1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

28

United States District Court 

For the Northern District of California 

IN THE UNITED STATES DISTRICT COURT 

FOR THE NORTHERN DISTRICT OF CALIFORNIA 

In re CADENCE DESIGN SYSTEMS, INC. 

SECURITIES LITIGATION 

)

)

)

Case No. 08-4966 SC 

ORDER DENYING MOTION TO 

DISMISS 

This Order Relates to: 

 

CASE NOS. 08-4966 SC, 08-5027 SC, 

and 08-5273 SC 

)

)

)

)

)

)

I. INTRODUCTION

 Now before the Court is a Motion to Dismiss the First Amended 

Complaint, filed by Defendant Cadence Design Systems, Inc. 

("Cadence"), as well as Cadence's former CEO, Michael J. Fister 

("Fister"), Senior Vice President and CFO Kevin Palatnik 

("Palatnik"), former Executive Vice President and CAO William 

Porter ("Porter"), and former Executive Vice President of Worldwide 

Field Operations, Kevin Bushby ("Bushby;" collectively with other 

individuals, "Individual Defendants," and with Cadence, 

"Defendants"). Docket No. 57 ("Motion"). Plaintiffs, including 

lead plaintiff Alaska Electrical Pension Fund, submitted the First 

Amended Complaint after this Court granted Defendants' prior motion 

to dismiss the Consolidated Amended Complaint. Docket Nos. 53 

("FAC"), 48 ("MTD Order"), 39 ("CAC"). The Motion is fully 

briefed. Docket Nos. 62 ("Opp'n"), 65 ("Reply"). 

 Having considered all of the papers submitted, the Court 

Case 3:08-cv-05027-SC Document 17 Filed 03/02/10 Page 1 of 22
2 

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

28

United States District Court

For the Northern District of California 

concludes that this matter is appropriate for decision without oral 

argument. The Court is satisfied that the additional allegations 

and details pled by the FAC are now sufficient to meet the 

requirements set out in the Public Securities Litigation Reform Act 

("PSLRA"). The Motion is therefore DENIED. 

II. BACKGROUND

 The Court has previously set out the factual background for 

this suit, as well as the legal standards for pleading claims under 

Sections 10(b) and 20(a) of the Securities Exchange Act, 15 U.S.C. 

§§ 78j(b) and 78t(a), in light of the PSLRA. MTD Order at 2-15. 

Plaintiffs allege that Defendants made a number of misstatements 

related to Cadence's earnings in the first and second quarters of 

2008 ("1Q" and "2Q," respectively). Statements of Cadence's 

earning for these periods were false because Cadence had improperly 

accounted for two major transactions, one in 1Q and one in 2Q (the 

"1Q agreement" and the "2Q agreement"). After an accounting 

investigation in late 2008, Cadence acknowledged that its earnings 

statements were greatly overstated, and it issued restatements to 

correct its earlier false representations. 

 It is helpful to recount the structure of Cadence's business 

dealings, as well as the proper accounting treatment for those 

transactions. When licensing its electronic design automation 

technology to its customers, Cadence enters into two relevant types 

of licenses: term licenses and subscription licenses. As 

described in Cadence's 10-K for the fiscal year of 2007, a term 

license allows Cadence's customers to "[a]ccess and use all 

software products delivered at the outset of an arrangement 

Case 3:08-cv-05027-SC Document 17 Filed 03/02/10 Page 2 of 22
3 

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

28

United States District Court

For the Northern District of California 

throughout the entire term of the arrangement, generally [for] two 

to four years, with no rights to return." Appendix to FAC, Docket 

No. 54, Ex. 6 ("2007 10-K") at 30. In other words, a term license 

typically allows a customer to use a defined set of alreadyavailable software. Subscription licenses, on the other hand, are 

more open ended, and allow "access and use [of] all software 

products delivered at the outset of an arrangement," and the 

additional right to "[u]se unspecified additional software products 

that become commercially available during the term of the 

arrangement." Id. The accounting treatment for term and 

subscription licenses differs dramatically in terms of when revenue 

is supposed to be recognized, according to both Generally Accepted 

Accounting Principles ("GAAP") and Cadence's internal accounting 

policies (which purport to follow GAAP). Id. at 29-30. For a term 

license, revenue "is recognized upon the later of the effective 

date of the arrangement or delivery of the software product." Id.

at 30. That is, a term license may give Cadence the ability to 

recognize revenue from the license immediately. Revenue from a 

subscription license, on the other hand, must be recognized ratably 

over the entire term of the license. Id.

 Initially, Cadence improperly classified both the 1Q and the 

2Q agreements as term agreements, and recognized all of the revenue 

from these transactions up front instead of ratably. See generally

Appendix to FAC Ex. 39 ("Dec. 10 Press Release"). Both of these 

agreements should have been classified as subscription agreements, 

and Cadence should not have immediately recognized the revenue. 

Id. 

 The FAC provides a bit more detail than the CAC about the 1Q 

Case 3:08-cv-05027-SC Document 17 Filed 03/02/10 Page 3 of 22
4 

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

28

United States District Court

For the Northern District of California 

agreement. The FAC confirms that the client involved in the 1Q 

agreement was Fujitsu. See FAC ¶¶ 16, 74. As this Court 

previously noted, the crucial detail that rendered Cadence's 

initial accounting treatment of this agreement improper was the 

fact that the agreement was negotiated "in contemplation" of a 

later subscription agreement (the "3Q agreement"), and included or 

contemplated the right to as-of-yet unreleased software. MTD Order 

at 16. These factors indicate a subscription license, rather than 

a term license. Cadence recounted in its press release following 

its accounting investigation in late 2008: 

[T]he term license arrangement executed during 

the first quarter and the subscription license 

arrangement executed during the third quarter 

collectively represented a multiple element 

arrangement. Because the subscription 

arrangement provides the customer with the right 

to use unspecified additional software products 

that become commercially available during the 

term of the arrangement, Cadence determined that 

the revenue relating to this multiple element 

arrangement should be recognized during the term 

of the arrangement, beginning in the fourth 

quarter of 2008. 

Dec. 10 Press Release at 10. Because of the improper accounting, 

Cadence recognized $24.8 million in up-front revenue, making the 1Q 

agreement the largest single transaction of that quarter. FAC 

¶ 16. 

 The FAC identifies Nvidia as the client involved in the 2Q 

agreement. FAC ¶¶ 18, 110. The 2Q agreement involved the 

simultaneous cancellation of a subscription license and the 

execution of a term license arrangement. See Dec. 10 Press Release 

at 11. Cadence later: 

determined that, despite the cancellation of the 

subscription arrangement, the customer did not 

intend to substantively cancel its right to 

Case 3:08-cv-05027-SC Document 17 Filed 03/02/10 Page 4 of 22
5 

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

28

United States District Court

For the Northern District of California 

access future new technology because at the time 

the subscription license was cancelled the 

customer intended to reestablish its right to 

access future new technology at a later time. 

Accordingly, . . . $12.0 million of revenue 

originally recognized in the second quarter of 

2008 relating to the term license and hardware 

arrangement should be recognized ratably over the 

term of the arrangement, consistent with the way 

in which revenue was recognized on the cancelled 

subscription arrangement. 

Id. The crucial detail that rendered Cadence's initial accounting 

treatment of this agreement erroneous was the fact that Nvidia 

intended to retain certain rights to use future technology, which 

Nvidia had enjoyed under the subscription license that it 

simultaneously cancelled. See MTD Order at 16. 

 This Court decided the previous motion to dismiss in 

Defendants' favor, finding that Plaintiffs had failed to properly 

allege scienter on the part of the Individual Defendants or any 

other Cadence officer. Although Plaintiffs effectively alleged 

that Defendants had both the motive and the opportunity to commit 

fraud, there were no allegations that strongly supported an 

inference that any Defendant was sufficiently familiar with the 

details of the 1Q or 2Q agreements, such that they could recognize 

that Cadence's accounting treatment of these agreements was 

incorrect. Id. at 25-26. The Court concluded that none of the 

pled facts supported an inference that could "bridge the gap" 

between the key details of the agreements and the Individual 

Defendants. Id. Below, the Court discusses the key allegations, 

as newly pled or recontextualized by the FAC, that sufficiently 

narrow the gap and create a strong inference of scienter. 

/// 

/// 

Case 3:08-cv-05027-SC Document 17 Filed 03/02/10 Page 5 of 22
6 

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

28

United States District Court

For the Northern District of California 

III. DISCUSSION

 This Court previously examined the majority of facts alleged 

in the FAC, on an individual basis, when it examined the CAC in its 

previous Order. No single new allegation in the FAC constitutes a 

"smoking gun" that, taken alone, supports a strong inference of 

scienter. However, Plaintiffs need not produce a "smoking gun" to 

meet their burden. See Tellabs, Inc. v. Makor Issues & Rights, 

Ltd., 551 U.S. 308, 324 (2007). They must plead facts such that "a 

reasonable person would deem the inference of scienter cogent and 

at least as compelling as any opposing inference one could draw 

from the facts alleged." Id. at 324. Below, the Court recounts 

key specific facts alleged by the FAC, and the inferences regarding 

the Individual Defendants' scienter that can be drawn from these 

new allegations. The Court recounts only those particular 

allegations that, when considered together, can convincingly 

contribute to the conclusion that the inference of fraud or 

reckless conduct is at least as likely as the inference of 

negligence or innocent mistake. 

A. Bushby Played a Role in the 1Q and 2Q Agreements

 The first factor that contributes to the Court's finding that 

Plaintiffs have met their burden is the presence of new allegations 

that tie executive management more closely to the 1Q and 2Q 

agreements. In the CAC, which the Court previously examined, 

Plaintiffs had generally pled that certain Individual Defendants 

were involved in negotiating unspecified contracts with clients, 

but the CAC was bereft of any concrete indication that anyone 

besides Cadence's "sales personnel" were involved specifically in 

the 1Q or 2Q agreements. See CAC ¶ 59(c). Based on the CAC, it 

Case 3:08-cv-05027-SC Document 17 Filed 03/02/10 Page 6 of 22
7 

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

28

United States District Court

For the Northern District of California 

appeared quite possible that involvement by executive officers was 

filtered through a long chain of mid-level reviewers. Any 

inference that Individual Defendants were familiar enough with the 

details of the 1Q and 2Q agreements to recognize the accounting 

errors would have been mere speculation. See MTD Order at 20 n.9. 

Now, the FAC ties Bushby -- one of Cadence's executive officers -- 

directly to the 2Q agreement, and additional allegations suggest 

that Bushby was likely involved in the 1Q agreement as well. 

 Plaintiffs have added the detailed allegations of eight 

additional confidential witnesses ("CW") to the FAC. In order to 

establish scienter through the accounts of confidential witnesses, 

"the confidential witnesses whose statements are introduced to 

establish scienter must be described with sufficient particularity 

to establish their reliability and personal knowledge. Second, 

those statements which are reported by confidential witnesses with 

sufficient reliability and personal knowledge must themselves be 

indicative of scienter." Zucco Partners, LLC v. Digimarc Corp., 

552 F.3d 981, 990 (9th Cir. 2009). To determine whether the 

witnesses "would possess the information alleged," courts must 

consider "the level of detail provided by the confidential sources, 

the corroborative nature of the other facts alleged (including from 

other sources), the coherence and plausibility of the allegations, 

the number of sources, the reliability of the sources, and similar 

indicia." Id. at 995 (citation and internal quotation marks 

omitted). 

 CW15 confirms that the 2Q agreement involved Nvidia, and he1

 

1

 For the sake of simplicity, the Court will use "he" when 

referring to all confidential witnesses. 

Case 3:08-cv-05027-SC Document 17 Filed 03/02/10 Page 7 of 22
8 

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

28

United States District Court

For the Northern District of California 

describes the structure and incentives of the Nvidia agreement in 

considerable detail. See FAC ¶¶ 74(b), 110. CW15 states that 

"Bushby specifically gave instructions to VP of Sales Mike Ellow 

who communicated Bushby's instructions to Chris Cronk and Neil 

Zaman, the Account Executives who handled the Nvidia account, to 

re-structure the transaction with Nvidia that was already in place 

because Cadence needed to 'count this deal as revenue' in that 

quarter." Id. ¶ 110. He also claims that the initial agreement, 

which Cadence sought to renegotiate, involved a 5-year multielement transaction, that Nvidia had paid $9 million up front for 

hardware that Cadence was obliged to update, and that Cadence 

returned this $9 million as part of the renegotiations. Id. 

Plaintiffs claim that CW15 is "a former Sales Director for North 

America," who worked under Bushby but reported directly to Thomas 

Cooley. Id. ¶ 51(o). As a sales director, it is plausible that he 

had personal knowledge of this information. The level of detail 

provided by his statement lends his account a significant amount of 

credibility. See Zucco Partners, 552 F.3d at 995. That Bushby 

would be involved in the transaction is already plausible in its 

own right. The 2Q agreement was very large, worth around $12 

million, and one of the larger transactions during the 2Q08 period. 

See FAC ¶ 18. CW15 also reports that he attended a meeting of the 

entire sales force in January of 2008, where Fister stated that he 

and Bushby were "involved" in "every contract over $5 million." 

Id. ¶ 51(o). The Court finds that the level of detail provided by 

CW15, coupled with the coherence and plausibility of the 

allegations, provide an adequate basis for reliability at this 

stage of the litigation. C.f. Zucco Partners, 552 F.3d at 995. 

Case 3:08-cv-05027-SC Document 17 Filed 03/02/10 Page 8 of 22
9 

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

28

United States District Court

For the Northern District of California 

CW15's statements nudge Plaintiffs' allegations as to Bushby's 

involvement beyond the realm of mere speculation. 

 The FAC's allegations with respect to Bushby's involvement in 

the 1Q agreement are significantly less direct. The 1Q agreement 

-- worth roughly $24.8 million -- was the largest transaction of 

the quarter and represented over 10% of the company's reported 

revenue for that quarter. FAC ¶ 16. This makes it plausible that 

the company's top management was involved at some level of the 

negotiations, particularly in light of the fact that Fister had 

represented that he and Bushby were involved in all transactions of 

such size. Id. ¶ 51(o). Although this alone may be insufficient 

to conclude that the Individual Defendants were closely involved, 

Plaintiffs offer one additional bit of corroborative evidence, to 

which this Court extends limited consideration. CW12 claims that 

Bushby "negotiated the 1Q08 Fujitsu deal, was 'told to do it' by 

Fister and was fired because of the event that gave rise to the 

restatement." Id. ¶ 75. 

 The credibility of CW12 is problematic. The FAC does not 

suggest that CW12 was ever a Cadence employee -- rather, he was a 

consultant who focused on Cadence's industry and counseled 

Cadence's clients. See FAC ¶ 51(l). His account is therefore most 

likely hearsay -- at least some of his information was gleaned from 

discussions with a Fujitsu engineer. Id. ¶ 75(g). Although 

confidential witnesses who claim "personal knowledge" of a fact are 

preferable, this is not a hard-and-fast requirement: "[T]he fact 

that a confidential witness reports hearsay does not automatically 

disqualify his statement from consideration in the scienter 

calculus. However, a hearsay statement . . . may indicate that a 

Case 3:08-cv-05027-SC Document 17 Filed 03/02/10 Page 9 of 22
10 

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

28

United States District Court

For the Northern District of California 

confidential witnesses' report is not sufficiently reliable, 

plausible, or coherent to warrant further consideration . . . ." 

Zucco Partners, 552 F.3d at 997 n.4. The Court finds that CW12's 

account is worth noting -- that is to say, it should not be 

entirely discounted. As an established industry consultant,2

CW12's livelihood depends upon his access to reliable, specific 

industry information, and his role as a consultant to Cadence's 

clients could plausibly give him access to information about 

Cadence's business dealings. Bushby's involvement would have been 

clear to anyone else working on the transaction; it is a fact that 

an industry consultant could have credibly learned in the regular 

course of his business without relying on multiple layers of 

hearsay.3

 When taken in light of the other evidence related to the 

scope of the deal, and Fister's statement that he or Bushby would 

be involved in any transaction of this size, CW12's statements are 

sufficiently plausible and coherent to support an inference that 

Bushby was involved at some level in the 1Q agreement. 

 Having established that Bushby was likely involved in the 1Q 

and 2Q agreements, and the negotiations that led up to them, the 

next question is whether Bushby's involvement in the transactions 

 

2

 Following the submission of Defendants' Reply, Plaintiffs sought 

to submit an additional declaration, under seal, that establishes 

CW12's identity and his standing as a consultant in the electronic 

design automation industry. Docket No. 66. Defendants submitted 

an Opposition. Docket No. 69. This Court GRANTS Plaintiffs' 

request to submit this declaration under seal. The Court is 

persuaded that the declaration's contents, read in light of the 

FAC, suggest that CW12 had access to reliable information about 

Cadence's activities. CW12's position as a consultant to Cadence's 

customers significantly strengthens this inference. 

3

 Notably, this Court finds the contention that Bushby "was 'told 

to do it' by Fister," or that Bushby and Fister were fired because 

of the transaction, to be significantly less credible. It does not 

rely upon these claims. 

Case 3:08-cv-05027-SC Document 17 Filed 03/02/10 Page 10 of 22
11 

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

28

United States District Court

For the Northern District of California 

is indicative of scienter. The Court finds that it is. CW8, an 

Account Executive for the U.S. and North America during the 

relevant time period, describes the general role that Bushby 

typically played in contract negotiations. FAC ¶¶ 51(h), 75(a). 

As an Account Executive, he would presumably be familiar with 

Bushby's general role in negotiating deals with large clients. CW8 

downplays the role of the lower sales personnel, stating that they 

typically "acted more like liaisons with customers . . . simply 

determining what products the customer needed and when they needed 

it or would buy them. . . . [T]he negotiation of terms and 

'architecting' all other financial aspects of the deals, especially 

large deals, was not done by the Sales persons but was done by the 

'big guns.'" Id. ¶ 75(b). Although the term "big guns" is 

regrettably vague, CW8 does state that "Bushby in particular . . . 

would instruct the Sales people how to structure the Sales 

agreements, monitor the deal progress until it was finalized, and 

at which point, give approval to draw up the Sales contract." Id.

¶ 75(a). CW8's account is corroborated by that of CW14, a former 

Account Manager, who stated that "Bushby was intimately involved in 

the review of sales including the details of sales in any given 

quarter," and "specifically inquired as to how much each customer 

was going to pay upfront and how much would be paid ratably." Id.

¶ 78(h). Although these statements remain general in nature, they 

do detract from the likelihood that Bushby's role in such large 

agreements was limited or remote, and therefore strengthen the 

inference of scienter. 

 The FAC now gives rise to a strong inference that Bushby was 

involved in the 1Q and 2Q agreements. Plaintiffs needn't prove 

Case 3:08-cv-05027-SC Document 17 Filed 03/02/10 Page 11 of 22
12 

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

28

United States District Court

For the Northern District of California 

that Bushby was involved in the face-to-face negotiations between 

Cadence and its clients -- given the Court's findings in the next 

section, they need only show that he was directly involved in some 

level of the agreements' formation. His involvement frees 

Plaintiffs from the burden of establishing that the key details of 

these transactions had to percolate up to the executive officers 

through less direct or reliable channels of communication. While 

this does not necessarily give rise to a strong inference of 

scienter, it significantly reduces the possibility that the 

misstatements "were the result of merely careless mistakes at the 

management level based on false information fed it from below . . . 

." See Makor Issues & Rights, Ltd. v. Tellabs Inc., 513 F.3d 702, 

709 (7th Cir. 2008). 

B. The Accounting Treatment of the 1Q and 2Q Agreements was 

the Fundamental to the Purpose of These Agreements

 The FAC puts more emphasis than did the CAC on Cadence's 

practice of renegotiating existing subscription contracts in order 

to realize greatly increased short-term revenue. More importantly, 

the FAC does a much better job of specifically tying the 1Q and 2Q 

agreements to this practice. The CAC generally alleged that by 

2008, Cadence had begun to emphasize term contracts over 

subscription contracts, so as to "pull future revenue forward to 

meet the Street's expectations." See CAC ¶¶ 6, 60, 60(c)-(d). The 

Court concluded that this did little more than create a precarious 

financial situation for Cadence, which provided a motive for 

Defendants to cook their books. In the FAC, Plaintiffs allege more 

facts to suggest that the 1Q and 2Q agreements were specific 

instances of the general practice of renegotiating subscription 

Case 3:08-cv-05027-SC Document 17 Filed 03/02/10 Page 12 of 22
13 

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

28

United States District Court

For the Northern District of California 

agreements into term agreements, in order to engorge short-term 

revenue at the expense of long-term profit. 

 In general, Plaintiffs' allegations regarding Cadence's 

renegotiation practices are more complete and better supported than 

those in the CAC. CW12 claims to have personal knowledge of this 

practice, as an outside consultant, because he advised specific 

Cadence customers who had been approached by Cadence to renegotiate 

their subscription licenses into term licenses. FAC ¶ 75(h). CW9 

and CW10, a Group Marketing Director and an Operations Director, 

report that Cadence's management was consistently pressuring its 

sales force to renew customer contracts, as term agreements, before 

they expired. Id. ¶ 78(b), (e). CW14, a former Account Manager, 

states that "the Sales force was instructed by senior management 

and specifically Bushby to call on customers to let them renew 

their contracts early. According to CW14, huge discounts were 

provided to customers in order to get them to renew early and even 

more discounts were provided if customers paid cash upfront instead 

of making payments over the life of the contract." Id. ¶ 78(f). 

This "would essentially convert a Subscription contract to a Term 

contract to allow for upfront revenue recognition." Id. This was 

apparently a practice that was driven by Cadence's top executives. 

 In particular, the FAC now makes a credible argument that the 

1Q and 2Q agreements were themselves manifestations of this 

practice. Cadence appears to have entered into negotiations 

regarding the 2Q agreement specifically to realize revenue from 

Cadence's relationship with Nvidia sooner rather than later. CW15 

reported that Bushby gave Mike Ellow specific instructions "to restructure the transaction with Nvidia that was already in place 

Case 3:08-cv-05027-SC Document 17 Filed 03/02/10 Page 13 of 22
14 

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

28

United States District Court

For the Northern District of California 

because Cadence needed to 'count this deal as revenue' in" 2Q08. 

FAC ¶ 110.4 These directions are in line with Cadence's apparent 

sales policies during this period. Notably, when Cadence later 

moved away from its term-agreement model in 3Q of 2008, Palatnik 

indicated, on several occasions, the degree to which the sales 

force was restricted by the company's push for term licenses, by 

stating that Cadence was "releasing the handcuffs on our channel," 

and "unlock[ing] our salesforce" by letting them negotiate freely, 

without creating an artificial separation between term and 

subscription licenses. See Appendix to FAC, Ex. 25 ("Aug. 7, 2008 

Conf. Call Tr.") at 5; Id. Ex. 29 ("Sept. 3, 2008 Conf. Call Tr.") 

at 4. Between CW15's statements and Cadence's own characterization 

of its sales policies during 2Q, the Court may infer that the 2Q 

agreement was not freely negotiated by Cadence's salespeople and 

improperly classified after the fact; instead, the allegations 

suggest that Cadence negotiated with an eye towards structuring the 

license so that Cadence could walk away with something classifiable 

as a term license. 

 The FAC does not include any allegations that directly 

indicate that the 1Q agreement was negotiated for the purpose of 

structuring a term agreement. However, because the 1Q agreement 

was negotiated in contemplation of the 3Q agreement (which was 

properly treated as a subscription license), it is eminently 

plausible that in negotiating the 1Q agreement, Cadence sought to 

pull out the term-related aspects of the transaction in order to 

 

4

 It is not clear whether statements made by CW5 corroborate this 

account or not -- the Court suspects that certain allegations 

attributed to CW5 in the FAC are the result of a typo. See FAC 

¶ 29. 

Case 3:08-cv-05027-SC Document 17 Filed 03/02/10 Page 14 of 22
15 

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

28

United States District Court

For the Northern District of California 

realize immediate revenue.5 The Court finds it possible to draw an 

inference that Cadence engaged in negotiations with Fujitsu and 

Nvidia for the purpose of entering into term agreements. 

 The Court may presume that there would be nothing wrong with 

renegotiating an agreement in order to alter its accounting 

treatment, so long as the form and substance of the agreement is 

successfully renegotiated. If this was the purpose of the 1Q and 

2Q agreement negotiations, this is not, in and of itself, 

indicative of fraud. Nevertheless, this purpose does shed a new 

light on the agreements, and affects this Court's expectations as 

to what details would have been most important, and necessarily 

apparent, to any individual who worked on the transactions at any 

level. If Cadence employees approached Fujitsu for the specific 

purpose of changing a subscription agreement into a term agreement, 

or negotiated with the priority of separating term and subscription 

components, then Fujitsu's desire to retain access to future 

technology must have been at the very heart of these negotiations, 

and not an ancillary detail. It is difficult to imagine a scenario 

in which Fujitsu's intentions would not have been communicated to 

 

5

 During the conference calls noted in the previous paragraph, 

Palatnik described Cadence's practices of "separating discussion 

between a term license and a subscription license for some period 

of time. Going back a year, 18 months. It used to be 30-day 

separation, then it went to 45 days, then it went to one quarter, 

and then it actually went to two-quarter separation. Otherwise, in 

substance, what the accountants would argue is that [it] is a 

ratable arrangement." Sept. 3, 2008 Conf. Call Tr. at 4. This 

practice of "separating" suggests that Cadence's personnel knew of 

the accounting consequences of their discussion, and were taking 

special measures to secure term licenses from customers who also 

were interested in subscription licenses. 

 

Case 3:08-cv-05027-SC Document 17 Filed 03/02/10 Page 15 of 22
16 

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

28

United States District Court

For the Northern District of California 

everyone involved -- including, most likely, to Bushby.6 

Similarly, if Cadence approached Nvidia specifically to cancel a 

subscription agreement and replace it with a term agreement that 

allowed Cadence to realize the revenue immediately, then everyone 

involved must have been aware of (or deliberately reckless 

regarding) any intention by Nvidia to retain rights under its prior 

subscription agreement. Perhaps Bushby believed that sufficient 

protections or separation had been put into place to allow the 

licenses to be classified as term licenses; however, given the size 

of these transactions, and the importance of having these 

transactions treated as sought-after term licenses, the Court finds 

that it is at least as likely as not that the misclassifications 

were the result of, at a minimum, a reckless disregard. 

C. Scienter of Individual Defendants

 The Court has concluded that Bushby was, more likely than not, 

involved at some level in the formation of the 1Q and 2Q 

agreements. The Court has further concluded that in negotiating 

these agreements, it was a priority -- and perhaps the primary 

purpose of the negotiations -- that the licenses be structured so 

as to allow Cadence to recognize the revenue from the agreements 

immediately. From this, the Court concludes that it would be 

plausible to infer that Bushby was at least deliberately reckless 

regarding the term nature of the transactions. The competing 

inference, that he worked on these deals and innocently missed the 

most important details, is less plausible. There is therefore a 

 

6

 Indeed, given that Cadence's restatement specifically stated that 

the two agreements were negotiated "in contemplation of one 

another," it is extremely unlikely that the negotiating parties, 

and anyone to whom they reported, would not have known these 

details. See Dec. 10 Press Release" at 10. 

Case 3:08-cv-05027-SC Document 17 Filed 03/02/10 Page 16 of 22
17 

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

28

United States District Court

For the Northern District of California 

strong inference that Bushby knew or should have known that the 1Q 

and 2Q agreements were, in substance, subscription agreements at 

the time that the false statements regarding Cadence's inflated 

earnings were made by the other Individual Defendants.7 This is 

sufficient to establish scienter as to Bushby under the PSLRA. 

 As Defendants point out, Mot. at 10 n.8, the FAC does not 

claim that Bushby personally made any of the alleged misstatements, 

nor that he prepared any of the statements that were ultimately 

incorporated into the documents signed by the other Individual 

Defendants.8

 These statements were made by the other Individual 

Defendants. Generally, "the PSLRA requires [plaintiffs] to plead 

scienter with respect to those individuals who actually made the 

 

7

 In making this inference, the Court specifically notes that the 

accounting practices at issue were by no means obscure to the 

executives who were involved in the sales or operations-oriented 

aspects of the business -- rather, the accounting distinctions 

allegedly guided, and even formed the backbone of, Cadence's 

business model during this period (i.e., the prioritization of term 

over subscription licenses). 

8

 Defendants also request that the Court dismiss Bushby from this 

suit on this basis. Mot. at 10 n.8. However, Plaintiffs have 

created a strong inference that Bushby was closely involved in 

deals that were wrongly classified by Cadence's accountants, and 

that he was either knowledgeable or reckless with regard to this 

misclassification. He surely knew of the importance of the proper 

classification for these transactions, and he probably had control 

over the information that was passed along to those within Cadence 

who were responsible for classifying the transactions. The Court 

therefore finds that this is sufficient to infer, at this stage, 

that Bushby substantially participated in the alleged 

misstatements. C.f. Cooper v. Pickett, 137 F.3d 616, 625 (9th Cir. 

1997) (finding that plaintiff could plead violation of Section 

10(b) against defendant who passed misinformation to analysts who 

then released false reports); see also SEC v. Fraser, No. 09-443, 

2010 U.S. Dist. LEXIS 7038, *13-15 (D. Ariz. Jan. 28, 2010) (not 

for publication) ("When a corporate officer instructs a company 

accountant to book fraudulent transactions, with knowledge that 

those false transactions will be incorporated into the company's 

financial statements, it can fairly be said that the officer 

substantially participated in the 'creation, drafting, editing, or 

making' of the false statements."). 

Case 3:08-cv-05027-SC Document 17 Filed 03/02/10 Page 17 of 22
18 

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

28

United States District Court

For the Northern District of California 

false statements . . . ," and Plaintiffs must therefore plead 

"'facts that constitute strong circumstantial evidence of 

deliberately reckless or conscious misconduct' on the part of" the 

Individual Defendants who made the false statements. Glazer 

Capital Mgmt., LP c. Magistri, 549 F.3d 736, 745 (9th Cir. 2008) 

(quoting In re Silicon Graphics, 183 F.3d 970, 974 (9th Cir. 1999). 

The Court finds that Plaintiffs have met this burden. 

 Bushby was one of only five of Cadence's executive officers, 

and these deals were among the largest deals of their respective 

quarters. The deals were not routine sales calls, which happened 

to be classified as term licenses as an afterthought -- rather, 

Cadence most likely approached Fujitsu and Nvidia for the specific 

purpose of acquiring term, and not subscription, licenses. The 

accounting mistreatment of these deals made the difference between 

missing and meeting Cadence's projections for each quarter. It is 

possible that Bushby kept his knowledge or apprehension of the 

transactions to himself. However, this is no more likely than the 

competing inference: that Bushby informed at least some of the 

other Individual Defendants of the facts that rendered the 

accounting treatment of the 1Q and 2Q agreements incorrect. Given 

the nature and context of these transactions, the inference that 

Bushby knew or was reckless regarding the nature of the agreements 

is incompatible with an inference that the other Individual 

Defendants lacked scienter. Under these peculiar facts, having 

penetrated the Defendants' executive circle, so to speak, 

Plaintiffs may support an inference that the other executive 

officers were aware of certain key facts about certain key deals -- 

because these facts were almost certainly known to Bushby, as was 

Case 3:08-cv-05027-SC Document 17 Filed 03/02/10 Page 18 of 22
19 

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

28

United States District Court

For the Northern District of California 

their import. 

 In reaching this conclusion, the Court does not rely upon the 

group pleading doctrine, which has been rejected by a majority of 

district courts in this circuit and this district. See, e.g., In 

re Tibco Software Secs. Litig., No. 05-2146, 2006 U.S. Dist. LEXIS 

36666, *82 (N.D. Cal. May 25, 2006) ("[C]ourts in this district are 

increasingly finding that the group pleading doctrine is contrary 

to the PSLRA."). The inference of scienter against the other 

Individual Defendants -- namely, Fister, Palatnik, and Porter -- 

does not arise from any presumption or theory of collective action 

or collective knowledge. Rather, it arises because of the 

likelihood that Bushby would have told other executive officers 

that these important deals involved factors that rendered their 

classification as term licenses highly questionable.9

 Having 

weighed the competing inferences, and when considered in light of 

the various individual factors discussed in this Court's previous 

Order, the Court concludes that it is at least as likely as not 

that the other Individual Defendants were aware of, or deliberately 

reckless, regarding the facts that rendered the 1Q and 2Q 

agreements subscription licenses, rather than term licenses. 

Plaintiffs have therefore met their burden to support a strong 

inference that Defendants were at least reckless with regard to the 

nature of the 1Q and 2Q agreements, and their statements regarding 

 

9

 The Court further notes that, given the size and purpose of the 

deals, the inference that the various Individual Defendants knew of 

the transactions would be, at least, more than speculative even 

absent Plaintiffs' allegations regarding Bushby's direct 

involvement. 

Case 3:08-cv-05027-SC Document 17 Filed 03/02/10 Page 19 of 22
20 

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

28

United States District Court

For the Northern District of California 

Cadence's earnings during 1Q and 2Q of 2008.10 

D. Plaintiffs' Section 20(a) Claim 

 To plead a prima facie case under Section 20(a) of the 

Securities Exchange Act, Plaintiffs must show: (1) "a primary 

violation of federal securities law" and (2) "that the defendant 

exercised actual power or control over the primary violator." 

Howard v. Everex Sys., Inc., 228 F.3d 1057, 1065 (9th Cir. 2000). 

Defendants first argue that Plaintiffs' Section 20(a) claim must 

fail because Plaintiffs' underlying claim fails. Mot. at 25. The 

Court declines to dismiss Plaintiffs' Section 20(a) claim on this 

basis because it concludes that Plaintiffs have successfully stated 

an underlying claim. 

 Defendants also argue, quite succinctly, that "under Section 

20(a), Plaintiffs must allege Defendants were 'control persons' 

with reference to the fraudulent conduct alleged in the primary 

violation. But Plaintiffs' 'control' allegations are generalized, 

conclusory, and unsupported by factual allegations. Such 

 

10 Defendants requested judicial notice, Docket No. 60 ("RJN"), of 

ten documents attached to a declaration submitted by Sarah A. 

Brown, counsel for Defendants, Docket No. 59. Because Defendants' 

Motion focuses exclusively on scienter, the Court DENIES 

Defendants' request for judicial notice as to Cadence's stock 

prices over the relevant period. As this Court stated in its 

previous Order, it does not find this information to illuminate the 

questions of scienter in this case. See MTD Order at 26 n.10. The 

Court also DENIES Defendants' request for judicial notice of 

excerpts from nine 10-Q reports because it finds this information 

unnecessary. These documents were submitted to refute Plaintiffs' 

allegations that Cadence had added the qualifier "sufficiently" in 

its public representations, that its "disclosure controls and 

procedures were sufficiently effective." FAC ¶ 67; RJN at 2-3. 

Plaintiffs hoped that the use of this additional word may be 

indicative of fraud. Even assuming that Cadence made this change 

in its disclosures, the Court is not persuaded that this change 

adds any weight whatsoever to an inference of fraud. Consequently, 

the documents that Defendants have submitted to refute this point 

are unnecessary. 

Case 3:08-cv-05027-SC Document 17 Filed 03/02/10 Page 20 of 22
21 

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

28

United States District Court

For the Northern District of California 

'boilerplate' allegations are insufficient to state a claim." Id. 

(quoting In re Downey Sec. Litig., 2009 U.S. Dist. LEXIS 25007, 

*44-46 (C.D. Cal. Mar. 18, 2009)). 

 "'Control' is defined in the regulations as 'the possession, 

direct or indirect, of the power to direct or cause the direction 

of the management and policies of a person . . . .'" No. 84 

Employer-Teamster Joint Council Pension Trust Fund v. Am. W. 

Holding Corp., 320 F.3d 920, 945 (9th Cir. 2003) (quoting 17 C.F.R. 

§ 230.405). "In order to make out a prima facie case, it is not 

necessary to show actual participation or the exercise of power . . 

. ." Howard, 228 F.3d at 1065. Much of the FAC is directed at 

describing, with support from confidential witnesses, the 

Individual Defendants' roles within Cadence, in order to support 

the inference that they possessed the proper scienter as to the 1Q 

and 2Q agreements. While many of these generalized descriptions do 

not go a long way, in and of themselves, towards establishing the 

requisite scienter, they do strongly show that Defendants performed 

review, control, or accounting functions related to the relevant 

transactions that were misstated, and the process by which these 

transactions were recognized for accounting purposes. The Court 

concludes that Plaintiffs have met their burden to state a claim 

under Section 20(a). 

/// 

/// 

/// 

/// 

/// 

/// 

Case 3:08-cv-05027-SC Document 17 Filed 03/02/10 Page 21 of 22
22 

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

28

United States District Court

For the Northern District of California 

IV. CONCLUSION

 For the reasons stated above, Defendants' Motion to Dismiss is 

DENIED. 

IT IS SO ORDERED. 

Dated: March 2, 2010 

UNITED STATES DISTRICT JUDGE

 

Case 3:08-cv-05027-SC Document 17 Filed 03/02/10 Page 22 of 22