The opinion of the court was delivered by: Cedarbaum, District Judge.
Plaintiffs in these consolidated class action suits assert
claims against defendants under §§ 10(b) & 20(a) of the
Securities Exchange Act of 1934, 15 U.S.C. § 78j(b) & 78t(a),
and under Rule 10b-5. The essence of plaintiffs' complaint is
that defendants, who were officers of Northern Telecom Ltd.
("Nortel") during the class period, made misleading statements
over a period of time concerning the company's business and
financial health that artificially inflated the price of Nortel's
stock. Extensive discovery has been completed, and defendants
move for summary judgment on all claims. For the reasons
discussed below, the motion is granted in its entirety.
The following facts are undisputed unless otherwise noted.*fn1
Plaintiffs Max Fecht, Stephen R. Raab, Guidance Components
Corp., and Leon Shapiro together purchased 650 shares of Nortel
stock from May 19, 1993 through June 24, 1993. Plaintiffs Boston
International Partners, L.P. and Irwin Sternberg collectively
bought 35 call options on June 18 and June 28, respectively. The
class excludes foreign subjects or citizens who purchased Nortel
securities outside the United States. The class period runs from
January 26, 1993 through July 20, 1993 (the "Class Period").
Nortel is a Canadian corporation. During the Class Period, its
principal place of business was located in Mississauga, Ontario,
Canada. The company's common stock is traded on the Toronto,
Montreal, New York, Vancouver, London, and Tokyo exchanges.
Nortel is a major producer of a variety of communications
products, including telephone switching systems.
All of the individual defendants were officers of Nortel during
all or part of the Class Period. Jean C. Monty was President and
a Director of Nortel and became Chief Executive Officer on March
1, 1993. Martin G. Mand was Nortel's Chief Financial Officer.
Edward E. Lucente served as Nortel's Executive Vice President for
marketing from 1992 until March 15, 1993. Roy G. Merrills served
as a Vice President of Nortel, as Chairman of Nortel's United
States subsidiary, Northern Telecom Inc. ("NTI"), and, as of July
1, 1993, in a new position entitled "Executive Vice President of
the Americas." Alan G. Lutz was a Senior Vice President and
President, Switching Networks, of Nortel until July 1, 1993.
Desmond F. Hudson was Senior Vice President of Nortel and
President of Northern Telecom Europe. Frank A. Dunn was a Vice
President and Nortel's Deputy Controller and later Controller.
The complaint alleges that all of the individual defendants are
controlling persons under § 20(a) of the Securities Exchange Act
II. Events Preceding the Class Period
During the three years preceding the Class Period, Nortel
reported revenues of $6.8 billion in 1990, $8.2 billion in 1991,
and $8.4 billion in 1992, respectively. Nortel reported research
and development investments of $773.7 million, $948.3 million,
and $930.5 million during each of those respective years. Nortel
reported earnings per share growth from $1.80 to $2.03 in 1991
and to $2.17 in 1992.
As of 1993, Nortel produced a number of products, including
central office digital switching and transmission equipment. A
central office switch is essentially a large computer used to
direct telephone operations. Nortel's switching software was
customized for each customer and provided telephone companies
with a variety of features, such as call waiting, call
forwarding, and voice recognition. Transmission equipment is
necessary to carry highspeed transmission of data and voice over
optical fiber networks. In 1992 and 1993, Nortel was awarded
substantial contracts by a number of Canadian and United States
telephone companies to supply equipment for their networks.
In 1992, revenues from the United States accounted for $4.5
billion, or approximately 54% of Nortel's total revenues. Central
office switching revenues worldwide accounted for approximately
$4.24 billion, or 50%, of total revenues.
Nortel internally estimated its United States market share in
switching equipment, excluding AT & T's own internal equipment
purchases and including MCI and Sprint, at 51% in 1991 and 53% in
1992. At all relevant times, Nortel's principal competitors
included AT & T (now Lucent Technologies), Ericsson, Nokia, and
In 1991-93, the largest telephone companies spent billions of
dollars upgrading their networks through what Nortel terms
"megadeals." Nortel obtained a number of these contracts. In
1991, for example, Nortel won 75% of a $1 billion contract with
Ameritech to upgrade Ameritech's analog switching systems. By
1993, Nortel had captured 53% of BellSouth's switching market
share. In 1992, Pacific Bell chose Nortel switches in a
multi-million dollar contract to replace its remaining analog
switches. Also in 1992, MCI awarded Nortel a $225 million network
upgrade supply agreement. On January 25, 1993, the day before the
Class Period began, Pacific Bell awarded Nortel almost half of a
$1 billion contract to upgrade its analog switches.
In 1993, the only major switching deal was NYNEX's replacement
of millions of lines of analog switches. Nortel won over half of
Unlike AT & T, Nortel's closest competitor in the United States
digital switching market, Nortel did not compete with RBOCs for
Nortel solicited customer feedback from the RBOCs. Customers
were encouraged to evaluate Nortel through regular surveys and
Nortel crafted Customer Satisfaction Improvement Plans and
Strategic Plans for Customer Satisfaction and Quality to address
As phone companies spent billions of dollars on new digital
networks, Nortel switches became a substantial component of the
phone companies' "embedded base." RBOCs expected central office
switches to last from ten to twenty years. Nevertheless, central
office switches required constant additions and modifications
over that period.
Software was the greatest cause of dissatisfaction among
Nortel's customers in the years leading up to the Class Period.
The "BCS" software which operated Nortel's digital switches
contained over 20 million lines of code. Nortel's customers
demanded a high level of reliability in the switching software.
One set of performance benchmarks, called the Local Switching
Systems Generic Requirements ("LSSGR") standards, provided that
there should be no more than one incident per switch every three
years or three minutes of switch downtime per system per year. In
1992, Nortel's software releases had approximately one incident
per year and 6.54 minutes of downtime per year. Nortel planned
improvements to meet the LSSGR standards and exceed them by 1995.
Nortel does not publicly disclose its annual or quarterly
budgets. In 1992, when the 1993 budget was created, Nortel's
senior management developed a set of corporate objectives which
were distributed to the business units. Senior management
demanded greater budgetary objectives from the business units.
One reason the business units resisted committing to higher
targets was that incentive compensation depended on meeting
yearly budget forecasts. This was true for senior management as
well. Management "had a personal incentive to get the board to
accept the lowest possible earnings per share budget, because the
budget earnings per share became the center of their matrix for
their added compensation." (Butler Dep. at 245.) Yearly
performance, and not quarterly performance, was used to calculate
whether goals had been met. For the fifteen years spanning
1978-92, Nortel achieved its internal budget forecasts in all but
Once the 1993 budget was created by management, it was
presented to and approved by Nortel's Board of Directors in
December 1992, although it was amended in some respects in
January 1993. Management then broke the yearly numbers into
quarters. The practice of breaking down the budget by quarters
was employed because historically Nortel's revenues, as is common
in the telecommunications industry, exhibited a so-called "hockey
stick" effect such that revenues were heavily weighted toward the
final quarter, when the RBOCs spent the bulk of their capital
budgets as approved by public utility commissions.
The approved budget for 1993 forecast a record year for 1993 in
all respects: revenues of $9.4 billion, up 12%; orders of $9.7
billion, up 6%; and earnings per share of $2.35, up from $2.17 in
1992. In the U.S., a similar record was forecast in revenue,
On January 26, 1993, Nortel issued a seven-page news release
reporting results for 1992, including record orders, revenues,
and earnings. The first of the six challenged statements
("Statement One") is an excerpt from the first sentence of a
paragraph on page six which reads, "[o]ur product lines have
never been stronger. . . ." Following this release, Nortel's
share price rose $2.50 per share to $44.75. Neither the financial
press nor analysts' reports ever referred to Statement One.
Two days after the statement, Paul Stern announced that he
would step down as CEO effective March 1, and would become
non-executive chairman. Jean Monty, then President and COO,
became the new CEO.
On March 9, 1993, Nortel issued a four-page news release
announcing several internal management changes in marketing and
sales. The second challenged statement ("Statement Two") is an
excerpt from a quotation on page three from Dennis Matteucci,
NTI's new Vice President for sales, that "we will continue to
deliver the best of new technologies. . . ." Nortel's share price
declined after this news release was issued. Neither the
financial press nor analysts' reports ever referred to Statement
C. Statements Three and Four
On March 25, 1993, Nortel released its fifty-page annual report
for 1992. The third challenged statement ("Statement Three")
appears on page thirteen and reads, "Northern Telecom has been
cementing relationships with telephone companies through
long-term contracts for
network upgrades." The report goes on to describe agreements
reached in late 1991 and 1992 with Pacific Bell, Ameritech, U.S.
West, Southwestern Bell, and other telephone companies. The
fourth challenged statement ("Statement Four") appears on page
seven of the report. It paraphrases Desmond F. Hudson, president
of Northern Telecom Europe, who claims that "[t]he company's
first major European investment — the acquisition of STC PLC in
the United Kingdom — is already yielding significant benefits."
Hudson goes on to explain that "[l]ast year, we won a $370
million contract for the first undersea optical fiber cable
between Canada and Europe." Following the release of the annual
report, Nortel's share price declined. The financial press never
referred to Statement Three or Statement Four. Statement
Four appeared in some analysts' reports.
By February 1993, Nortel's internal flash reports showed that
there was a risk of variance from budgeted projections for the
first quarter. Nortel's management practice, referred to as
assigning "taskings," is to commit the executives in the field to
work harder to make up such a shortfall. In February and March,
taskings were assigned. However, notwithstanding the taskings,
before the quarter's end, it appeared likely that Nortel would
fall short of its internal forecasts.
Nortel's Board of Directors met on March 25, 1993. Management
made a presentation to the board explaining that performance for
the first quarter was likely to be disappointing. On that same
afternoon, Nortel issued a two-page news release warning in the
first sentence that "earnings for the first quarter of 1993 will
be below 1992's record performance and analysts' expectations."
The reasons cited for the cautious earnings estimate included
increased strategic R & D and international market development
expenditures, lower software revenues, and lower pricing in
central office switching in North America. The report quotes
Monty, then Nortel's president and CEO, on the outlook for 1993:
"Although we are not satisfied with expected first quarter