COURT FILE NO.: CV-13-495413-CP

DATE: 20151117

SUPERIOR COURT OF JUSTICE – ONTARIO

RE: Swisscanto Fondsleitung AG, Plaintiff / Moving Party

AND:

BlackBerry Limited, Thorsten Heins and Brian Bidulka / Defendants / Responding Parties

BEFORE: Justice Edward P. Belobaba

COUNSEL: Michael G. Robb, Paul J. Bates and S. Sajjad Nematollahi for the Plaintiff

James C. Tory, Andrew Gray and James Gotowiec for the Defendants

HEARD: October 15 and 16, 2015

Proceedings under the Class Proceedings Act, 1992

Decision on Leave motion

Belobaba J.

[1] The launch of the “next generation” BlackBerry 10 smartphone was not a success. Sales were disappointing, to say the least. So when BlackBerry announced an almost $1 billion inventory charge for unsold product, a major reduction in its work force and a change in revenue recognition methods, its share price fell dramatically. And, as is almost always the case when there is a significant drop in a company’s share price, class actions were commenced in the U.S. and Canada.

[2] This motion for leave under s. 138.8 of the Ontario Securities Act (“OSA”) turns on the misrepresentation and public correction requirements in s. 138.3. The latter sub-section makes clear that the statutory right of action for damages for secondary market misrepresentation requires both.

[3] The misrepresentation requirement – and whether the plaintiff can show a reasonable possibility of success at trial – is well-understood in Ontario class action law and has been the subject of considerable litigation.[2] However, the scope and content of the public correction requirement has not been judicially considered, at least not in a principled fashion.[3]

[4] The plaintiff says both requirements are satisfied and asks that leave to proceed with the statutory right of action be granted. The defendant argues that neither requirement has been satisfied, especially the public correction requirement, and asks that the motion be dismissed. The parties have agreed to defer the scheduling of the certification motion under the Class Proceedings Act[4] until the leave motion has been decided.[5]

Background

(1) The launch of the BB 10

[5] After a series of delays, BlackBerry launched its newest smartphone, the BlackBerry 10 (“BB 10”) on January 30, 2013 on a rolling schedule – first in the U.K. and Canada, and then two months later in the U.S.[6]

[6] There is little doubt that the BB 10 was important to the life of the company. Some analysts believed that the “long overdue” BB 10 was BlackBerry’s “last chance to become relevant again” and “the firm’s last roll of the dice after dwindling success.” CEO Thorsten Heins said “it would be an understatement to say that BB 10 represented the reinvention of the company itself.” Indeed, to coincide with the launch of the BB 10, the company changed its name from Research in Motion to Blackberry.

[7] Expectations were high because they had to be. The previous several years had been grim. One media report in early 2013 noted that a company that was once seen as “revolutionary” was now “clueless as to what customers wanted.”

[8] In fiscal 2012, Blackberry had experienced significant difficulties selling the BlackBerry 7 smartphone and PlayBook, its tablet computing device, and took inventory charges on both of them in the hundreds of millions of dollars. As a result of the uncertainties created by the market conditions and, in its words, “continued pressure on revenue and earnings,” BlackBerry discontinued its practice of providing quantitative future guidance regarding its business and operations.

[9] Needless to say, a great deal was riding on the BB 10.

(2) “Sell-in” and “sell-through” accounting

[10] BlackBerry’s revenue recognition policy, like those of other companies in its sector, was to recognize sales to its customers made in a quarter as revenue in that quarter. That is, Blackberry booked the sale as soon as the product was sold into the distribution channel to its distributors (known as “sell-in” accounting) rather than waiting until the distributors sold the product to the end-users (“sell-through” accounting).

[11] The sell-in method of revenue recognition is perfectly acceptable provided that GAAP criteria for doing so are satisfied. GAAP allows sell-in revenue recognition if at the time of sale into the distribution channel, the sales price was “fixed or determinable”-“fixed” meaning that the sales price was not subject to any future adjustments and “determinable” meaning that any future adjustments could be reasonably estimated and then accrued as a reduction to revenue.

[12] Put simply, if Blackberry was able to make reasonable estimates of the actual amount of future adjustments that might be needed to help move the product from distributors to end-users, the company could legitimately book the sales revenue at the moment the product was shipped to the distributor. However, if Blackberry was unable to reasonably estimate the pricing adjustments at the time of shipment, then GAAP required that revenue recognition be deferred until the sell-through was completed and the product sold to the end-user.

[13] Blackberry decided to use the sell-in method of revenue recognition in the launch and sale of the BB 10 and continued to do so until the sales suggested otherwise.

(3) Sales of the BB 10

[14] It was soon apparent that the BB10 products were not selling as expected. Indeed, the sales of the BB 10 to end-users were nowhere near what had been shipped to distributors. During the four-month period from January 30, 2013 to June 1, 2013 – that is, from the last month of 4Q13 to the end of 1Q14 – only about a quarter to a half of the BB 10 smartphones shipped to distributors had been purchased by end-users.

[15] The “in channel” inventory accumulated rapidly. In 1Q14 BlackBerry tried to drive the sell-through of BB 10 products by offering sales incentives to its channel and carrier partners. In 2Q14, BlackBerry reduced the price on new shipments and continued to offer sales incentives to the distributors. However, the sell-through levels of BB 10 products decreased and the volume of BB 10 products in the channel increased.

(4) The news release of September 20, 2013

[16] On September 20, 2013, BlackBerry announced its results for 2Q14, the three-month period ending August 31, 2013. In the three-page news release, BlackBerry reported that it was writing off by way of inventory charge close to $1 billion in unsold BB Z10 smartphones; it was eliminating 40 per cent of its global work force as part of an effort to cut 50 per cent of its operating costs; it was limiting its focus to corporate and professional customers; and it was pursuing “strategic alternatives”, corporate-speak for seeking a buyer. These measures were set out in bullet point highlights at the beginning of the news release and then discussed in more detail in the body of the release.

[17] At the bottom of the first page, just under the heading, “Preliminary Second Quarter Fiscal 2014 Results” the company said this:

For the second quarter, the Company expects to recognize hardware revenue on approximately 3.7 million BlackBerry smartphones. Most of the units recognized are BlackBerry 7 devices, in part because certain BlackBerry 10 devices that were shipped in the quarter will not be recognized until those devices are sold through to end customers. (Emphasis added.)

[18] Most readers were probably more focused on the $1 billion inventory charge and the reduction in workforce than on the news that in the second quarter BlackBerry was changing its revenue recognition practice from sell-in to sell-through – that is, it was deferring revenue recognition on new shipments of BB 10 products until those products were sold through to end customers.

[19] In any event, the market price of BlackBerry’s shares dropped by 15 per cent.

(5) The proposed class action

[20] The plaintiff, Swisscanto Fondsleitung AG (formerly Swisscanto Asset Management AG) is a European-based investment fund that purchased 1700 BlackBerry shares during the proposed class period and was still holding those shares at the end of the class period. The proposed class period is March 28, 2013 (when the MD&A for 4Q13 was released) and September 20, 2013 (the date of the news release that was just discussed.)

[21] The defendant BlackBerry is a well-known provider of wireless communications solutions and generates revenue primarily from sales of its hardware products through its carrier and distributor partners who, in turn, sell BlackBerry’s products to end customers. Headquartered in Waterloo, Ontario, the company is a reporting issuer in Ontario and all other provinces and trades on the Toronto Stock Exchange as well as on other global exchanges.

[22] The defendant Thorsten Heins was President, CEO and a director of BlackBerry over the relevant time period and the defendant Brian Bidulka was the CFO. Both have since left the company.

(6) The issues

[23] There are two basic issues: was there a misrepresentation and was there a public correction? That is, was BlackBerry’s revenue recognition on the sales of its BB 10 products in 4Q13 and 1Q14 and, ultimately, its financial statements for these two reporting periods, GAAP-compliant?[7] And if not, was the September 20 news release which noted that revenue on sales of BB10 units shipped in 2Q14 was being deferred until sell-through, a public correction of the earlier misrepresentation?

[24] Both an alleged misrepresentation and public correction are needed. If either is missing, there is no statutory “right of action for damages” under s. 138.3(1) of the OSA.

(Decision continues verbatim with all paragraphs and footnotes exactly as in the source text, preserving wording, structure, and links.)