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October 16, 1981

Walter BEISSINGER and Muriel Beissinger, his wife, et al.

The opinion of the court was delivered by: VANARTSDALEN



 This is a class action brought under section 10(b) of the Securities Exchange Act of 1934, 15 U.S.C. ยง 78j(b), *fn1" and rule 10b-5, 17 C.F.R. 240.10b-5, promulgated thereunder. *fn2" From June 22, 1981, to June 25, 1981, the case was tried to the court without a jury. At the close of plaintiffs' case, defendants moved for an involuntary dismissal of the action pursuant to Federal Rule of Civil Procedure 41(b) on the ground that, upon the facts and the law, plaintiffs failed to show entitlement to any relief. *fn3" After hearing oral argument on the motion, I recessed the trial and granted the parties additional time to submit supporting and opposing memoranda of law. Upon considering the testimony and exhibits presented at trial, I have weighed the evidence introduced in plaintiffs' case and determined the relevant facts. *fn4"


 This case involves an alleged violation of rule 10b-5 in connection with the purchase of shares of stock in Rockwood Computer Corporation, a New Jersey corporation (Rockwood). *fn6" On May 11, 1972, the named class representatives, Walter and Muriel Beissinger, husband and wife, purchased 200 shares of Rockwood common stock at $ 4.50 per share. By order dated July 13, 1976, I certified a class of plaintiffs consisting of all purchasers of Rockwood common stock who bought their shares during the period July 11, 1971, to June 30, 1972.

 The defendants are: Rockwood's corporate successors, Rockwood National Corporation and Rockwood Computer Corporation-both Delaware corporations; *fn7" three individuals who served as Rockwood officers during the class period-James E. Townsend, *fn8" Elliot M. Wiener, *fn9" and Gerald Morris; *fn10" and Peat, Marwick, Mitchell & Co. (PMM) which served as Rockwood's independent certified public accountants during the 1970-1973 fiscal years.

 By March 31, 1971, Rockwood was heavily engaged in the leasing of IBM System/360 computer equipment. As of that date, approximately 96% of Rockwood's stated $ 158 million computer inventory consisted of IBM System/360 computers and its peripheral equipment. In June, 1970, International Business Machine Corporation (IBM) publicly announced the introduction of two models of a new computer series, IBM System/370. Subsequent IBM announcements and various Computerworld articles appearing in 1970 and early 1971 reported that the new System/370 line of computer equipment was faster than the System/360 series and provided greater dollar-for-dollar efficiency by reason of an improved cost/performance ratio.

 On or about July 11, 1971, Rockwood distributed its Annual Report for the fiscal year ending March 31, 1971. Within this Annual Report, defendant PMM certified without qualification Rockwood's Consolidated Financial Statements for the 1971 fiscal year. Two portions of Rockwood's 1971 Annual Report-the President's Letter and Note 6 to the Consolidated Financial Statements-made reference to the potential impact of IBM System/370 upon Rockwood's ability to re-lease its System/360 equipment. The alleged misrepresentations and omissions contained in these two portions of the 1971 Annual Report constitute the basis of the present lawsuit.


 It is well settled that in order to substantiate a claim under section 10(b) and rule 10b-5, "the plaintiff must establish (1) a misstatement or an omission (2) of material fact (3) made with scienter (4) on which the plaintiff relied (5) that proximately caused his injury." Huddleston v. Herman & MacLean, 640 F.2d 534, 543 (5th Cir. Unit A 1981) (citations omitted). See McLean v. Alexander, 599 F.2d 1190 (3d Cir. 1979). Each of these prerequisites will now be discussed in turn.

 1. Misstatements or Omissions

 The gravamen of plaintiffs' case is that defendants violated rule 10b-5 because of false and misleading statements and omissions of material fact in Rockwood's 1971 Annual Report. *fn11" Specifically, plaintiffs allege that the misstatements and omissions were contained in the following four segments of the Annual Report, the first two of which appeared in the President's Letter on page two of the Annual Report, and the second two of which appeared in Note 6 to Rockwood's Consolidated Financial Statements on page thirteen of the Annual Report:

(1) As you know, IBM has introduced a new series of computers called System/370. These new and faster computers are beginning to be installed in many locations here and abroad. While System/370 is faster in its computer speed and offers larger memories and storage devices than System/360, it is also more expensive. Thus a dilemma may confront all prospective System/370 users; faster speeds at greater costs.
(2) While we cannot fully assess the impact of System/370 computer systems, we do not now expect that this new arrival will cause significant decreases in our present rentals.
(3) The Company may find it necessary to further revise present rates of depreciation if future technical developments adversely affect the useful lives of its computer equipment.
(4) After giving consideration to current technical developments, including the recently announced IBM System/370 series of computers, the Company believes its present depreciation policy is adequate and that it will continue to lease its equipment on terms which will not adversely affect future operations.

 Concerning the first segment (hereinafter referred to as Statement No. 1), plaintiffs maintain that this portion of the Annual Report misstated and omitted material facts because, by stating categorically that the System/370 was more expensive, Statement No. 1 failed to specify that the new system was not more expensive when considered in the light of its improved cost/performance ratio. In other words, plaintiffs contend that, although the initial cost of System/370 equipment was greater than that of System/360 equipment, the new system operated with greater efficiency since it provided more throughput (amount of material processed in a specific time) per dollar of computer cost. To support this contention, plaintiffs cite (1) a memorandum prepared by PMM's Management Consulting Department (hereinafter referred to as the Goldberg Memorandum), *fn12" (2) the testimony of plaintiffs' computer expert, Paul Winsor, III, and (3) various Computerworld magazine articles and IBM announcements which appeared in 1970 and early 197113-the sum of which plaintiffs contend leads to the conclusion that in June, 1971, the computer leasing industry expected the System/370 to provide an improved cost/performance ratio. In essence, therefore, plaintiffs argue that it was misleading for Rockwood's 1971 Annual Report to state without qualification that the System/370 was more expensive and that a dilemma existed for all users-i.e., faster speeds versus higher costs-when in fact the industry was of the opinion that users who needed greater computer capacity would not experience higher costs with the new system.

 Defendants, on the other hand, vigorously maintain that this segment of the Annual Report contained no misstatements or omissions of material fact because (1) for users who did not need greater performance, the new system would indeed be more expensive, and (2) at the time the President's Letter appeared, there was no concrete proof and no general consensus of opinion in the industry that the System/370 was actually more efficient. Thus, defendants argue, the President's Letter did not omit a material "fact" because it was not then an established "fact" that System/370 was more efficient and would be less expensive for all users. Indeed, defendants are correct in asserting that some users would find the System/370 more expensive *fn14" and that no tangible proof of the new system's improved efficiency existed in early July, 1971. *fn15"

 Plaintiffs counter this argument by asserting, in effect, that by March, 1971, it was a fact that IBM and other credible sources had made reliable claims about System/370's improved cost/performance ratio which engendered uncertainty in the industry about Rockwood's ability to re-lease its 360 equipment. While it is a close question, *fn16" I conclude that the President's Letter was misleading to the extent that it suggested the System/370 would cost more for all users when there was reliable evidence that it might prove less expensive for users who needed greater performance and capacity. In order to have avoided providing such a misleading suggestion, Statement No. 1 should have warned of the possibility that for some users the new system would not necessarily be more expensive and would not necessarily result in the dilemma articulated in the President's Letter.

  With respect to Statements Nos. 2, 3, and 4 supra, plaintiffs contend that these assertions were false and misleading and contained important omissions of material fact because they misled readers into believing that Rockwood's leasing operations would not be adversely affected by the introduction of System/370 when, at the time these statements were released, there existed abundant information establishing that the new system would have and was having a significant adverse impact upon Rockwood's ability to re-rent 360 equipment. *fn17" In support of this argument, plaintiffs cite the testimony of Paul Winsor, III, who opined at the trial that, given the information available in the twelve months preceding June of 1971, it was evident that the introduction of System/370 would have an adverse impact on Rockwood's operations. *fn18" Plaintiffs place even greater reliance upon the testimony of their accounting expert, Daniel Zalles, who testified that these statements of management's expectations as to future operations were misleading because management "was in a position to know or to indicate that there was anticipated a significant (adverse) impact," *fn19" and because the statements omit reference to the problems Rockwood was already experiencing in leasing its 360 computer equipment. *fn20"

 The basis for Zalles' opinion was his analysis of various PMM work papers prepared for PMM's audit of Rockwood's financial statements for the fiscal year ending March 31, 1971. According to Zalles, the work papers "seem to indicate" that, as of March, 1971, the introduction of System/370 "tended to adversely affect useful lives of the computer equipment." *fn21" To support his conclusion that Rockwood's ability to re-rent 360 equipment had already been adversely affected by the introduction of System/370, Zalles relied on PMM work papers which revealed the following information: (1) Rockwood's monthly income had declined during the fiscal year ending March 31, 1971. (Plaintiffs' Ex. P-18); (2) in fiscal year 1971, there was an increase in the amount of Rockwood's computer equipment off-rent and fifty percent of such off-rent equipment was uncommitted (Plaintiffs' Exs. P-18, P-19, P-20; (3) although there was no concrete and tangible evidence of an obsolescence problem, 360 equipment was becoming more difficult to lease and re-leased equipment was producing a lower rental (Plaintiffs' Ex. P-23)-in fact, "360 equipment rentals fell by an average of 2 or 3%-a small drop which was also noted (in fiscal 1970)" (Plaintiffs' Ex. P-30); (4) with respect to certain types of Rockwood's 360 equipment, it was observed that "accelerated depreciation may be necessary" (Plaintiffs' Ex. P-29); and (5) during fiscal 1971, a negative change had occurred in Rockwood's customer position (Plaintiffs' Exs. P-2, P-14, P-16).

 This evidence does indicate that the introduction of System/370 may have played a part in causing some of the financial problems which Rockwood experienced in fiscal 1971. Plaintiffs have, however, offered no satisfactory proof that Rockwood's financial difficulties were caused solely, primarily, substantially or proximately by the new system. Plaintiffs' Exhibit P-18, for instance, lists the following factors as causes for the decrease in Rockwood's income: (1) obsolescence, (2) renewals and re-lease, (3) contractual decrease, (4) market conditions, (5) IBM policy (including "Popularity of 370 Systems"), (6) peripheral equipment, and (7) "others." Plaintiffs' Exhibit P-14 notes that Rockwood was "experiencing fierce competition from other leasing companies." Further, Plaintiffs' Exhibit P-30 enumerates the following reasons for the decrease in System/360 rentals: "(1) Equipment is a year older(;) (2) Highly competitive state in computer leasing market(;) (3) Renegotiation of expiring leases ...." Given these numerous factors contributing to the Company's problems, Rockwood's management may have been completely justified in believing that, if some of these other underlying causes could be adequately dealt with, Rockwood's financial difficulties would be eliminated notwithstanding the introduction of System/370. Thus, the testimony of Zalles concerning Rockwood's already existing financial problems fails to convince me by a preponderance of the evidence that Statements Nos. 2 and 4, which express management's belief that System/370 would not cause significant adverse consequences to Rockwood's operations, were false or misleading.

 To substantiate his opinion that Rockwood would inevitably experience future difficulties in leasing 360 equipment, Zalles pointed to the Goldberg Memorandum which stated that "(t)he introduction in 1970 of IBM's new 370 computer line will seriously affect the marketability of 360 equipment even at a reduced rental figure." *fn22" The Goldberg Memorandum further stated:

(It) is our belief that as we move deeper into the 1970's it will become more difficult to lease 360 equipment and the equipment leased will produce less profit. Largely, this will occur because of the introduction of new equipment offering greater throughput per dollar and new concepts in computer utilization.... We do not believe these problems will seriously affect the Levin-Townsend operation during calendar 1971, though we would expect to see a continued build-up of off-rent equipment and a continued decline in revenue from leased computer equipment. We would expect these negative aspects to develop slowly during calendar 1971 as IBM begins to deliver 370 equipment and accelerate during calendar 1972 as the 370 gains wider acceptance. Present software technology will also impede rapid movement from 360 to 370 during calendar 1972, but this deterrent should lessen as years pass during the 1970's.

 As the Goldberg Memorandum also makes clear, "(t)he reliability of these conclusions are (sic ) limited since they are based on only two years of statistical data and intangible market conditions." Defendant PMM is correct in asserting that "(t)he adequacy of disclosure in the challenged portions of the 1971 Annual Report can only be judged fairly in the context of what was known about System/370 at the time the statements in question were made-and not on the basis of ten years of hindsight." *fn23" The conclusions of both Winsor and Zalles that System/370 would adversely affect Rockwood's future operations are undermined by the fact that in June, 1971, the true performance capabilities of System/370 could not be readily assessed. Plaintiffs' Exhibit P-23 (PMM work paper) states that, at the time Rockwood's 1971 Annual Report appeared, it was impossible to provide "concrete and tangible evidence of (an) obsolescence problem" with the 360 equipment. Zalles testified: "(Until) the (370) equipment had actually been ...

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