Rogers v. Cisco Systems, Inc., 3:03 CV 32/LAC/MCR.

• Decision Date: 14 May 2003
• Docket Number: No. 3:03 CV 32/LAC/MCR.,3:03 CV 32/LAC/MCR.
• Citation: 268 F.Supp.2d 1305
• Parties: Ian ROGERS, Colleen Rogers, and the Ian Rogers, M.D. Defined Contribution Plan, Plaintiffs, v. CISCO SYSTEMS, INC., Defendants.
• Court: U.S. District Court — Northern District of Florida

268 F.Supp.2d 1305

Ian ROGERS, Colleen Rogers, and the Ian Rogers, M.D. Defined Contribution Plan, Plaintiffs, v. CISCO SYSTEMS, INC., Defendants.

No. 3:03 CV 32/LAC/MCR.

United States District Court, N.D. Florida, Pensacola Division.

May 14, 2003.

James Nixon Daniel, Esq, Beggs & Lane—Pensacola FL, Pensacola, FL, for plaintiffs.

Barry Richard, Esq, Glenn T. Burhans, Jr, Esq, Greenberg, Traurig PA, Tallahassee, FL, for defendants.

ORDER

COLLIER, District Judge.

THIS CAUSE comes before the Court on Defendant Cisco Systems, Inc.'s Motion to Dismiss Plaintiffs' Complaint (Doc. 6). Plaintiffs Ian Rogers, Colleen Rogers, and the Ian Rogers, M.D. Defined Contribution Plan have responded in opposition to Defendant's motion (Doc. 19). For the reasons stated below, Defendant Cisco Systems, Inc.'s motion is GRANTED IN PART.

I. BACKGROUND

A. Procedural History

On November 21, 2002, Plaintiffs filed a complaint in the Circuit Court for Escambia County, Florida (Doc. 1, Attach.B). The Plaintiffs alleged that Defendant Cisco Systems, Inc. ("Cisco") and its officers and directors fraudulently misrepresented Cisco's earnings during the years 1999, 2000, and 2001 in such a manner that caused the Plaintiffs to retain their Cisco stock after the value of the stock suddenly collapsed upon disclosure of the allegedly fraudulent practices.¹ On January 23, 2003, Cisco filed a notice of removal in this Court that based jurisdiction on diversity of citizenship (Doc. 1). Shortly thereafter, on February 21, 2003, Cisco filed a motion to dismiss the Plaintiffs' complaint for failure to state a claim for which relief can be granted, pursuant to Rule 12(b)(6) of the Federal Rules of Civil Procedure (Doc. 6). On March 28, 2003, Plaintiffs filed a memorandum in opposition to Cisco's motion (Doc. 19). Shortly after filing its motion to dismiss, Cisco filed, pursuant to Title 28, United States Code, Section 1407, a motion with the Judicial Panel on Multidistrict Litigation (the "MDL Panel") to transfer this case to the United States District Court for the Northern District of California for consolidation with several other securities class actions currently pending in that court against Cisco. Cisco's petition is currently pending before the MDL Panel, and the parties have agreed to stay discovery in this case pending the resolution of the petition.²

B. Relevant Facts

For purposes of ruling on this motion, the following facts are assumed true and viewed in the light most favorable to the Plaintiffs. Cisco is a publicly held corporation that is in the business of developing and marketing computer networking products that form the technological backbone of the Internet. According to the complaint, Cisco, through its officers, directors, and representatives, made false and misleading statements regarding Cisco's financial status and earnings in a calculated effort to encourage its stockholders, including the Plaintiffs, to retain their stock, thereby artificially inflating Cisco's stock value. Cisco's primary corporate strategy was to achieve rapid growth through the acquisition of other companies who possessed technologies Cisco wished to acquire and incorporate into its product mix. These acquisitions were largely financed through the exchange of Cisco stock, rather than through cash purchase.³ Beginning in 1999, Cisco began experiencing a reduced demand for its products and a slow-down in the development and testing of new products. The complaint alleges that Cisco's senior management, including president and chief executive officer John T. Chambers, senior vice president for finance and chief financial officer Larry R. Carter, and senior vice president and chief strategy officer Michaelangelo Volpi, were "almost immediately" aware of the problems related to the slow-down due to the company's sophisticated system of inventory controls and daily financial reports.

According to the complaint, beginning in 1999 and continuing through early 2001, Cisco used several tactics to "create sales" in order to indicate that Cisco appeared to be profitable on its books, though these sales were not really profitable. For instance, Cisco provided financing for the sale of its products, through its subsidiary Cisco Systems Capital, in amounts equal to or in excess of the purchase price and on extremely liberal terms to undercapitalized companies⁴ who were, in reality, unlikely to fully repay the loans, but Cisco did not retain adequate reserves to account for the likelihood of future bad debt. The complaint states that "much of the growth Cisco reported between late 1999 and mid-2001 was the result of sales made to uncreditworthy customers funded by Cisco Systems Capital." (Doc. 1 Attach. B at ¶ 11.) This was done, according to the Plaintiffs, to inflate sales revenues by recognizing the full value of sales but not properly accounting for the very real risk of nonpayment.

The slow-down in sales at Cisco, of which Cisco's senior executives were aware, resulted in the accumulation of excess inventories which, by mid-2000, had created a financial crisis at Cisco. The failure of many of the technology companies that had formerly purchased Cisco's products resulted in a large amount of used Cisco products being dumped on the market, thereby decreasing the demand for Cisco's new products. According to the complaint, this situation was exacerbated by the long term contracts Cisco had negotiated with suppliers that required Cisco to pay substantial penalties if orders for component parts were canceled. Instead of canceling the orders, Cisco opted to receive unneeded component parts, further increasing inventory levels.

The complaint alleges that Cisco executives, who also held large amounts of Cisco stock, were aware that if the sales slowdown and increased inventory levels were made known to investors, many shareholders would sell their stock and Cisco's stock value would plummet. Because maintenance of the stock value was critical to Cisco's corporate strategy, several Cisco senior executives named in the complaint:

began in late 1999 an attempt to manipulate Cisco's stock value by fraudulently and deceptively recording and reporting Cisco's financial data to its shareholders. Cisco, through its senior management, accomplished this in two ways. It supplied false and misleading financial data on the various financial reports made available to the public including those reports filed with the Securities and Exchange Commission. It also gave false and misleading public announcements regarding its financial status. Cisco's intention was to convince its shareholders to hold their stock by providing them with false and misleading information. Thus beginning in late 1999 and continuing through early 2001 Cisco through various financial manipulations disguised its true financial status from its shareholders.

(Id. at ¶ 17.)

The complaint alleges that Cisco filed false financial results for the fourth quarter of 1999, and every quarter thereafter through the second quarter of 2001, which included false statements of revenue, net income, and earnings per share. The complaint alleges these financial statements were false when made, that Cisco executives knew they were false, and that the false statements were made with the intention that Cisco's shareholders believe them and rely upon them. The Plaintiffs allege Cisco's financial statements were false because Cisco did not account for the likelihood of bad debt on the uncreditworthy loans described above, and that such a failure was a violation of Generally Accepted Accounting Principles ("GAAP"), which were required to be complied with in any filing with the Securities and Exchange Commission ("SEC").⁵ The complaint also alleges that Cisco's statements of revenue, net income, and earnings per share in its 1999-2001 financial statements were false because Cisco frequently shipped nonfunctioning units, in some cases only product shells with no internal working parts, in an effort to record a "sale" on its books in a particular quarter.⁶

The complaint contains quotations from Cisco's quarterly financial reports dated August 10, 1999, November 9, 1999, February 8, 2000, May 9, 2000, August 8, 2000, and November 6, 2000, each of which contain statements of net sales, net income, and earnings per share. The complaint also sets forth the text of numerous news articles published in the years 1999, 2001, each identified by date and source, which contain quotations from Cisco executives regarding Cisco's rate of revenue growth, most of which forecasted revenue growth of 30-50%.⁷ The complaint alleges that each of theses statements were false when made and were made with the intention that shareholders, such as Plaintiffs, retain their stock, and that when the truth about Cisco's misrepresentations came to light in early 2001, Cisco altered its financial reports to reflect its true financial condition and Cisco's stock value plummeted from a high of $82 to as low as $13.50.⁸ The Plaintiffs, who purchased the majority of their Cisco shares in 1991, state that, between late 1999 and early 2001, they relied on Cisco's false and misleading statements in determining to retain their stock by reviewing: Cisco's quarterly and annual reports filed with the SEC, Cisco's statements and press releases which accompanied those reports, the financial press, and the comments of financial analysts regarding Cisco's financial status. The Plaintiffs allege that, "Had Cisco informed [Plaintiffs] of the whole truth as it was required to do, plaintiffs would have sold their stock shortly after learning the truth and at a much higher price than its subsequent value." Cisco now moves to dismiss the complaint for failure to state a claim.

II. MOTION TO DISMISS

A. Standard

A motion to dismiss under Rule 12(b)(6) of the Federal Rules of Civil Procedure is designed to eliminate counts or complaints that fail to state a claim upon which...