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IN RE ADOBE SYS.

February 26, 1991

IN RE ADOBE SYSTEMS, INC. SECURITIES LITIGATION; THIS DOCUMENT RELATES TO ALL ACTIONS


The opinion of the court was delivered by: CONTI

 SAMUEL CONTI, UNITED STATES DISTRICT JUDGE

 I. Introduction

 This matter is presently before the court on defendants' motion to dismiss plaintiffs' Second Amended Consolidated Class Action Complaint ("Complaint"), filed on November 2, 1990. Plaintiffs' Complaint is a class action *fn1" on behalf of those who bought the stock of Adobe Systems, Inc. ("Adobe") between March 6 and May 24, 1990 ("the Class Period"). It alleges violations of §§ 10(b) and 20(a) of the Securities Exchange Act of 1934, 15 U.S.C. § 78j(b) and 78t(a), and Rule 10b-5 thereunder ("Rule 10b-5"), and violations of California fraud and negligent misrepresentation laws. Plaintiffs allege that Adobe artificially inflated the price of its stock by issuing false or misleading public statements during the Class Period.

 In addition to Adobe, the Complaint names as defendants certain of its officers and directors ("Individual Defendants"): John E. Warnock ("Warnock"), Chairman of the Board and Chief Executive Officer and a Director of Adobe; Charles M. Geschke ("Geschke"), President and Chief Operating Officer and a Director of Adobe; M. Bruce Nakao ("Nakao"), Vice President of Finance and Administration, Chief Financial Officer, Treasurer and Assistant Secretary of Adobe; and Stephen A. MacDonald ("MacDonald"), Senior Vice President, International Systems Division of Adobe.

 Defendants move this court to dismiss Plaintiffs' Second Complaint, pursuant to Fed. R. Civ. P. 12(b)(6). They claim that dismissal is warranted because the Complaint identifies only two alleged false and misleading statements, neither statement of which is actionable under the federal securities laws.

 II. Background

 Adobe was founded in 1982 and manufactures and develops software for the computer industry. Prior to the Class Period, Adobe enjoyed consistent growth due in large part to the wide acceptance of its main product, the PostScript interpreter. The PostScript interpreter is the page description language for electronic printing and publishing and computer displays, and is usually implemented in a "controller" which controls an associated printer or other output device. Adobe licenses the PostScript interpreter to original equipment manufacturers ("OEMs"), who incorporate Adobe's technology and pay Adobe a royalty based on the volume of printers or other incorporating devices sold to end users. Adobe's three major customer OEMs are Apple Computer ("Apple"), IBM, and NEC; their combined royalties represent 30 to 40% of Adobe's total revenues.

 On March 20, 1990, Adobe announced its results for the first fiscal quarter of 1990, ending February 1, 1990. Sales were up 46% from the first fiscal quarter of 1989, and net income increased 45% over the prior year. Earnings per common share were 48 cents, up 50% from the 32 cents earned in the first fiscal quarter of 1989. Following the announcement, the price of Adobe stock dropped $ 3.75. Mr. Nakao told the Dow Jones News Wire that he was surprised by the market's reaction, attributing it to concerns that some estimates for 1990 earnings were too high. Nakao also said he "didn't bless" one analyst's estimate of net income of $ 2.25 per share for the year, preferring a "consensus estimate of $ 2.10."

 A Dow Jones News Wire reports that on May 2, 1990, Dr. Warnock stated at the Hambrecht & Quist 18th Annual Technology Conference that "Adobe will continue to demonstrate solid rates of growth, although the growth rate has slowed recently as the company gets larger and its markets mature." Warnock also said that "Adobe's technologies were becoming entrenched as standards in the information processing industry." He stated that Adobe's successes had resulted "despite a lot of competitive threats from very big companies, [which] shows that we're an extremely competitive company and that we respond to competitive threats in a very aggressive way." Further, "we think there are lots of opportunities for future growth. One of the things that hasn't happened in our business yet is we haven't seen the impact of Hewlett-Packard Shipping. They actually are going to start shipping cartridges for the Laser Jet III this month and we'll start to see some of that coming through." Finally, he said, "we're really just getting started with the IBM printers, we're getting started with a number of OEMs and Apple continues to be about 24 to 25% of our business with their LaserWriter sales, which haven't slowed down."

 On May 24, 1990 Adobe announced that earnings for the second quarter of fiscal 1990, ending June 1, 1990, would be lower than previously expected. On May 25, before the stock market opened, Adobe announced estimated revenues in the range of $ 33 to $ 36 million and earnings per share in the range of 29 to 37 cents. *fn2" It stated that three of its significant customers had reduced product shipments. After the market opened later that day, the price of Adobe stock dropped over 15 points, or around 30% of its value, from $ 50.50 per share to $ 35.25 per share at the close on May 25.

 Immediately thereafter plaintiffs brought this action, alleging the following in their Complaint: During the Class Period between March 6, 1990 and May 24, 1990, defendants conditioned the market to believe and expect that Adobe would continue to report steady growth in earnings per share throughout fiscal 1990. In order to maintain a false impression of continued growth, defendants disseminated false and misleading statements to the investing public regarding Adobe's future prospects, thereby inflating stock prices or maintaining them at inflated levels. When Adobe disclosed that, based on preliminary estimates, earnings for the second fiscal quarter (March, April and May) would be significantly lower than expected, the price of the common stock dropped over 30%. During the Class Period the Individual Defendants, as corporate insiders, collectively sold over 211,000 shares of the Company's common stock, obtaining aggregate proceeds exceeding $ 8,158,745.

 At the heart of defendants' motion to dismiss is the Complaint's specific allegation that Adobe misled the market with its public statements by failing to disclose adverse information that: Adobe's relationship with Apple was "substantially deteriorating;" Adobe was having problems with the manufacture and initial marketing of several new PostScript products; Adobe's system of internal financial and accounting controls was ...


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