A Manhattan appellate court yesterday dismissed a lawsuit that accused the city of misspending millions of state dollars intended for class-size reduction.

The funds were first awarded to the city under the 2007 Contracts for Excellence program. In the years since, the city got $760 million to shrink classes.

Yet class size began a steady climb in 2008 for the first time in years, provoking the teachers union and other groups to file suit last year.