021)
(emphasis added).

                                         III

      “To state a plausible section 11 claim based on an alleged omission, a
complaint must pass two distinct hurdles: it must identify an omission that is
(1) unlawful and (2) material.” In re ProShares Tr. Sec. Litig., 728 F.3d 96, 101 (2d
Cir. 2013). “In the Second Circuit, the long-standing test for assessing the
materiality of an omission … [is whether] a reasonable investor would view the
omission as ‘significantly alter[ing] the “total mix” of information made
available.’” Stadnick v. Vivint Solar, Inc., 861 F.3d 31, 36 (2d Cir. 2017) (quoting
DeMaria v. Anderson, 318 F.3d 170, 180 (2d Cir. 2003)). We agree with the district
court that Mi failed plausibly to allege that the registration statement was

                                         5
materially misleading with respect to either the discontinuation of the mutual aid
platform or Waterdrop’s Q1:21 financial results.

                                           A

      Mi argues that the registration statement was materially misleading because
it failed to disclose that the mutual aid program was discontinued due to
regulatory pressure, giving investors an incomplete picture of the regulatory
environment in which Waterdrop operates. But the registration statement spoke
in detail about the regulatory environment and the risks it presented to
Waterdrop’s business. See, e.g., J. App’x 248-49 (“We operate in a highly regulated
industry in China, and the regulatory regime continues to evolve. … [T]he CBIRC
has extensive authority to supervise and regulate the insurance industry in China.
Since the online insurance industry in China is evolving rapidly, the CBIRC has
been enhancing its supervision over this industry in recent years, and new laws,
regulations   and    regulatory    requirements     have    been    promulgated     and
implemented from time to time.”). The registration statement put investors on
notice that Waterdrop operates in a highly regulated industry and is subject to
considerable regulatory risk.

      In addition, as the district court noted, the complaint referred to several
documents publicly available to investors at the time of the IPO that provided
additional information about the increasing regulatory scrutiny of mutual aid
platforms. Cf. Tongue v. Sanofi, 816 F.3d 199, 209 (2d Cir. 2016) (noting that a district
court deciding a motion to dismiss may consider “documents possessed by or
known to the plaintiff upon which it relied in bringing the suit”) (quoting ATSI
Commc’ns, Inc. v. Shaar Fund, Ltd., 493 F.3d 87, 98 (2d Cir. 2007)). The complaint
explained that “in late 2020 and early 2021, publications by the CBIRC
demonstrated … that the Chinese Government was cracking down on the health
insurance industry, especially medical mutual aid,” and it cited a CBIRC study
from September 2020 that specifically named Waterdrop’s mutual aid platform as
an “unlicensed operation[]” that posed “stakeholder risks [that] cannot be

                                           6
ignored.” J. App’x 49. The district court correctly concluded that explicitly stating
that the mutual aid program was discontinued due to pressure from the CBIRC
would not have “significantly altered the total mix of information” available to a
reasonable investor at the time of the IPO.

                                          B

      Mi’s argument that the registration statement was materially misleading for
failing to disclose the rate of increase in aggregate expenses in Q1:21 also fails. The
district court observed that “[r]epeatedly, the Registration Statement states that
operating costs and expenses had increased and were expected to continue to
increase ‘in the foreseeable future.’” Waterdrop, 2023 WL 1767526, at *8. On appeal,
Mi argues that despite this language the registration statement was still
misleading because it omitted the rate of increase in Q1:21. “[T]he Q1:21 costs and
expenses … were not consistent with the historical results provided in the
Registration Statement,” according to Mi, because the year-over-year rate of
growth in aggregate expenses “had been trending downwards—until Q1:21, when
that trend notably reversed (and rapidly accelerated into Q2:21, which was well
underway at the time of the IPO.” Reply Br. 5. Thus, Mi argues, Waterdrop misled
investors by selectively disclosing the rate of growth in FYP in Q1:21 without also
disclosing the rate at which aggregate expenses grew. Had Waterdrop disclosed
its Q1:21 expenses, the registration statement “would have revealed that
generating the increased FYP and the ‘solid business growth’ in Q1:21 came with
a significant and unexpected price tag.” Id. at 12.

      Mi’s argument fails because the “price tag” would not have come as a
surprise to a rational investor. On the contrary, a reasonable investor who
understood Mi’s business model would have known that Waterdrop’s FYP growth
in Q1:21 could not have been achieved for free. The financial data included in the
registration statement revealed that FYP grew by approximately 20% between
Q1:20 and Q4:20 while aggregate expenses grew by approximately 44% over the
same period. Waterdrop disclosed that FYP increased by 14.4% from Q4:20 to

                                          7
Q1:21, while its earnings release following the IPO revealed that aggregate
expenses grew by 22.3% over the same period. The ratio between the growth rates
of FYP and aggregate expenses in Q1:21 was consistent with Waterdrop’s results
for fiscal 2020—indeed, it was slightly better. As Mi alleged in his complaint,
analysts covering Waterdrop at Bank of America and Morgan Stanley did not
change their price targets for Waterdrop’s ADS when the Q1:21 financials were
released after the IPO. See J. App’x 37. A reasonable investor thus would not have
been particularly surprised by the rate at which Waterdrop’s aggregate expenses
increased in Q1:21.

      Mi’s argument appears plausible only when the reference to “solid business
growth” in Q1:21 is read in isolation. But we are required to read the registration
statement “cover-to-cover” and “consider whether the disclosures and
representations, ‘taken together and in context, would have misl[ed] a reasonable
investor about the nature of the [securities].’” In re Proshares, 728 F.3d at 103
(quoting DeMaria, 318 F.3d at 180). The registration statement as a whole described
a risky and speculative investment in an upstart growth company that had never
been, and might never be, profitable. See, e.g., J. App’x 247-48 (“We have incurred
net losses and negative cash flows from operating activities each year since our
inception and we may not be able to achieve or maintain profitability or positive
cash flow in the future. … We anticipate that our operating costs and expenses will
increase in the foreseeable future as we continue to grow our business.”). The
reference to Q1:21 growth, and the omission of the precise figure for aggregate
expenses, did not affect the overall picture of Waterdrop that the registration
statement presented. The registration statement was not materially misleading.

                                        C

      Although Mi’s primary argument on appeal is that the registration
statement was rendered materially misleading by “omissions of historical or
present fact about Waterdrop’s Q1:21 results,” Appellant’s Br. 31, he also
complains about certain forward-looking statements. Mi asserts that “the

                                        8
Registration Statement … assure[d] investors that ‘we expect our operating costs
as a percentage of our net operating revenue will decrease in the foreseeable
future,’ despite operating costs as a percentage of revenue having already
increased in Q1:21.” Id. at 34.

      Under the bespeaks-caution doctrine, however, “alleged misrepresentations
in a stock offering are immaterial as a matter of law [if] it cannot be said that any
reasonable investor could consider them important in light of adequate cautionary
language set out in the same offering.” Rombach v. Chang, 355 F.3d 164, 173 (2d Cir.
2004) (quoting Halperin v. eBanker USA.com, Inc., 295 F.3d 352, 357 (2d Cir. 2002)).
Mi focuses almost exclusively on the language in the “Special Note Regarding
Forward-Looking Statements” and characterizes it as mere “boilerplate.”
Appellant’s Br. 37. But as we have explained, “[w]hen there is cautionary language
in the disclosure, the Court analyzes ‘the allegedly fraudulent materials in their
entirety to determine whether a reasonable investor would have been misled.’”
Rombach, 355 F.3d at 173 (quoting Halperin, 295 F.3d at 357). In Rombach, although
we described some of the cautionary statements as “formulaic,” we concluded
“that as a whole they provided a sobering picture of [the issuer’s] financial
condition and future plans” and were therefore sufficiently meaningful to qualify
any forward-looking statements. Id. at 176. Likewise, here, Waterdrop’s
registration statement cautioned investors by painting an overall picture of a risky
and speculative investment in a company that might never be profitable. We
conclude that the forward-looking statements are not misleading pursuant to the
bespeaks-caution doctrine.

                                          D

      Finally, the district court appropriately exercised its discretion in denying
Mi leave to amend the complaint a second time. “[A] court need not always allow
a party to replead simply because it asked. In particular, denial of leave to amend
is proper ‘where the request gives no clue as to how the complaint’s defects would
be cured.’” Noto v. 22nd Century Grp., 35 F.4th 95, 107 (2d Cir. 2022) (quoting Loreley

                                          9
Fin. (Jersey) No. 3 Ltd. v. Wells Fargo Sec., LLC, 797 F.3d 160, 190 (2d Cir. 2015)). Mi
asserts that if given the opportunity to amend, he would “alleg[e] more explicitly
[that] the Q1:21 financial results were final by the date of the IPO” and “alleg[e]
additional facts detailing how a reasonable investor would have found the
undisclosed information about the cessation of Mutual Aid to be important.”
Appellants’ Br. 45. These vague and conclusory statements do not show that
amendment would cure the defects in the complaint. See Noto, 35 F.4th at 107
(affirming the denial of leave to amend because “[i]n their briefing on appeal,
plaintiffs contend that they could ‘cure any deficiencies with additional testimony
… about [d]efendants’ editing, review, and approval’ of the promotional articles,
but do not allege what specific facts they would include to demonstrate the level
of control needed for Rule 10b-5 liability”).

                                    *      *      *

         We have considered Mi’s remaining arguments, which we conclude are
without merit. For the foregoing reasons, we affirm the judgment of the district
court.

                                         FOR THE COURT:
                                         Catherine O’Hagan Wolfe, Clerk of Court

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