Source: s3://data.kl3m.ai/documents/govinfo/USCOURTS/USCOURTS-cand-4_05-cv-01027/USCOURTS-cand-4_05-cv-01027-5/pdf.json

Nature of Suit Code: 850
Nature of Suit: Securities, Commodities, Exchange
Cause of Action: 15:78m(a) Securities Exchange Act

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United States District Court

For the Northern District of California

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The Consolidated Amended Complaint is referred to herein as "CAC."

IN THE UNITED STATES DISTRICT COURT

FOR THE NORTHERN DISTRICT OF CALIFORNIA

In re APPLIED SIGNAL TECHNOLOGY, 

INC. SECURITIES LITIGATION

_____________________________________

This Document Relates To: All Actions.

_______________________________________

Master File No. C 05-1027 SBA

CLASS ACTION

ORDER

[Docket Nos. 25, 35, 36]

This matter comes before the Court on the Motion to Dismiss Plaintiff's Consolidated Amended

Class Action Complaint (the "Consolidated Amended Complaint") [Docket No. 35] filed by Defendants

Applied Signal Technology, Inc., Gary Yancey, and James Doyle (collectively "Defendants") and

Plaintiff's Motion for Class Certification [Docket No. 25]. Having read and considered the papers

presented by the parties, the Court finds this matter appropriate for disposition without a hearing. The

Court hereby GRANTS Defendants' Motion to Dismiss [Docket No. 35] and DISMISSES Plaintiff's

Consolidated Amended Class Action Complaint WITH PREJUDICE. Accordingly, the Court DENIES

Plaintiff's Motion for Class Certification [Docket No. 25] AS MOOT. 

BACKGROUND

A. Background Regarding the Parties

1. Applied Signal Technology, Inc.

Defendant Applied Signal Technology, Inc. ("Applied Signal" or the "Company") is a California

corporation and a publicly traded company with over 11 million shares of stock outstanding. CAC1

 at

¶ 15. The Company's financial year is not concurrent with the calendar year. Instead, it ends on the last

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For example, for fiscal year 2004, the first quarter consisted of the months of November 2003,

December 2003, and January 2004; the second quarter consisted of the months of February 2004, March

2004, and April 2004; the third quarter consisted of the months of May 2004, June 2004, and July 2004;

and the fourth quarter consisted of the months of August 2004, September 2004, and October 2004. 

2

day of October of each calendar year and commences on the first day of November for that calendar

year. See Harris-Sutton Decl. at Ex. H (FY04 Form 10-K).2

 

Applied Signal's corporate headquarters are located in Sunnyvale, California. CAC at ¶¶ 7, 23-

24; Harris-Sutton Decl. at Ex. H. The Company also maintains engineering offices in Annapolis

Junction, Maryland; Salt Lake City, Utah; Herndon, Virginia; and Hillsboro, Oregon. Harris-Sutton

Decl. at Ex. H. As of January 24, 2004, the Company had 425 employees. CAC at ¶¶ 27, 38(a). This

number increased to 450 in February 2004, and to 480 employees in May 2004. Id. As of December

17, 2004, the Company had a total of 498 employees. Harris-Sutton Decl. at Ex. H. Of these 498

employees, 290 employees worked within the Company's engineering organizations. Id.

Applied Signal is in the business of supplying various United States government agencies with

customized communications signal processing systems, which it designs, develops, and installs. CAC

at ¶ 27. Since 1984, the United States government and various governmental agencies have accounted

for almost all of the Company's revenues. Id. Although the government agencies are the Company's

primary customer, purchases occur in two ways: (1) contracts directly with the government, and (2)

subcontracts to prime contractors. See Harris-Sutton Decl. at Ex. H. Within the Company's primary

customer agencies, the Company has contracts with approximately twenty different offices, each with

separate budgets and contracting authority. Id. 

In the past two fiscal years, just under three quarters of the Company's contracts were "cost

reimbursement" contracts, including contracts for the design, installation, and/or servicing of customized

products. CAC at ¶ 25. Under these contracts, the Company is reimbursed for direct and indirect costs

and paid a negotiated profit. Id. However, the Company is not entitled to payment until after its

employees provide the services delineated in the contract. Id. Further, most of the Company's contracts

contain a provision that allows the Company's customers to force Applied Signal to stop work on all or

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Revisions to the regulations provide that the 90-day period may be reduced to less than 90 days.

See 48 C.F.R. 52.242-15. 

3

any part of a contract at any time through what is referred to as a "stop-work order" ("SWO"). Id. 

The federal regulations governing stop-work orders further describe the applicable process as

thus:

(a) The Contracting Officer may, at any time, by written order to the

Contractor, require the Contractor to stop all, or any part, of the work

called for by this contract for a period of [up to]3

 90 days after the order

is delivered to the Contractor, and for any further period to which the

parties may agree. The order shall be specifically identified as a

stop-work order issued under this clause. Upon receipt of the order, the

Contractor shall immediately comply with its terms and take all

reasonable steps to minimize the incurrence of costs allocable to the

work covered by the order during the period of work stoppage. Within

a period of 90 days after a stop-work order is delivered to the

Contractor, or within any extension of that period to which the parties

shall have agreed, the Contracting Officer shall either – 

(1) Cancel the stop-work order; or

(2) Terminate the work covered by the order as provided in

the Default, or the Termination for Convenience of the

Government, clause of this contract.

(b) If a stop-work order issued under this clause is canceled or the period

of the order or any extension thereof expires, the Contractor shall

resume work. The Contracting Officer shall make an equitable

adjustment in the delivery schedule or contract price, or both, and the

contract shall be modified, in writing, accordingly, if – 

(1) The stop-work order results in an increase in the time

required for, or in the Contractor's cost properly

allocable to, the performance of any part of this

contract; and

(2) The Contractor asserts its right to the adjustment within

30 days after the end of the period of work stoppage;

provided, that, if the Contracting Officer decides the

facts justify the action, the Contracting Officer may

receive and act upon a proposal submitted at any time

before final payment under this contract.

(c) If a stop-work order is not canceled and the work covered by the order

is terminated for the convenience of the Government, the Contracting

Officer shall allow reasonable costs resulting from the stop-work order

in arriving at the termination settlement.

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(d) If a stop-work order is not canceled and the work covered by the order

is terminated for default, the Contracting Officer shall allow, by

equitable adjustment or otherwise, reasonable costs resulting from the

stop-work order.

48 C.F.R. 52.242-15. Thus, when a SWO is issued, it is possible, but not necessarily definite, that future

revenues may be affected. Id.; CAC at ¶ 26. 

As such, the Company does not recognize revenue on its cost-reimbursement contracts until

costs – including labor, materials, and other direct costs and estimated direct costs – are incurred. CAC

at ¶ 26. The Company refers to future revenues relating to uncompleted portions of existing contracts

as its "backlog." Id. The Company's backlog is discussed in Company press releases, conference calls,

and formal Securities Exchange Commission ("SEC") filings. Id. However, in each of the Company's

public filings, with respect to future revenues, and other contingent events, the investing public is

expressly warned that any statements regarding future events are "not guarantees of future performance

and are subject to certain risks." See Harris-Sutton Decl. at Ex. A (FY03 Form 10-K). For example,

the Form 10-K for Fiscal Year 2003 states the following:

This Annual Report on Form 10-K contains forward-looking statements made

pursuant to the provisions of Section 21E of the Securities Exchange Act of

1934. These forward-looking statements are based on management’s current

expectations and beliefs, including estimates and projections about our

industry. Forward-looking statements may be identified by the use of terms

such as "anticipates," "expects," "intends," "plans," "seeks," "estimates,"

"believes," and similar expressions, although some forward-looking statements

are expressed differently. Statements concerning financial position, business

strategy and plans or objectives for future operations are forward-looking

statements. These statements are not guarantees of future performance and

are subject to certain risks, uncertainties, and assumptions that are

difficult to predict and may cause actual results to differ materially from

management’s current expectations. Such risks and uncertainties include

those set forth herein under "Summary of Business Considerations and Certain

Factors that May Affect Future Operating Results and/or Stock Price" and

"Management’s Discussion and Analysis of Financial Condition and Results

of Operations." The forward-looking statements in this report speak only as of

the time they are made and do not necessarily reflect management's outlook at

any other point in time. We undertake no obligation to update publicly any

forward-looking statements, whether as a result of new information, future

events, or for any other reason. However, readers should carefully review

the risk factors set forth in other reports or documents we file from time

to time with the Securities and Exchange Commission (SEC) after the date of

the Annual Report. These SEC filings, as well as our latest annual report, can

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be obtained through our website at www.appsig.com. In addition, hard copies

can be obtained free of charge through our investor relations department.

Id. (emphasis added). 

Further, the Company provides the following explanation regarding its backlog to the investing

public:

Our backlog . . . consists of anticipated revenues from the uncompleted

portions of existing contracts[.] . . . Anticipated revenues included in backlog

may be realized over a multi-year period. We include a contract in backlog

when the contract is signed by us and by our customer. We believe the backlog

figures are firm, subject only to the cancellation and modification provisions

contained in our contracts. (See Item 7: "Management’s Discussion and

Analysis of Financial Condition and Results of Operations–Backlog.") Because

of possible future changes in delivery schedules and cancellations of

orders, backlog at any particular date is not necessarily representative of

actual sales to be expected for any succeeding period, and actual sales for

the year may not meet or exceed the backlog represented. We may

experience significant contract cancellations that were previously booked

and included in backlog.

Id. (emphasis added). 

2. The Individual Defendants

At all times relevant to this action, defendant Gary Yancey ("Yancey") was the Chairman,

President, and Chief Executive Officer ("CEO") of Applied Signal. CAC at ¶ 8. As the CEO, Yancey

signed and certified all SEC quarterly and annual reports. Id. Additionally, he owned shares of the

Company's stock; although, during the period between January 3, 2005 and January 18, 2005, he sold

over forty percent of his holdings. Id. Also during this period of time, defendant James Doyle

("Doyle") was the Company's Chief Financial Officer ("CFO") and Vice President of Finance. Id. at

¶ 9. As the CFO, Doyle participated in quarterly earnings report conference calls for the quarters ending

in July and October 2004 and January and April 2005. Id. Doyle also signed and certified all SEC

quarterly and annual reports. Id. 

3. Plaintiffs

Lead Plaintiff Frank Whiting ("Plaintiff"), is a common stock purchaser who purchased shares

of Applied Signal during the relevant time period, August 24, 2004 and February 22, 2005 (the "Class

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Period"). CAC at ¶¶ 6, 14. The other members of the proposed class are persons or entities – other than

the Company, its officers, directors, employees, affiliates, legal representatives, heirs, predecessors,

successors and assigns, and any entity in which the Company has a controlling interest or of which the

Company is a parent or subsidiary – who purchased Applied Signal common stock during the Class

Period. Id. at ¶ 14.

B. Background Regarding the Confidential Witnesses

The allegations contained in the Consolidated Amended Complaint are based, in part, on certain

information obtained from the following Confidential Witnesses:

(a) Confidential Witness No. 1. Confidential Witness No. 1 ("CW1") was employed as a

software engineer during the beginning of the Class Period up until November, 2004.

Id. at ¶ 22(a). He worked in Applied Signal's Annapolis Junction, Maryland Office. Id.

His duties included system and process design, implementation, testing, life cycle

documentation, design and code review, team tasking, and scheduling. Id. 

(b) Confidential Witness No. 2. Confidential Witness No. 2 ("CW2") was employed as a

software engineer in Applied Signal's Maryland office until some months before the

beginning of the Class Period. Id. at ¶ 22(b). 

(c) Confidential Witness No. 3. Confidential Witness No. 3 ("CW3") was employed as a

software engineer at Applied Signal's Utah office from well before the Class Period until

January 2005. Id. at ¶ 22(c). CW3's duties included the design and implementation of

software. 

(d) Confidential Witness No. 4. Confidential Witness No. 4 ("CW4") was employed as a

technical editor at Applied Signal's Sunnyvale office from before the beginning of the

Class Period until November 2004. Id. at ¶ 22(d). He was responsible for editing and

proofreading technical manuals, proposals, presentations, brochures, newsletters, and

other technical and marketing material. Id. He was also responsible for creating

processes and flowcharts for the Finance Department in accordance with Sarbanes-Oxley

requirements. Id. 

C. The Factual Allegations

This action is premised on Plaintiff's theory that Applied Signal and two of its individual

officers, Yancey and Doyle, (collectively, "Defendants"), knowingly issued a series of false and

misleading statements regarding Applied Signal in order to artificially inflate Applied Signal's stock

price throughout the Class Period. In particular, the Consolidated Amended Complaint is premised on

certain representations Defendants made regarding the Company's "backlog" and certain SWOs that

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Specifically, the following four SWOs are relevant to the instant discussion: (1) a June 2004

SWO ("SWO1"), (2) a May or June 2004 SWO ("SWO2"), (3) an August or September 2004 SWO

("SWO3"), and (4) a December 2004 SWO ("SWO4"). CAC at ¶¶ 29, 30, 35. 

5

Defendants did not discuss SWO1 or SWO2 during the call. CAC at ¶ 29. 

7

were purportedly received by the Company during the relevant period.4 The Consolidated Amended

Complaint is also premised on certain statements made by the Company concerning the hiring of

personnel. The pertinent facts are set forth below. 

1. The Third Quarter of Fiscal Year 2004

Applied Signal's third quarter for fiscal year 2004 ("FY04") commenced on May 1, 2004.

During that quarter, at some point in June 2004, Applied Signal received a stop-work order ("SWO1"),

which instructed the Company to stop work on a portion of the Company's largest single contract. CAC

at ¶ 29(a). In accordance with the instructions provided by the customer, the Company prepared a

proposal that detailed the tasks that were stopped and estimated the reduction in contract costs. Id. 

Also in June 2004 or possibly in May 2004, according to CW1, the Wireless Communications

System Division of Applied Signal received another stop-work order ("SWO2") on a project for the

United States military that was referred to as "Cowbird." Id. at ¶ 30. CW1 knew about SWO2 because

it required employees at the Company's Maryland facility, where he worked, to stop performing services

for the government agency related to the contract. Id. at ¶¶ 22(a), 30(b). According to CW2, who

worked at Applied Signal up until a few months before August 2004, the contract implicated by SWO2

was worth about $8 million. Id. at ¶¶ 22(b), 30(b). 

On August 24, 2004, Applied Signal issued a press release and hosted a conference call ("August

Conference Call") to discuss financial results for the third quarter of FY04. CAC at ¶ 28. Yancey and

Doyle represented the Company during the August Conference Call. Id. In the course of that call,

Doyle reported that the Company's backlog was approximately $111 million.5 Id.

Additionally, in the August 24, 2004 press release ("August 2004 Press Release"), Yancey was

quoted as saying that he was "pleased" that Applied Signal had "met the challenge" of meeting

"aggressive hiring requirements." Id. at ¶ 39. During the August Conference Call, he also stated that

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The Third Quarter Form 10-Q did not mention SWO2. CAC at ¶ 30. In fact, to date, SWO2 has

not been mentioned in any Company public filings. Id. at ¶ 32.

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the Company had "been able to stay up with a fairly aggressive growth requirement, and in particular,

hiring of staff and staff that we can get cleared . . . ." Id. at ¶ 39. In response to an inquiry from an

analyst regarding the amount of engineers that had been added during the third quarter, Doyle stated that

they had hired about 100 people "year-to-date" and approximately 30 people during the third quarter.

Id. Yancey then stated that the number for the quarter might be lower – possibly as low as twenty – but

that analysts could "go ahead and use 30 . . . and kind of assume we've been close to linear in our

increase." Id. 

On September 9, 2004, Defendants filed a Form 10-Q ("Third QuarterForm 10-Q") with the

SEC, which reported the $111 million backlog amount that was disclosed during the August 2004

Conference Call. Id. at ¶ 29(a). The Third Quarter Form 10-Q also reported that the Company had

received SWO1 and that, pursuant to SWO1, the Company was instructed to stop work on a portion of

its largest single contract. Id. Additionally, the report stated that "new orders and backlog [were]

expected to be reduced by approximately $11 to $13 million" after the completion of negotiations

relating to SW01 and that the Company "anticipate[d] the completion of these negotiations during the

first or second quarter of fiscal 2005."6

 Id.

2. The Fourth Quarter of Fiscal Year 2004 and Disclosures Concerning the Third

Quarter of Fiscal Year 2004

According to CW3, who was employed as a software engineer at Applied Signal's Utah office

at the time, the Company also received another stop-work order ("SWO3") in August or September

2004. Id. at ¶¶ 22(c), 35(b). SWO3 was purportedly related to a contract with one of the Company's

largest customers that was worth more than $20 million. Id. at ¶¶ 35(b). CW3 was aware of SWO3

because he had been working on the project, which was known as "Excelsior." Id. at ¶ 35(b). SWO3

affected the Multichannel Systems Division ("MSD") at the Utah facility, as well as the MSD group in

the Company's Sunnyvale, California facility. Id. At the Sunnyvale facility, approximately 50 to 75

workers were involved in the project. Id. CW4, who was employed as a technical editor at Applied

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Signal's Sunnyvale office during August and September 2004, was aware of SWO3. Id. at ¶¶ 22(d),

35(b). According to CW3, after the Company received SWO3, work on "Excelsior" stopped for

approximately one week. Id. at ¶ 43. The MSD project then resumed working on the project for the

remainder of the calendar year. Id. The project was abandoned in January 2005, leaving the Sunnyvale

office a "ghost town." Id. 

On September 13, 2004, following the issuance of the Third Quarter Form 10-Q, a securities

analyst covering Applied Signal's stock informed investors that he was changing the rating of the

Company's stock from "buy" to "neutral." Id. at ¶ 31. The price of Applied Signal's stock dropped from

$37.64, when the market opened, to $31.78 at the close of market on September 15, 2004. Id.

3. The First Quarter of Fiscal Year 2005 and Disclosures Regarding Fiscal Year 2004

According to CW3, the software engineer who worked in the Company's Utah office during this

time, the Company also received a stop-work order in December 2004 ("SWO4"). Id. at ¶¶ 22(c), 35(c).

SWO4 involved a government agency that had cancelled other large contracts with Applied Signal in

the past. Id. at ¶ 35(c). 

On December 21, 2004, Applied Signal issued a press release (the December 2004 Press

Release") and hosted a conference call ("December 2004 Conference Call") to discuss financial results

for the fourth quarter of FY04. CAC at ¶ 33. Yancey and Doyle represented the Company during the

December Conference Call and reported that the backlog for the fourth quarter was $143 million. Id.

The December 2004 Press Release reported that the Company earned 21 cents per share during the

fourth quarter of FY04, which was below the analysts' consensus estimate of 29 cents per share. Id. at

¶ 42. Defendants did not mention SWO2, SWO3 or SWO4 during the call or in the press release. Id.

at ¶ 35(a)-(c). 

Additionally, Doyle reported, during the December 2004 Conference Call, that the Company had

added a "net" of 20 employees during the fourth quarter of FY04. Id. at ¶ 40(a). Doyle then stated that

the Company had "about" 500 employees. Id. at ¶ 40(a). According to the Form 10-K for FY04, the

exact number was 498 employees. Id. 

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The December 2004 Press Release also disclosed that revenue had only increased by 3% since

the previous quarter. Id. During the December Conference Call, an analyst, Jay Meier ("Meier"), asked

whether anything unusual had occurred during the fourth quarter since the Company had not

experienced its usual increase in revenues. Id. at ¶ 42. Doyle and Yancey responded that Meier was

reading too much into the numbers and that nothing unusual had occurred. Id. After the December

2004 Conference Call, the price of the Company's stock declined from $37.22 on December 21, 2004

to $35.74 at the market's close on December 22, 2004. Id. 

Beginning on January 3, 2005, and continuing through January 18, 2005, during an open trading

window, Yancey sold 141,400 shares of Company stock, which represented 43% of his total stock

holdings, at prices ranging from $31.40 to $34 per share. Id. at ¶ 48.

On January 14, 2005, Defendants filed a its Form 10-K for FY04. CAC at ¶ 34. The Form 10-K

indicated that the backlog at the end of FYO4 was $143 million but that the $143 million could be

reduced by $11 million to $13 million in future quarters once negotiations relating to SWO1 concluded.

See Harris-Sutton Decl. at Ex. H. 

On February 22, 2005, the Company issued a press release (the "February 2005 Press Release")

and hosted a conference call (the "February 2005 Conference Call") concerning the Company's financial

results for the first quarter of FY05, which ended on January 31, 2005. CAC at ¶ 44. During the

February 2005 Conference Call, the Company reported that revenue declined almost 25% from the

preceding quarter, with net income and earnings per share declining as well. Id. To explain these

financial results, Yancey stated:

[W]e are a bit behind on execution on our contracts. Part of this is for a bit of

healthy reason. We've seen higher-than-anticipated proposal activity in the first

quarter, which has diverted some of our labor resources to proposal activity.

The other phenomena that we're experiencing is, as we become more an

integrating contractor on some of our programs, as we've stated before we are

evolving to, we find that invoicing from our subcontractors can have some

impact on the revenue. And we saw that some of the invoicing was lagging

behind a bit compared to the work that they were putting in. So we feel that we

will be back on our track of our projected revenue as we build up our own staff

and as the invoicing comes about. 

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Although this SEC filing was not provided to the Court by the parties, since the Consolidated

Amended Complaint necessarily relies on it, the Court has taken judicial notice of it pursuant to Federal

Rule of Evidence 201. See Branch v. Tunnell, 14 F.3d 449, 454 (9th Cir. 1994); Steckman v. Hart

Brewing, Inc. 143 F.3d 1293, 1295 (9th Cir. 1998). 

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See Applied Signal Form 8-K, dated February 22, 2005 at Ex. 99.2.7 

The Company's stock price subsequently dropped from $27.52 per share on February 22, 2005

to $23.24 at the close of the market on February 23, 2005. Id. at ¶ 45. 

D. Procedural History

On March 11, 2005, plaintiff Brent Berson ("Berson") filed a complaint in this district on

behalf of himself and on behalf of all persons who purchased the securities of Applied Signal 

between May 25, 2004 and February 22, 2005 (the "Berson complaint"). In the Berson complaint,

Berson alleged, inter alia, that Applied Signal and certain of its officers and directors violated

Section 10(b) of the Securities Exchange Act of 1934 (the "Exchange Act") and Rule 10b-5

promulgated thereunder, and Section 20(a) of the Exchange Act, by issuing materially false and

misleading statements. 

The proposed class period for the Berson complaint was May 25, 2004 through February 22,

2005 and the complaint was premised on the following allegedly false and misleading statements: (1)

the Company's May 25, 2004 press release concerning the Company's operating results for the second

quarter of FY04; (2) the Company's second quarter FY04 Form 10-Q; (3) the Company's August 24,

2004 press release concerning the Company's operating results for the third quarter of FY04; (4) the

Company's third quarter FY04 Form 10-Q; (5) the Company's December 12, 2004 press release

concerning the Company's operating results for the fourth quarter of FY04 and year-end results for

FY04; and (6) the Company's FY04 Form 10-K. In the complaint, Berson alleged that the statements

were materially false and misleading because Defendants failed to disclose or indicate the following:

(1) that the Company lacked the staffing necessary to execute on current projects while bidding for new

business; and (2) that the Company "struggled to maintain adequate levels of backlog." The Berson

complaint further alleged that the aforementioned false and misleading statements were proven false

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when the Company announced its operating results for the first quarter of FY05 on February 22, 2005.

 On April 19, 2005, plaintiff Shalomah Sameyah ("Sameyah") filed a complaint in this district

on behalf of himself and on behalf of all persons who purchased the securities of Applied Signal

between May 25, 2004 and February 22, 2005 (the "Sameyah complaint"). With the exception of the

name of the plaintiff, the Sameyah complaint – which was drafted by the same counsel representing

Berson – was identical to the Berson complaint.

On May 10, 2005, this Court ordered that the Berson case and the Sameyah case be deemed

related. 

On May 10, 2005, plaintiff Frank Whiting filed a Motion for Appointment of Lead Plaintiff and

Approval of Lead Plaintiff's Selection of Counsel ("Motion for Appointment of Lead Plaintiff"). 

On July 1, 2005, Defendants submitted a Statement of Non-Opposition to the Motion for

Appointment of Lead Plaintiff. Defendants also requested that the Berson case and Sameyah case be

consolidated by order of this Court pursuant to Federal Rule of Civil Procedure 42(a). 

On July 13, 2005, the Court consolidated the Berson and Sameyah cases. Also on that date, the

Court granted the Motion for Appointment of Lead Plaintiff. Accordingly, Frank Whiting was

appointed to serve as Lead Plaintiff. Plaintiff's choice of counsel was also approved. 

On August 12, 2005, the instant Consolidated Amended Complaint was filed. In the

Consolidated Amended Complaint, Plaintiff asserts that defendants Applied Signal, Yancey, and Doyle

("Defendants") made untrue statements of material fact and/or omitted statements of material fact in

violation of Section 10(b) of the Exchange Act and Rule 10b-5. Plaintiff also contends that Yancey and

Doyle directly or indirectly influenced and controlled the alleged fraudulent conduct of Applied Signal,

and, therefore, are also liable under Section 20(a) of the Exchange Act. Unlike the prior Berson and

Sameyah complaints, the proposed class period for the Consolidated Amended Complaint is August 24,

2004 through February 22, 2005. The Consolidated Amended Complaint also differs from the prior

complaints in that it now alleges that Defendants' statements regarding the Company's backlog were

materially false and misleading because they failed to mention certain stop-work orders purportedly

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issued during May 2004 through December 2004. 

LEGAL STANDARD

A. Federal Rule of Civil Procedure 12(b)(6)

Under Federal Rule of Civil Procedure 12(b)(6), a motion to dismiss should be granted if it

appears beyond a doubt that the plaintiff "can prove no set of facts in support of his claim which would

entitle him to relief." Conley v. Gibson, 355 U.S. 41, 45-46 (1957). For purposes of such a motion, the

complaint is construed in a light most favorable to the plaintiff and all properly pleaded factual

allegations are taken as true. Jenkins v. McKeithen, 395 U.S. 411, 421 (1969); Everest and Jennings,

Inc. v. American Motorists Ins. Co., 23 F.3d 226, 228 (9th Cir. 1994). All reasonable inferences are to

be drawn in favor of the plaintiff. In re Silicon Graphics Inc. Sec. Litig., 183 F.3d 970, 983 (9th Cir.

1999). The court does not accept as true unreasonable inferences or conclusory legal allegations cast

in the form of factual allegations. Western Mining Council v. Watt, 643 F.2d 618, 624 (9th Cir. 1981);

see Miranda v. Clark County, Nev., 279 F.3d 1102, 1106 (9th Cir. 2002).

Although the court is generally confined to consideration of the allegations in the pleadings,

when the complaint incorporates documents or alleges the contents of documents, and no party

questions the authenticity of such documents, a court may also consider such documents when

evaluating the merits of a Rule 12(b)(6) motion. See In re Stac Electronics Sec. Lit., 89 F.3d 1399, 1405

(9th Cir. 1996).

When the complaint is dismissed for failure to state a claim, "leave to amend should be granted

unless the court determines that the allegation of other facts consistent with the challenged pleading

could not possibly cure the deficiency." Schreiber Distrib. Co. v. Serv-Well Furniture Co., 806 F.2d

1393, 1401 (9th Cir. 1986). The Court should consider factors such as "the presence or absence of undue

delay, bad faith, dilatory motive, repeated failure to cure deficiencies by previous amendments, undue

prejudice to the opposing party and futility of the proposed amendment." Moore v. Kayport Package

Express, 885 F.2d 531, 538 (9th Cir. 1989). Of these factors, prejudice to the opposing party is the most

important. See Jackson v. Bank of Hawaii, 902 F.2d 1385, 1387 (9th Cir. 1990) (citing Zenith Radio

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Corp. v. Hazeltine Research, Inc., 401 U.S. 321, 330-31 (1971)). Leave to amend is properly denied

"where the amendment would be futile." DeSoto v. Yellow Freight Sys., 957 F.2d 655, 685 (9th Cir.

1992). 

B. Federal Rule of Civil Procedure 9(b)

Federal Rule of Civil Procedure 9(b) provides as follows:

In all averments of fraud or mistake, the circumstances constituting 

fraud or mistake shall be stated with particularity. Malice, intent,

knowledge, and other condition of mind of a person may be averred 

generally.

Fed. R. Civ. P. 9(b).

"[The Ninth Circuit] has interpreted Rule 9(b) to require that 'allegations of fraud are specific

enough to give defendants notice of the particular misconduct which is alleged to constitute the fraud

charged so that they can defend against the charge and not just deny that they have done anything

wrong.'" Neubronner v. Milken, 6 F.3d 666, 671 (9th Cir. 1993) (quoting Semegen v. Weidner, 780 F.2d

727, 731 (9th Cir. 1985)). "The pleader must state the time, place, and specific content of the false

representations as well as the identities of the parties to the misrepresentation." Schreiber Distributing

Co. v. Serv-Well Furniture Co., 806 F.2d 1393, 1401 (9th Cir. 1986) (citing Semegen, 780 F.2d at 731).

C. Pleading Requirements in Securities Fraud Actions

Section 10(b) of the Exchange Act makes it unlawful "for any person . . . to use or employ, in

connection with the purchase or sale of any security . . . any manipulative or deceptive device or

contrivance in contravention of such rules and regulations as the Commission may prescribe[.]" 15

U.S.C. § 78j(b). 

Rule 10b-5, promulgated under the authority of Section 10(b), in turn, provides that "[i]t shall

be unlawful for any person . . . (a) To employ any device, scheme, or artifice to defraud, (b) To make

any untrue statement of a material fact or to omit to state a material fact necessary in order to make the

statements made, in light of the circumstances under which they were made, not misleading, or (c) To

engage in any act, practice, or course of business which operates or would operate as a fraud or deceit

upon any person, in connection with the purchase or sale of any security." 17 C.F.R. § 240.10b-5. Thus,

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the basic elements of a Rule 10b-5 claim are: (1) a material misrepresentation or omission of fact, (2)

scienter, (3) a connection with the purchase or sale of a security, (4) transaction and loss causation, and

(5) economic loss. In re Daou Systems, Inc. 411 F.3d 1006, 1014 (9th Cir. 2005).

In order to survive a motion to dismiss, a Section 10(b) claim must satisfy three pleading

standards. First, it must meet the general requirements established by Federal Rule of Civil Procedure

8(a) that complaints give a short and plain statement of the claim. Second, it must conform with the

particularity requirements of Rule 9(b). Neubronner v. Milken, 6 F.3d 666, 671 (9th Cir. 1993) (quoting

Semegen, 780 F.2d at 731). Third, it must satisfy the requirements of the Private Securities Litigation

Reform Act ("PSLRA"). 

The PSLRA employs heightened pleading standards for claims brought under Section 10(b) and,

similar to Rule 9(b), requires pleading with particularity for two elements in a Section 10(b) claim: (1)

falsity and (2) scienter. See Gompper v. VISX, Inc., 298 F.3d 893, 895 (9th Cir. 2002) (citing Ronconi

v. Larkin, 253 F.3d 423, 429 (9th Cir. 2001)). "If a plaintiff fails to plead either the alleged misleading

statements or scienter with particularity, the court must dismiss the complaint." Carol Gamble Trust 86

v. E-Rex, Inc., 84 Fed.Appx. 975, 977 (9th Cir. 2004).

Thus, under both the PSLRA and Rule 9(b), a plaintiff must specify each statement alleged to

have been misleading and the specific reason or reasons why such statement is misleading. See 15

U.S.C. § 78u-4(b)(1); Fed. R. Civ. P. 9(b). This is accomplished by identifying either (1) inconsistent

contemporaneous statements; or (2) inconsistent contemporaneous information (such as an internal

document) that was made by or available to the defendants. In re Splash Technology Holdings, Inc. Sec.

Litig., 2000 WL 1727377, *13 (N.D. Cal. 1997); see also Nursing Home Pension Fund, Local 144 v.

Oracle Corp., 380 F.3d 1226, 1230 (9th Cir. 2004). "A plaintiff may satisfy [Rule 9(b)] through reliance

upon a presumption that the allegedly false and misleading 'group published information' complained

of is the collective action of officers and directors." In re GlenFed, Inc. Sec. Litig., 60 F.3d 591, 593 (9th

Cir. 1995). In cases where the falsities are conveyed in "group-published information," for example,

in press releases and annual reports, "it is reasonable to presume that these are the collective actions of

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the officers." Id. In such a case, a plaintiff satisfies Rule 9(b) "by pleading the misrepresentations with

particularity and where possible the roles of the individual defendants in the misrepresentations." Id.;

see also In re Cornerstone Propane Partners, L.P. Sec. Litig., 2005 U.S. Dist. LEXIS 21469 (N.D. Cal.

2005).

The "recent trend among the Ninth Circuit district courts is that plaintiffs must state with

particularity facts indicating that an individual defendant was directly involved in the preparation of

allegedly misleading statements published by an organization." Cornerstone, 2005 U.S. Dist. LEXIS

at *21; see also In re ESS Tech., Inc. Sec. Litig., 2004 U.S. Dist. LEXIS 27203 (N.D. Cal. 2004).

However, "where the pleading gives some basis for ascribing knowledge, participation or authorship,

and/or control of the published information to an individual defendant" the doctrine may be applied.

Cornerstone, 2005 U.S.Dist. LEXIS at *22.

When dealing with allegations based on information and belief, and not plaintiff's personal

knowledge, the PSLRA imposes further pleading requirements. "Allegations are deemed to be held on

information and belief, and thus subject to the particularity requirements, unless plaintiffs have personal

knowledge of the facts." Cornerstone, 2005 U.S.Dist. LEXIS at *8 (citing In re Vantive Corp. Sec.

Litig., 283 F.3d 1079, 1085 n.3 (9th Cir. 2002)). Any allegation that is made on information and belief,

must "state with particularity all facts on which that belief is formed." 15 U.S.C. § 78u-4(b)(1). "Naming

sources is unnecessary so long as the sources are described with sufficient particularity to support the

probability that a person in the position occupied by the source would possess the information alleged

and the complaint contains adequate corroborating details." Daou, 411 F.3d at 1015 (citing Nursing

Home, 380 F.3d at 1233). Therefore, to sufficiently plead falsity, a plaintiff must: (1) identify each

alleged misstatement, and in the case of group published information, ascribe some authorship or control

over the documents to the individual defendants; (2) state the reasons why the statement is misleading;

and (3) in the case of confidential source information, supply an adequate factual basis to support the

source's basis of knowledge with regard to the information provided. See 15 U.S.C. § 78u-4(b)(1).

With respect to scienter, the PSLRA also requires that the plaintiff "state with particularity facts

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giving rise to a strong inference that the defendant[s] acted with the required state of mind" for each

alleged act or omission. 15 U.S.C. § 78u-4(b)(2). "Deliberate recklessness" is the required state of mind

and will satisfy scienter if it "reflects some degree of intentional or conscious misconduct." Nursing

Home, 380 F.3d at 1230 (citing Silicon Graphics, 183 F.3d at 977). A complaint will not survive if it

just relies on generic allegations. See Silicon Graphics, 183 F.3d at 974, 985. To assess whether a

plaintiff has sufficiently pled scienter, a court must consider "whether the total of plaintiff's allegations,

even though individually lacking, are sufficient to create a strong inference that defendants acted with

deliberate or conscious recklessness." Nursing Home, 380 F.3d at 1230. Additionally, a court must

consider "all reasonable inferences, whether or not favorable to the plaintiff." Id. (citing Gompper, 298

F.3d at 897).

ANALYSIS

I. Defendants' Request for Judicial Notice

As a preliminary matter, the Court notes that Defendants have requested that the Court take

judicial notice of the following documents, each of which is attached to the accompanying Declaration

of Tiffany Harris-Sutton ("Harris-Sutton Declaration"):

(1) Applied Signal's Form 10-K for FY03, filed on January 27, 2004;

(2) Applied Signal's Form 10-Q for the second quarter of FY04, filed June 9, 2004;

(3) Applied Signal's Form 10-Q for the third quarter of FY04, filed on September 9, 2004;

(4) Applied Signal's Form 10-K for FY04, filed on January 14, 2005;

(5) Applied Signal's Form 8-K, filed on August 26, 2004;

(6) Applied Signal's Form 8-K, filed on December 23, 2004; 

(7) A chart listing the closing stock prices of Applied Signal during the Class Period;

(10) A copy of 48 C.F.R. 52.242-15. 

Pursuant to Federal Rule of Evidence Rule 201, documents that are alleged in a complaint and

are essential to plaintiff's allegations may be judicially noticed. See Branch v. Tunnell, 14 F.3d 449, 454

(9th Cir. 1994); Steckman v. Hart Brewing, Inc. 143 F.3d 1293, 1295 (9th Cir. 1998). A court may also

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take judicial notice of "well-publicized stock prices" on a motion to dismiss. Ganino v. Citizens Utilities

Co., 228 F.3d 154, 167 n.8 (2nd Cir. 2000). Additionally, a court may take judicial notice of regulations

issued by federal agencies. Citizens for a Better Env't-Cal. v. Union Oil Co., 861 F. Supp. 889, 897

(N.D. Cal. 1994) (citing Mark v. South Bay Beer Distributors, Inc., 798 F.2d 1279, 1282 (9th Cir.

1986)). 

Since Plaintiff does not oppose the taking of judicial notice of any of these documents, and since

judicial notice is proper, the Court hereby GRANTS Defendants' Request for Judicial Notice [Docket

No. 36]. 

II. Defendants' Motion to Dismiss 

In Defendants' Motion to Dismiss, Defendants argue that Plaintiff's Consolidated Amended

Complaint must be dismissed because: (1) the PSLRA's safe harbor provision precludes liability for any

of the purportedly false or misleading statements related to the Company's backlog; and (2) Plaintiff has

not stated, and cannot state, a cause of action under Section 10(b) of the Exchange Act or Rule 10b-5

for any of the allegedly false or misleading statements because the elements of falsity, scienter, and loss

causation are not supported by Plaintiff's allegations. Since Defendants assert that no liability can be

established under Section 10(b) and Rule 10b-5, Defendants also argue that the Section 20(a) claim

against Yancey and Doyle must be dismissed. 

A. The Safe Harbor Provision

The first issue that must be addressed is whether the allegedly false and misleading statements

concerning the Company's backlog are rendered non-actionable because they are forward-looking

statements falling within the PSLRA's safe harbor provision. The PSLRA carves out a safe harbor from

liability for forward-looking statements that prove false if the statement "is identified as a

forward-looking statement and is accompanied by meaningful cautionary statements identifying

important factors that could cause actual results to differ materially from those in the forward-looking

statement." 15 U.S.C. § 78u-5(c)(1)(A)(i); Harris v. Ivax Corp., 182 F.3d 799, 803 (11th Cir.1999). The

purpose behind this safe harbor is to encourage the disclosure of forward-looking information. See H.R.

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Conf. Rep. No. 104-369, 104th Cong. 1st Sess., at 53 (1995). Whether a statement qualifies for the safe

harbor is an appropriate inquiry on a motion to dismiss. So long as the safe harbor requirements are

met, liability cannot exist as a matter of law, regardless of the mind of the person making the statement.

Employers Teamsters Local Nos. 175 and 505 Pension Trust Fund v. Clorox, 353 F.3d 1125, 1133 (9th

Cir. 2004). 

Forward-looking statements include statements containing a projection of revenues, income, or

earnings per share, management's plans or objectives for future operations, or a prediction of future

economic performance. 15 U.S.C. § 78u-5(i)(1)(A)-(C). In addition, any statement of "the assumptions

underlying or relating to" these sorts of statements fall within the meaning of a forward-looking

statement. 15 U.S.C. § 78u-5(i)(1)(D). A present-tense statement can qualify as a forward-looking

statement as long as the truth or falsity of the statement cannot be discerned until some point in time

after the statement is made. See Harris, 182 F.3d at 805. Statements concerning historical or current

facts are not forward-looking. See Gross v. Medaphis Corp., 977 F. Supp. 1463, 1473 (N.D. Ga.1997);

In re Valujet, Inc. Sec. Litig., 984 F.Supp. 1472, 1479 (N.D. Ga. 1997). 

With respect to statements regarding backlog, only four purportedly false and misleading

statements are identified: (1) that the backlog as of the third quarter of FY04 was "[a]pproximately 11

million," made during the August 2004 Conference Call; (2) that the backlog at the end of the fourth

quarter was about $143 million, made during the December 2004 Conference Call; (3) that the backlog

at the end of the fourth quarter was $143 million, set forth in the December 2004 Press Release; and (4)

that the backlog at fiscal year-end was $143 million, set forth in the FY04 Form 10-K. 

The Court finds that each of these statements is a forward-looking statement that was

accompanied by the appropriate cautionary language. Specifically, for both the August 2004

Conference Call and the December 2004 Conference Call, Doyle stated the following:

I'll review our financial performance, but let me begin with the obligatory safe

harbor statement. Our presentation today may contain forward-looking

statements which reflect the Company's current judgment on future events.

Because these statements deal with future events, they are subject to risks and

uncertainties that could cause the actual results to differ materially. In addition

to the factors that may be discussed in this call, important factors which could

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8

This same language was set forth in the FY04 Form 10-K. See id. at Ex. H. 

20

cause actual results to differ materially are contained in the Company's recent

10-Qs and 10-K. 

See Harris-Sutton Decl. at Ex. C (August 24, 2004 Form 8-K); see also id. at Ex. F (December 21, 2004

Form 8-K) (stating same). 

The Company's Form 10-Q filing, issued with respect to the previous quarter, provided the

following additional cautionary language:

Forward-looking statements may be identified by the use of terms such as

"anticipates," "expects," "intends," "plans," "seeks," "estimates," "believes,"

and similar expressions, although some forward-looking statements are

expressed differently. Statements concerning financial position, business

strategy, and plans or objectives for future operations are forward-looking

statements. These statements are not guarantees of future performance and are

subject to certain risks, uncertainties, and assumptions that are difficult to

predict and may cause actual results to differ materially from management's

current expectations. Such risks and uncertainties include those set forth in this

document under "Summary of Business Considerations and Certain Factors that

May Affect Future Operating Results and/or Stock Price." The forward-looking

statements in this report speak only as of the time they are made and do not

necessarily reflect management’s outlook at any other point in time. We

undertake no obligation to update publicly any forward-looking statements,

whether as a result of new information, future events, or for any other reason.

However, readers should carefully review the risk factors set forth in other

reports or documents we file from time to time with the Securities and

Exchange Commission (SEC). 

See Harris-Sutton Decl. at Ex. B.8

In the section entitled "Summary of Business Considerations and Certain Factors that May

Affect Future Operating Results and/or Stock Price," the Company also noted that Applied Signal

"depend[s] on revenues from a few significant contracts, and any loss, cancellation, reduction, or delay

in these contracts could harm our business." Id.

Additionally, the Form 10-Q for the third quarter of FY04, which was filed on September 9,

2004, specifically stated:

Stop-work orders could negatively impact our operating results and financial

condition. Almost all of our contracts contain stop-work clauses that permit

the other contracting party, at any time, by written order, to stop work on all or

any part of the work called for by the contract for a period of ninety days.

Within the ninety-day period, the other contracting party may cancel the

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stop-work order and resume work or terminate all or part of the work covered

by the stop-work order. During June 2004, we received a stop-work order

instructing us to stop work on a portion of our largest single contract. In

accordance with the instructions received from the other contracting party, we

prepared a proposal that detailed the tasks that were stopped and estimated the

reduction in contract costs. If all the stopped tasks are terminated, the result

could be a significant reduction in orders and backlog in the period in which it

occurs. There can be no assurance that stop-work orders will not be received

in future periods.

See Harris-Sutton Decl. at Ex. E (emphasis in original).

Further, the December 2004 Press Release included the following language:

Except for historical information contained herein, matters discussed in this

news release may contain forward-looking statements that involve risks and

uncertainties that could cause actual results to differ materially.

Forward-looking statements discussed in this release include statements as to

the Company's continued growth throughout the year and into the foreseeable

future; the future spending by the U.S. Government on intelligence gathering;

the Company's ability to hire qualified personnel and such personnel's ability

to obtain security clearances; the Company's plans for the future, including the

steps it may take and the programs it will emphasize; the Company's beliefs

concerning marketplace opportunities for its products and services; and beliefs

concerning contractual opportunities for orders. The risks and uncertainties

associated with these statements include whether orders will be issued by

procurers, including the U. S. Government; the timing of any orders placed by

procurers; whether the Company will be successful in obtaining contracts for

these orders if they are forthcoming; whether any contracts obtained by the

Company will be profitable and whether any such contracts might be

terminated prior to completion; whether the Company will be able to hire

additional qualified staff as needed; the ability to successfully enter new

marketplaces; the Company's ability to maintain profitability; and other risks

detailed from time to time in the Company's SEC reports including its latest

Form 10-K filed for the fiscal year ended October 31, 2003. The Company

assumes no obligation to update the information provided in this news release.

See id. at Ex. F (December 21, 2004 Form 8-K). 

Plaintiff does not dispute that these cautionary statements were made, but attempts to dismiss

the language as mere "boilerplate" language, devoid of any meaning. In the context of this litigation,

however, Plaintiff's argument is unavailing. Indeed, in addition to all of the disclosures set forth above,

the Company consistently described the contingent nature of the Company's backlog figures in all of

its public filings. For example, the following statement was set forth in the FY03 Form 10-K and thus

preceded all of the aforementioned cautionary language:

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Our backlog . . . consists of anticipated revenues from the uncompleted

portions of existing contracts[.] . . . Anticipated revenues included in backlog

may be realized over a multi-year period. We include a contract in backlog

when the contract is signed by us and by our customer. We believe the backlog

figures are firm, subject only to the cancellation and modification provisions

contained in our contracts. (See Item 7: "Management’s Discussion and

Analysis of Financial Condition and Results of Operations–Backlog.") Because

of possible future changes in delivery schedules and cancellations of

orders, backlog at any particular date is not necessarily representative of

actual sales to be expected for any succeeding period, and actual sales for

the year may not meet or exceed the backlog represented. We may

experience significant contract cancellations that were previously booked

and included in backlog.

See Harris-Sutton Decl. at Ex. A (FY03 Form 10-K) (emphasis added). Given the complete and

thorough nature of the Company's disclosures regarding the unique structure of its business model, and

the attendant risks, Plaintiff's bare and unsupported conclusion that the Company's cautionary statements

"lacked meaning" is completely disingenuous. 

Plaintiff's alternative argument that the allegedly false and misleading statements do not qualify

for safe harbor protection because the statements were not, in fact, forward-looking is equally without

merit. Indeed, for the Court to accept Plaintiff's argument, it would have to completely ignore the fact

that Plaintiff's Consolidated Amended Complaint expressly identifies the allegedly false and misleading

statements as statements concerning the Company's backlog. See, e.g., CAC at ¶ 29 ("The amounts

reported as 'backlog' by the Defendants on August 24, 2004 . . . were materially false and misleading

because the Defendants failed to disclose that the Company had received a 'stop-work order' in June

2004") and ¶ 35 ("The amounts reported as 'backlog' by the Defendants on December 21, 2004, and

January 14, 2005, . . . were materially false and misleading"). The Court would also have to ignore the

fact that Plaintiff admits, in the Consolidated Amended Complaint, that it was widely understood that

the term "backlog" relates to future revenues. See, e.g., CAC at ¶ 26. Thus, according to Plaintiff's own

allegations, which are based on Plaintiff's own information and belief, the Company's backlog is, by

definition, merely a "projection of revenue" or a "prediction of future economic performance," thus

falling squarely within the safe harbor. See 15 U.S.C. § 78u-5(i)(1)(A)-(C). Id. at ¶ 26. 

Further, contrary to Plaintiff's current assertion, the fact that the Company used the word "firm"

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This is a distinction with a significant difference in the context of a publicly traded company.

See, e.g., Release No. SAB - 101, 1999 WL 1100908 (SEC bulletin providing guidance with respect to

revenue recognition). Ironically, had the Company actually characterized its potential revenue as "real"

revenue in the manner that Plaintiff suggests is appropriate, the ramifications under the applicable SEC

rules and regulations would have likely been catastrophic. 

23

to describe its backlog figures in the FY03 Form 10-K is not sufficient to equate the Company's

"backlog" with "historical data," such as the Company's actual, recognized quarterly revenue.9

 Indeed,

even the passage in the FY03 Form 10-K that Plaintiff relies on makes clear that "backlog at any

particular date is not necessarily representative of actual sales to be expected for any succeeding period,

and actual sales for the year may not meet or exceed the backlog represented." See Harris-Sutton Decl.

at Ex. A. Additionally, the Company's quarterly filings continuously reiterated the fact that the

"backlog" consisted of the uncompleted portions of existing contracts. 

Finally, Plaintiff's argument that the safe harbor is inapplicable because the Company did not

adequately inform investors with regard to certain events in the "past" – i.e. "that the government had

already issued 'stop-work orders,'" – is unpersuasive because it is premised on Plaintiff's own failure to

understand the inherently contingent nature of a stop-work order. Indeed, Plaintiff's entire securities

fraud theory relating to backlog is based on Plaintiff's belief that "the receipt of a 'stop-work order'

means that any previously reported 'backlog' amounts attributable to revenue within the scope of the

'stop-work' order are no longer valid." See CAC at ¶ 26. However, this statement is not supported by

the applicable regulations or the Company's actual manner of accounting for its backlog. See 48 C.F.R.

52.242-15 (describing how the receipt of a stop-work begins the negotiation process and how a stopwork order is subject to cancellation at any time during this negotiation period); see also Harris-Sutton

Decl. at Ex. E (Third Quarter FY04 Form 10-Q) (stating that the Company's backlog would not be

reduced until the negotiations relating to SW01 were completed and the Company was able to ascertain

whether parts of the applicable contract would actually be terminated). Even under the lenient pleading

standard afforded to a plaintiff on a 12(b)(6) motion, this Court "need not accept as true allegations that

contradict facts which may be judicially noticed." Mullis v. United States Bankruptcy Ct., 828 F.2d

1385, 1388 (9th Cir.1987), cert. denied, 486 U.S. 1040 (1988). Accordingly, Defendants have

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persuasively shown that the safe harbor precludes liability for all of the allegedly false and misleading

statements relating to the Company's backlog. Therefore, Plaintiff's claims pertaining to the backlog

are hereby DISMISSED WITH PREJUDICE. 

B. Plaintiff's Failure to State a Claim under Section 10(b) of the Exchange Act or Rule

10b-5

Additionally, Defendants have also shown that Plaintiff has not stated a claim under Section

10(b) the Exchange Act or Rule 10b-5 with respect to both: (1) the allegedly false and misleading

statements pertaining to the Company's backlog; and (2) the allegedly false and misleading statements

pertaining to the Company's hiring of personnel. The sufficiency of Plaintiff's claims regarding the

Company's backlog will be discussed first. 

1. Statements Regarding the Company's Backlog

a. The False and/or Misleading Element

As noted in the previous discussion of the safe harbor provision, supra, Plaintiff's Consolidated

Amended Complaint is premised on the following four allegedly false and/or misleading statements

concerning the Company's backlog: (1) the August 2004 Conference Call; (2) the December 2004

Conference Call; (3) the December 2004 Press Release; and (4) the FY04 Form 10-K. Plaintiff alleges

that the statement concerning the Company's backlog made during the August 2004 Conference Call

was materially false and/or misleading because Defendants failed to disclose that, prior to the time the

call took place, the Company had received two stop-work orders, SWO1 and SWO2. Plaintiff alleges

that statements concerning the Company's backlog made during the December 2004 Conference Call,

the December 2004 Press Release, and the FY04 Form 10-K were materially false and/or misleading

because Defendants failed to disclose that, at the time the statements were made, the Company had

received SWO2, SWO3, and SWO4. 

As an initial matter, the Court notes that Plaintiff has not alleged any facts sufficient to show that

any of the statements concerning the Company's backlog were actually false when made. Indeed, the

theory set forth in Plaintiff's Consolidated Amended Complaint is that: (1) the statement made in August

2004 regarding the $111 million backlog was false because the $111 million backlog figure did not

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account for SWO1 and SWO2; (2) the statements made in December 2004 and January 2005 regarding

the $143 million backlog was false because the $143 million backlog figure did not account for SWO2,

SWO3, or SWO4. However, the Company's public statements make clear that anticipated revenues are

not "debooked" from the total backlog figure until the contract affected by the stop-work order is

actually terminated. See Harris-Sutton Decl. at Ex. E (Third Quarter FY04 Form 10-Q) (confirming that

the backlog for the third quarter of FY04 was $111 million, but indicating that it might be reduced in

FY05 if the "stopped tasks are [actually] terminated."). 

For example, during the December 2004 Conference Call, an analyst specifically asked whether

the $143 million included any potential "debookings," and Yancey replied as follows:

Q: And does the – one more question for you, or two more questions, please. Does the $143

million include – is that net of any potential debooking? 

A: That includes the $12 million that has not been debooked.

Q: So it's not net of any potential debooking? Includes?

A: That's right.

See Harris-Sutton Decl. at Ex. F (December 2004 Form 8-K) (emphasis added). 

Again, on February 22, 2005, Yancey responded to the following questions regarding backlog:

Q: Okay. During the last quarter, you had a nice — Q4 of 2004 was a big bookings quarter

and also backlog came in pretty robust. Can you give us an idea of where your backlog

is right now?

A: Sure, at the end of the first quarter, Jay, it's a little over $124 million.

Q: And that is not net of any potential debooking, correct?

A: Well, that's correct.

A: Yes. We had to — we had to figure out how many negatives was in there, but you’re

correct. You’re correct.

A: So it still includes the $12 million — the 11 to 13 million in that range — $12 million

of anticipated debooking.

See SEC Form 8-K, filed on February 22, 2005, at Ex. 99.2 (transcript of February 22, 2005 Conference

Call).

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10Plaintiff's argument that the August 2004 Conference Call statement was false is foreclosed

by the fact that Plaintiff admits that the statement that backlog was "approximately $111 million" was,

in fact, correct. See CAC at ¶ 29(a) ("The Third Quarter Form 10-Q reported the same 'backlog' number

that the Defendants had announced in the August Conference Call."). 

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Thus, with respect to SWO2, SWO3, and SWO4,10 Plaintiff would have to prove both: (1) that

the stop-work orders actually resulted in a termination of all or a portion of the relevant contracts; and

(2) that the effect of the termination was immediately calculable in the third or fourth quarters of FY04

or the first quarter of FY05. Even construed in the light most favorable to Plaintiff, Plaintiff's

Consolidated Amended Complaint does not contain any allegations sufficient to meet these

requirements. 

Additionally, in order for Plaintiff to prove that Defendants' statements were misleading, Plaintiff

would have to show that the Company had a duty to disclose SWO1 prior to September 9, 2004; that

the Company had a duty to disclose SWO2 during the August 2004 Conference Call or thereafter; and

that the Company had a duty to disclose SWO3 and SWO4 as of the time of the December 2004

Conference Call or thereafter. See Gallagher v. Abbott Labs., Inc., 269 F.3d 806, 809 (7th Cir. 2001)

("Much of plaintiffs' argument reads as if firms have an absolute duty to disclose all information

material to stock prices as soon as news comes into their possession. Yet that is not the way the

securities laws work. We do not have a system of continuous disclosure. Instead firms are entitled to

keep silent (about good news as well as bad news) unless positive law creates a duty to disclose."). As

Defendants point out, however, Plaintiff has not affirmatively alleged such duty, and it clear to the

Court, based on the applicable facts and the law that has been presented, that no such duty existed. For

example, as to the pertinent facts, the allegations in the Consolidated Amended Complaint are

ambiguous, at best, as to the: (1) dates the stop-work orders were issued; (2) the dates the stop-work

orders were to expire; (3) whether the stop-work orders affected all or part of the relevant contracts; (4)

whether the stop-work orders were subject to any extensions; (5) whether the stop-work orders actually

resulted in any contract terminations; and (6) the amount of future revenues affected by the contract

terminations, if such terminations occurred. 

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Further, in his opposition, Plaintiff does not identify a single statute or regulation that requires

a company to disclose either the possibility that contracts with customers may be terminated or the

actual termination of the customer contract. Indeed, as Defendants aptly note, although the SEC

considered proposing such a regulation, it ultimately decided against it. See SEC, Final Rule:

Additional Form 8-K Disclosure Requirements and Acceleration of Filing Date, Release Nos. 33-8400,

34-49424 (Mar. 16, 2004) (declining to adopt Proposed Item 1.03, "Termination or Reduction of a

Business Relationship with a Customer."). Where, as here, a plaintiff's complaint is devoid of the

pertinent details and fails to otherwise affirmatively plead the basis for the duty of disclosure, the Court

must dismiss the claim. See, e.g., In re Digital Island Sec. Litig., 357 F.3d 322, 329 n. 10 (3rd Cir.

2004). 

b. Scienter

Plaintiff's Consolidated Amended Complaint also fails to sufficiently establish scienter. Under

the PSLRA, Plaintiff must allege particular facts giving rise to a strong inference of scienter. 15 U.S.C.

sec 78u-4(b)(2). With respect to SWO1, the Consolidated Amended Complaint does not plead any facts

showing that the decision to disclose the stop-work order on September 9th, rather than August 24th,

was the product of fraud or even the product of recklessness. In fact, the Consolidated Amended

Complaint does not say anything at all with regard to Doyle or Yancey's state of mind as of August 24,

2004, other than the conclusory assertion that Doyle and Yancey "did not deny" in the Form 10-Q that

they "knew about [SWO1] at the time that it was first issued by the government contractor." See CAC

at ¶ 29(b). Not only is this insufficient, but the fact that Defendants disclosed the SWO1 in the

Company's Form 10-Q only two weeks later cuts heavily against an inference of scienter. See, e.g., In

re Segue Software, Inc. Sec. Litig., 106 F. Supp. 2d 161, 170 (D. Mass. 2000). The inference of scienter

is further negated by the fact that neither Yancey nor Doyle sold any stock during this two-week period.

With respect to SWO2, SWO3, and SWO4, the Consolidated Amended Complaint also fails to

set forth any allegations sufficient to show that Yancey or Doyle even knew of the stop-work orders,

much less that Yancey and Doyle deliberately attempted to deceive stockholders by providing false or

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11Defendants concede in their Motion that loss causation relating to SWO1 is adequately plead.

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misleading information pertaining to the Company's backlog. To the contrary, as noted previously,

Yancey and Doyle candidly disclosed during the relevant period that potential debookings affecting

future revenue were not excluded from the Company's backlog. See Harris-Sutton Decl. at Ex. F

(December 2004 Form 8-K). The Company also repeatedly warned shareholders in its public filings

that the Company's backlog was not necessarily representative of actual future sales or revenue. 

Further, with respect to Doyle, there is no allegation that he sold any stock during the Class

Period. As to Yancey, it has not been sufficiently shown that his stock sales – which occurred during

January 2005 – were "dramatically out of line with prior trading practices" or that they took place during

a time specifically "calculated to maximize the personal benefit from undisclosed inside information."

See Ronconi v. Larkin, 253 F.3d 423, 435 (9th Cir. 2001). To the contrary, the allegations in the

Consolidated Amended Complaint plainly state that Yancey – like most of the other shareholders – sold

stock after the Company announced fourth quarter operating results for FY04 that did not meet the

analysts' expectations. See CAC at ¶ 42 ("Only once in the preceding six months had more than 1

million shares of Applied Signal stock traded in a day; at no other time did volume exceed 600,000

shares in a day."). The only allegation in the Consolidated Amended Complaint that even suggests an

inference that the stock sales were suspicious is Plaintiff's bare assertion that "Yancey had complete

knowledge of the 'stop-work orders' and their expected impact on the Company's revenues and earnings

for the quarter." See CAC at ¶ 49. However, this assertion is completely undermined by the fact that

Plaintiff's Consolidated Amended Complaint does not actually allege any facts showing that the stopwork orders had any impact on the Company's recognized revenue or earnings for the first quarter of

FY05. See CAC at ¶¶ 44-47.

c. Loss Causation

Finally, Defendants correctly argue that the Consolidated Amended Complaint does not provide

an adequate basis for the required element of loss causation for SWO2, SWO3, or SWO4.11 Indeed, the

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internal inconsistencies of the Consolidated Amended Complaint actually defeat a finding of loss

causation. For example, as noted above, although Plaintiff's securities fraud theory is premised on his

contention that the Company's misleading statements regarding backlog resulted in substantial financial

loss to the shareholders, Plaintiff actually states, in his Consolidated Amended Complaint, that the price

per share of the Company's stock declined in December 2004 because the Company announced that: (1)

the earnings would only be 21 cents per share for the fourth quarter of FY04, as opposed to the analysts'

consensus estimate of 29 cents per share; and (2) the Company's revenue had only increased by 3%.

See CAC at ¶ 42. Plaintiff also states that the price per share of the Company's stock declined in

February 2005 because the Company reported that "revenue declined almost 25 percent from the

preceding quarter, with net income and earnings per share declining as well." See CAC at ¶ 44. 

Although Plaintiff vigorously contends, in his Opposition brief, that the stop-work orders were

the actual cause of the losses in revenue, the Consolidated Amended Complaint does not actually state

this. Indeed, the Consolidated Amended Complaint does not set forth any facts establishing a causal

connection between the contracts purportedly affected by the stop-work orders and the actual revenue

for the fourth quarter of FY04 or the first quarter of FY05. Plaintiff's argument that it is "facially

absurd" to assume anything other than that SWO2, SWO3, and SWO4 directly impacted revenue in the

fourth quarter of FY04 and the first quarter of FY05 is undermined considerably by the relevant

government regulations concerning stop-work orders, which expressly provide that stop-work orders

are contingent for a ninety-day period and are otherwise subject to negotiations, revisions, and

extensions. Plaintiff's argument is further undermined by the fact that contracts are included in the

"backlog" precisely because the revenue is not recognizable until the relevant portion of the contract

is completed and the fact that it is undisputed that anticipated revenues included in the backlog are

typically realized over a multi-year period. 

2. Statements Concerning Hiring 

Next, with respect to Plaintiff's allegations concerning the Company's purportedly false and

misleading statements regarding the hiring of personnel, Defendants have effectively shown that

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12The Consolidated Amended Complaint makes mention of other statements of similar nature

made by Defendants, but these statements fall outside of the relevant Class Period. See CAC at ¶ 38.

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Plaintiff's Consolidated Amended Complaint fails to state a claim under Section 10(b) or Rule 10b-5.

Over the course of the entire Class Period, only three statements concerning hiring are challenged in the

Consolidated Amended Complaint: (1) two statement made during the August 2004 Conference Call;

and (2) a statement made in the August 2004 Press Release.12 

Plaintiff first challenges the fact that Yancey stated, during the August 2004 Conference Call,

that he was "pleased that we've been able to stay up with a fairly aggressive growth requirement and,

in particular, hiring of staff and staff that we can get cleared and hiring cleared staff and we believe that

we're keeping our program performance on par with adequate performance to where we will continue

to be looked upon as an asset to the defense community by the U.S. government." See Harris-Sutton

Decl. at Ex. C. 

The second August 2004 Conference Call statement challenged by Plaintiff is as follows:

Q: Okay. Thank you. Secondly, how many engineers did you add

during the quarter?

A (Doyle): We've had total hiring of about 100 people year-to-date. Let's

see, I don't know Gary, what, about 30 through the quarter?

A (Yancey): I would have actually guessed maybe 20. It slowed a bit into

the summer, although perhaps not. The simple answer would

be to go ahead and use 30, Steve, and kind of assume we've

been close to linear in our increase.

See Harris-Sutton Decl. at Ex. C. 

As to the August 2004 Press Release, Plaintiff alleges that the following statement was false and

misleading:

Regarding the third quarter operating results, Mr. Gary Yancey, President and

Chief Executive Officer of the Company, commented, "The greatly increased

level of orders compared to fiscal 2003 has challenged us to meet aggressive

hiring requirements and to control capital expenditures. I am pleased that we

have met these challenges and have been able to meet our contractual

commitments. This has resulted in our increase in revenue compared to fiscal

2003."

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See id.

a. The False and/or Misleading Element

Plaintiff alleges that the aforementioned statements were materially false and misleading because

"[i]f Applied Signal had, in fact, added 100 employees 'year-to-date' as of August, 2004, as reported by

Defendant Doyle during the August Conference Call, the Company would have had 525 employees"

at the time of the December 2004 Conference Call and "should have had approximately 545 employees

at the end of the year." See CAC at 40(b). As an initial matter, given that Plaintiff's entire argument

is based on the fact that the Company had 498 employees in December instead of Plaintiff's speculation

that it should have had 525 or 545 employees, Plaintiff's claim borders on frivolous. See, e.g., Central

Laborers Pension Fund v. Merix Corp., 2005 WL 2244072, * 4 (D. Or. 2005) ("Plaintiff cannot meet

the heightened pleading standards applicable to fraud claims by simply characterizing Defendants'

statements, embedding in those characterizations assumptions not found in the statements themselves,

and then explaining why Plaintiff's own assumptions are false.").

Further, with respect to the element of falsity, Plaintiff's securities fraud "theory" is hopelessly

flawed. First, as Defendants point out, the statement made by Doyle in the August 2004 Conference

Call makes clear that Doyle is not referring to a "net" gain of 100 employees. Thus, a theory that

attempts to prove falsity by comparing Doyle's statement with the total number of employees within the

Company in December 2004 is inherently defective. Indeed, there are no allegations in the Consolidated

Amended Complaint showing that the Company did not, in fact, hire the indicated number of

employees. As such, Plaintiff has not adequately plead that the statements made by Doyle or Yancey

were false. Second, and more importantly, Plaintiff utterly fails to show how Doyle and Yancey's

statements were misleading. Indeed, it does not appear that Plaintiff could show this, as Doyle's and

Yancey's answers regarding hiring are replete with qualifiers such as "I don't know," "maybe," and "I

would have guessed." 

b. Scienter

The fact that Doyle and Yancey expressly stated in the August 2004 Conference Call that they

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were not expressing a firm opinion with regard to the exact number of employee hires, and were only

guessing, also negates a finding that Doyle or Yancey acted out of deliberate recklessness or with an

intent to defraud shareholders. The inference of scienter is further negated by the fact that Doyle and

Yancey did not experience any personal gain as a result of the allegedly false or misleading statements.

Indeed, even Plaintiff admits that Yancey did not sell any Company stock until after the December 2004

disclosure which clarified the exact number of Company employees. 

c. Loss Causation

Additionally, the Consolidated Amended Complaint does not establish a causal connection

between the August 2004 statements regarding hiring and the December 2004 decline in stock price.

To the contrary, as set forth previously, Plaintiff alleges, instead, that the stock price fell in December

because the Company announced that it was not meeting the analysts' consensus estimate and because

the Company's revenue only increased by 3%. See CAC at ¶ 42. Plaintiff's contention that the February

2005 decline in stock price is also attributable to the Company's August 2004 statements is foreclosed

by the fact that Plaintiff admits that the investing public was apprised of the true number of employees

in December 2004. 

In sum, Plaintiff has failed to state claim under Section 10(b) of the Exchange Act and Rule 10b5 promulgated thereunder. Accordingly, these causes of action are hereby DISMISSED. 

C. Liability Under § 20(a) of the Exchange Act

With respect to Plaintiff's second cause of action, to establish "control person" liability under

Section 20(a) of the Exchange Act, Plaintiff must show that a primary violation of Section 10(b) or Rule

10b-5 was committed and that each individual defendant "directly or indirectly" controlled the violator.

See Paracor Finance, Inc. v. General Electric Capital, 96 F.3d 1151, 1161 (9th Cir.1996). Since

Plaintiff has not stated a viable Section 10(b) or Rule 10b-5 claim, Plaintiff's claim under Section 20(a)

of the Exchange Act necessarily fails. Accordingly, the entire Consolidated Amended Complaint is

DISMISSED. 

III. Dismissal with Prejudice

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13As noted in the discussion of the procedural history of this case, the complaints initially filed

set forth a different class period and were not expressly premised on the statements concerning the

Company's stop-work orders and backlog. 

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Further, given the deficiencies in Plaintiff's Consolidated Amended Complaint identified herein,

the Court has concluded that it is appropriate to DISMISS the Consolidated Amended Complaint WITH

PREJUDICE. In making this determination, the Court finds it important to point out that this case

departs from the usual circumstances where dismissal with leave to amend is appropriate because the

plaintiff has merely failed to allege, with sufficient particularity, facts supporting a viable legal theory

of securities fraud. In this case, by way of contrast, the Consolidated Amended Complaint is defective

because Plaintiff's theory of fraud, itself, is legally flawed and is premised on either a fundamental

misunderstanding of Applied Signal's business model, at best, or a blatant misrepresentation of the

pertinent facts. Since Plaintiff could only amend his Consolidated Amended Complaint to allege

additional facts that are consistent with the facts that have already been plead, the Court finds that

granting Plaintiff leave to amend in order to augment the Consolidated Amended Complaint with

additional facts would be futile. Further, since Plaintiff has already changed his theory of fraud twice,13

granting further leave to amend would be highly prejudicial to Defendants. The typically liberal

standard of allowing leave to amend should not be employed to require Defendants to defend against

an amorphous, "moving target" securities fraud case that is not well thought-out or well supported. 

Further, the Court finds that dismissal without leave to amend is also appropriate given the

length of time that has passed since the initial complaint was filed. Indeed, the initial complaint was

filed on March 11, 2005 and the Consolidated Amended Complaint was filed five months later, on

August 12, 2005. Plaintiff has been on notice with regard to the defects of his Consolidated Amended

Complaint since September 14, 2005, when Defendants filed the instant Motion to Dismiss.

Accordingly, dismissal with prejudice is warranted on this basis as well. See Lipton v. Pathogenesis

Corp., 284 F.3d 1027, 1038-39 (9th Cir. 2002) (affirming district court's dismissal with prejudice after

finding that: (1) more than six months had elapsed between the filing of the original lawsuit and the

filing of the consolidated amended complaint, and (2) three additional months had passed between the

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14Further, the Court cannot overlook the fact that Applied Signal is currently in its 2006 fiscal

year, and yet Plaintiff's Opposition does not even suggest that Plaintiff is aware of any additional facts

or events that have occurred during this passage of time that would lend further support to his case. 

34

time the defendants filed their motion to dismiss and the district court's ruling).14

CONCLUSION

For all of the reasons set forth above, IT IS HEREBY ORDERED THAT Defendants' Motion

to Dismiss [Docket No. 35] is GRANTED. The Court hereby DISMISSES the Consolidated Amended

Complaint WITH PREJUDICE. 

IT IS FURTHER ORDERED THAT Defendant's Request for Judicial Notice [Docket No. 36]

is GRANTED. 

IT IS FURTHER ORDERED THAT Plaintiff's Motion for Class Certification [Docket No. 25]

is DENIED AS MOOT.

IT IS SO ORDERED.

 Dated: 2/6/06 SAUNDRA BROWN ARMSTRONG

United States District Judge

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