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Stanford University Law School - Securities Class Action Clearinghouse
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IN THE UNITED STATES DISTRICT COURT
FOR THE NORTHERN DISTRICT OF CALIFORNIA
) No. C 96-0393 FMS
)
) ORDER GRANTING IN
IN RE SILICON GRAPHICS, INC. ) PART DEFENDANTS'
SECURITIES LITIGATION ) MOTION TO
) DISMISS; GRANTING
) DEFENDANTS'
) MOTION FOR
) PARTIAL SUMMARY
) JUDGMENT;
__________________________________) SCHEDULING ORDER
INTRODUCTION
In September 1996, the Court dismissed plaintiffs' class
and derivative securities fraud actions against defendants with
leave to amend. In October 1996, plaintiffs filed an amended
class action complaint. Defendants now renew their motion to
dismiss, arguing that plaintiffs' allegations against them are
insufficient as a matter of law. Certain individual defendants
also move for summary judgment, arguing that they did not
undertake the conduct alleged by plaintiffs. These motions
require the Court to discern the proper pleading standards under
the Private Securities Litigation Reform Act of 1995, to apply
them to plaintiffs' complaint, and to determine whether
defendants' motion for summary judgment is procedurally proper.
BACKGROUND
Defendant Silicon Graphics, Inc. ("SGI") is a Delaware
corporation that designs and sells desktop graphics workstations,
multi-processor servers, advanced computing platforms, and
application software. The company's stock is traded on the New
York Stock Exchange. Plaintiffs' complaint arises out of
fluctuations in SGI's stock price during the fall of 1995.
On August 21, 1995, SGI stock reached an all-time high
of $44-7/8 before declining into the high $20s due to investor
concern that SGI would be unable to maintain its historic high
growth rates in the face of increased competition. On October 19,
1995, SGI announced the results for the first quarter of fiscal
year 1996. The market viewed these results as disappointing,
although they showed a thirty-three percent growth in revenue.
SGI reassured analysts and investors that it still expected to
meet its growth targets. In a press release, and also in a
conference call with analysts, SGI provided explanations for the
shortfall and suggested reasons why the second quarter results
would be better. SGI issued periodic updates throughout the fall,
reasserting its confidence about second quarter results. As a
result, the stock price rebounded into the high $30 range.
In December 1995, on rumors that the second quarter
results might also be lower than anticipated, the stock fell
again, this time dipping into the mid-$20 range. When SGI
confirmed the rumors in early January 1996, the stock fell to a
low of approximately $22 per share. In response, plaintiffs filed
their first class action complaint on January 29, 1996. A
derivative action was filed on March 22, 1996. Both complaints
related to the December 1995/January 1996 drop in SGI's stock
price.
In September 1996, the Court dismissed the class action
complaint for failure to plead scienter adequately under the
Private Securities Reform Act of 1995 ("SRA"). At the same time,
the Court dismissed the derivative complaint because plaintiffs
had failed to make the required demand that the company's board
take action. The Court gave plaintiffs leave to amend both
complaints; however, plaintiffs chose to amend only the class
action complaint.
In their First Amended Complaint ("FAC"), plaintiffs
again allege that SGI and the individual defendants1 violated
federal securities law by issuing false and misleading information
about the company in an effort to inflate the price of SGI stock
for the purpose of selling their own stock at a substantial
profit. Plaintiffs have brought this case on behalf of themselves
and all persons who purchased SGI stock during the period between
September 13, 1995 and December 29, 1995.
I. Plaintiffs' Allegations
The following section is based on plaintiffs'
allegations, which are taken as true for purposes of the motion to
dismiss. During September 1995, SGI executives became concerned
that the company would not meet its growth and revenue targets
because of production problems with its most important new
product, the Indigo2 IMPACT workstation. Out of fear that SGI's
sales and stock price would decline if this information became
public, defendants agreed to conceal the problems from the public.
When revenues and stock prices declined anyway in September and
October 1995, defendants devised a scheme to boost stock prices to
protect the company's interests and their individual stakes.
As a part of their scheme, defendants made material
misrepresentations about SGI's growth prospects and general
financial condition, and failed to disclose adverse facts about
SGI's products, management, and competitors. For example,
defendants asserted a high sales volume, when in fact sales where
materially below SGI's internal targets. SGI also failed to
disclose that it had insufficient component parts to produce the
Indigo2 IMPACT workstations required to meet demand, instead
maintaining that the shortage of workstations was due to
unanticipated heavy demand for the product. Defendants
disseminated this false and misleading information to the market
through SGI's report to shareholders, numerous press reports, and
meetings with securities analysts.
Defendants' efforts to boost stock prices were a
success. As a result of the misrepresentations, SGI's stock price
rose to $38-3/4. Meanwhile, aided by an SGI one million share
stock repurchase plan, defendants cumulatively sold nearly 400,000
shares of their own SGI stock, reaping combined profits of
approximately $14 million. After defendants had collected their
profits, they announced "disastrous" second quarter results, which
sent the stock plummeting to $21-1/8. As a result, plaintiffs and
potential class members suffered financial damages. Plaintiffs
seek to impose direct liability on defendants for their individual
misrepresentations, insider trading, participation in the
fraudulent scheme, and under a theory of control person liability.
II. Defendants' Rebuttal
Defendants contend that SGI has experienced rapid growth
in recent years, and continued to grow even during the class
period. During the fall of 1995, defendants conducted business as
usual, making normal statements to shareholders, the press, and
industry analysts about the company's performance and anticipated
performance. In hindsight, SGI's forecasts may have been
optimistic, but there was no fraud involved.
Defendants argue that plaintiffs have not adequately
pled their case under the Private Securities Litigation Reform
Act. They point out that the FAC is pled on information and
belief, and fails to provide any foundational statement of facts,
as required by the Second Circuit law on which the SRA arguably is
based. Moreover, they contend that even if the "facts" in the FAC
are accepted as true, they do not create a strong inference of
fraud. Certain individual defendants also seek summary judgment,
because they did not make any allegedly false or misleading
statements, and did not trade contemporaneously with plaintiffs.
DISCUSSION
I. Legal Standard
A. Federal Rule of Civil Procedure 12(b)(6)
A motion to dismiss pursuant to Rule 12(b)(6) tests the
sufficiency of the complaint. See North Star Int'l v. Arizona
Corp. Comm'n, 720 F.2d 578, 581 (9th Cir. 1983). Dismissal of an
action pursuant to Rule 12(b)(6) is appropriate only where it
"'appears beyond doubt that the plaintiff can prove no set of
facts in support of his claim which would entitle him to relief.'"
See Levine v. Diamanthuset, Inc., 950 F.2d 1478, 1482 (9th Cir.
1991) (quoting Conley v. Gibson, 355 U.S. 41, 45-46 (1957)).
In reviewing a motion to dismiss pursuant to Rule
12(b)(6), the Court must assume all factual allegations to be true
and must construe them in the light most favorable to the
nonmoving party. See North Star, 720 F.2d at 580. Legal
conclusions need not be taken as true merely because they are cast
in the form of factual allegations, however. Western Mining
Council v. Watt, 643 F.2d 618, 624 (9th Cir. 1981). Further, the
Court need not accept as true allegations that contradict facts
that have been judicially noticed. See Employers Ins. v. Musick,
Peeler, & Garrett, 871 F. Supp. 381, 385 (S.D. Cal. 1994).
The Court may consider documents outside of the
pleadings in support of a Rule 12(b)(6) motion to dismiss if the
document is referenced in plaintiff's complaint and the document
is "central" to plaintiff's claim. See Venture Assoc. Corp. v.
Zenith Data Sys. Corp., 987 F.2d 429, 431 (9th Cir. 1993);
Glenbrook Homeowners Ass'n v. Scottsdale Ins. Co., 858 F. Supp.
986, 987 (N.D. Cal. 1994). The Court may also take judicial
notice of facts records outside the pleadings. See MGIC Indem.
Corp. v. Weisman, 803 F.2d 500, 504 (9th Cir. 1986) (taking
judicial notice of public records); Mack v. South Bay Beer
Distrib., Inc., 798 F.2d 1279, 1282 (9th Cir. 1986).
B. Federal Rule of Civil Procedure 9(b)
Allegations of fraud must satisfy the requirements of
Rule 9(b) to survive a motion to dismiss. Rule 9(b) provides: "In
all averments of fraud or mistake, the circumstances constituting
fraud or mistake shall be stated with particularity. Malice,
intent, knowledge, and other condition of mind of a person may be
averred generally." The purpose of Rule 9(b) is to prevent the
filing of a complaint as a pretext for the discovery of unknown
wrongs. See Semegen v. Weidner, 780 F.2d 727, 731 (9th Cir.
1985).
To satisfy Rule 9(b), securities class action plaintiffs
must allege fraud with enough particularity to give defendants
notice of the specific charges against them so that defendants may
respond to the charges. See Kaplan v. Rose, 49 F.3d 1363, 1369
(9th Cir. 1994); Neubronner v. Milken, 6 F.3d 666, 671-72 (9th
Cir. 1993). A complaint satisfies this standard if it "state[s]
precisely the time, place, and nature of the misleading
statements, misrepresentations, and specific acts of fraud."
Kaplan, 49 F.3d at 1370; see also Neubronner, 6 F.3d at 672.
Rule 9(b) also requires that a plaintiff plead with
sufficient particularity attribution of the alleged
misrepresentations or omissions to each defendant; the plaintiff
is obligated to "distinguish among those they sue and enlighten
each defendant as to his or her part in the alleged fraud."
Erickson v. Kiddie, 1986 WL 544, *7 (N.D. Cal. 1986) (quoting
Bruns v. Ledbetter, 583 F. Supp. 1050, 1052 (S.D. Cal. 1984)); see
also Lubin v. Sybedon Corp., 688 F. Supp. 1425, 1443 (N.D. Cal.
1988) (finding plaintiff's "'dragnet' tactic of indiscriminately
grouping all of the individual defendants into one wrongdoing
monolith" failed to fulfill requirements of Rule 9(b)).
In most fraud actions, the requirements of Rule 9(b) may
be "relaxed as to matters peculiarly within the opposing party's
knowledge," if the plaintiffs cannot be expected to have personal
knowledge of the facts prior to discovery. See Wool v. Tandem
Computers, Inc., 818 F.2d 1433, 1439 (9th Cir. 1987) (citations
omitted). In securities actions, however, Congress has provided
that "if an allegation . . . is made on information and belief,
the complaint shall state with particularity all facts on which
that belief is formed." 15 U.S.C. § 78u-4(b)(1). In so
providing, Congress intended to assure that the requirements of
Rule 9(b) were met in all securities fraud cases, including those
pled on information and belief. See H.R. Conf. Rep. No. 104-369,
at 41 (1995) ("Conf. Rep.").
C. Federal Rule of Civil Procedure 56
To withstand a motion for summary judgment, the opposing
party must set forth specific facts showing that there is a
genuine issue of material fact in dispute. See Fed. R. Civ. P.
56(e). A dispute about a material fact is genuine "if the
evidence is such that a reasonable jury could return a verdict for
the non-moving party." Anderson v. Liberty Lobby, Inc., 477 U.S.
242, 248 (1986). If the nonmoving party fails to make a showing
sufficient to establish the existence of an element essential to
that party's case, and on which that party will bear the burden of
proof at trial, the moving party is entitled to a judgment as a
matter of law. See Celotex Corp. v. Catrett, 477 U.S. 317, 323
(1986).
In opposing summary judgment, plaintiff is not entitled
to rely on the allegations of his complaint. He "must produce at
least some 'significant probative evidence tending to support the
complaint.'" T.W. Elec. Serv., Inc. v. Pacific Elec. Contractors
Ass'n, 809 F.2d 626, 630 (9th Cir. 1987) (quoting First Nat'l Bank
v. Cities Serv. Co., 391 U.S. 253, 290 (1968)).
The Court does not make credibility determinations with
respect to evidence offered, and is required to draw all
inferences in the light most favorable to the non-moving party.
See T.W. Elec. Serv., Inc., 809 F.2d at 630-31 (citing Matsushita
Elec. Indus. Co. v. Zenith Radio Corp., 475 U.S. 574, 587 (1986)).
Summary judgment is therefore not appropriate "where contradictory
inferences may reasonably be drawn from undisputed evidentiary
facts . . . ." Hollingsworth Solderless Terminal Co. v. Turley,
622 F.2d 1324, 1335 (9th Cir. 1980).
D. Section 10(b)
Section 10(b) of the Securities and Exchange Act of
1934, 15 U.S.C. § 78j(b), makes it unlawful for any person "[t]o
use or employ, in connection with the purchase or sale of any
security . . . any manipulative or deceptive device or contrivance
in contravention of such rules and regulations as the [Securities
and Exchange Commission] may prescribe." 15 U.S.C. §§ 78j(b).
One such rule is Rule 10b-5, which makes it unlawful "[t]o make
any untrue statement of a material fact or to omit to state a
material fact necessary in order to make the statements made, in
the light of the circumstances under which they were made, not
misleading." 17 C.F.R. § 240.10b-5 (1995). To allege securities
fraud under Rule 10b-5 successfully, plaintiffs must allege both
reliance on a material misstatement and scienter. See Hanon v.
Dataproducts Corp., 976 F.2d 497, 506-07 (9th Cir. 1992).
Plaintiffs may allege reliance using the "fraud on the
market" theory. "In the usual claim under Section 10(b), the
plaintiff must show individual reliance on a material
misstatement. Under the fraud on the market theory, the plaintiff
has the benefit of a presumption that he has indirectly relied on
the alleged misstatement, by relying on the integrity of the stock
price established by the market." In re Apple Computer Sec.
Litig., 886 F.2d 1109, 1113-14 (9th Cir. 1989). Defendants may
respond to a claim of fraud on the market by asserting that the
information allegedly withheld from the market had in fact entered
the market. See Id. at 1114.
In Central Bank of Denver, N.A. v. First Interstate Bank
of Denver, N.A., 114 S. Ct. 1439 (1994), the Supreme Court held
that "§ 10(b) . . . prohibits only the making of a material
misstatement (or omission) or the commission of a manipulative
act. . . . The proscription does not include giving aid to a
person who commits a manipulative or deceptive act." Id. at 1448.
The Supreme Court therefore found that section 10(b) did not
create liability for aiding and abetting the securities violations
of others. Such secondary participation is beyond the scope of
the statute.
II. Analysis
A. The Private Securities Litigation Reform Act of
1995
In December 1995, Congress enacted the Private
Securities Litigation Reform Act of 1995 ("SRA"), Pub. L. No. 104-
67, which amends the Securities Exchange Acts of 1933, 15 U.S.C. §
77a-77bbbb, and 1934, 15 U.S.C. § 78a-78lll. The SRA applies to
private class actions, such as this one, brought pursuant to the
Federal Rules of Civil Procedure. See 15 U.S.C. § 77z-1(a)(1).
The SRA prescribes new procedures and substantive standards for
private securities litigation. For purposes of this motion, the
most important of these changes is the new law's heightened
pleading standard.
1. Retroactivity
Although they neglected to raise the argument in
opposing the earlier motion to dismiss, plaintiffs now contend
that the Court should not apply the SRA to this case because the
effect of doing so would be impermissibly retroactive.
In determining whether a statute should be applied
retroactively, "the court's first task is to determine whether
Congress has expressly prescribed the statute's proper reach."
Landgraf v. USI Film Products, 114 S. Ct. 1483, 1505 (1993). If
the statute contains no express direction from Congress, the Court
must determine whether applying the statute to pending cases would
have an impermissible retroactive effect; however, if the intended
scope of the statute is clear from its text, the Court need look
no further. See Id. at 1505. Although prospectivity is the
default rule, courts must give a statute its intended scope. See
Id. at 1501.
Section 108 of the SRA reads, "[t]he amendments made by
this title shall not affect or apply to any private action arising
under title I of the Securities Exchange Act of 1934 or title I of
the Securities Act of 1933, commenced before and pending on the
date of enactment of this Act." P.L. No. 104-67, 109 Stat. 737,
758 (1995). This language makes clear that Congress intended the
SRA to apply to all cases filed after its enactment.
Plaintiffs argue that because the applicability clause
is silent as to pre-enactment conduct, the Court must perform a
retroactivity analysis. In support of their argument, plaintiffs
cite a number of cases in which courts considered the
retroactivity of laws that were totally silent about
applicability. See, e.g., Alvarez-Machain v. United States, 96
F.3d 1246, 1252 (9th Cir. 1996) (Torture Victim Protection Act);
United States ex rel. Schumer v. Hughes Aircraft Co., 63 F.3d
1512, 1517 (9th Cir. 1995), cert. granted in part, 117 S. Ct. 293
(1996) (False Claims Act). These cases are inapposite; Congress
set a specific limit on the SRA's applicability in § 108.
The legislative history confirms that Congress intended
the SRA to apply to any claim filed after the law's enactment.
During the debate on the predecessor bill to the SRA, the House of
Representatives considered and rejected an amendment that would
have permitted some plaintiffs to sue under existing law for a
period of three years after enactment. See 141 Cong. Rec. H2831
(Mar. 8, 1995) (introducing the "Dingell Amendment"). Both the
proponents and opponents of the proposed amendment appear to have
understood that lawsuits filed after securities reform was enacted
would be subject to the new law. See, e.g., 141 Cong. Rec. H3834
(Mar. 8, 1995) (statements of Rep. Bryant and Rep. Cox).
Because Congress prescribed the scope of the SRA, and
because the legislative history reflects Congress's intent to do
so, the Court need not consider whether the Act's is impermissibly
retroactive. See United States v. $814,254.76, 51 F.3d 207, 209,
212 (9th Cir. 1995). The SRA is appropriately applied to this
case.
2. Pleading Standard
Prior to enactment of the SRA, the pleading standard for
private securities cases was well-established in this Circuit.
Plaintiffs were required to plead the allegedly false or
misleading statements and why they were false or misleading. See,
e.g., In re Glenfed, Inc. Sec. Litig., 42 F.3d 1541, 1547-48 (9th
Cir. 1994), cert. denied 116 S. Ct. 1020 (1996). Plaintiffs were
permitted to aver scienter generally. See, e.g., id.
In enacting the SRA, Congress adopted a more stringent
pleading standard. In addition to requiring plaintiffs to specify
the allegedly false or misleading statements and describe how they
are false or misleading, 15 U.S.C. § 78u-4(b)(1), the SRA now
requires plaintiffs to "state with particularity facts giving rise
to a strong inference that the defendant acted with the required
state of mind." 15 U.S.C. § 78u-4(b)(2). The interpretation of
this portion of the standard has been the subject of considerable
debate in the courts and in the community at large.
This Court addressed the pleading standard for the first
time in its September 25, 1996 order dismissing plaintiffs'
complaint with leave to amend. After a comprehensive review of
the legislative history of the SRA, the Court found that the
strengthened standard requires plaintiffs to plead particularized
facts that give rise to a strong inference of knowing
misrepresentation on the part of defendants. In briefing the
motions now before the Court, plaintiffs and amicus curiae the
Securities and Exchange Commission ("SEC") have asked the Court to
reconsider that finding. After reviewing the arguments and the
legal authorities, the Court believes that its original
interpretation was correct.
Since the Supreme Court decisions in Ernst & Ernst v.
Hochfelder, 425 U.S. 185, 193 (1976), Santa Fe Industries v.
Green, 430 U.S. 462, 473 (1977), and Central Bank v. First
Interstate Bank, 114 S. Ct. 1439, 1446 (1994), there has been
little question that liability under Section 10(b) requires a
finding of intent to deceive, manipulate, or defraud. In those
cases, the Supreme Court refused to find Section 10(b) liability
based on allegations of negligence or aiding and abetting.
Although the Supreme Court has never directly addressed whether
Section 10(b) liability may be grounded in recklessness, it has
noted that "[i]n certain areas of the law recklessness is
considered to be a form of intentional conduct for purposes of
imposing liability for some act." Hochfelder, 425 U.S. at 194
n.12. This notation is consistent with the holdings in
Hochfelder, Green, and Central Bank in suggesting that only
intentional recklessness would support Section 10(b) liability.
Despite the Supreme Court's clear message that Section
10(b) does not reach unintentional conduct, many circuit courts
imposed Section 10(b) liability for recklessness--both subjective
and objective--prior to enactment of the SRA. See, e.g.,
Hollinger v. Titan Capital Corp., 914 F.2d 1564, 1568 n.6 (9th
Cir. 1990) (reviewing cases from ten circuits). Many courts
define reckless conduct as:
a highly unreasonable omission, involving not merely
simple, or even inexcusable negligence, but an extreme
departure from the standards of ordinary care, and
which presents a danger of misleading buyers or sellers
that is either known to the defendant or so obvious
that the actor must have been aware of it.
Id. at 1569 (quoting Sunstrand Corp. v. Sun Chem. Corp., 553 F.2d
1033, 1045 (7th Cir. 1977)). This definition appears compatible
with the Supreme Court cases. Unfortunately, it is neither
universally accepted, nor uniformly applied. See H.R. Rep. No.
104-50, 104th Cong., 1st Sess. 39 (1995); see also Hoffman v.
Estabrook & Co., 587 F.2d 509, 516 (1st Cir. 1978) (approving
definition of recklessness as "carelessness approaching
indifference"); Wells v. Monarch Capital Corp., 1996 WL 728125, at
* 16 (D. Mass. Oct. 22, 1996) (citing Hoffman definition as First
Circuit standard).
The parties and amicus Securities and Exchange
Commission agree that the SRA is based in large part on Second
Circuit law interpreting Section 10(b). See Memorandum of Points
and Authorities in Support of Defendants' Motion to Dismiss the
Amended Class Action Complaint at 8; Memorandum of Points and
Authorities in Opposition to the Separately-Moving Defendants'
Motion to Dismiss or for Summary Judgment at 20; Brief of the
Securities and Exchange Commission, Amicus Curiae, Concerning
Defendants' Motion to Dismiss the Amended Complaint at 9. Even
within the Second Circuit, however, there is conflicting authority
about what constitutes scienter for purposes of Section 10(b).
In the Second Circuit, three lines of cases address the
scienter requirement of Section 10(b). Under the Lanza line of
cases, unqualified allegations of recklessness suffice to
establish scienter. See Lanza v. Drexel & Co., 479 F.2d 1277,
1306 (2d Cir. 1974) (en banc). The Rolf line of cases allows
recklessness to support scienter only if the defendant also had a
fiduciary duty to the plaintiff. See Rolf v. Blyth, Eastman
Dillon & Co., Inc., 570 F.2d 38, 44 (2d Cir.), amended, 1978 WL
4098 (2d Cir. May 22, 1978). Finally, the more recent Weschler
line of cases is the strictest, requiring actual intent or
circumstances implying actual intent before finding scienter. See
Weschler v. Steinberg, 733 F.2d 1054, 1058 (2d Cir. 1984).
Although the most recent cases require a strong inference of
fraudulent intent, the Lanza and Rolf cases have not been
expressly overruled. See, e.g., San Leandro Emergency Medical
Plan v. Philip Morris, 75 F.3d 801, 812-13 (2d Cir. 1996); Acito
v. Imcera Group, Inc., 47 F.3d 47, 53 (2d Cir. 1995); Shields v.
Citytrust Bancorp, Inc., 25 F.3d 1124, 1129 (2d Cir. 1994); In re
Time Warner, Inc. Sec. Litig., 9 F.3d 259, 271 (2d Cir. 1993).
In enacting the SRA, Congress emphasized the "need to
establish uniform and more stringent pleading requirements to
curtail the filing of meritless lawsuits." Conf. Rep. at 41. In
its search for the right standard, Congress considered and
rejected a number of scienter standards. For example, the
original House bill would have imposed liability for unqualified
recklessness, see H.R. 1058 (as passed on Mar. 8, 1995) and a
Senate amendment would have codified the line of Second Circuit
law creating liability for unqualified recklessness. See 141
Cong. Rec. S9170 (June 17, 1995) (introducing the Specter
Amendment). Instead, Congress adopted language requiring
plaintiffs to "state with particularity facts giving rise to a
strong inference that the defendant acted with the required state
of mind." 15 U.S.C. § 78u-4(b)(2).
Although the "strong inference" portion of this standard
reflects Second Circuit law, the Conference Committee stopped
short of adopting Second Circuit law outright:
Because the Conference Committee intends to strengthen
existing pleading requirements, it does not intend to
codify the Second Circuit's case law interpreting this
pleading standard. FN 23/
FN 23/For this reason, the Conference Report chose not
to include in the pleading standard certain language
relating to motive, opportunity, or recklessness.
Conf. Rep. at 41 & n.23. In excluding from the SRA's pleading
standard language relating to motive, opportunity, or
recklessness, Congress appears to have rejected the Lanza and Rolf
lines of cases in favor of the Weschler approach that is more
consistent with Supreme Court precedent regarding Section 10(b)
scienter.
The Court and the parties have looked for confirmation
of this interpretation in the legislative history of the SRA. In
its decision on the earlier motion to dismiss, the Court found
Congress's override of the President's veto of the SRA persuasive.
In his veto message, the President expressed concern that Congress
had made "crystal clear" its intent to raise the pleading standard
beyond that of the Second Circuit. The President feared that the
proposed standard would limit plaintiffs' ability to bring
securities fraud claims. See 141 Cong. Rec. S19,035 (Dec. 21,
1995). Further emphasizing its crystal clear intent to do just
that, Congress overrode the President's veto without comment on
his veto message.
Plaintiffs counter that the statements of individual
legislators suggest that the SRA approves of liability for
recklessness. As the Court noted in its earlier opinion, many of
the statements cited by plaintiffs were made prior to the
President's veto message and the subsequent override, and are
therefore irrelevant.2 Moreover, many of the statements made
after the veto but before the override generally support the
Court's interpretation. See, e.g., 141 Cong. Rec. H15,219 (Dec.
20, 1995) (statement of Rep. Lofgren) ("These are very technical
issues, and I think the sounder course is to override this
veto."); 141 Cong. Rec. S19,149 (Dec. 22, 1995) (statement of Sen.
Bradley) ("In fact, the language of the bill does codify the
second circuit standard in part--and the statement of managers
says so.").3
The Court acknowledges that the legislative history of
the SRA is not entirely consistent at first glance. Some
legislators have insisted that the SRA adopted the Second Circuit
standard from the Lanza line of cases. See, e.g., 141 Cong. Rec.
S17,984 (Dec. 20, 1995) (Sen. Mosely-Braun) (prevailing Senate
bill included liability for recklessness). Considered in the
context of the Supreme Court's prior rulings on Section 10(b)
scienter and the Second Circuit's three lines of cases, however,
the apparent inconsistencies are less glaring. Because
legislators disagreed about the contours of the Second Circuit
standard, they necessarily disagreed about what codifying the
standard would mean.
In light of the confusion revealed in individual
legislators' statements, the Court finds the Conference Committee
Report and the ultimate adoption of the Conference's version of
the bill even more persuasive. The Supreme Court's jurisprudence
on statutory interpretation supports the Court's reliance on these
aspects of the legislative history. "[T]he authoritative source
for finding the Legislature's intent lies in the Committee Reports
on the bill, which 'represen[t] the considered and collective
understanding of those Congressmen involved in drafting and
studying proposed legislation.'" Garcia v. United States, 469
U.S. 70, 76 (1984) (quoting Zuber v. Allen, 396 U.S. 168, 186
(1969)); see also Resolution Trust Corp. v. Gallagher, 10 F.3d
416, 421 (7th Cir. 1993) (conference report "is the most
persuasive evidence of congressional intent besides the statute
itself"); In re Kelly, 841 F.2d 908, 912 n.3 (9th Cir. 1988)
(Committee reports, not "[s]tray comments by individual
legislators," provide the best expression of legislative
intent.").
This context also counters plaintiffs' argument that the
text and structure of the SRA suggest that Congress did not
eliminate motive, opportunity, and subjective recklessness as
means of establishing scienter.4 Although Congress could have
avoided the confusion surrounding the SRA pleading standard by
defining scienter in § 78u-4(b)(2), further definition may have
appeared unnecessary given the Supreme Court precedent and the
discussion in the Conference Report. In the Conference
Committee's view, the general standard for liability under Section
10(b) remained substantially the same, see 15 U.S.C. § 78u-4(g)(1)
("Nothing in this subsection shall be construed to create, affect,
or in any manner modify, the standard for liability associated
with any action arising under the securities laws."); however, the
standard in some cases changed dramatically, and therefore
required clarification. See, e.g., 15 U.S.C. § 78u-5 (forward-
looking statements).
Based on the foregoing discussion, the Court finds that
in order to state a private securities fraud claim, plaintiffs
must create a strong inference of knowing or intentional
misconduct. See Hochfelder, 425 U.S. at 197. Knowing or
intentional misconduct includes deliberate recklessness, as
described in Hollinger and alluded to in Hochfelder. Motive,
opportunity, and non-deliberate recklessness may provide some
evidence of intentional wrongdoing, but are not alone sufficient
to support scienter unless the totality of the evidence creates a
strong inference of fraud.
B. Evidentiary Motions
Before reaching the merits of defendants' motion to
dismiss, the Court must clarify what is included in the record on
which the motion is to be decided. Both sides have submitted
evidence for the Court's consideration, and both sides have
objected to the evidence submitted by their opponents. There are
three submissions of special concern to the parties: (1) the
declaration of Mr. Patrick J. Coughlin, submitted in camera in
support of plaintiffs' opposition to the motion to dismiss; (2)
the declaration of Ms. Deborah Sparkman, which contains a series
of SGI "stop ship" reports, submitted in support of defendants'
motion to dismiss; and (3) the declaration of Mr. Lloyd Winawer,
which contains defendants' SEC forms, submitted in support of
defendants' motion to dismiss.
The declaration of Mr. Coughlin presents the least
difficult question. "Generally, a district court may not consider
any material beyond the pleadings in ruling on a Rule 12(b)(6)
motion." Hal Roach Studios, Inc. v. Richard Feiner & Co., Inc.,
896 F.2d 1542, 1555 n.19 (9th Cir. 1990). There are some narrow
exceptions to this rule. See, e.g., Venture Assoc. Corp., 987
F.2d at 431 (defining the incorporation by reference doctrine);
MGIC Indem. Corp., 803 F.2d at 504 (noting courts' ability to take
judicial notice). Plaintiffs' submission, which they state
includes "portions of [their] investigative file," (Plaintiffs'
Memorandum of Points and Authorities in Opposition to Defendants'
Main Motion to Dismiss at 5),5 does not fit within any exception
known to the Court. Moreover, Ninth Circuit authority makes clear
that the Court should not tolerate such ex parte submissions, in
the interests of justice. See Guenther v. Commissioner of
Internal Revenue, 889 F.2d 882, 884 (9th Cir. 1989). For these
reasons, the declaration of Mr. Patrick J. Coughlin is stricken.
The declarations of Ms. Sparkman and Mr. Winawer present
more complicated questions. In the earlier motion to dismiss, the
Court took judicial notice of the SEC forms contained in Mr.
Winawer's declaration, and considered them in evaluating whether
defendants' stock trades were unusual or suspicious. Although
plaintiffs did not question the authenticity or accuracy of these
filings at that time, they now express concern because of nine
instances of reporting violations by SGI officers in the early
1990s. Plaintiffs also protest that the SEC forms are hearsay.
A court may take judicial notice of a fact that is not
"subject to reasonable dispute in that it is either (1) generally
known within the jurisdiction of the trial court or (2) capable of
accurate and ready determination by resort to sources whose
accuracy cannot reasonably be questioned." Fed. R. Evid. 201(b).
"[A] district court may take judicial notice of the contents of
relevant public disclosure documents required to be filed with the
SEC as facts capable of accurate and ready determination by resort
to sources whose accuracy cannot reasonably be questioned."
Kramer v. Time Warner, Inc., 937 F.2d 767, 774 (2d Cir. 1991)
(taking judicial notice of offer to purchase and joint proxy
statement on which complaint was based) (internal quotation marks
and citation omitted).
Plaintiffs' challenge to the veracity of the SEC forms
submitted by defendants is weak. The evidence proffered shows
that nine SGI officers, three of whom are defendants in this
action, were required to make corrections to their 1992 SEC forms.
Plaintiffs neither present evidence that these are continuing
violations, nor that they were serious enough to cast doubt on the
filings now before the Court. Plaintiffs' challenge is also
disingenuous because plaintiffs rely on the information contained
in these filings in pleading their allegations. Paragraph 96 of
the complaint states that plaintiffs' allegations are based on,
among other things, "a review of SGI's SEC filings." Moreover,
paragraph 68, which details defendants' stock sales during the
class period, is derived from information contained in these
filings. Although plaintiffs referred at oral argument to other
sources of this information, these "other sources" rely on the SEC
filings for their information as well.
Even if the Court cannot properly take judicial notice
of defendants' SEC forms, given plaintiffs' reliance on the
documents, the Court may consider them under the incorporation by
reference doctrine. This doctrine provides that "[d]ocuments that
a defendant attaches to a motion to dismiss are considered part of
the pleadings if they are referred to in the plaintiff's complaint
and are central to her claim." Venture Assoc., 987 F.2d at 431;
see also Branch v. Tunnell, 14 F.3d 449, 454 (9th Cir. 1994). If
courts were prohibited from considering such documents,
"complaints that quoted only selected and misleading portions of
[them] could not be dismissed . . . even though they would be
doomed to failure. Foreclosing resort to such documents might
lead to complaints filed solely to extract nuisance settlements."
See Kramer, 937 F.2d at 774. Although plaintiffs do not cite to
defendants' SEC forms in framing their insider trading
allegations, the allegations can be derived only from those
publicly-filed documents. Plaintiffs cannot preclude
consideration of defendants' SEC forms by artful pleading.
Plaintiffs' attempt to exclude the SEC forms as hearsay
is disingenuous for the same reason. Having raised questions
about defendants' stock sales, based their allegations on
defendants' SEC filings, and submitted expert declarations that
rely on the SEC forms at issue, plaintiffs can hardly complain
when defendants refer to the same information in their defense.
See United States v. Anderson, 532 F.2d 1218, 1229 (9th Cir. 1976)
(holding that defendant who introduced hearsay statement waived
objection to admission of another part of same statement).6 For
these reasons, the Court denies plaintiffs' motion to strike the
declaration of Lloyd Winawer.
Defendants invoke the same arguments in defense of Ms.
Sparkman's declaration. They argue that because plaintiffs'
complaint refers to "stop ship" reports relating to the Indigo2
IMPACT workstation, (FAC ¶ 15(d)), defendants are entitled to
produce all the stop ship reports issued during the class period
in an effort to prove that the alleged Indigo2 Impact stop ship
reports do not exist. This argument stretches the incorporation
by reference doctrine too far. Although they are relevant to
plaintiffs' allegations, the stop ship reports submitted by
defendants are arguably outside the scope of the pleadings and
should not be considered in evaluating a Rule 12(b)(6) motion to
dismiss.7
C. Motion to Dismiss
1. Liability of Individual Defendants
a. False and Misleading Statements
As discussed above, under Central Bank, only primary
participants in a section 10(b) violation may be held liable.
Thus, with regard to allegedly false and misleading statements,
only speakers may properly be held liable. See Central Bank, 114
S. Ct. at 1448. Further, only statements made after the alleged
fraud began--that is, during the class period--are actionable.
Plaintiffs' complaint identifies defendant McCracken as a primary
speaker, and suggests that the other defendants helped develop
certain public documents and participated in a conference during
which false and misleading statements were made.
Under the group pleading doctrine, in drafting a
complaint, plaintiffs may rely on a presumption that statements in
"prospectuses, registration statements, annual reports, press
releases, or other group-published information,'" are the
collective work of those individuals with direct involvement in
the day-to-day affairs of the company. Glenfed, 60 F.3d at 593;
Wool, 818 F.2d at 1440. This presumption is rebuttable, however.
See In re Interactive Network, Inc. Sec. Litig., 948 F. Supp. 917,
921-22 (N.D. Cal. 1996). On summary judgment, a defendant may
rebut the group pleading presumption by producing evidence that he
had no involvement in creating the challenged document. See In re
3Com Sec. Litig., 761 F. Supp. 1411, 1414 (N.D. Cal. 1990).
Defendants Baskett, Burgess, Ramsay, and Sekimoto have attempted
to make such a showing through their motion for summary judgment
and the accompanying declarations.8
All four defendants aver that they were not involved in
preparing or disseminating any of the class period documents.
(Baskett Decl. ¶ 2; Burgess Decl. ¶ 3; Ramsay Decl. ¶ 4; Sekimoto
Decl. ¶ 3.) All four defendants also aver that they did not make
any of the alleged false and misleading statements of October 19,
1995 and November 2, 1995. Defendant Ramsay was on sabbatical and
vacation on those dates, (Ramsay Decl. ¶ 2), and defendant
Sekimoto, who resides in Japan, was not present either. (Sekimoto
Decl. ¶ 4.) Defendants Baskett and Burgess did not participate in
the October 19th conference call, (Baskett Decl. ¶ 3, Burgess
Decl. ¶ 4), and although they were present at the November 2nd
meeting with analysts, their presentations did not involve
financial forecasting, sales, or the Indigo2 IMPACT workstations.
(Baskett Decl. ¶ 5, Burgess Decl. ¶ 5.)
Plaintiffs complain that defendants' motion for summary
judgment is procedurally improper given the automatic stay of
discovery imposed under the SRA. See 15 U.S.C. § 78u-4(b)(3)(B)
("[A]ll discovery and other proceedings shall be stayed during the
pendency of any motion to dismiss . . . ."). Because they have
not been permitted any discovery thus far, plaintiffs argue, they
cannot rebut defendants' evidence. The Federal Rules of Civil
Procedure have long provided a solution to this problem. Under
Rule 56(f), if a "party cannot for reasons stated present by
affidavit facts essential to justify the party's opposition, the
court . . . may order a continuance to permit affidavits to be
obtained or depositions to be taken or discovery to be had . . .
."
Neither the SRA nor its legislative history suggest that
Congress intended to alter summary judgment practice under Rule
56. Indeed, the discovery stay provision provides courts with
some discretion to permit necessary discovery in advance of a
ruling on dismissal. See 15 U.S.C. § 78u-4(b)(3)(B) (granting
courts authority to permit discovery if necessary "to preserve
evidence or to prevent undue prejudice to" a party). In enacting
the discovery stay, Congress intended to limit abusive discovery,
or "fishing expeditions," which can impose such high costs on
defendants that it is often more economical to settle a defensible
case than to litigate it. See Conf. Rep. at 37. It cannot have
intended to insulate plaintiffs from non-frivolous motions for
summary judgment.
The Supreme Court has held that Rule 56(f) adequately
protects plaintiffs from being "railroaded" by premature motions
for summary judgment. See Celotex Corp., 477 U.S. at 326.
Indeed, courts have approved resort to Rule 56(f) in cases in
which discovery has been stayed by court order. See, e.g.,
Greensboro Lumber Co. v. Georgia Power Co., 844 F.2d 1538, 1545-46
(11th Cir. 1988). The Court does not find the circumstances of
this case to be so different as to require a departure from the
established law of Rule 56, and plaintiffs have not made that
argument.
Plaintiffs did not file a Rule 56(f) affidavit before
the hearing on these motions as required by Ninth Circuit law.
See Ashton-Tate Corp. v. Ross, 916 F.2d 516, 520 (9th Cir. 1990).
Nor did plaintiffs raise any excuse for that omission during oral
argument. The Court concludes that plaintiffs are unable to make
the requisite showing of (1) facts establishing a likelihood that
controverting evidence may exist as to a material fact; (2)
specific reasons why such evidence cannot be presented at this
time; and (3) steps or procedures to be used to obtain such
evidence. See Fed. R. Civ. P. 56(f); Visa Int'l Serv. Ass'n v.
Bankcard Holders of Am., 784 F.2d 1472, 1475-76 (9th Cir. 1986).
For this reason, the individual defendants' motion for summary
judgment is granted.
b. Insider Trading
Plaintiffs also allege that, as insiders, defendants had
a duty to disclose material negative information prior to selling
their stock. In failing to do so, plaintiffs allege that
defendants violated federal securities law. The Supreme Court
acknowledged this type of claim in Chiarella v. United States, 445
U.S. 222, 227-230 (1979). Such claims are brought under section
20A of the Securities Exchange Act of 1934, 15 U.S.C. § 78t-1,
which expressly provides for private suits against insiders who
trade contemporaneously with plaintiffs, and under section 10(b)
and Rule 10b-5, which create implied private causes of action for
insider trading. See Neubronner v. Milken, 6 F.3d 666, 669 & n.5
(9th Cir. 1993).
In its earlier ruling, the Court noted that plaintiffs
cannot state a claim against defendants for insider trading unless
they can allege that plaintiffs traded contemporaneously with
defendants. This rule assures that only parties who have traded
with someone who had an unfair advantage will be able to maintain
insider trading claims; those who did not trade contemporaneously
could not have suffered a disadvantage from the insider's failure
to disclose. Courts agree that a plaintiff's trade must have
occurred after the wrongful insider transaction. See Alfus v.
Pyramid Tech. Corp., 745 F. Supp. 1511, 1522 (N.D. Cal. 1990).
The exact contours of contemporaneous trading have not
been defined. See Neubronner, 6 F.3d at 670. In establishing the
contemporaneousness requirement, however, the Ninth Circuit
adopted the Second Circuit's reasoning in a case holding that
trades occurring approximately a month apart were not
contemporaneous. See id. at 669-70. Since Neubronner, at least
one court in this District has held that plaintiffs must show
trades within fourteen days of each other to plead
contemporaneousness. See In re Verifone Sec. Litig., 784 F. Supp.
1471, 1489 (N.D. Cal. 1992), aff'd, 11 F.3d 865 (9th Cir. 1993).
In its earlier ruling, the Court interpreted the
requirement even more strictly. Given that stock trades settle
within three days, and allowing for the possibility of an
intervening three-day weekend, only purchases within six days of
insider sales are truly contemporaneous. Once an insider's sale
settles, other traders are no longer in the market with that
insider and risk no relative disadvantage from that insider's
failure to disclose.
In response to the Court's order, plaintiffs have
amended their complaint to assert that defendants Burgess and
Kelly sold stock contemporaneously with plaintiffs Buck, Donald,
and Beke's purchases on November 6, 7, 8, 9, and 10, 1995.
Plaintiffs do not allege that defendants Baskett, McCracken,
Ramsay, and Sekimoto traded contemporaneously with them. For this
reason, plaintiffs' claims of insider trading by Baskett,
McCracken, Ramsay, and Sekimoto are dismissed with prejudice.
c. Fraudulent Scheme
Plaintiffs argue that all defendants can be held liable
under section 10(b) for their "scheme to defraud." The text of
section 10(b) prohibits the use of "any manipulative or deceptive
device or contrivance in contravention of such rules and
regulations as the [Securities and Exchange Commission] may
prescribe." 15 U.S.C. § 78j. Rule 10b-5 uses similar terms,
prohibiting the employment of "any device, scheme, or artifice to
defraud." 17 C.F.R. § 240.10b-5. This prohibition goes beyond
the liability for isolated misrepresentations or omissions
discussed above. See Blackie v. Barrack, 524 F.2d 891, 903 n.19
(9th Cir. 1975) ("Rule 10b-5 liability is not restricted solely to
isolated misrepresentations or omissions; it may also be
predicated on a practice or course of business which operates . .
. as a fraud.'"). Participants may, for example, be liable for
their involvement in a pyramid scheme. See Webster v. Omnitrition
Int'l Inc., 79 F.3d 776, 785 & n.6 (9th Cir.), cert. denied, 117
S. Ct. 174 (1996).
The word "manipulative" in section 10(b) has a very
narrow meaning. It is a "term of art" that refers to practices
intended to mislead investors by artificially inflating market
activity, such as wash sales, matched orders, or rigged prices.
See Santa Fe Indus., Inc. v. Green, 430 U.S. 462, 473 (1977)
(quoting Ernst & Ernst v. Hochfelder, 425 U.S. 185, 199 (1976)).
Plaintiffs do not allege manipulation in the FAC.
Plaintiffs allege that when SGI executives recognized
the problems the company was encountering in the fall of 1995,
defendants pursued a "conspiracy of silence" to prevent any
negative information from reaching the marketplace. Plaintiffs
contend that, through this conspiracy, defendants propped up SGI
stock prices long enough to enable defendants to sell off their
shares at high prices. Plaintiffs accuse defendants of
affirmatively misleading the public by false and misleading
statements and of violating the abstain or disclose doctrine
prohibiting insider trading.
Although plaintiffs need not allege that every defendant
participated in every aspect of a fraudulent scheme to state a
claim, section 10 liability requires a finding that each
individual took some action in furtherance of the scheme. See
Azrielli v. Cohen Law Offices, 21 F.3d 512, 517 (2d Cir. 1994)
(holding that primary liability may be imposed only on those
committing a fraud or assisting in its perpetration). The cases
cited by plaintiffs support this proposition. In Securities &
Exchange Comm'n v. First Jersey Sec., Inc., for example, the
Second Circuit found the president of the company primarily liable
under a fraudulent scheme theory because he coordinated the market
deception. See First Jersey, 101 F.3d 1450, 1471-72 (2d Cir.
1996) (finding sole ownership of company and participation in
underwriting, pricing, and policy sufficient to create primary
liability).
Plaintiffs describe three aspects of the fraudulent
scheme allegedly devised by defendants. Two of these--making
false statements and insider trades--are discussed above. Aside
from the group pleading theory also discussed above, plaintiffs do
not allege any other facts that form a basis for holding non-
speakers and non-traders primarily liable.
The third aspect of the scheme alleged by plaintiffs is
the "conspiracy of silence" among the defendants. (¶¶ 6, 37-38,
49.) Plaintiffs, however, are unable to cite any post-Central
Bank cases in which courts have imposed liability for mere silence
without trading, participation in making false or misleading
statements, or other participation in the scheme.9 Plaintiffs'
effort to describe various schemes are unavailing because
plaintiffs fail to explain each individual defendant's
participation in them. Plaintiffs' scheme allegations appear to
be "no more than a thinly disguised attempt to avoid the impact of
the Central Bank decision." Stack v. Lobo, 903 F. Supp. 1361,
1374 (N.D. Cal. 1995). In accordance with Central Bank, the Court
finds that each defendant is liable for perpetrating a fraudulent
scheme only to the extent that he is also found liable for insider
trading or making false or misleading statements or as a control
person.
d. Control Person Liability
Section 20A of the 1934 Act imposes joint and several
liability on any "person who, directly or indirectly, controls any
person liable" for securities fraud under the Act, "unless the
controlling person acted in good faith and did not directly or
indirectly induce" the violations. The SEC defines "control" as
"the possession, direct or indirect, of the power to direct or
cause the direction of the management and policies of a person,
whether through ownership of voting securities, by contract, or
otherwise." 17 C.F.R. § 230.405 (1995).
Plaintiffs need not show day-to-day control of the
defendant company in order to establish control person liability.
See O'Sullivan v. Trident Microsystems, Inc., [1994-1995 Transfer
Binder] Fed. Sec. L. Rep. (CCH) ¶ 98,116, 98,917 (N.D. Cal. 1994);
In re XOMA Corp. Sec. Litig., [1991-1992 Transfer Binder] Fed.
Sec. L. Rep. (CCH) ¶ 96,491, 92,163 (N.D. Cal. 1991). Plaintiffs
must, however, demonstrate "actual power or influence over" the
company. See Gray v. First Winthrop Corp., 776 F. Supp. 504, 510
(N.D. Cal. 1991). Following these principles, plaintiffs must
assert that the individual defendants had the power to control or
influence SGI in order to state a cognizable claim under Section
20(a).
Plaintiffs allege control person liability against
defendants McCracken and SGI. Defendants do not dispute this
allegation. Plaintiffs therefore may state a claim against
defendants McCracken and SGI for control persons' liability to the
extent that they state a claim for securities law violations by
any other defendant.
2. Analysis of Remaining Claims
Prior to enactment of the SRA, the Ninth Circuit
required plaintiffs pleading on information and belief to include
in the complaint a statement of the facts on which the belief is
founded. See Wool, 818 F.2d at 1439. In an effort to minimize
discovery abuse, see Conf. Rep. at 31, and unwarranted fraud
claims, see Conf. Rep. at 41, Congress strengthened this
requirement in the SRA. Under the SRA, if a plaintiff's complaint
is based on "information and belief," the plaintiff must "state
with particularity all facts on which that belief is formed." 15
U.S.C. § 78u-4(b)(1)(B). Defendants contend that plaintiffs have
failed to meet this standard.
Plaintiffs assert that their complaint is not pled on
information and belief; however, the language of plaintiffs'
complaint belies this assertion. Paragraph 96 of plaintiffs'
complaint reads,
[p]laintiffs have alleged the foregoing based upon the
investigation of their counsel, which included a review
of SGI's SEC filings, securities analysts reports and
advisories about the Company, press releases issued by
the Company, media reports about the Company and
discussions with consultants, and believe that
substantial evidentiary support will exist for the
allegations set forth in ¶¶ 1, 4-15, 19, 27-43, 46, 49-
50, 53, 56, 58-70, 72-82, 84, and 87 after a reasonable
opportunity for discovery.
Because the sources set forth in paragraph 96 do not provide
plaintiffs with personal knowledge, the complaint must be based on
information and belief--that is the only alternative. See Wool,
818 F.2d at 1439 (holding that plaintiffs may plead on information
and belief if matters are not within their personal knowledge).
The degree of specificity required by the SRA in cases
pled on information of belief was the subject of some debate in
Congress. Arguing against requirement that plaintiffs state with
particularity all facts on which their beliefs are formed,
Representative Bryant expressed concern that
at the beginning of the case plaintiff would have to
set forth "with specificity all information," they have
to give all the information in advance that forms the
basis for the allegations of the plaintiff, meaning any
whistle-blower within a securities firm involved would
have to be uncovered in the pleadings in the very, very
beginning.
141 Cong. Rec. H2848 (Mar. 8, 1995). Representative Dingell
agreed, noting that "you must literally, in your pleadings,
include the names of confidential informants, employees,
competitors, Government employees, members of the media, and
others who have provided information leading to the filing of the
case." 141 Cong. Rec. H2849 (Mar. 8, 1995). Despite these
concerns, Congress rejected Rep. Bryant's proposed amendment,
which would have permitted plaintiffs to plead simply facts that
support their beliefs. See 141 Cong. Rec. H2848 (Mar. 8, 1995).
Because "Congress does not intend sub silentio to enact
statutory language that it has earlier discarded in favor of other
language," Immigration & Naturalization Serv. v. Cardoza-Fonseca,
480 U.S. 421, 442-43 (1986) (internal quotation marks and citation
omitted), the Court concludes that plaintiffs must plead the sort
of information described by Reps. Bryant and Dingell to meet the
requirements of the SRA as enacted.
a. False and Misleading Statements
The Court first evaluates whether plaintiffs' complaint
meets the lower threshold of Federal Rule of Civil Procedure 9(b)
and the SRA's mandate to specify each statement alleged to have
been misleading and the reason or reasons why the statement is
misleading. Plaintiffs allege eleven false or misleading
statements by defendants between September 13, 1995 and December
19, 1995. (FAC ¶¶ 50-60.) The content of these statements
included (1) projections of SGI's growth rates, (FAC ¶¶ 51, 54,
55, 57); (2) optimism and assurances about demand for, and supply
of, the Indigo2 IMPACT workstation, (FAC ¶¶ 50, 52, 53, 54, 57,
58); and (3) explanations and assurances about SGI's performance,
(FAC ¶¶ 54, 57, 59, 60).
To meet the requirements of Rule 9(b) and the SRA, the
FAC must "state precisely the time, place, and nature of the
misleading statements, misrepresentation, and specific acts of
fraud." Kaplan, 49 F.3d at 1370. The FAC meets this burden with
regard to McCracken's statements of September 13, 1995, September
21, 1995, September 22, 1995, October 19, 1995, and November 2,
1995, because it identifies the speaker, the content, the
audience, and the dates of the misleading statements. The FAC
also meets this burden with respect to statements by SGI in its
October 19, 1995 press release, with respect to statements by SGI
"executives" in the October 19, 1995 conference call and the
November 2, 1995 analyst conference, and with respect to
statements in the November 1995 Report to Shareholders, because
the complaint gives the defendants sufficient notice. Based on
the information pled regarding the time, location, and content of
these statements, SGI and its executives can identify who is being
charged, and with what. For example, plaintiffs' allegations
regarding statements by SGI executives at the analyst conference
arise out of presentations given by "a dozen officers, including
McCracken, Baskett, Burgess, Stephen Goggiano (Director of
Marketing), Ramsey [sic], Oswald, and Sekimoto." (FAC ¶ 57.)
Defendants can identify which executives participated in the
conference, gave presentations, and what those presentations
covered.
In its earlier ruling, the Court held that plaintiffs'
claims with respect to statements by SGI executives to Dean Witter
on December 15, 1995, (Complaint ¶ 50, FAC ¶ 59), and Smith
Barney "in the few days prior to December 19, 1995," (Complaint ¶
51, FAC ¶ 60), did not meet this burden, because plaintiffs had
not alleged with sufficient particularity the speaker, time, or
place of these conversations. Because, as described in the
original complaint, these statements were not given in an official
capacity or in a formal context, they were not as identifiable as
other unattributed statements alleged by plaintiffs. In the FAC,
plaintiffs clarify that these statements were given by defendant
McCracken and company treasurer Thomas J. Oswald. (FAC ¶¶ 59,
60.) The Court finds that this clarification sufficiently
particularizes plaintiffs allegations for purposes of Rule 9(b)
and the SRA.
In addition to alleging the time, place, and nature of
the allegedly false and misleading statements, plaintiffs must
explain why the statements were false or misleading when made.
Glenfed, 42 F.3d at 1549. Plaintiffs allege eight reasons why
defendants' statements were false and misleading:
• SGI's North American sales reorganization had been
unsuccessful, resulting in diminished sales, below SGI's
targets;
• SGI was unable to produce sufficient Indigo2 IMPACT
workstations to meet consumer demand or internal growth
targets because it was not receiving sufficient components
from Toshiba;
• SGI used an "end of component acceptance test,'" resulting
in a low yield of usable parts;10
• SGI failed to qualify Toshiba to provide a sufficient
quantity of component parts, resulting in low volume
production;11
• SGI was having problems ramping up the manufacturing of the
R10000 chip for use in the upgraded Indigo2 IMPACT
workstations;
• SGI sales in Germany and the United Kingdom were materially
below expectations;
• SGI sales in France were much worse than expected; and
• SGI's OEM sales were trending downward.
(¶ 60.) Plaintiffs' belief that defendants' statements were false
is based on defendants' announcements in 1996 that the company's
poor showing resulted from the combined negative effects of these
factors. (¶¶ 63-64.) Plaintiffs allege that these conditions
existed during the class period when defendants were making their
optimistic statements. (¶¶ 36-40.) Plaintiffs thus meet their
burden of demonstrating why the statements were allegedly false
and misleading. See Glenfed, 42 F.3d at 1548-1549 (holding that
contemporary condition contrary to defendant's optimistic
statements adequately pleads falsity); Fecht v. Price Co., 70 F.3d
1078, 1083 (9th Cir. 1995), cert. denied, 116 S. Ct. 1422 (1996)
(finding that allegations of specific problems undermining
defendant's claims suffice to explain how they are false).12
Defendants argue that plaintiffs have failed to
establish that all of the alleged omissions are material. The
materiality of an omission is a fact-specific determination that
should ordinarily be assessed by a jury. See Fecht, 70 F.3d at
1080-81. Only if the immateriality of the statement is so obvious
that reasonable minds could not differ should the Court resolve
this question as a matter of law. Id. at 1081.
As the Court held in it's earlier order, defendants'
statements, as pled in the original complaint, suggest that the
omissions were material. For example, in its July 1995 conference
call with analysts, SGI stated that the Indigo2 IMPACT would play
a major part in meeting the forty percent growth target. (FAC ¶
47.) In its October 1995 conference call, SGI assured analysts
that it would achieve forty percent growth because, among other
things, its European business was strong, its sales force
reorganization was successful, and the Indigo2 IMPACT was selling
well. (¶ 54.) The Court found that such allegations of internal,
production, or market conditions resulting in diminished sales or
sales under target are not immaterial as a matter of law; those
claims, therefore, cannot be dismissed. Plaintiffs' new claims
relating to Toshiba's manufacturing difficulties and problems with
the R10000 chip fall within this category.
Plaintiffs also present a new claim about SGI's first
quarter shortfall. Plaintiffs have pushed the start of the class
period back from October 19, 1995, to September 13, 1995, and now
contend that defendants knew of the problems described above early
enough that they should have disclosed them prior to announcing
the first quarter shortfall in October. Plaintiffs concede,
however, that SGI's first quarter results were "at the low end of
expectations." (FAC ¶ 8.) The company's first quarter revenues
of $595 million were only five percent below market expectations
of forty to forty-five percent growth (revenues in the range of
$628-650 million). This shortfall is immaterial as a matter of
law. See In re Convergent Tech. Sec. Litig., 948 F.2d 507, 514
(9th Cir. 1991) (holding that revenues ten percent below target
are not actionable). For this reason, plaintiffs claims regarding
the first quarter are dismissed with prejudice.
Having concluded that plaintiffs' claims generally meet
the preliminary standard set by Federal Rule of Civil Procedure
9(b) and the SRA, the Court must determine whether plaintiffs have
pled with particularity all facts on which their beliefs about the
falsity of defendants statements are formed. At this point in the
analysis, the line between pleading falsity and pleading fraud
becomes blurred. As defendants note, in the Second Circuit, the
information and belief pleading requirement appears to be an
integral part of the strong inference standard for pleading
scienter. See Philip Morris, 75 F.3d at 812-813 (finding that
plaintiffs' allegations of negative internal reports failed to
support claims of falsity and scienter); Wexner v. First Manhattan
Co., 902 F.2d 169, 172-73 (2d Cir. 1990) (holding that conclusory
allegation of leak of confidential information without more failed
to create inference of fraudulent intent); Crystal v. Foy, 562 F.
Supp. 422, 424-25 (S.D.N.Y. 1983) (rejecting general allegations
of fraud). Because plaintiffs' claims regarding the negative
internal reports are also central to their allegations of
scienter, the Court further analyzes this issue below.
b. Scienter
To adequately plead scienter under SRA, plaintiffs must
establish a strong inference of knowing or intentional misconduct.
In doing so, plaintiffs must do more than speculate as to
defendants' motives or make conclusory allegations of scienter;
plaintiffs must allege specific facts. See Wexner, 902 F.2d at
172-73; Denny v. Barber, 576 F.2d 465, 470 (2d Cir. 1978). In
this case, plaintiffs seek to couple allegations of defendants'
awareness of negative internal reports with their false and
misleading statements and stock sales to create a strong inference
of fraud.
In dismissing plaintiffs' original complaint, the Court
found that plaintiffs' general allegations of "negative internal
reports" were too vague to raise a strong inference of fraud.
Because every sophisticated corporation uses some kind of internal
reporting system reflecting earlier forecasts, allowing plaintiffs
to go forward with a case based on general allegations of
"negative internal reports" would expose all those companies to
securities litigation whenever their stock prices dropped.
The Second Circuit has recognized this problem, holding
that unsupported general claims of the existence of internal
reports are insufficient to survive a motion to dismiss. The
Second Circuit requires plaintiffs to identify alleged internal
reports specifically, providing names and dates. See Philip
Morris, 75 F.3d at 812-13. The Court adopted this rule, believing
that because the pleading standard under the SRA is at least as
strict as the Second Circuit's, the Court could not require
anything less of plaintiffs. The Court's finding is further
supported by Congress's adoption of the strict information and
belief standard described above.
In the FAC, plaintiffs have attempted to bolster their
internal reports allegations. Plaintiffs describe a series of
reports, including a "Fiscal Year 1996 Plan/Budget," (FAC ¶¶ 32-
33), and monthly financial reports such as "Flash" reports, (FAC ¶
35), "Stop Ship" reports, (FAC ¶ 37), and follow-up reports. (FAC
¶ 37).
According to plaintiffs, the Fiscal Year 1996
Plan/Budget was completed in the spring of 1995, and detailed the
corporation's projected operations and financials by product line
and geographical area. (FAC ¶ 32-35.) The plan allegedly
discussed all of the areas that plaintiffs claim eventually became
problems for SGI. Id. Plaintiffs contend that all defendants
received regular daily and monthly reports about the company's
performance, covering finances, orders, shipments, and
inventories. (FAC ¶ 34.) In addition to these reports,
plaintiffs allege that defendants received flash reports regarding
SGI's sales and Indigo2 IMPACT problems in early October,
November, and December 1995, (FAC ¶¶ 36, 39-40), and a stop ship
report further explaining the Indigo2 IMPACT problem in late
September. (FAC ¶¶ 37-38.) Subsequently, SGI employees allegedly
advised defendants of the steps they were taking to remedy the
Indigo2 IMPACT problem via another report. (FAC ¶ 37.)
Although these allegations are more elaborate than the
ones dismissed in September 1996, they remain too generic to
create a strong inference of fraud under the SRA. As defendants
point out, any well-managed, billion dollar company with
international operations and multiple products will generate a
variety of reports at regular time intervals. Consequently, any
company that has announced low earnings would be vulnerable to
allegations that such reports exist and that they show "very poor"
results "well below forecasted and budgeted levels." See FAC ¶¶
39-40. Indeed, the Second Circuit rejected more specific
allegations--that confidential company sales reports showed that
retail sales were declining at a rate of 8.3 percent--finding them
insufficient to create a strong inference of fraud because they
appeared to have been cobbled together in hindsight. See Philip
Morris, 75 F.2d at 813.
To establish a strong inference of fraud, plaintiffs
must provide more details about the alleged negative internal
reports. The allegations should include the titles of the
reports, when they were prepared, who prepared them, to whom they
were directed, their content, and the sources from which
plaintiffs obtained this information. See Id.; Moll v. U.S. Title
Life Ins. Co. of N.Y., 654 F. Supp. 1012, 1034-35 (S.D.N.Y. 1987);
Morgan v. Prudential Group, Inc., 81 F.R.D. 418, 423-24 (S.D.N.Y.
1984); Decker v. Massey-Ferguson, Ltd., 534 F. Supp. 873, 878
(S.D.N.Y. 1981), aff'd in part, rev'd on other grounds, 681 F.2d
111 (2d Cir. 1982). This requirement is consistent with the SRA's
information and belief standard, which requires plaintiffs to
plead all facts on which their allegations are based.
Although plaintiffs have complied with the letter of the
standard--alleging, for example, that all defendants received a
"flash" report generated by the finance department on October 3-4,
1996, showing that sales were below forecasted levels--their
allegations fail to conform to the spirit of the standard. If the
Court allowed plaintiffs to go forward with such general
allegations, the strengthened standard of the SRA would lose its
meaning. Plaintiffs' in camera submission to the Court, which the
Court has declined to review, suggests that plaintiffs may possess
sources or specific facts that would improve their allegations
about the negative internal reports. In the interest of justice,
the Court will allow plaintiffs to supplement these allegations
one time further. Plaintiffs are cautioned, however, that the
Court expects any supplement to include all facts that form the
basis of plaintiffs' allegations, as required by the SRA
information and belief standard.
Plaintiffs also rely on defendants' stock sales in
attempting to create a strong inference of fraud. All six
defendants sold stock during the class period. (FAC ¶ 68.)
Defendant Burgess sold 250,588 shares for a total of $8,781,294;
defendant Ramsay sold 20,000 shares for a total of $746,071;
defendant McCracken sold 60,000 shares for a total of $2,186,000;
defendant Sekimoto sold 7,600 shares for a total of $266,988;
defendant Baskett sold 30,000 shares for a total of $1,097,500;
and defendant Kelly sold 20,000 shares for a total of $743,200.
(FAC ¶ 68.) Defendants made their sales in the twenty-three
trading days between October 30, 1995 and November 30, 1995. (FAC
¶ 13.)
In evaluating defendants' scienter, the SRA requires the
Court to consider each defendant's sales separately. See 15
U.S.C. § 78u-4(b)(2). Defendants' stock trading will not support
a strong inference of fraud unless the sales are unusual or
suspicious. See Acito, 47 F.3d at 54. In the Ninth Circuit,
courts typically have not considered the amount and timing of
stock sales on a motion to dismiss, see, e.g., In re Worlds of
Wonder Sec. Litig., 35 F.3d 1407, 1427 (9th Cir. 1994); In re
Apple Computer Sec. Litig., 886 F.2d 1109, 1117 (9th Cir. 1989);
however, under the strong inference standard, courts in the Second
Circuit do consider this information. See, e.g., Acito, 47 F.3d
at 54.
In dismissing the original complaint, the Court noted
that defendants' SEC Forms 3 and 4, and SGI's 1995 proxy
statement, show that defendants sold only a fraction of their
total SGI holdings. Defendants collectively had available
millions of options that could have been exercised and sold during
the class period.13 Considered in that context, defendants' actual
sales were relatively small. The sales at issue also appeared
generally consistent in amount with sales made in previous
quarters. In its earlier ruling, however, the Court declined to
examine each individual defendant's trading because it had already
found that plaintiffs' allegations of negative internal reports
were insufficient. The Court now conducts the required individual
analyses.
Defendant McCracken, who sold 60,000 shares, had
2,305,382 shares and options available during the class period.
His sales constituted sixteen percent of his stock holdings, and
2.6% of his available stock and options. Since 1994, defendant
McCracken has frequently sold 30-50,000 shares of stock at a time.
For these reasons, defendant McCracken's sales do not raise a
strong inference of fraudulent intent, as a matter of law. See
Acito, 47 F.2d at 54 (finding sales representing less than eleven
percent of holdings unsuspicious).
Defendants Baskett's, Ramsay's, and Sekimoto's sales are
similarly unsuspicious. Defendant Baskett, who sold 30,000
shares, had 390,577 shares and options available during the class
period. His sales constituted 7.7% of his available stocks and
options. Since 1994, he has frequently sold 25-60,000 shares of
stock at a time. Defendant Ramsay, who sold 20,000 shares, had
489,978 shares and options available during the class period. His
sales constituted 4.1% of his available stocks and options. Since
1994, he has frequently sold 10-40,000 shares of stock at a time.
Defendant Sekimoto, who sold 7,600 shares, had 110,811 shares and
options available during the class period. His sales constituted
6.9% of his available stocks and options. During the previous two
quarters, which represent the extent of his trading history,
defendant Sekimoto sold 4,800 shares and no shares respectively.
Defendants Kelly's and Burgess's sales are less easily
explained. Defendant Kelly, who sold 20,000 shares, had 45,790
shares and options available during the class period. His sales
constituted 43.6% of his available stocks and options. Defendant
Burgess, who sold 250,588 shares, had 332,746 shares and options
available during the class period. His sales constituted 75.3% of
his available stocks and options.
Because these sales represent such a high percentage of
each defendant's holdings, the Court cannot say that they are
unactionable as a matter of law. Moreover, neither defendant has
a significant trading history to which the Court can compare his
class period sales. Defendants Kelly and Burgess raise a number
of plausible explanations for the apparent unusual and suspicious
nature of their trading; however, these explanations are not
properly before the Court on a motion to dismiss. For these
reasons, the Court finds that defendants Burgess's and Kelly's
stock sales, while not alone sufficient to raise a strong
inference of fraud, may be considered as evidence of fraud if
plaintiffs are able to buttress their claims regarding negative
internal reports.
CONCLUSION
For the foregoing reasons, the following claims are
DISMISSED WITH PREJUDICE: (1) plaintiffs' claims of false and
misleading statements relating to the first quarter; (2)
plaintiffs' claims of insider trading against defendants
McCracken, Baskett, Ramsay, and Sekimoto; and (3) plaintiffs'
claims relating to the alleged fraudulent scheme against those
defendants not also directly liable for making false or misleading
statements or for insider trading.
The individual defendants' (Baskett, Burgess, Ramsay,
and Sekimoto) motion for partial summary judgment on plaintiffs'
false and misleading statement claims is GRANTED.
Plaintiffs' remaining claims against defendants shall
remain under submission. Plaintiffs may file a supplement to
strengthen the allegations of negative internal reports not to
exceed five (5) pages within ten (10) days of this order.
Defendants may file a supplemental brief of five (5) pages within
ten (10) days of plaintiffs' submission. Plaintiffs are ORDERED
to refrain from making additional legal argument in their
submission.
The Court will issue a ruling on plaintiffs' motion for
certification of its decision for interlocutory appeal at the same
time that it issues an order regarding the claims that it has
given plaintiffs leave to supplement.
SO ORDERED.
Dated: May __, 1997
__________________________________
FERN M. SMITH
United States District Judge
1In addition to SGI, plaintiffs name six SGI officers and
directors as defendants: Edward R. McCracken, Chairman of the Board
and Chief Executive Officer; Forest Baskett, Senior Vice President;
Robert K. Burgess, Senior Vice President; Michael Ramsay, Senior
Vice President; Teruyasu Sekimoto, Senior Vice President; and
William M. Kelly, Senior Vice President, General Counsel, and
Secretary.
2See, e.g., 141 Cong. Rec. H14,040 (Dec. 20, 1995) (Rep.
Bliley); 141 Cong. Rec. S17,983 (Dec. 20, 1995) (Sen. Mosely-Braun).
3Indeed, some of the legislators quoted by plaintiffs also made
statements that contradict plaintiffs' position. See, e.g., 141
Cong. Rec. S19,071 (Dec. 21, 1995) (Sen. Dodd) (The Specter
Amendment was rejected because "it was an effort to get recklessness
in, which would have changed the standard from the second
circuit.").
4As discussed in the Court's ruling on the earlier motion to
dismiss, the Court does not find the text and structure of the SRA
inconsistent with the Court's interpretation of the pleading
standard. For example, plaintiffs refer to the proportionate
liability provisions of the SRA, 15 U.S.C. § 78u-4(g), to support
their position that liability for non-knowing behavior still exists
under the new law. Section 78u-4(g)(2)(A) states, "[a]ny covered
person against whom a final judgment is entered in a private action
shall be liable for damages jointly and severally only if the trier
of fact specifically determines that such covered person knowingly
committed a violation of the securities laws." This provision,
however, applies generally to the Securities Exchange Act of 1934,
and not just the SRA amendments. See § 201(a) (section 201 amends
21D); § 27(b) (section 21D amends "Title I of the Securities
Exchange Act of 1934 (78a et seq.)"). Thus, Congress was making the
distinction between knowing violators under section 21D of the SRA,
and, for example, non-knowing control persons under section 78t of
the original Act.
5Although the Court initially accepted plaintiffs' submission
and authorized the Clerk to file it under seal, the Court has not
reviewed its contents. At plaintiffs' discretion, the submission
shall be returned to them or kept under seal for appellate purposes.
6The forms also may be admissible under the business and/or
government records exceptions to the hearsay rule. See United
States v. Bland, 961 F.2d 123, 127 (9th Cir. 1992) (holding that gun
shop records kept pursuant to government requirements are admissible
business records); United States v. Central Gulf Lines, Inc., 747
F.2d 315, 319 (5th Cir. 1984) (holding that shipping reports
prepared by private citizen and submitted to the government pursuant
to law fell within government records exception to hearsay rule).
Alternatively, they may be admissible not to prove the truth of the
information contained in them, but to show the lack of scienter on
the part of the defendants. See Gray v. First Winthrop Corp., 82
F.3d 877, 885 n.10 (9th Cir. 1996).
7The argument over the stop ship reports exemplifies the
problem with the generalized allegations in plaintiffs' complaint.
If plaintiffs had fully described the stop ship report in question,
and had indicated the source of their information about it, there
would be no need for defendants to attempt to file extraneous
documents in an effort to defend themselves. As discussed infra
Part C.2.b., the SRA requires more complete disclosures than
plaintiffs have made in the FAC.
8Defendants McCracken and Kelly do not contest that plaintiffs
would state a claim against them for making false and misleading
statements if the Court finds that plaintiffs have pled their
allegations with sufficient particularity, and have adequately pled
scienter.
9The cases cited by plaintiffs hold liable only those
defendants who directly participated in the scheme. See Securities
& Exchange Comm'n v. First Jersey Sec., Inc., 101 F.3d 1450, 1458-60
(2d Cir. 1996) (finding sole ownership of company and participation
in underwriting, pricing, and policy sufficient to create primary
liability); Webster v. Omnitrition Int'l, Inc., 79 F.3d 776, 784,
785 n.6 (finding primary liability based on participation in pyramid
scheme which was fraudulent as a matter of law), cert. denied, 117
S. Ct. 174 (1996); In re Software Toolworks, Inc. Sec. Litig., 50
F.3d 615, 628 n.3 (9th Cir.) (holding auditor primarily liable due
to role in drafting and editing letters to SEC), cert. denied,
Montgomery Sec. v. Dannenberg, 116 S. Ct. 274 (1995); Adam v.
Silicon Valley Bancshares, 884 F. Supp. 1398, 1401 (N.D. Cal. 1995)
(finding auditor primarily liable for representing that proper
accounting procedures had been followed in drafting financial
statements); In re ZZZZ Best Sec. Litig., 864 F. Supp. 960, 968-72
(C.D. Cal. 1994) (holding auditor liable for reviewing public
statements). The pre-Central Bank cases cited by plaintiffs also
require direct involvement. See Affiliated UTE Citizens of Utah
v. United States, 406 U.S. 128, 152 (1972) (approving of primary
liability of bank employees who made a market in securities despite
bank representations that its duty was to individual clients);
Shores v. Sklar, 647 F.2d 462, 464 n.2 (5th Cir. 1981) (holding
defendants liable for their various roles in fraudulent marketing of
bonds); Competitive Assoc., Inc. v. Laventhol, Krekstein, Horwath &
Horwath, 516 F.2d 811, 814 (2d Cir. 1975) (finding primary liability
of auditor who certified false financial statements).
10These claims are distinguishable from the ones dismissed by
the Ninth Circuit in In re Syntex Corp. Sec. Litig.,95 F.3d 922 (9th
Cir. 1996). Syntex was merely making optimistic statements about
the potential success of new products, Syntex, 95 F.3d at 932,
whereas SGI is alleged to have withheld information about continuing
operations in the United States and abroad.
11The Toshiba allegations are also distinguishable from the
allegations dismissed by the Ninth Circuit in In re Syntex Corp.
The inadequate testing claim in Syntex was dismissed because Syntex
was making its prediction two years in advance, leaving ample time
for the company to remedy any problems. Syntex, 95 F.3d at 930-31.
12This finding does not establish that defendants' conduct was
fraudulent. See Glenfed, 42 F.3d at 1549. Plaintiffs must also
plead sufficient facts to create a strong inference that defendants
knew the falsity of their statements when they gave them.
Plaintiffs' allegations of fraudulent intent are analyzed below.
13As the Court noted in its earlier order, it is important to
consider available options in evaluating stock sales. Exercisable
options, not actual stock holdings, represent the owner's trading
potential; by limiting their allegations to stock shares, plaintiffs
artificially inflate defendants' activities. The differences
between vested options and stock shares noted by plaintiffs--
transfer and voting rights and dividends--are irrelevant for
purposes of this analysis.