The opinion of the court was delivered by: Dalzell, District Judge.
Plaintiffs in this putative class action assert a claim of
securities fraud under § 10(b) of the Securities and Exchange
Act of 1934 ("Exchange Act") against ATI Technologies, Inc.
("ATI"), and under § 20(a) of the Exchange Act against senior
officers and directors of ATI, based on controlling persons
liability. Plaintiffs allege the defendants made various
materially false or misleading statements or omissions which
artificially inflated the price of ATI stock, which sharply fell
when the true condition of the company emerged.
Before us is defendants' motion to dismiss, pursuant to
Fed.R.Civ.P. 12(b)(6) and 9(b) as well as the Private Securities
Litigation Reform Act of 1995, 15 U.S.C. ¶¶ 78u-4 and 78u-5. Also
before us is a motion of plaintiffs to strike documents
presented as exhibits to the defendants' motion to dismiss.
We here recite the allegedly false or misleading statements
set forth in the complaint, and the reasons they are alleged to
Plaintiffs Jim D. Melis, Douglas J. Brown, Karlis A. Simon,
Roy Y. Yih, and Jerome Grossman all bought ATI common stock
between January 13, 2000 and May 24, 2000. The corporate
defendant, ATI, is a Canadian corporation that designs,
manufactures, and markets multimedia graphic components for
personal and mobile computers. ATI's common stock
trades on the NASDAQ stock exchange. The individual defendants
are officers and directors of ATI, Kwoy Yuen Ho, President and
Chief Executive Officer, James Chwartacky, Vice-President,
Financial Administrator, and Chief Financial Officer, and James
Fleck, Director. The complaint states that an ATI announcement
of May 24, 2000 — to the effect that ATI would be reporting
lower than expected revenues and a loss for the third quarter,
as well as a $57 million dollar inventory write-down —
precipitated a fifty percent decline in the price of ATI stock
in two days.
Plaintiffs allege that ATI, through its officers and agents,
including the individual defendants, made materially false and
misleading statements prior to that announcement, specifically
between January 13, 2000 and May 24, 2000, that artificially
inflated the value of ATI stock. We now canvass these allegedly
false and misleading statements.
Allegedly Misleading Statements and Omissions
1. January 2000 Press Release & Announcements
ATI issued a press release on January 13, 2000 announcing its
financial results for the first quarter of the fiscal year 2000,
in which it touted its "`record in revenues' and financial
results for the first quarter." Am. Compl. at ¶ 21; Mot.
Dismiss, Ex. A (Press Release). The company announced that its
earnings met analysts' expectations. Net income for the quarter
was said to be $53.6 million, or $0.25 per share, an increase in
26% from net income for the same quarter a year earlier.
Inventory reportedly increased to $212 million. Id.
The press release heralded that "Sales in the first quarter
reflected solid demand for ATI's RAGE 128 and RAGE MOBILITY
products, which comprised a greater percentage of corporate
revenues than in prior quarters." Id. A statement was
attributed to President and CEO Kwok Yuen Ho, "`Once again we
have delivered a strong start to the new year. . . . ATI
approaches a bright future with growth prospects not only in our
traditional PC business, but in new and burgeoning markets like
consumer electronics appliances. We look forward to the year
2000 as these new markets continue to emerge.'" Id. at ¶ 22.
ATI hosted a conference call the same day it issued the press
release. Defendants Chwartacky and Ho, and other officers of
ATI, discussed with analysts, money managers, and large
stockholders the performance of ATI during the first quarter and
the company's prospects for future earnings. Id. at ¶ 23.
Defendants projected that gross margins would remain in the low
30% range, which is above industry norms. Id. According to the
complaint, defendants stated that sales increased 26% over the
year-earlier quarter, remained strong, and were on track to
increase 25% for the rest of the year. Id. Defendants opined
that revenue growth of 25% for the fiscal year 2000 could be
reached, noted that average selling prices increased in both
board and chip categories, and declared that the market's
acceptance of ATI's products was "overwhelming" and that, with
increased shipments, ATI's market share would increase. Id.
Finally, defendants reported that inventory had increased to
$212 million and was comprised mainly of works in progress and
raw materials. Id.
In response to a question about ATI's competitors, Ho
declared, "We are taking market share from all of [them]." Id.
at ¶ 24. On January 14, 2000, Ho commented, "[E]verything is
under control." Id. at ¶ 37.
2. February 2000 Press Release & Annual Report
In the Form 40-F Annual Report ATI filed with the SEC on
February 2, 2000, "Defendants emphasized the increase in sales
in Europe and stated that its RAGE 128 PRO `allows ATI to
maintain gross margins and improve average selling prices over
those which would otherwise prevail.'" Am. Compl. at ¶ 50. ATI
opined that consolidation in the industry would benefit it
because "the merger of [our competitors] supports the
long-standing integrated chip and board business model employed
by ATI" and that "ATI's technology portfolio is well positioned
to target  new market opportunities." Id.
In a press release issued the same day, ATI announced that
Toshiba had chosen it to supply mobile graphics for Toshiba's
new line of mobile personal computers. Id. at ¶ 52. In this
press announcement, Ho stated, "ATI has become a leading
supplier of mobile graphics in a very short time based on the
strength of our product." Id.
Two press releases soon followed, on February 8 and 14. In the
February 8 press release, ATI claimed that it "is now the
world's highest volume supplier of mobile graphics," and added,
"ATI's market leadership of the mobile graphics field
has achieved in a very short time by doing what the
company does best: building on our computer
excellence, focusing on added value for a new market
segment, and excelling at execution," said KY Ho,
President and CEO, ATI Technologies, Inc. "We will
continue to exploit our unique set of strengths as we
move progressively into new market beyond our PC."
Id. at ¶ 53. The February 14 press release announced that Sony
had chosen ATI to supply graphic chips for Sony's new digital
set-top box, stating in part,
"The Sony/ATI collaboration joins the premier brand
in home electronics with the leading manufacturer of
graphics and video components," said Vincent Win,
vice president of OEM Sales, ATI. "ATI is proud that
Sony has chosen ATI's graphics for its new set top
box. This design win further positions ATI as a key
player in the future development of consumer
electronics devices, an important emerging market for
us in the years ahead."
ATI also announced that it planned to acquire ArtX, Inc., a
corporation engaged in computer appliance graphics. Compl. at ¶¶
57-61. ATI acquired ArtX for $453 million payable in ATI stock
and stock options, on or about April 5, 2000. Id. at ¶ 64. In
the February 16 press release announcing the expected ArtX
acquisition, ATI stated:
"This acquisition accelerates the implementation of
our long-term strategic plan to be a key supplier to
both the PC and consumer electronics industries,"
said Ky Ho, Chairman and CEO of ATI, "Our reach now
encompasses all major types of e-appliances including
set-top boxes, game consoles and video playback
Id. at ¶ 57. The press release was attached to a Form 6-K
filed on February 29 with the SEC and signed by James
Chwartacky. Id. at ¶ 58. In a conference call publicizing the
ArtX acquisition, Vice-President of Corporate Marketing Henry
Quan stated in the presence of defendant Ho,
Id. at ¶ 59. In a press release published on February 25th,
ATI reported that by means of the acquisition of ArtX it was
able to introduce its integrated S1-370 TL chipset ahead of
schedule, and stated, "This is the strongest product in the
integrated market and with ATI's sales and distribution strength
behind it, we expect to capture a significant share of the value
PC market." Id. at ¶ 61.
3. April, 2000 Second Quarter Announcements
Plaintiffs lastly allege misrepresentations in connection with
defendants' April, 2000 announcement regarding ATI's second
quarter financials for the period ending February 28, 2000.
On April 6, defendants issued a press release and hosted a
conference call. They announced that financial results had again
met analysts' expectations. For example, second quarter profit
had more than doubled from the year before to $51.1 million, or
$0.24 per share, as compared with $21.7 million, or $0.10 per
share, the year before. Sales were 28% greater than they were
the same quarter the previous year. In the conference call,
defendants also gave optimistic forecasts. They predicted that
gross margins would be in the low 30% range the rest of the
year; sales would increase 20 to 25% for the year; the remainder
of the year would progress as expected with solid sales and
earnings; and system integrator business, a key ATI market,
would continue to grow. Defendants reported that ATI had reached
50% market share in the sale of mobile graphics, and inventory
had increased to $213 million. When asked by an analyst whether
a component shortage existed that would affect ATI's performance
over the year, defendant Ho allegedly responded, "Based on long
term business and personal and private relationships, we feel
very comfortable we can manage very well." Am. Compl. at ¶¶
The April 6 press release said that "Sales in the quarter was
[sic] illustrative of good demand for the entire breadth of
ATI's product line: both on the desktop and in the mobile
segments. In particular, RAGE 128 PRO and RAGE MOBILITY chips
and boards comprised a greater proportion of the Company's sales
this quarter." Id. at ¶ 65. In this press release, Ho also
commented, "`Our second quarter places ATI solidly on track with
corporate plans, with strong sales of our newer products
including the RAGE 128 PRO and RAGE MOBILITY families.  With
such healthy results and our initial successes in e-appliances
we are well on the way to becoming the leading semiconductor
supplier of both PCs and consumer electronic devices.'" Id. at
Reasons Offered for Why the Statements are Misleading
The complaint asserts that these statements hid the true
condition of ATI. The reasons the complaint offers for why the
statements were misleading fall into four general classes, which
we will discuss in turn: (1) problems in marketing and design of
the "Rage 4/Rage 128" and "Rage 5/Rage 128 Pro" chips; (2) an
impending decline in profits and sales; (3) overvalued
inventory; and (4) a global shortage in components.
The cumulative impact of these claimed misstatements may be
seen from what happened on May 24, 2000, when ATI announced that
it would report lower than expected revenue and a third quarter
loss: the price of ATI stock dropped by fifty percent in two
days, closing at $16.75 per share on May 23rd and at $8.44 per
share at the close on May 25. Am. Compl. at ¶¶ 74, 80.
Plaintiffs allege that ATI concealed information about
performance problems with Rage graphic cards and portrayed the
graphic cards in a misleading light. The complaint states that
the graphic cards, Rage 4/Rage 128 and Rage 5/Rage 128 Pro, were
major ATI products. Am. Compl. at ¶ 42.
According to a former Hardware and Software Design Manager,
sales of Rage 4/Rage 128 were a "disaster." Id. at ¶ 43. In
April 1999, a memorandum distributed internally and written by
Adrian Hartog, former Senior Vice-President of Engineering and
current Chief Technology Officer, allegedly discussed Rage 4's
poor sales. Id.
By the fall of 1999, plaintiffs claim it also became clear
that "there was a fairly major issue" with the Rage 5/Rage 128
Pro chip, according to the former Design Manager. ATI made
several production runs of the chip. Each successive run
generated thousands of unsaleable chips. Although engineering,
design, marketing and management employees collaborated to
improve the chip, by late fall it became evident that the chip
suffered from defects in its physical design and could not
compete in the market. After repeated fruitless refabrication,
an executive decision was made to halt design and production of
Rage 5 pending reevaluation. CEO Ho was, plaintiffs alleged,
personally involved in the decision to stay production.
Information about cessation of development of Rage 5 is said to
come from the former Hardware and Software Design Manager and a
former employee who performed research and design in ATI's
Pennsylvania's office. Id. at ¶¶ 44-45.
In addition to the mid-1999 memo addressing the inability to
sell the Rage 4/Rage 128 chip, id. at ¶¶ 43, 94, and the
halting of production of Rage 5/Rage 128 Pro because the chip
was not competitive, id. at ¶ 45, plaintiffs claim that ATI
had other indications that the Rage chips were not actually
enjoying strong sales. The former ATI Design Manager allegedly
reports that ATI's revenue on Rage chips during the second
quarter 2000 was allocable to shipment to European distributors.
The European market is considered inferior to the American
market because it generates lower profit margins and sales
prices. Not only was the sale of Rage chips disappointing in the
United States, according to the former Design Manager, but
shortly after ATI targeted European markets, emails came to be
circulated suggesting that Rage 4/Rage 128 chips would need to
be written off. Id. at ¶ 95.
2. Projected Profit and Sales
Plaintiffs also maintain that defendants gave false forecasts
about profit margins and sales. It should first be noted that
"chips are designed to meet customers' forecasted needs." Am.
Compl. at ¶ 24. Computer customers "book," or order, chips from
manufacturers like ATI six to twelve months ahead of sales.
Current bookings are therefore indications of future sales.
Id. Customers buy chips in bulk, committing to use a chip as
the standard component in a computer model line. A computer
manufacturer's decision to use a chip is a "design win." Id.
at ¶ 26. As the complaint explains, "A `design win' is a
decision by a computer manufacturer such as Apple, Dell, Compaq,
etc. to use a certain chip in a model line. It ensures a set
number of sales for that chip, which could increase
exponentially if the model is popular with the market as the
manufacturer will likely contract with the same chip supplier
for additional `builds' of that model as well as for the
following year's model." Id.
In January of 2000, Apple Computer unveiled at its annual Mac
World trade show that it planned to place the video graphic chip
of one of ATI's competitors, 3DFX, in its high end computers.
Id. at ¶ 30. "ATI's loss of this business was a severe blow
because it was in the high end segment of the market that a
company could achieve high margins. From January 1997 to January
2000, ATI had been the sole graphic card producer for Apple."
Hewlett Packard (according to a former ATI Software Engineer),
after repeatedly complaining about ATI's defective software
design used in video support system drivers, allegedly told an
ATI salesperson in the second half of 1999 that it would switch
to another vendor. Id. at ¶¶ 31-32.
Not only did ATI experience a decline of bookings for the
future, problems plaguing production of Rage 4 and Rage 5
increased costs. There were also delays in the delivery of
products which threatened relationships with existing customers.
Id. at ¶¶ 46-47. The complaint describes a component shortage
and a spiraling supply of worthless inventory. Plaintiffs state,
"because of the problems at the Company with marketing,
engineering and design, the Company's margin was falling. Even
when sales goals were reduced or met, or came close to being
met, the margin the ...