Northern District of California Dismisses Securities Class Action Against Software Company
Securities Litigation
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  • Northern District of California Dismisses Securities Class Action Against Software Company


    On January 22, 2024, Judge William H. Orrick of the United States District Court for the Northern District of California dismissed a putative class action complaint alleging that a software company (the “Company”) and certain of its executives violated Section 10(b) and 20(a) of the Securities Exchange Act of 1934. City of Hollywood Firefighters Pension Fund v. Atlassian Corp., 3:23-cv-00519-WHO (N.D. Cal. Jan. 22, 2024). Plaintiffs alleged that the Company made false and misleading statements about the strength of its financial outlook. The Court dismissed the complaint with leave to amend, holding that plaintiffs failed to allege falsity with respect to most of the alleged misrepresentations or sufficient facts giving rise to a strong inference of scienter with respect to one omission that was alleged plausibly.

    The Company sells various software products. Its growth strategy focuses on upgrading users from free to paid versions through “Free to Paid Conversions” (where customers that use the free version upgrade to a paid version) and “Paid User Expansion” (where customers that use a paid version increase the number of paid users). The Free to Paid Conversions account for approximately 10% of the revenues, while the Paid User Expansion accounts for approximately 90%. In November 2022, the Company announced slowed growth of both Free to Paid Conversions and Paid User Expansion. The Company stated that it “saw a more pronounced continuation of the trend discussed last quarter, where fewer Free instances converted to paid plans.” Plaintiffs alleged that the Company knew of the slowdown in its Paid User Expansion by mid-July 2022 but falsely denied or omitted the existence of that trend in several statements made in August and September 2020. Specifically, plaintiffs alleged four categories of misstatements and omissions: (1) statements in an early August earnings call that there was a small decrease in its Free to Paid Conversions; (2) a statement in its annual report (the “Annual Report”) filed with the Securities Exchange Commission (“SEC”), which noted that the Company was “not aware of any trends, including in the macroeconomic environment, that affected its business”; (3) the Company’s former Chief Operating Officer’s statements at a conference in September 2020 that the Company was experiencing a “bit of softness” in its Free to Paid Conversions but emphasized that the impact was small; and (4) statements in the amendment to the Company’s Form S-8 Registration Statement filed with the SEC in October, 2020 that incorporated the statements in its August annual report. 

    The Court first held that plaintiffs failed to allege that the statements from the early August earnings call were false. The statements about the slowdown related to Free to Paid Conversions, not Paid User Expansion, and they were not misleading when read in context with the questions that were being answered. The Court found that various Company statements referenced in the pleadings, as well as statements in other press releases and SEC filings of which it took judicial notice, showed that the slowdown in Paid User Expansion began in mid-August at the earliest. Accordingly, plaintiffs failed to plead that the statements contradicted anything that defendants knew at the time of the earnings call (August 4). 

    The Court also rejected plaintiffs’ claim that the statement that the Company was “not aware of any trends . . . that are reasonably likely to have a material effect on our revenues, income, profitability” was misleading because it did not disclose the slowdown in the growth of Paid User Expansion. The Court held that “context is key” and that the statement related to future risks posed by changing macro-economic environment that were uncertain and unpredictable. Even if the referenced “trend” related to the Paid User Expansion slowdown, the Court again noted that the earliest date on which the slowdown could have begun was mid-August and that plaintiffs did not sufficiently plead that it was a “trend” at that time. The Court also rejected claims based on the amendment to the S-8 Registration Statement, which incorporated by reference the Company’s Annual Report, for the same reasons. 

    The Court next considered statements made by the COO at a conference in September 2022, which plaintiffs alleged were misleading because they “did not fully convey the slowdown to Free to Paid Conversions” and “provided no commentary on the Paid User Expansion slowdown that began in mid-August.” The Court found that the statements adequately conveyed the Free to Paid Conversions slowdown. However, the Court also found that the lack of commentary on the Paid User Expansion slowdown was plausibly misleading because defendants allegedly did not tell the market of a slowdown in the majority of its business while making encouraging statements about the “softness” in small parts of its business. According to the Court, “because the defendants specifically and repeatedly told investors over the years that they closely monitored metrics throughout the year and they told investors that they were closely monitoring those metrics, it was misleading to not communicate relevant information about this specific metric a month after the change began, even if it was not yet a full-blown ‘trend.’” 

    However, the Court held that plaintiffs failed to adequately allege scienter with respect to the COO’s statements at the September conference. The Court found that plaintiffs failed to show how the COO was deliberately reckless in making the statements at the conference and that there were no allegations that the COO personally benefitted from the misrepresentations. Instead, the Court found that there was a “plausible, nonculpable” explanation for the Company’s conduct: by holding the COO’s call mid-quarter, the Company tried to “provide open and regular communication to their shareholders during uncertain economic times.” Because plaintiffs failed to adequately plead scienter, the Court dismissed the complaint.

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