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Second Circuit Affirms Dismissal Of Putative Class Action Against Clothing Retailer
06/09/2026On May 28, 2026, the United States Court of Appeals for the Second Circuit affirmed the dismissal of a putative class action asserting claims under the Securities Exchange Act against a clothing retailer and certain of its officers. Smith v. Gap, Inc., —F.4th—, 2026 WL 1502033 (2d Cir. May 28, 2026). Plaintiffs alleged that the company made misrepresentations regarding an initiative to increase the availability of plus-size clothing options at its retail stores, which allegedly created inventory problems and had a negative impact on sales. The Second Circuit affirmed the dismissal of the action, holding that plaintiffs failed to adequately allege actionable misrepresentations or scienter.
With respect to alleged misrepresentations, the Court rejected plaintiffs’ argument that certain press releases and earnings calls were misleading because they incorporated the company’s risk disclosures without disclosing that certain risks had allegedly materialized. Id. at *3. The Court explained that not all risk disclosures are rendered misleading simply because some aspect of the risk may have already materialized. Id. The Court emphasized that the risk disclosures here—including that the company could “misjudge the market for [its] merchandise,” thereby requiring markdowns, and that the company might not be able to “manage [its] inventory effectively”—were generic to the industry and the company had disclosed that it had “not always predicted [its] customers’ preferences … with accuracy.” Id. at *4. Thus, the Court concluded that the risk disclosures would not cause a reasonable investor to conclude that there were no problems with any specific program or that the risks described had never materialized. Id.
Second, the Court held that a challenged statement from a company earnings call—that the company was “seeing strong extended size demand across fashion categories, a clear signal that our customer is craving trend choice lacking in the market”—amounted to inactionable puffery. Id. The Court further emphasized that the statement was based on quantifiable metrics that were themselves disclosed. Id. Thus, the Court rejected plaintiffs’ argument that the statement was misleading because it did not disclose that the company was “conducting deeper than normal discounting.”
Third, the Court rejected plaintiffs’ argument that company press releases attributing inventory problems to supply-chain issues related to COVID-19 were misleading because they did not disclose that sales had also declined allegedly due in part to problems with the initiative. Id. at *5. The Court held that the statements in the press releases were not misleading and did not give rise to a duty to disclose other inventory issues, explaining that “[a] company’s decision to speak about one aspect of sales does not necessarily require it to address other issues.” Id.
Similarly, the Court rejected plaintiffs’ argument that the company had an obligation to disclose problems with its initiative because those issues amounted to known trends and uncertainties required to be disclosed under Item 303 of SEC Regulation S-K. Id. The Court explained that a private securities action cannot be based on an alleged omission under Item 303 unless the omission renders a statement misleading, and here plaintiffs had failed to identify an actionable misstatement. Id.
As to scienter, the Court noted that plaintiffs did not attempt to establish scienter by alleging conscious misbehavior or recklessness but rather relied on allegations that the officers named as defendants received information about the initiative and inventory levels generally, as well as allegations under the “core operations” theory. Id. at *6. The Court held that plaintiffs’ allegations were insufficient to establish a strong inference of scienter. The Court explained that, while plaintiffs alleged that the individual defendants received certain inventory reports, plaintiffs did not identify who prepared these reports or when, or what they contained. Id. Further, the Court noted that plaintiffs did not allege that the reports attributed declining sales or inventory problems to the sales initiative. Id. While plaintiffs alleged, based on a confidential witness’s “secondhand account,” that two store managers had told the CEO that they had too many plus-sizes and not enough medium sizes in stock, the Court observed that this could only support an inference that the company knew that certain stores were having inventory problems, not that the entire initiative was failing. Id. Indeed, the Court noted that, after inventory issues relating to the initiative first emerged, the company initially rolled back the initiative only at a portion of its stores, which was consistent with an interpretation that the company believed problems were limited to certain locations. Id.
Finally, the Court explained that the “core operations” doctrine—under which scienter can be imputed to officers who should have known facts about operations that are sufficiently important to the company—had not been clearly held by the Second Circuit to provide an independent basis for scienter, rather than merely supplemental support. Id. Moreover, the Court concluded that plaintiffs could not rely on a core operations theory because, while they alleged that inventory amounted to a “core operation,” they failed to quantify the relative importance of the initiative to the company’s inventory operations more generally. Id.
