On Wednesday, Judge James Donato issued a ruling in the case against Zoom Video Communications Inc., CEO Eric Yuan, and CFO Kelly Steckelberg, which was filed after it came to light that the company touted its software as end-to-end encrypted when it was not. The opinion said that the stockholder plaintiff alleged one actionable statement but that the other 14 failed to pass muster under the federal securities laws’ pleading requirements.
The suit dates back to April 2020, just after allegations over the end-to-end encryption issues and allegedly impermissible data collection practices surfaced publicly amid Zoom’s rising popularity attributable to the outbreak of COVID-19. Corresponding share price declines showed the materiality of the revelations, the complaint said.
The parties engaged in motion practice with Zoom defending on grounds that the plaintiffs failed to demonstrate that statements about its video conferencing software’s security measures were false, made with the requisite state of mind, and alleged loss causation under the Securities Exchange Act.
In this week’s opinion, Judge Donato first considered the allegations concerning CFO Steckelberg, which he found to be threadbare. “This means that plaintiff has not adequately alleged scienter for the Section 10(b) claim against Steckelberg,” the opinion said.
The court closely considered the first proffered statement as reportedly made by CEO Yuan in a 2019 SEC filing that stated, “Security and disaster recovery. We offer robust security capabilities, including end-to-end encryption, secure login, administrative controls and role-based access controls.” Judge Donato found the falsity element satisfied owing to the fact that “defendants represented that Zoom offered ‘end-to-end encryption’ when in fact it did not.”
Scienter was also satisfied by the plaintiff’s allegation that Yuan issued a corrective statement nearly a year later, reportedly linking to a post expressing regret and responsibility for Zoom’s “incorrect” use of “end-to-end encryption,” the opinion said. Too, the court found loss causation fulfilled as the allegations gave Zoom notice of plaintiffs’ stock price drop theory and provided the court assurance that the theory was rooted in fact.
As to the remaining statements, the court dismissed them for lack of allegations contending that Yuan actually made them and absent a contention that this is an “exceptional case” where a company’s statements were so important and so dramatically false as to create a strong inference that at least some high-ranking officers knew of their falsity upon publication.
Judge Donato permitted the shareholder to amend all of the dismissed claims with a deadline of March 9. The investor and putative class are represented by Robbins Geller Rudman & Dowd LLP and Zoom by Cooley LLP.
