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JOHNSON v. TELLABS

February 19, 2004.

THOMAS JOHNSON, Plaintiff,
v.
TELLABS, INC., MICHAEL J. BIRCK, RICHARD C. NOTEBAERT, ROBERT W. PULLEN, JOAN E. RYAN, BRIAN JACKMAN and JOHN C. KOLHER, Defendants



The opinion of the court was delivered by: AMY J. ST. EVE, District Judge

MEMORANDUM OPINION AND ORDER

Defendants have moved to dismiss the Second Amended Complaint pursuant to Federal Rule of Civil Procedure 12(b)(6) for failure to state a claim. Their motion is granted.

This putative class action lawsuit is brought by various plaintiffs individually and on behalf of persons who purchased common stock of Defendant Tellabs between December 11, 2000 and June 19, 2001 (the "Class Period"). Plaintiffs*fn1 brought this purported class action alleging that Defendants engaged in a scheme to deceive and defraud investors as to the true value of Tellabs, Inc.'s ("Tellabs") common stock during the Class Period. Plaintiffs contend that Defendants carried out this scheme, in part, by falsely assuring investors about Tellabs' performance and prospects, engaging in fraudulent practices to artificially boost Tellabs' Page 2 revenues and conceal the rapidly falling demand for Tellabs' products, selling shares of Tellabs' common stock at artificially inflated prices, and making false and misleading misrepresentations about Tellabs' current financial condition. Plaintiffs allege that these deceptive actions resulted in the artificial inflation of Tellabs' stock price which reached a high of $67.125 per share on February 5, 2001. Plaintiffs claim that they were injured when they purchased Tellabs' common stock at these artificially inflated prices.

  On May 19, 2003, this Court granted Defendants' motion to dismiss Plaintiffs' Consolidated Amended Complaint in its entirely. See Johnson v. Tellabs, Inc., 262 F. Supp.2d 937 (N.D. Ill. 2003) (the "May 19, 2003 Opinion"). Plaintiffs filed their Second Amended Class Action Complaint (the "SAC") on July 11, 2003. Unlike their Amended Complaint, Plaintiffs' SAC identifies 27 confidential sources ("CS") who support various allegations.

  In their SAC, Plaintiffs did not name the following individuals who were named in the Consolidated Amended Complaint: J. Thomas Gruenwald, Catherine Kozik, William F. Souders, and John Vaughn. Defendants now seek to dismiss the SAC in its entirety for failure to state a claim upon which relief can be granted pursuant to Federal Rule of Civil Procedure 12(b)(6), for failure to plead fraud with particularity pursuant to Federal Rule of Civil Procedure 9(b), and for failure to meet the pleading standards set forth in the Private Securities Litigation Reform Act of 1995,15 U.S.C. § 78u-4(b) (the "PSLRA"). Given the additional detail added to the SAC and the extended analysis necessary to address this detail, the Court will repeat some of the facts set forth in its May 19, 2003 Opinion. Page 3

  ALLEGATIONS

 I. The Parties

  Defendant Tellabs is a Delaware corporation with its principal place of business in Lisle, Illinois. (R. 63-1, SAC ¶ 16.) Tellabs designs, manufactures, markets, and services highly specialized optical networking, broadband access, and voice quality enhancement solutions. (Id. ¶ 2.) It is a global supplier of networking solutions and services that support the Internet. Tellabs' customers included exchange carriers, telephone companies, local telephone administrations, original equipment manufacturers, cellular and other wireless service companies, cable operators, alternate service providers, internet service providers, system integrators, government agencies, and business end-users. (Id. ¶ 2.) SBC Communications, Inc. ("SBC") and Verizon Communications, Inc. ("Verizon") were two of Tellabs' large customers. (Id. ¶ 2.)

  The individual Defendants include: Michael Birck, Brian Jackman, John Kohler, Richard Notebaert, Robert Pullen and Joan Ryan (collectively, the "Individual Defendants"). Each of the Individual Defendants was an officer and/or director of Tellabs. Michael Birck, a founder of the company, was a director and served as chairman of Tellabs' board of directors since September 18, 2000. (Id. ¶ 17.) He also served as chief executive officer and president of Tellabs from 1975 through 2000. (Id.) Brian Jackman was a director of Tellabs and served as president of global systems and technology and executive vice president from 1998 through 2001. (Id. ¶ 18.) John Kohler was a senior vice president of global business operations from February 2000 to March 10, 2003, and a vice president of global manufacturing from 1992 through 2000. (Id. ¶ 19.) Page 4

  Richard Notebaert served as a Tellabs' director from April 19, 2000 to June 17, 2002, and served as chief executive officer and president of Tellabs from September 18, 2000 to June 17, 2002. (Id. ¶ 20.) Robert Pullen was a senior vice president and general manager of optical networking from August 2000 to February 2, 2002. (Id. ¶ 21.) Joan Ryan served as Tellabs' executive vice president and chief financial officer from February 2, 2000 to February 7, 2003. (Id. ¶ 22.)

  Plaintiffs' SAC focuses on three of Tellabs' products: the TITAN 5500, the TITAN 6500 and the SAL1X 7600. All of these products are complex transmission systems utilized with optical networking systems. The TITAN 5500, Tellabs' "flagship" optical networking system, is a digital cross-connect system that "help[s] direct different types of communications traffic across wired and wireless networks." (Id. ¶ 30.) The TITAN 6500 is a multi-service transport switch which is "capable of simultaneously transporting a variety of signal types." (Id. ¶ 31.) The SAL1X 7600 is a switch "that enables service providers to move voice traffic seamlessly onto data networks while supporting voice services such as there-way calling and messaging." (Id.. ¶ 32.)

 II. Alleged Problems with Specific Products

  Plaintiffs allege that the internet and telecommunications sectors suffered a significant decline in demand for their products in mid-2000. (Id. ¶ 3.) As a result, Tellabs' customers "were suffering from a severe deterioration and consolidation of their businesses." (Id. ¶ 4.) Given this decline, Plaintiffs allege that demand for Tellabs' products decreased. (Id. ¶¶ 3, 4.) Plaintiffs contend, however, that Defendants disguised the impact this decline had on Tellabs and falsely assured investors that Tellabs' performance was strong. Page 5

  Plaintiffs allege that contrary to Defendants' public representations during the Class Period, the demand for the TITAN 5500 — Tellabs' "best seller" — substantially slowed. (Id. ¶¶ 34-45.) Verizon and other clients significantly reduced their orders for the product. (Id. ¶¶ 35, 37.) As a result, in late 2000 and early 2001, Tellabs had "tons" of excess TITAN 5500s stored in a warehouse. (Id. ¶ 45.)

  Similarly, Plaintiffs allege that the TITAN 6500 failed to sell as Tellabs had represented. (Id. ¶¶ 46-53.) They contend that Defendants touted a $100 million Sprint deal for the TITAN 6500 in order to foster a false impression that there was a demand for the product. (Id. ¶ 54.) Plaintiffs allege that Sprint entered this contract to satisfy an existing $100 million commitment to Tellabs, and that Sprint did not intend to purchase any TITAN 6500s beyond those in the agreement. (Id. ¶ 55.) Plaintiffs further contend that the TITAN 6500 was far behind schedule and not ready for release during the Class Period, was failing customer lab evaluations, and was inferior to other products offered by Tellabs' customers. (Id. ¶ 74.)

  Plaintiffs also allege that the SALIX technology had serious technical defects and thus Tellabs could not commercialize it. (Id. ¶¶ 56-61.) They allege that Defendants "glowingly portrayed Tellabs' supposed `launch' of its new `leading edge' SALIX technology in 2000 when, in fact, the SALIX technology was both unfinished and outmoded." (Id. ¶ 56.) Plaintiffs contend that Defendants' statements regarding the prospects for the SALIX technology were false and misleading because they knew the SALIX technology was outmoded and could not be commercialized.

 III. Allegedly False Statements by Tellabs

  Plaintiffs claim that beginning on December 11, 2000 through the purported Class Period, Page 6 Defendants made a series of false statements and omissions regarding Tellabs' fourth quarter 2000 financials, Tellabs' products, and its future prospects that resulted in the artificial inflation of Tellabs' stock price. Plaintiffs allege that the Individual Defendants are responsible for each of the statements.

  A. December 2000

  Tellabs issued a press release on December 11, 2000 — the start of the purported Class Period — announcing a multi-year sales agreement with Sprint for the TITAN 6500. "The agreement is expected to be valued at more than $100 million over the life of the contract." (Id. ¶ 73.) The press release noted that the "TITAN 6500 system is available now." On December 11, 2000, Tellabs also held a conference with securities analysts. On December 12, 2000, securities analysts summarized the conference and issued positive research reports on Tellabs. According to UBS Warburg, "Tellabs maintained its guidance for 4Q 2000 and all of 2001. In doing so, the company indicated that the demand for its Titan 5500 product line remain [sic] solid in 4Q and there is visibility for at least two years (if not more) of ongoing good growth for the product." (Id. ¶ 77.) It also estimated thirty-percent growth in sales for 2001. ABN AMRO reported Defendant Pullen commenting that "the TITAN 5500 remains the workhorse of the group and is expected to see strong growth for the next 2-3 years." (Id.) Baird & Co. reported that Tellabs "reiterated its confidence in the telecom-spending environment" and "reconfirmed consensus growth forecasts for fourth quarter 2000 and 2001." (Id. ¶ 76.) Notebaert, according to Baird & Co., "outlined the tremendous opportunity for Tellabs in international markets, as well as the expected continuing growth of the TITAN 5500, as well as its new optical-networking and next-generation switching initiatives." (Id. ¶ 76.) Page 7

  B. January 23, 2001 Press Release

  On January 23, 2001, Tellabs issued a press release announcing its financial results for the fourth quarter of 2000. (Id. ¶ 81.) Tellabs reported that "strength in Tellabs' core business drove record sales and earnings in the fourth quarter of 2000. Fourth-quarter 2000 sales totaled $1,018 million, up 42% from $716 million in 1999." (Id.) Notebaert explained, "[t]o keep up with robust growth in communications traffic, customers are buying more and more Tellabs equipment-fueling our records [sic] results and our first $1 billion quarter." (Id.) The press release also reiterated Tellabs' $100 million multi-year agreement with Sprint to supply the TITAN 6500 system.

  During a teleconference with securities analysts that same day, Notebaert stated: "[t]his was a great quarter and fitting end to a wonderful year.*fn2 Tellabs not only achieved record sales and profits in the fourth quarter [of 2000], we also set the stage for sustained growth with the successful launches of several products, many of those long anticipated. . . . Customers are embracing our products. We announced a $100 million plus agreement with Sprint for the 6500." (Id. ¶ 82.)

  Notebaert also commented on the TITAN 6500. Specifically, he said that "[o]n the 6500, demand for that product is exceeding our expectations. . . . Demand is just . . . huge for this product." (Id. ¶ 84.) In an interview with Eric Schatzker from the Bloomberg News, Notebaert also commented: "I'm a little surprised at the performance of our stock the last few weeks, because last quarter, this quarter, we've been solid and we feel very, very good about the robust Page 8 growth we're experiencing." (Id. ¶ 60.)

  C. January 30, 2001 Press Release

  Tellabs issued another press release on January 30, 2001, announcing "a new suite of softswitches, the SALIX 7600 softswitch control suite." (Id. ¶ 88.) The press release noted, "[w]ith the new SALIX 7600 suite, Tellabs has redefined the softswitch market and can now offer integrated, comprehensive solutions to all carriers." (Id.)

  D. February 14, 2001 — Tellabs' 2000 Annual Report

  On February 14, 2001, Tellabs issued its 2000 Annual Report. Notebaert and Birck issued a letter to stockholders in connection with the issuance of the Annual Report. (Id. ¶ 90.) In the letter, Notebaert and Birck represented that "Tellabs' growth is robust." (Id.) They stated that the TITAN 5500 continued with accelerating growth. They also stated that the TITAN 6500 "emerged from our laboratories in 2000, and customers are embracing it." Notebaert and Birck also stated that the TITAN 5500 is "still going strong," and the SALIX 7750 has a lot of opportunities. (Id. ¶ 91.)

  The Tellabs' 2000 Annual Report contained a "Management Statement of Financial Responsibility," signed by Birck, Notebaert and Ryan. (Id. ¶ 94.) In that Statement, they represented that the "financial statements of Tellabs, Inc. and Subsidiaries have been prepared under the direction of management in conformity with generally accepted accounting principles." (Id. ¶ 94.)

  E. March 2001

  On March 7, 2001, Tellabs issued a press release announcing that it was lowering its Page 9 revenue and earnings per share expectations for the first quarter 2001.*fn3 It noted that Tellabs could not recognize revenue from TITAN 6500 shipments in the first quarter but expected to do so in the second quarter of 2001. (Id. ¶ 99.) The press release stated that "[g]rowth in Tellabs' core optical networking business remains strong." (Id.)

  During the conference call with securities analysts on March 8, 2001, Defendant Jackman explained, "[t]here's nothing in the revenue recognition issue that should be construed to imply that the testing and the customer's acceptance of these systems are having difficulty." (Id. ¶ 101.) With respect to the TITAN 5500, Notebaert told analysts "[w]e're still seeing that product continue to maintain its growth rate; it's still experiencing strong acceptance." (Id. ¶ 102.) When an analyst inquired about Tellabs' reaction regarding the lowered expectations of some of its competitors, Notebaert responded "we haven't gotten any indication, I haven't gotten any indication from any of our major clients, major customers, of a downturn in the segment we're in." (Id. ¶ 103.)

  On March 29, 2001, Tellabs issued its 10-K for 2000*fn4, signed by Defendants Birck, Notebaert, Ryan and Jackman. The report noted: "[t]he Company achieved record levels in sales ($3,387.4 million), net earnings ($730.8 million) and earnings per share ($1.75) — putting it on track to meet its objective of $6 billion in annual revenues by the year 2003." (Id. ¶ 107.) It also stated that "[t]he growth in optical networking product sales was a result of continued strong Page 10 demand for the Company's TITAN 5500/5500S and TITAN 532L digital cross connect systems." (Id. ¶ 109.)

  The Form 10-K also favorably discussed the SALIX technology. (Id. ¶ 108.) "Leading the growth will be the Company's SALIX 7000 family of next-generation switching products." (Id. ¶¶ 107, 109.)

  F. April 6, 2001

  On April 6, 2001, Tellabs issued a press release lowering its first quarter earnings guidance. The press release stated, "[t]he revised guidance stems from reduced and deferred spending by major communications carriers late in the quarter." (Id. ¶ 113.)

  On April 6, 2001, Notebaert and Ryan held a conference call with securities analysts. (Id. ¶ 114.) During the call, Notebaert told analysts that "[i]n just the last few weeks" Tellabs had experienced "a more controlled order of flow from our larger customers." (Id. ¶ 114.) He noted, however, that "everything we hear from the customers indicates that our in-user demand for services continues to grow." (Id. ¶ 114.) Notebaert added, "[t]he good news is, orders weren't canceled, they were pushed out into the next quarter." (Id. ¶ 116.) He stated that "the 6500 is showing strength . . . we should hit our full manufacturing capacity in May or June to accommodate the demand we are seeing. Everything we can build, we are building and shipping. The demand is very strong." (Id. ¶ 117.) Ryan told analysts that "we see first quarter revenue of approximately $772 million, which represents a 21% year-over-year growth in overall revenue." (Id. ¶ 115.)

  G. April 18, 2001

  On April 18, 2001, Tellabs issued a press release announcing its first quarter financial Page 11 results for the period ending March 31, 2001, and modified its revenue projections for 2001 from $3.99 billion to within the range of $3.6 billion to $3.7 billion. Tellabs further announced that it would "further reduce discretionary spending, eliminate salary increases this year, institute a pay-cut for all corporate officers, align manufacturing capability with demand expectations, and terminate the SALIX next-generation-switching product effort." (Id. ¶ 121.) It also announced that it planned to reduce its workforce by approximately 550 people. (R. 49-1, Defs.' Mot. to Dismiss App. Ex. 18.) Finally, Tellabs stated that it was terminated the SALIX next-generation switching product effort. (R. 63-1, SAC ¶ 121.) Notebaert nevertheless stated, "I am as confident as ever in Tellabs' long-term prospects and our ability to deliver strong revenue and earnings growth in the future." (Id. ¶ 121.)

  H. May 2001

  Tellabs filed its Form 10-Q for the period ending March 30, 2001 on May 8, 2001. In the Form 10-Q, Tellabs stated that it had "achieved record first quarter 2001 sales of $772.1 million." Tellabs stated that the TITAN 5500/5500s drove the sales. (Id. ¶ 124.)

  On May 31, 2001, Tellabs announced that it planned to take a $262 million restructuring charge in the second quarter of 2001. (Id. ¶ 128.) $93 million of the charge was related to the Company's termination of the SALIX next-generation switching business. (Id., ¶ 128.)

  I. June 2001*fn5

  On June 19, 2001, which is the close of the purported Class Period, Tellabs issued a press Page 12 release revising its second quarter guidance and reducing its revenues by approximately $300 million to $500 million. (Id. ¶ 131.) The press release explained the following:
"The dramatic changes affecting the landscape of the telecommunications marketplace have continued to impact Tellabs. Service providers . . . are only buying equipment to meet the immediate needs of their customers. `While we continue to see caution from our customers in the place of equipment deployment, our market position remains intact, and we are focused on ensuring the most profitable path through the current environment,' said Tellabs President and CEO Richard C. Notebaert."
Id. Tellabs common stock fell from a high of $21.20 per share on June 19, 2001 to a low of $15.87 per share on June 20, 2001. (Id. ¶ 135.) The stock closed at $16.04 on June 20, 2001. (Id. ¶ 135.) The June 20, 2001 price reflected a decline of more than 75% "from the Class Period high of $67.125." (Id. ¶ 135.)

 IV. Stock Sales

  Plaintiffs allege that Defendants Birck, Kohler and Kozik sold approximately 150,000 shares Tellabs' common stock at artificially inflated prices during the purported Class Period, and received proceeds in excess of $8,000,000 from their sales. During the Class Period, Plaintiffs claim that Birck sold 80,000 shares for $5,183,150; Kohler sold 7,500 shares for a net profit of $466, 218.75; and Kozik sold 3, 220 shares for a net profit of $67,783.25. (Id. ¶ 144.)

  ANALYSIS

  The SAC contains seven counts. Plaintiff "inadvertently" named two unnamed defendants in Counts VI and VII. (R. 78-1, Pls.' Opp. to Motion to Dismiss, p. 39 n.32.) Accordingly, the Court dismisses Counts VI and VII. Count I alleges that Defendants violated Section 10(b) of the Securities and Exchange Act of 1934 (the "Exchange Act") and Rule 10b-5, Page 13 which caused Plaintiffs and other class members to suffer damages in connection with the purchase of Tellabs stock during the class period. They allege that Defendants disseminated materially false and misleading statements and concealed material adverse facts about Tellab's financial condition and future prospects in order to deceive the investing public as to the true value of Tellabs' stock and to cause Plaintiffs to purchase Tellabs' stock at artificially inflated prices.

  Count II alleges that the Individual Defendants are "control persons" who violated Section 20(a) of the Exchange Act. Count III, brought on behalf of the LeBrun-Leehey Subclass*fn6, alleges that Birck and Kohler violated Section 20A of the Exchange Act by insider trading. Count IV, brought on behalf of the Broholm Subclass*fn7, alleges that Birck violated Section 20A of the Exchange Act. Finally, Count V, brought by Plaintiff Morris on behalf of the Morris Subclass*fn8, also alleges that Birck violated Section 20A of the Exchange Act. Defendants have moved to dismiss the Complaint in its entirety with prejudice.

  As an initial matter, Plaintiffs raise multiple arguments in their opposition to Defendants' motion that the Court ruled on in its May 19, 2003 Opinion. To the extent Plaintiffs ask the Court to reconsider its prior rulings, "[m]otions for reconsideration serve a limited function: to Page 14 correct manifest errors of law or fact or to present newly discovered evidence." Publishers Resource, Inc. v. Walker Davis Publications, Inc., 762 F.2d 557, 561 (7th Cir. 1985) (quotation omitted); see also In re Oil Spill by "Amoco Cadiz" Off Coast of France on March 16, 1978, 794 F. Supp. 261, 267(N.D. Ill. 1992) ("[M]otions to reconsider are not at the disposal of parties who want to `rehash' old arguments."). Motions to reconsider are not appropriate vehicles to advance arguments already rejected by the Court or new legal theories not argued before the ruling. Scharlte v. Motorola, Inc., No. 93 C 5508, 1994 WL 323281, at *1 (N.D. Ill. June 24, 1994). Plaintiffs have not provided the Court with any reason to revisit its prior rulings here.

 I. Legal Standard

  The purpose of a motion to dismiss pursuant to Rule 12(b)(6) is to test the legal sufficiency of a complaint, not the merits of the case. See Triad Assocs., Inc. v. Chicago Hous. Auth., 892 F.2d 583, 586 (7th Cir. 1989). When considering a motion to dismiss, the Court considers "whether relief is possible under [any] set of facts that could be established consistent with [the] allegations." Bartholet v. Reishauer A.G. (Zurich), 953 F.2d 1073, 1078 (7th Cir. 1992). The Court views the complaint "in the light most favorable to the plaintiff, taking as true all well-pleaded factual allegations and making all possible inferences from those allegations in his or her favor." Lee v. City of Chicago, 330 F.3d 456, 459 (7th Cir. 2003). See also Thomas v. Law Firm of Simpson & Cybak, 354 F.3d 696, 697 (7th Cir. 2004). The Court is not, however, "obliged to accept as true legal conclusions or unsupported conclusions of fact." Hickey v. O'Bannon, 287 F.3d 656, 658 (7th Cir. 2002).

 II. Securities Fraud Pleading Requirements

  Allegations of securities fraud must meet the heightened pleading requirements of Federal Page 15 Rule of Civil Procedure 9(b) as well as the strict pleading mandates of the PSLRA. Rule 9(b) requires Plaintiffs to plead "the circumstances constituting fraud . . . with particularity." In re HealthCare Compare Corp. Sec. Litig., 75 F.3d 276, 281 (7th Cir. 1996). As this Court previously noted, "this means the who, what, when, where, and how: the first paragraph of any newspaper story." DiLeo v. Ernst & Young, 901 F.2d 624, 627 (7th Cir. 1990).

  A. The PSLRA's Heightened Pleading Requirements

  In order to meet the PSLRA's dictates for a securities fraud claim, "the complaint shall specify each statement alleged to have been misleading, the reason or reasons why the statement is misleading, and, if an allegation regarding the statement or omission 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).*fn9 The PSLRA also strengthened the pleading requirements for scienter in a securities fraud case: "In any private action arising under this chapter in which the plaintiff may recover money damages only on proof that the defendant acted with a particular state of mind, the complaint shall, with respect to each act or omission alleged to violate this chapter, 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). If a complaint failed to meet either of these requirements under the PSLRA, the Court "shall, on the motion of any defendant, dismiss the complaint." 15 U.S.C. § 78u-4(b)(3)(A). "Congress enacted this more stringent pleading ...


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