In re Apple Inc. Secs. Litig.

IN RE APPLE INC. SECURITIES LITIGATION

CASE NO. 19-cv-02033-YGR

UNITED STATES DISTRICT COURT NORTHERN DISTRICT OF CALIFORNIA

June 2, 2020

ORDER GRANTING IN PART AND DENYING IN PART DEFENDANT'S MOTION TO DISMISS

Re: Dkt. No. 91

Lead plaintiff Employees' Retirement System of the State of Rhode Island brings this securities class action litigation alleging false and misleading statements and omissions between August 2, 2017 and January 2, 2019 (the "Class Period"), against defendants Apple Inc. ("Apple" or the "Company"), Timothy D. Cook (Chief Executive Officer, or "CEO," of Apple), and Luca Maestri (Chief Financial Officer, or "CFO," of Apple). Specifically, plaintiff raises two causes of action: (1) violation of Section 10(b) of the Securities Exchange Act ("Exchange Act") and Rule 10b-5 promulgated thereunder by all defendants, and (2) violation of Section 20(a) of the Exchange Act by the individual defendants.

Defendants move to dismiss pursuant to Federal Rule of Civil Procedure 12(b)(6) and the Private Securities Litigation Reform Act of 1995 ("PSLRA"). Defendants challenge plaintiff's Section 10(b) and Rule 10b-5 claims on four grounds: (1) the complaint presents impermissible puzzle pleading that fails to conform to the requirements of Federal Rule of Civil Procedure 8; (2) none of the challenged statements are false or misleading, or otherwise actionable; (3) plaintiff fails to establish a strong inference of scienter, and (4) plaintiff fails to establish "loss causation" for certain statements. Defendants further move to dismiss plaintiff's Section 20(a) claim on the ground that plaintiff fail to plead a primary violation of Section 10(b).

Having considered the papers submitted and the pleadings in this action, the hearing held on March 10, 2020, and for the reasons below, the Court hereby GRANTS IN PART and DENIES IN PART the motion to dismiss WITH LEAVE TO AMEND.

I. BACKGROUND

The following facts are alleged in the Corrected Consolidated and Amended Class Action Complaint for Violation of the Federal Securities Laws ("CCAC").

A. Apple's iPhone Business

Apple is a multinational technology company that designs, develops, and sells consumer electronics, computer software, and online services. (CCAC ¶ 2.) Apple is the world's largest information technology by revenue and enjoys significant reach in emerging markets, including China. (Id. ¶¶ 2, 4.) The Company's flagship product is the Apple iPhone, which generated more than 60% of Apple's revenue in 2018. (Id. ¶ 3.) To profit from the iPhone, Apple relies significantly on "upgrading"—that is, the practice where consumers replace their older iPhones with a newer model. (Id. ¶ 65.) Apple has released on average one new iPhone model per year between 2007 and 2015 to encourage upgrading. (Id. ¶ 47.)

Greater China (a region that includes mainland China, Hong Kong, and Taiwan) represents an important market for Apple's iPhone business. (Id. ¶ 4.) In addition to being the third-largest market after the United States and Europe, Greater China is also Apple's highest growth market and represented nearly 20% of Apple's total annual sales for fiscal year 2018. (Id.) The Chinese market experiences significant competition from lower-cost smartphone makers, including Huawei, Xiaomi, and Oppo. (Id. ¶ 5.)

After nearly a decade of uninterrupted growth, the smartphone market began to stagnate in 2016. (Id. ¶¶ 6, 81.) Among other factors contributing to the decline, consumers were reportedly waiting longer to upgrade their phones. (Id. ¶¶ 58-60.) As sales of iPhones in the United States and Europe plateaued, Apple began relying increasingly more on China to sustain its rate of growth. (Id. ¶ 52.) However, competition from lower-cost smartphone makers—in addition to slowing economic growth and the U.S.-China trade war—have threatened Apple's ability to maintain sales in China. (Id. ¶¶ 55, 93-97.)

B. Apple's Throttling of Older iPhones

In 2016, reports surfaced that older iPhones were unexpectedly shutting down. (Id. ¶¶ 8, 109.) Apple initially responded by offering "battery replacement, free of charge" to a small range of devices. (Id. ¶ 111.) However, as reports showed that a greater number of phones were affected, Apple released a software update, iOS 10.2.1, that purportedly addressed the issue and that had the effect of "throttling," or slowing down, iPhone models 6 and later. (Id. ¶¶ 8, 114.) Apple did not disclose that the software update throttled old phones, but only claimed that it addressed the shutdown issue. (Id. ¶ 116.)

Following the release of the "throttling" update in January 2017, consumers grew increasingly frustrated with their older phones. (Id. ¶ 119.) Sales of newer iPhones surged as consumers began buying new phones to replace their slowed-down older iPhones. (Id.) The premature upgrading was a boon to Apple. (Id. ¶ 124.) Beginning in August 2017, Apple reported record upgrade rates, strong demand, and all-time record revenue for the iPhone. (Id. ¶¶ 124-25.) Defendants Cook and Maestri touted these results to investors. (Id. ¶¶ 268-395.) For example, Cook told investors that the iPhone experienced "strong demand at the high end of our lineup" and "our highest ever" upgrades in 2017, with the newest iPhone being "our most popular iPhone." (Id. ¶ 124.) He did not mention the existence of throttling or the possibility that throttling may artificially inflate demand for newer iPhones. (Id. ¶ 13.) The market responded by driving up Apple's stock price. (Id. ¶¶ 277, 284.)

In December 2017, an independent report revealed that Apple's software updates were causing the slowdown of older iPhones. (Id. ¶ 10.) The report also revealed that the unexpected shutdowns were caused by aging batteries and could be remedied by replacing the batteries (at the low cost of $79 per battery). (Id.) Shortly after, Apple admitted that it had deliberately throttled older model iPhones to save on battery life and avoid unexpected shutdowns. (Id. ¶ 11.) Consumers responded with outrage. (Id. ¶ 132.) Congress sent Apple a letter demanding answers about throttling, and Apple responded, in part, by assuring that "hardware updates" in newer iPhones would address the shutdown issues instead. (Id. ¶¶ 163-64.)

/// To contain the public fallout from the throttling revelations, Apple offered to replace iPhone batteries at the discounted price of $29 throughout 2018. (Id. ¶ 138.) Customers took advantage of the program: 11 million batteries were reportedly replaced under the program. (Id. ¶ 147.) Apple also offered battery replacements at 60% discount in China. (Id. ¶ 150.) According to Apple employees, the Company was tracking the rate of battery replacement. (Id. ¶¶ 251, 254.) Apple was also aware that battery replacements may hurt sales, as consumers were replacing batteries instead of upgrading their iPhones. (Id. ¶ 250.) For example, one employee reports that the gap between battery replacement numbers and missed sales was "practically one-to-one." (Id.)

The throttling revelations resulted in significant negative publicity for Apple, as well as multiple government investigations, consumer lawsuits, and regulatory fines. (Id. ¶¶ 156-59, 173-90.) However, the market did not immediately react to the revelations. (Id. ¶ 192.) Although Apple's stock price decreased, Apple again reported record profitability for the first fiscal quarter of 2018, while providing lower revenue guidance for the next quarter. (Id. ¶ 21.) Defendants continued to talk up financial results—which were in line with increasingly weakened guidance—until January 2, 2019, when Cook sent a letter to investors informing them that revenue for the first quarter of 2019 was expected to fall below guidance. (Id. ¶¶ 22-23, 25-28.) The letter cited the battery replacement program, as well as emerging market issues in Greater China, as reasons for the poor showing. (Id. ¶ 28.) Until that point, Cook claimed that Apple did not track battery replacement or even consider the program's effect on iPhone demand. (Id. ¶ 21.) The letter caused Apple's stock market to decrease by approximately 10%. (Id.)

Apple continued to throttle iPhones throughout 2017 and into 2019. (Id. ¶¶ 120, 168-81.)

C. Declining iPhone Sales in China

The throttling revelations came amid worsening business outlook in China. Multiple factors dampened demand for Apple iPhones beginning in 2016, driving Apple into fifth place for market share of China's smartphone market. (Id. ¶ 88.) These factors included increased competition from low-cost smartphone makers, worsening economic growth in 2018, the U.S.-China trade war, and reduced consumer confidence. (Id. ¶¶ 193, 201.) The throttling revelations accelerated these negative trends. (Id. ¶¶ 148-155.) Apple was aware that its sales were decliningor expected to decline in China,¹ based on at least the following facts:

(1) News publications broadly reported on the factors leading to decline in high-end smartphone demand throughout the Class Period (id. ¶¶ 194-200);

(2) Apple tracked "unbricking" of new iPhones (i.e., turning them on for the first time) on a daily basis (id. ¶¶ 216-17);

(3) Employees who worked in Apple's Asian offices report widespread negativity and anxiety, as well as general knowledge of declining sales, in 2017 and 2018 (id. ¶¶ 218-20);

(4) Employees who worked in Apple's Asian offices report that sales were tracked, analyzed, and discussed at meetings and that they showed declining sales and other negative economic outlook data in 2017 and 2018 (id. ¶¶ 223-32, 235-36, 256-67);

(5) Foxconn, an assembler of Apple iPhones, shut down iPhone production lines and decreased the number of workers involved in iPhone manufacturing between 2017 and 2018, according to two Foxconn employees (Id. ¶¶ 237, 240-42);

(6) Apple reportedly instructed two of its smartphone assemblers to halt plans for further production lines in November 2018 (id. ¶ 27);

Nevertheless, throughout the Class Period, defendants claimed that...