In Re: Ashworth, Inc. Securities Litigation 99-CV-00121...

Case 3:99-cv-00121-L-JFS Document 22 Filed 12/15/99 of 56

USDC SCAN INDEX SHEET

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LMH 12/17/99 9:02

3:99CV-00121 JOHNSON V. ASHWORTH INC

*22*

*AMDCNP *


ORIGINAL MILBERG WEISS BERSHAD

HYNES & LERACH LLP WILLIAM S. LERACT-I (68581) BLAKE M. HARPER (115756) ......... ...

ARTHUR C. LEABY (149135) ....... ......

MARISA JANINE (199316) 600 West Broadway, Suite 1800 .•.• .-.., San Diego, CA 92101 Telephone: 619/231-1058

BERGER & MONTAGUE, P.C. ....... DANIEL BERGER TODD S. COLLINS AS

SANDRA STEIN, Of Counsel 1622 Locust Street Philadelphia, PA 19103 Telephone: 215/875-3000

THE OLSEN LAW FIRM I KURT B. OLSEN 2121 'K" Street, NW Suite 800 Washington, DOCUMENT 20037 Telephone: 202/261-3553

Co-Lead Counsel for Plaintiffs

UNITED STATES DISTRICT COURT

SOUTHERN DISTRICT OF CALIFORNIA

NEW HAMPSHIRE RETIREMENT SYSTEM, ) Master Fi e N JOHN GERVAIS, DEBRA KOPP and ) 99cv01 1-L( AH) TONY LE,

CLASS ACT Lead Plaintiffs,

V.

ASHWORTH, INC., RANDALL L. • HERREL, SR., GERALD W. MONTIEL, A. JOHN NEWMAN, JOT-IN L. ASHWORTH and MARY MONTIEL,

CONSOLIDATED AMENDED COMPLAINT FOR VIOLATION OF THE SECURITIES EXCHANGE ACT OF 1934

Defendants.

In re ASHWORTH, INC. SECURITIES LITIGATION

I This Document Relates To:

ALL ACTIONS.

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1

JURISDICTION AND VENUE

2

1. Jurisdiction is conferred by §27 of the Securities

3 Exchange Act of 1934 (p1934 Act") . The claims asserted herein

4 arise under §10(b) and 20(a) of the 1934 Act and SEC Rule lob-S.

5

2. Venue is proper in this District pursuant to §27 of the

6 1934 Act. Many of the false and misleading statements were made in

7 or issued from this District.

8

3. Venue is also proper in this District because the

9 Company's operational headquarters are in Carlsbad, California,

10 where the day-to-day operations of the Company are directed and

11 managed, and most, if not all, of the other defendants reside in

12 this District.

13

THE PARTIES

14

4. By Order dated April 30, 1999, the Court appointed the

15 New Hampshire Retirement System, John Gervais, Debra Kopp and Tony

16 Le as Lead Plaintiffs in this action.

17

(a) As described in its Certification previously filed

18 with this Court, Lead Plaintiff New Hampshire Retirement System

19 purchased or acquired 63,070 shares of Ashworth stock during the

20 Class Period, and suffered damages as a result of violations of the

21 federal securities laws alleged herein.

22

(b) As described in his Certification previously filed

23 with this Court, Lead Plaintiff John Gervais purchased or acquired

24 2,400 shares of Ashworth stock during the Class Period, and

25 suffered damages as a result of violations of the federal

26 securities laws alleged herein.

27

(c) As described in her Certification previously filed

28 with this Court, Lead Plaintiff Debra Kopp purchased or acquired

- 1 - 99cv0121L(JAH)


1 750 shares of Ashworth stock during the Class Period, and suffered

2 damages as a result of violations of the federal securities laws

3 alleged herein.

4

(d) As described in his Certification previously filed

5 with this Court, Lead Plaintiff Tony Le purchased or acquired 1,000

6 shares of Ashworth stock during the Class Period, and suffered

7 damages as a result of violations of the federal securities laws

S alleged herein.

9

5. Defendant Ashworth, Inc. ("Ashworth" or the "Company') a

10 Delaware corporation with its principal executive offices located

11 in Carlsbad, California, is a designer, marketer, and distributor

12 of golf-inspired sports apparel, headwear and shoes under the

13 Ashworth brand name. Ashworth's common stock trades in an

14 efficient market on the NASDAQ National Market System. Ashworth's

15 products are sold in the U.S. and internationally in golf pro

16 shops, resorts, and department or specialty stores, and the

17 Company's core business is selling to golf pro shops located at

18 golf courses. According to the Company's 1997 SEC Form 10-K,

19 Ashworth designs two spring, two summer, two fall, one resort and

20 one holiday line per year. Ashworth's products consist of knits

21 and woven shirts, pullovers, sweaters, vests, pants, shorts, hats,

22 shoes, and accessories. Ashworth's products are priced in the

23 middle to upper-middle price range for golf apparel.

24

(a) Defendant Randall L. Herrel, Sr. ('Herrel") was at

25 all relevant times President and CEO of Ashworth and is a director.

26 He signed the 1997 SEC Form 10-K Report as well as all SEC Form 10-

27 Q Reports issued during the Class Period. During the Class Period

28

-2- 99cv0121-L (JAR)


1 and as part of the fraudulent scheme, Herrel received a $50,000

2 bonus for Ashworth's fiscal 1997 results.

3

(b) Defendant Gerald W. Montiel ("G. Montiel") was at

4 all relevant times Chairman of the Board of Ashworth. He signed

5 the 1997 SEC Form 10-K Report. G. Montiel announced his retirement

6 after Ashworth's July 1998 disclosures and after he unloaded 95% of

7 his stock holdings he actually owned. During the Class Period, and

S as part of the fraudulent scheme, G. Montiel sold 452,000 shares of

9 Ashworth stock at prices as high as $17.93 per share based on

10 inside information, pocketing over $6.6 million.

11

(c) Defendant A. John Newman ("Newman") was at all

12 relevant times Vice President of Finance, Treasurer and Chief

13 Financial Officer of the Company. He signed the 1997 SEC Form 10-K

14 Report as well as all SEC Form 10-Q Reports issued during the Class

15 Period. During the Class Period, and as part of the fraudulent

16 scheme, Newman sold 48,000 shares of Ashworth stock at prices as

17 high as $16.14 per share, pocketing over $710,000. These sales

18 constituted 100% of the Ashworth stock Newman actually owned.

19

(d) Defendant John L. Ashworth ("J. Ashworth") was at

20 all relevant times a director of the Company. During the Class

21 Period, and as part of the fraudulent scheme, J. Ashworth sold

22 609,922 shares of Ashworth stock at prices as high as $16.37 per

23 share based on inside information, pocketing over $7.3 million.

24 These sales constituted 99% of the Ashworth stock J. Ashworth

25 actually owned.

26

(e) Defendant Mary Montiel ("Mary Montiel") was at all

27 relevant times Vice President-Manufacturing of the Company. During

28 the Class Period, and as part of the fraudulent scheme, Mary

- 3 - 99cv0121-L(JA}T)


I IMontiel sold 61,000 shares of Ashworth stock at prices as high as

2 $17.00 per share, based on inside information, pocketing $982,000.

3 These sales constituted 100% of the Ashworth stock Mary Montiel

4 actually owned.

5

6. The individuals named as defendants in 15(a)-(e) are

6 referred to herein as the "Individual Defendants." The Individual

7 Defendants, because of their positions as high-ranking officers

8 and/or directors with the Company, possessed the power and

9 authority to control the contents of Ashworth's quarterly and

10 annual reports, SEC filings, press releases and presentations to

11 securities analysts, money and portfolio managers and institutional

12 investors, i.e., the market. Each defendant was provided with

13 copies of the Company's reports, SEC filings and press releases

14 alleged herein to be misleading prior to or shortly after their

15 issuance and had the ability and opportunity to prevent their

16 issuance or cause them to be corrected. Because of their positions

17 and access to material non-public information available to them but

18 not to the public, each of these defendants knew that the adverse

19 facts specified herein had not been disclosed to and were being

20 concealed from the public and that the positive representations

21 which were being made were then materially false and misleading.

22 Despite their duty not to sell their Ashworth stock under such

23 circumstances, defendants nonetheless did so The Individual

24 Defendants are liable for the false statements pleaded herein, as

25 those statements were each 'group-published" information, the

26 result of the collective action of the Individual Defendants.

27

7. Each defendant is liable for (i) making false statements,

28 or (ii) failing to disclose adverse facts known to him about

-4- 99cv012l-L(JAH)


1 Ashworth while selling Ashworth stock, or (iii) participating in a

2 fraudulent scheme which permitted defendants to sell more than Li

3 million shares of Ashworth stock at artificially inflated prices

4 for $15+ million in insider-trading profits. Defendants'

5 fraudulent scheme and course of business that operated as a fraud

6 or deceit on purchasers of Ashworth stock was a success, as it

7 (i) deceived the investing public regarding Ashworth!s products and

8 business; (ii) artificially inflated the price of Ashworth's stock

9 and publicly traded options; (iii) caused Plaintiffs and other

10 members of the Class to purchase Ashworth stock and options at

11 inflated prices; and (iv) permitted the defendants to sell off more

12 than 1.1 million shares of their Ashworth stock, pocketing over $15

13 million in insider-trading proceeds.

14

STATEMENT OF THE CASE

15

8. This is a securities class action on behalf of purchasers

16 of the common stock and publicly traded options for common stock of

17 Ashworth from September 4, 1997 through and including July 15, 1998

18 (the 'Class Period"), against Ashworth and certain of its officers

19 and directors for violations of the 1934 Act.

20

9. Ashworth designs, markets and distributes sports apparel,

21 headwear and shoes, which are sold in golf proshops, resorts and

22 department stores. After a successful 1993-1994, during which

23 Ashworth was profitable and its stock traded in the $10-$14 range,

24 Ashworth's business performed poorly from 1995 to mid-1997. As a

25 result, Ashworth's stock plunged to the $5-$7 range for much of

26 1995 and 1996, as Ashworth experienced no sales growth and

27 declining gross margins. Ashworth reported earnings per share

28 ( 1'EPS") of only $0.12 in each of fiscal 1995 (ended October 31,

- 5 - 99cv0121-L(JAH)


1 1995) and fiscal 1996 (ended October 31, 1996) , respectively, after

2 reporting $0.34 and $0.40 in fiscal 1993 and fiscal 1994,

3 respectively-' Because of these disappointing results, Ashworth

4 hired a new CEO in December 1996, defendant Herrel.

5

10. As a result of Ashworth's low stock price, executives and

6 directors possessed thousands of options to purchase Ashworth's

7 stock at $5.75 to $6.50 per share and needed Ashworths stock price

8 to increase so they could exercise their options and immediately

9 sell the shares for risk-free profits. Additionally, some of

10 Ashworth's executive officers were paid bonuses calculated on the

11 basis of Ashworth's BPS.

12

11. in fiscal 1997 and the first half of fiscal 1998,

13 Ashworth's business appeared to stage a major recovery, as Ashworth

14 reported increasing sales and gross margins and strong earnings

15 growth. As a result, the price of Ashworth stock moved up over 50%

16 to $14 per share by early January 1, 1998 and on to a Class Period

17 high of $18 per share in March 1998.

18

12. During the Class Period, Ashworth's executives issued

19 extremely positive statements about Ashworth's business. They led

20 the public to believe that, under Herrel, Ashworth had completely

21 recovered from its pre-Class Period problems, continuously

22 reporting that Ashworth was experiencing"improvement" or

23 "significant improvement" in its financial results, and a

24 "substantial increase" in sales. Defendants also told investors

25 that Ashworth enjoyed strong or "increasing demand" for most of its

26 products and was successfully moving its production operations

27 offshore, which provided efficiencies and reduced costs. Ashworth

28 1 Ashworth's fiscal year ends on October 31.

99cv0l21-L (JAB)


1 management also said the Company made its offshore products at more

2 than one offshore plant - "double sourcing" - thereby dismissing

3 concerns that offshore production was risky in terms of quality and

4 availability. In addition, defendants represented that inventories

5 were appropriately high to satisfy strong order levels. According

6 to Ashworth, inventory "increased 35% and was on plan" for fiscal

7 1998 year-end, and Ashworth was essentially on plan to achieve

8 fiscal 1998 gross margins of 40% and EPS of $0.60+.

9

13. The truth, however, contrasted starkly with defendants'

10 representations. During the Class Period, undisclosed to the

11 public, Ashworth's purportedly successful financial turnaround and

12 "substantial increase" in sales were created through smoke-and-

13 mirrors accounting and concocted "sales." According to

14 knowledgeable sources, Defendant Herrel always pushed for more

15 "sales" regardless of whether they were obtained legitimately or

16 not. At the end of quarters during and before the Class Period,

17 there would be a huge push to meet numbers. Defendants created

18 phantom sales by shipping Ashworth merchandise to customers who had

19 not placed orders while recording these shipments as "sales." Even

20 more egregiously, just before quarter ends, defendants routinely

21 shipped merchandise for which there was no buyer to warehouses of

22 its sales representatives and recorded these shipments as sales.

23

14. According to knowledgeable sources, before quarter ends,

24 Ashworth's senior executives would contact its sales

25 : representatives to convince them to take and store $50,000 -

26 $100,000 worth of goods, so Ashworth could improperly record

27 revenue. On at least one occasion, Ashworth caused one of its

28 sales representatives in the Southeast to ship $100,000 worth of

99cv0121-L(JAH)


1 I merchandise to a rented warehouse to record the shipment as a sale,

2 even though there was no sale or customer for the merchandise.

3 Defendants also frequently shipped massive amounts of merchandise

4 to the warehouse of Regional Sales, Inc., an independent sales

5 representative, even though there were no sales or customers for

6 such products, simply to create phony "sales." Defendants also

7 created bogus "sales" by deliberately shipping customers

8 nonconforming in-stock merchandise when such customers ordered out-

9 of-stock merchandise. In addition, Ashworth forced its sales

10 representatives to take large amounts of merchandise they did not

11 order or want under a so-called " car stock" program and recorded

12 those shipments as sales in order to falsely inflate sales.

13 Defendants further falsely inflated Ashworth's sales by shipping

14 goods to customers months before the customers requested shipment,

15 yet booked the shipments as sales at the time of early shipment.

16

15. According to knowledgeable sources, defendants also

17 improperly boosted the appearance of strong sales demand by

18 contacting customers at quarter-ends and offering special terms,

19 including discounting, liberal rights of return, and extended

20 payment terms to customers (and others) such as Cyrk, Inc., Granite

21 Golf Corporation, Cobblestone Golf Group, Edwin Watts Golf Shops,

22 Club Corporation of America, American Golf, T.J. Maxx and The Walt

23 Disney Co. in Orlando) . In one instance, for example, a"sale"

24 was made to Disney, which was given an unlimited right of return

25 and extended payment terms of 120 days. In each case, defendants

26 recorded the shipments as sales even though the sale was incomplete

27 and/or the "purchasers" were not obligated to pay unless they re-

28 sold the goods.

- 8 - 99cv0121-L(JAH)


1

16. In addition, defendants materially manipulated margins

2 and earnings by drawing down Ashworth's reserve for obsolete

3 inventory. By fiscal year-end 1997, defendants had cut the reserve

4 by two-thirds from a year before. Defendants did this even though

5 they knew inventories were excessive. According to knowledgeable

6 sources, it was common knowledge within Ashworth that the Company

7 was carrying excess inventory throughout the Class Period.

B Defendants thereby materially inflated Ashworth's reported EPS.

9

17. Defendants materially inflated sales, earnings margins,

10 and inventory, deceiving the investing public. Defendants thus

11 caused Ashworth's financial results reported during the Class

12 Period to be in gross violation of Generally Accepted Accounting

13 Principles (1GAAPh1) by treating the above-described shipments as

14 sales, and by improperly accounting for its inventory.

15

18. Defendants also falsely represented during the Class

16 Period that Ashworth was committed to making "quality products" or

17 that the Company was "commit[ted] to quality" when in fact

18 defendants were aware that Ashworth's products suffered from

19 significant defects and low quality as a result of the Company's 1 20 move of production offshore.

21

19. Defendants carefully concealed their conduct:

22

(a) Rather than disclose that they were falsely

23 reporting sales and artificially inflating sales levels by means of

24 special discounts, unlimited rights of return and extended payment

25 terms, defendants ascribed sales increases to lithe increasing

26 demand for the Ashworth brand" (SEC Form 10-Q Reports for first two

27 quarters of fiscal 1998, ending January 31, 1998 and April 30,

28 1998) . Only later, after the Class Period, did defendants finally

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1 admit that 11 lejarly in the 1998 fiscal year defendants had

2 maximized sales not by responding to "increasing demand" but

3 instead 'by giving extended payment terms to customers." (1998 SEC

4 Form 10-K Report.)

5

(b) Rather than disclose that they were artificially

6 inflating reported income by stripping inventory obsolescence

7 reserves, only later, after the Class Period, did defendants report

8 a $1.9 million loss caused in part by "adjustments related to

9 excess prior season inventory." (1998 SEC Form 10-K Report.)

10

(c) Rather than disclose that they were concocting and

11 recording sales via shipments to nonexistent, unwilling or unable

12 customers, defendants assured the public that the Company's

13 financial statements included the adjustments necessary for "fair

14 presentation" of Ashworth's financial results. (SEC Form 10-Q

15 Reports for first two quarters of fiscal 1998.) Only later, after

16 the Class Period, did plaintiffs' counsel's investigation unearth

17 •the fictitious sales.

18

(d) Rather than disclose that Ashworth's products

19 I manufactured offshore suffered from significant defects, such as

20 being mis-sized and being of extremely low quality, defendants told

21 the public that Ashworth delivered quality products, that its

22 I offshore facilities were selected based on their ability to produce

23 quality products and that high quality was ensured due to double

24 sourcing.

25

20. Defendants' public statements, described above, were

26 materially false. The truth was that Ashworth was recording

27 material amounts of revenue from "phantom' sales, materially

28 underreserving for obsolete inventory, and stuffing distribution

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1 channels (or forcing much more product on sales representatives and

2 distributors than they wanted and would be able to sell) . The

3 effect of this fraud was to inflate Ashworth's financial results

4 and to cause the market to overvalue Ashworth stock and options

5 during the Class Period.

6

21. Defendants' fraud began to unravel in July 1998.

7 Ashworth was forced to reveal disappointing results for the July

8 1998 quarter (the third fiscal quarter) that were well below

9 expectations. They also projected poor results for the balance of

10 fiscal 1998. Ashworth later admitted to production problems and

11 inadequate controls in offshore factories leading to defective and

12 substandard merchandise, and stated that it was going to implement

13 double sourcing (essentially admitting that, contrary to prior

14 representations, Ashworth lacked double sourcing during the Class

15 Period) . Upon this news, Ashworth's stock declined from nearly $13

16 per share to $8-1/8 on huge volume of 7.9 million shares, more than

17 19 times its daily average. Ashworth later disclosed that bookings

18 for its Basics line were well below prior levels and that overall

19 orders were well below prior forecasts. Ashworth's stock has never

20 recovered, trading subsequent to the Class Period at below $4 per

21 share.

22

22. During the Class Period, while inflating Ashworth's stock

23 and options prices by means of material misrepresentations and

24 omissions, certain of Ashworth's top executives and directors named

25 as defendants herein unloaded more than 1.1 million shares of

26 Ashworth stock from their personal portfolios - reaping over $15

27 million in illegal insider-trading proceeds. Ashworths top

28 executives sold between 95%-100% of the Ashworth stock he or she

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1

2

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actually owned. Collectively, these executives sold over 97% of

their shares actually owned:

Defendants Shares

% of Shares Sold Proceeds

Actually During the Class Period

Owned/Sold During Class Period

Ashworth

609, 922

$7,358,512

99%

G. Montiel

452,000

$6,622,072

95%

M. Montiel

61,000

$ 982,000

100%

Newman

48,000

$ 710,320

100%

TOTALS: 1,170,922 $15,672904

97,5%

Ashworth, Inc. January 2, 1996 - December 14, 1999

Daily Stock Prices

3/9-23/98

Insider defendants sell 513,000 shares for $8,753,070 6/1 9-29/98

Insider deendarts sell

9/9-1007197 7,000 shares for $104,122

Insider defendants sell 639,922 shares for $6,683.72

0

% of Beneficial Ownership Sold During Class

Period

97%

43%

73%

55%

63%

20

15

U

10

f U

8 1/12-15/98

Insider defendants seIIll,000shares for $132,000

•.— ;Ias Per1

12)02196 04117/97 08/29/97 011140 06/01198 10113/98 03/01/99 07/14/99 11/24/99 02107/97 06/24197 11105/97 03/24/98 08/06/98 12118/98 05/06/99 09/20/99

- 12 - 99cv0121-L (JAR)


1

DEFENDANTS' SCIENTER

2

23. The Individual Defendants had the ability to commit the

3 fraud complained of, and did, as they were the top executives

4 and/or directors of Ashworth. Each of the Individual Defendants

5 was in a position to, and did, learn the details of Ashworth's

6 business condition, financial reporting, operating results,

7 prospects, and sales and inventory practices, through numerous

8 management meetings, through conversations with other executive

9 officers and directors, and through the review of regularly

10 prepared reports that were circulated among defendants and others

11 regarding the Company's sales, orders, inventories, products, and

12

financial performance. As Ashworth's top executives and/or

13 directors, the Individual Defendants controlled Ashworth's publicly

14 issued financial statements and the disclosures made in them,

15 Ashworth's public statements, and its SEC filings, and thus could

16 falsify them. They ran Ashworth as"hands-on" managers dealing

17 with the important issues facing Ashworth's business such as

18 directing and managing sales, monitoring and controlling Ashworth's

19 inventory, supervising the quality of Ashworth's offshore-produced

20 merchandise and issuing Ashworth's SEC filings, press releases and

21 financial statements.

22

24. Because of increased sales, inventory control and product

23 quality were key factors in Ashworth's attempt to turn around its

24 dismal pre-Class Period performance and to meet its internally

25 budgeted and publicly disseminated fiscal 1998 and 1999 quarterly

26 EPS targets, defendants constantly monitored each of these key

27 factors impacting Ashworth's business. Not only did defendants

28 learn of the adverse factors affecting Ashworth's business, they

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l directed the phony sales and manipulated Ashworth's inventory

2 reserves, which they concealed from the investing public.

3

25. Contrary to their representations about strong demand for

4 Ashworth's products, its rlsubstantial[ly] increas[ing]' sales and

5 assurances that inventory levels were in accord with their plan to

6 turnaround Ashworth, Ashworths financial results were only

7 achieved in fiscal Q3-Q4 1997, fiscal 1997, and fiscal Q1-Q2 1998

8 as a result of falsified financial statements, which defendants

9 deliberately manipulated through concocting phony sales and

10 improperly manipulating inventory reserves as alleged herein. The

11 manipulation and falsification of Ashworth's financial statements

12 which are described more fully in 13-17, 2627, 68-83 were

13 initiated and directed by the Individual Defendants. Defendants

14 'knew at all times the true nature of Ashworth Is purported "sales,"

15 its inventories and its offshore production.

16

26. According to knowledgeable sources, in the final weeks of

17 each quarter during the Class Period, defendant Herrel held

18 meetings with members of the Ashworth's sales force. The meetings

19 took place at Ashworth's Carlsbad headquarters. Ashworth's

20 National Sales Manager, Jim Fitzpatrick, and from time to time,

21 defendant Newman, also attended these meetings with other Ashworth

22 sales personnel. Herrel directed and ran the meetings. At these

23 meetings, i-{errel personally directed the phony sales alleged

24 herein, including that merchandise be shipped to sales

25 representatives and booked as sales, even though the

26 representatives had not ordered such merchandise, did not want it

27 and did not have anyone to sell it to. Within Ashworth, this

28 activity was known as the 'car stock" program. In addition, Herrel

- 14 - 99cv0121-L(JAH)


1 personally directed the shipment of merchandise for which there was

2 no buyer to warehouses such as the one in the Southeastern United

3 States alleged herein, and directed that these shipments be

4 recorded as sales in order to meet quarterly sales projections.

5 Herrel also directed the shipment of massive amounts of merchandise

6 for which there was no buyer to the warehouse of an independent

7 sales representative named Regional Sales, Inc. at quarter ends to

8 create phony "sales."

9

27. According to knowledgeable sources, in sales meetings at

10 quarter end, Herrel also directed sales personnel to call customers

11 and offer them unlimited rights of return or payment terms of 90

12 Idays or more in order to induce customers to order merchandise.

13 Herrel directed that these"sales" be immediately booked in that

14 quarter as sales even though it was improper to do so. Herrel also

15 directed the shipment of goods months before the customer wanted

16 the merchandise shipped so that Ashworth could book these unwanted

17 early shipments as sales." For example, many customers were

18 located in northern parts of the United States where, during the

19 Winter, the weather sharply reduced the demand and need for

20 Ashworth's golfing products. These customers placed orders during

21 the Winter but directed that shipment of the goods not be made

22 until Spring when the weather was warmer and demand picked up.

23 Nonetheless, in order for Ashworth to be able to record sales

24 during Winter quarters, and thereby improperly inflate these

25 quarter's sales, Herrel directed that the Spring orders be shipped

26 during the Winter to record a"sale." Herrel and Newman reported

27 to the other Individual Defendants what occurred in these sales

28 meetings.

- 15

99cv0121-L(JAH)


1

28. According to knowledgeable sources, defendant Newman

2 attended many of the above-described sales meetings and therefore

3 was aware of the manipulation of Ashworth 1 s sales. In addition,

4 Newman was the Chief Financial Officer ("CFO") of the Company. One

5 of his main responsibilities as CFO was the preparation of

6 Ashworth's financial statements. As a result, Newman was directly

7 and personally involved in preparing Ashworth's false financial

8 statements issued during the Class Period. As CFO, Newman had

9 available to him all information concerning Ashworth's sales,

10 inventories and financial condition. In particular, Newman was

11 aware of and directed the recording of the phantom sales and

12 falsified inventory numbers alleged herein which were then reported

13 in Ashworth's financial statements disseminated to the public and

14 filed with the SEC.

15

29. Defendant Mary rvlcntiel was Ashworth's Vice President of

16 Manufacturing. Mary Montiel was primarily responsible for

17 overseeing, supervising and managing Ashworth's production of

18 merchandise, including the production of merchandise offshore.

19 Because of her position in the Company, Mary Montiel was intimately

20 and directly aware of all aspects of Ashworth's merchandise

21 manufacturing. In particular, because of her position within the

22 Company, Mary Montiel was completely aware of and informed

23 concerning Ashworth's offshore production. As a result, Nary

24 Montiel was directly aware of the problems Ashworth was having with

25 its offshore production, including the facts that Ashworth was not

26 double sourcing as represented during the Class Period, and that

27 the merchandise which was being manufactured offshore during the

28

- 16 - 99cv0121-L(JAH)


1 Class Period was of low quality and had defects, such as being mis-sized.

2

30. Defendant G. Montiel was Chairman of the Board of

3 Ashworth and served as both an officer and director of the Company

4 during the Class Period. As a result, he was intimately involved

5 in all aspects of Ashworth's operations, including its sales,

6 inventory and offshore production, and day-to-day management of the

7 Company. Defendant J. Ashworth was one of the founders of the

8 Company and a director of Ashworth. He too was intimately involved

9 i Ashworth's business and therefore was aware of the undisclosed

10 facts alleged herein.

11

31. The defendants manipulated Ashworth's sales to insure

12 that the targeted financial results for fiscal Q397, fiscal Q497,

13 fiscal 97, fiscal Q198 and fiscal Q298 were met,

14

32. Each of the Individual Defendants, because of their top

15 executive positions with Ashworth and involvement in the day-to-day

16 management of its business, actually knew from conversations with

17 other corporate officers and employees and their attendance at

1 management and Board meetings, the adverse non-public information

19 about Ashworth's falsified financial statements, its phony sales,

20 its jury-rigged inventory numbers, Ashworth's deteriorating revenue

21 and BPS prospects, the lack of demand for its products and the low

22 quality of its merchandise produced offshore. Thus, each

23 Individual Defendant actually knew or with deliberate recklessness

24 disregarded that the public statements pleaded in ¶1J35-37, 39-42,

25 44, 46-48, 50-52 and 54-60 were false and/or misleading when made.

26

33. Also supporting a strong inference of defendants'

27 scienter is the Individual Defendants insider trading. While

28 Ashworth's top insiders were issuing favorable statements about

- 17 - 99cv0121-L(JAH)


1 Ashworth, knowing that such statements were untrue, the Individual

2 Defendants sold shares of Ashworth stock for more than $15 million

3 - 97.5% of their collective holdings of Ashworth stock actually

4 owned - to profit personally from the artificial inflation in

5 Ashworths stock price their fraudulent scheme had created.

6 Notwithstanding their access to confidential information as a

7 result of their status as directors, officers and/or insiders of

8 the Company, and their corresponding duty to disclose adverse

9 material facts before trading in Ashworth stock, the Individual

10 Defendants sold significant amounts of Ashworth shares at

11 artificially inflated prices in order to profit from the fraud, and

12 did so while in possession of material non-public information.

13 Defendants' insider selling during the Class Period is detailed

14 below:

15 NAME DATE SOLD SHARES

PRICE PER PROCEEDS

% OF

% OF

16 SOLD

SHARE FROM SALE

SHARES

BENEFICIAL

OWNED

OWNERSHIP

17 SOLD

SOLD

Ashworth, 09/18/97

2 500

$10.75

$ 26,875 18 John 39/19/97

162,422

$10.75

$1,746,037

10/01/97

235, 300

$10.12

$2,378,200 19 10/15/97

35, 000

$ 9.79

$ 342,680

03/09/98

175, 000

$16.37

$2,864,750 20 609,922

$7, 358, 512

99%

97%

21

Montiel

09/19/97

110, 000

$10.80

$1, 188, 000

Gerald N

09/22/97

43,000

$10.71

$ 428,400 22

09/24/97

45, 000

$10.59

$ 476,550

03/23/98

20, 625

$17.64

$ 363,825

23

03/23/98

29,375

$17.64

$ 518,175

03/23/98

100, 000

$17.93

$1,793, 000

24 03/23/98

100, 000

$17.50

$1, 750, 000 06/19/98

3, 000

$15.13

$ 45,390

25

06/19/98

400

$15.19

$ 6, 0?6

06/19/98

1,600

$15.06

$ 24,096

26

06/29/98

2

$14 .28

$ 28,560

452,000

$6, 622, 072

95%

43%

27

28

- 18 - 99cv0121-L(JA}i)


1 MonOlel

01/12/98 11,000 $12.00

$ 132,000

2 Mary A. 03/12/98 50,000 $17.00

$ 850,000 6l j_ç00

$ 982,000

100% 73%

3 Newman

10/17/97

10,000

$ 9.70

$ 97,000 John

03/09/98

38,000

$16.14

$ 613,320

5 46, 000

$ 710,320

100%

Total

1, 170, 922

$15,672,904

97_5% 6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

28

34. Each Individual Defendant who exercised options to

purchase Ashworth stock during the Class Period sold 100% of the

Ashworth stock he/she acquired by option exercise.

DEFENDANTS' FALSE AND MISLEADING STATEMENTS DURING THE CLASS PERIOD

35. As part of defendants' scheme to lead the investing

public to believe that Ashworth had recovered from its pre-Class

Period malaise, on September 4, 1997, the first day of the Class

Period, Ashworth reported "an improvement in [its] financial

results" for the third fiscal quarter, ending July 1997 revenues

of $21.7 million, net income of $767,000 and EPS of $.06 - all

increases over results in the same quarter in fiscal 1996.

Ashworths release also stated:

In reviewing operations, Mr. Herrel stated that the improvement in operating income for the third quarter resulted primarily from a substantial increase in domestic sales, which reflected the increasing demand for the Ashworth brand.... The Company added an additional 40 locations to its in-store shop program during the third quarter bringing the total number of commitments since November 1996 to 165. Mr. Herrel reported that accounts receivable had increased 15.8% from a year ago and inventories by 2.6%, but these increases were lower than the sales increase of 21.4% for the quarter. -

(Here, as elsewhere, emphasis has been added unless otherwise

noted.)

- 19 - 99cv0121-L(JAI-1)


1

36. After releasing its 3rdQ fiscal 1997 results, Ashworth

2 management (Herrell/Newman) spoke to analysts, money managers and

3 large stockholders regarding the Company's business and prospects,

4 telling them that:

5

Pre-booking activity for the spring of 1998 was up sharply, and the outlook for both domestic and European

6

business was excellent.

7

• Inventory was well balanced and prior season merchandise would be depleted by year-end, positioning Ashworth for a

8

strong fiscal 1998.

9

• Ashworth's initiatives to reduce selling, general and administrative expenses were successful and would lead to

10

superior profit margins in fiscal 1998 and beyond.

11

• Ashworth was expanding its Basics line, which would cause sales growth in the green grass shops to continue.

12 • Ashworth was opening a full-priced retail outlet in

13

September 1997 which would promote Ashworth as a lifestyle brand and lead to strong sales and margins.

14 • Ashworth received orders to open 40 Golfman shops in 3rdQ

15

fiscal 1997 and planned to have 400 shops open by October 1998.

16 • Ashworth was on track to have EPS of $0.56 in fiscal 98.

17 37. The foregoing statements by defendants to analysts were

18 repeated to the market through analysts' reports. For example, on

19 September 5, 1997, Wedbush Morgan Securities, Inc. issued a report

20 on Ashworth, written by J.D. Olinski, which was based on and

21 repeated the above-alleged information provided in conversations

22 with Herrel or Newman.

23 38. Defendants' financial statements and statements

24 commenting on the Q3 results and Ashworth's purported strong demand

25 were false and/or misleading because of the financial manipulations

26 described herein and for the reasons described in ¶1 61 (a) - (p)

27 39. On 12/8/97, Ferris, Baker Watts, Inc. issued a report on

28 Ashworth, written by Joseph Teklits, which was based on, and

- 20 - 99cv0121-L (JAW


1 repeated, information provided him in conversations with Herrel, G.

2 Montiel or Newman The report forecast 1998 EPS of $.56 and

3 I stated:

4

Reiterating Strong Buy Recommendation on Ashworth Compelling Growth and Superior Visibility through Spring

S

1999.

6

Investment Thesis:

7

Ashworth broke out of a difficult transition period in 1997, and we believe it will break away from much of

8

the competition in 1998.. .. ASHW shares have doubled over the past 12 months, but we believe another similar

9

move is very possible over the next 18 months.

10 * * *

11 • . - The company has the number one brand in its industry according to various polls, and it has the strongest

12

management team in its history including a proven new CEO. Also, bookings suggest that the Ashworth product is

13

in great demand, and a redeveloped infrastructure is allowing for improved margins.

14 40. Defendants made additional misrepresentations to give the

15 impression that Ashworth had made a turnaround from its previous

16 performance. On December 17, 1997, in a press release, Ashworth

17 again reported Ban improvement in financial results" for the fiscal

18 4thQ and fiscal year ended October 31, 1997, including annual sales

19 of $891 million, net income of $4.8 million and EPS of $.37 and

20 quarterly sales of $17.0 million, net income of $4,000 and break-

21 even earnings compared to a loss of $.18 in the 4thQ of fiscal

22 1996. The release also stated:

23 In reviewing operations, Mr. Herrel stated that the

24

improvement in overall operating performance in fiscal 1997 was a result of a substantial increase in Domestic

25

and European sales which reflected the increasing demand for the Ashworth brand and increased market share in its

26 core green grass accounts. As previously stated, during

the year the Company implemented a number of programs

27

including reducing SG&A and overhead by approximately $2,000,000, significantly reducing prior season

28

inventory, strengthening the infrastructure, including an improved information system and related procedures,

- 21 - 99cv0121-L(JAI-I)


1

adding key personnel to the management team and generally streamlining the overall operations of the Company.

2 * * *

3 Mr. Herrel reported that inventories increased 36%

4

and was on plan for year end. The Company's growth in inventory reflects future booking trends as well as

5

additional inventory to fulfill its new young men's business, additional department store penetration and its

6

new corporate sales division.

7

41. Subsequent to the release of its 4thQ and fiscal 1997

8 results, Ashworth management (Herrel and Newman) spoke to

9 securities analysts, money and portfolio managers, institutional

10 investors, large Ashworth shareholders, brokers and stock traders

11

to discuss Ashworth's business and its prospects. During the

12 conversations, Ashworth management directly disseminated important

13 information to the market by stating:

14

• Ashworth's better-than-expected results were the result of new management's initiatives and successful new product

15

development.

16

• Demand for and sales of Ashworth's core products were strong, and new order bookings were up significantly for the

17 next fiscal year.

18

• Ashworth's relocation of its manufacturing operations offshore was a great success and was yielding cost savings and

19 operating efficiencies, which would lead to continued gross

margin growth to 40%+ in fiscal 1998. 20

• Ashworth had signed on new Japanese and Asian

21

distributors, which would contribute to increased earnings in fiscal 1998 and beyond.

22 • Inventory had increased 36% but this was intentionally

23

done to accommodate future sales due to strong bookings.

24 • Ashworth had hired a new sourcing director who would make

sure Ashworth had a smooth transition to outsourcing in Asia,

25

South America and Europe.

26 • Ashworth was on track to have EPS of $0.57 and $0.82 in

fiscal 1998 and fiscal 1999. 27

28

- 22 - 99cv0121-L(JAH)


1

42. On 12/18/97, Ferris, Baker Watts issued a report on

2 IAshworth which was written by Teklits and was based on and repeated

3 Ashworth management's statements. The report stated:

4

* Summary and Valuation

5

Ashworth concluded fiscal 1997 with its strongest - ever fourth quarter (first time the company has not lost

6

money in the quarter), and with very healthy bookings trends for Spring/Summer 1998. After two flat years,

7

Spring/Summer bookings are up over 40% in the company's core green grass (golf course pro shop) distribution

8

channel, and over 50% in the newer department store channel. Such numbers, combined with 1) the introduction

9

of a women's line in Fall 1998, 2) the signing of new Asian and Japanese distributors, and 3) a cushion from

10

incremental corporate business, gives us comfort in our new 19.4% revenue growth estimate (raised from 18.4%)

11 1997 was a big year for Ashworth, but not just in

12

terms of earnings. The company has emerged from a two- year lull, and with new management and product

13

development talent has positioned itself for significant future growth. EPS are projected to grow at an average

14

of 50% over the next two years.

15

43. Defendants' financial statements and statements

16 commenting on the Q4 results and Ashworth's purported strong demand

17 were false and/or misleading because of the financial manipulations

18 described herein for the reasons described in 961 (a) (p)

19

44. On January 7, 1998, a story on Ashworth appeared in The

20 Wall Street Journal, authored by Mark Veverka; the story was based

21 on repeated conversations with defendant Herrel, as follows:

22

Ashworth has its eye on the ball.

23

After a couple of years in the rough, the Carlsbad- based maker of golf togs started to find its game last

24 year. Today, the company is in the middle of a nifty

turnaround, and could possibly climb back onto the leader

25

board of apparel growth stocks this year, analysts say.

26 * * *

27

Just into his second year as Ashworth's chief executive, former surf-wear executive Randall Herrel has

28 restored Ashworth's earnings growth. The company only

earned 12 cents a share in the fiscal years 1995 and

- 23 - 99cv0121-L(JAH)


1

1996, compared with 41 cents a share in fiscal 1994. He's done it by fixing some of the 10-year-old company's

2

seasonal inventory problems, and by refocusing the firm on its primary sales outlets: pro shops at golf and

3

country clubs.

4 * * *

5

What's more, in an effort to reduce overhead and widen operating margins, Ashworth is in the process of

6

shifting about half of its manufacturing from Southern California to offshore factories in South America, Asia

7

and Europe. And any time a clothing company moves its production to other countries, there is always a risk

8

that product quality could suffer, Wedbush Morgan's Mr. Olinski warns.

9 But Mr. Herrel dismisses such concerns, pointing out

10

that the company is making some key products at more than one plant during the transition. And foreign factory

11

selection is based on quality and on-time delivery records before taking cost savings into consideration, he

12

says.

13

45. Herrel's statements to the Wall Street Journal were false

14 and/or misleading because Ashworth did not have adequate double

15 source and because quality was declining as Ashworth moved

16 production offshore, as is described herein.

17

46. In Ashworth's Form 10-K for the year ended October 31,

18 1997, signed by defendants as described above, and filed with the

19 SEC on or about January 28, 1998, defendants reported the same

20 financial results previously announced on December 17, 1997, which

21 were false, as is described herein.

22

47. On or about February 3, 1998, Ashworth filed with the SEC

23 its Annual Report to Shareholders and mailed the report to its

24 shareholders. The report included Ashworth's previously reported

25 fiscal 1997 financial results. The report attributed part of the

26 reason for its increase in gross margins from 36.3 96 in fiscal 1996,

27 to 38.3% in fiscal 1997, to "cost reductions obtained from

28 contractors and from raw material suppliers." The Company

- 24 - 99cv0121-L (JAR)


1 I represented that: 'Inventories are valued at the lower of cost

2 (first-in, first out) or market." The Annual Report also included

3 a letter to shareholders signed by Herrel which stated:

4

The improvement in overall operating performance in fiscal 1997 was a result of a substantial increase in

5

domestic and European sales which reflected the increasing demand for the Ashworth brand and increased

6

market share in its core green grass accounts.

7 * * *

8

OPERATING IMPROVEMENTS During the past year, the Company made significant improvements in many operational

9

areas. A couple of significant ones were:

10

A strengthened management team with new heads of design, retail sales, information systems, sourcing and

11

field merchandising.

12

• A new international sourcing department, increasing our worldwide production offshore from 10 percent in 1996

13

to more than 25 percent. This increases gross profit margin but also improves our ability to produce garments

14 with more technical aspects and features.

15

• An enhanced product design and development process to focus on collections, lifestyle sportswear and

16

expanded product line.

17

• An increased order fill rate with improved forecasting and improved system controls.

18 • The creation of a customer service call center for

19

improved account servicing, decreased processing time, and less phone waiting time.

20 • The opening of a concept store in October 1997 in

21

South Coast Plaza located in Orange County, California. The store was developed to showcase our entire line as

22 well as test presentation of new products.

23

• A new field merchandising coordinator program to service our Golfman, in-store shops and to increase sell

24

through.

25

• The implementation of new sales programs which have clearly increased brand penetration and market share. As

26

a result, future bookings increased significantly for Fall 1997 as well as for Spring/Summer 1998.

27 • A larger emphasis on developing the Company's

28

corporate sales function, formally appointing a corporate sales rep team as well as entering into a strategic

- 25 - 99cv0121-L(JAH)


alliance with a major outside corporate sales and promotion company.

2 • While we are still finalizing an agreement with a

3

new Japanese distributor, we have signed an exclusive agreement with a publicly traded company based in Hong

4

Kong, to distribute and manufacture Ashworth sportswear to better department and specialty stores as well as pro

5

shops in Hong Kong, Macau, Malaysia, China and Singapore.

6 * * *

7

I firmly believe we've set the stage for a solid new year of continued growth and improved sales and profits

8

and I look forward to the opportunities in 1998.

9

48. The Annual Report also contained a letter to Ashworth's

10 shareholders from C. Montiel in which he touted the high quality of

11 Ashworth's products: "The simple reason consumers love our brand is

12 our emphasis on innovative and quality products . . . ." The Annual

13 Report further extolled Ashworth's commitment to maintaining the

14 quality of its products: !r[wJelve kept our classic styling and

15 commitment to quality . !

16


17 commenting on the FY 1997 results and Ashworth' purported strong

18 demand were false and/or misleading because of the financial

19 manipulations described herein for the reasons described in

20

¶161 (a) - (p)

21

50. On March 4, 1998, Ashworth issued a press release

22 reporting financial results for the first quarter of 1998, ended

23 January 31, 1998, again touting "an improvement in financial

24 results." Net sales reportedly increased 21.1% to $24 million, up

25 from $19.8 million in the comparable quarter of 1997. Net income

26 for the quarter reportedly rose 59.8 96, to $1,859,000. In the press

27 release, defendant Herrel stated that "the improvement in overall

28 operating performance in the first quarter of fiscal 1998 was a 1

- 26 - 99cv0121-L (JAH)


result of a substantial increase in domestic and European sales

which reflected the increasing demand for the Ashworth brand, as

well as improved margins and controlled operating expenses." The

press release instructed interested investors to contact either

Herrel, G. Montiel or Newman.

51. In the March 4, 1998 press release, defendants also

7 reported a 28.6% increase in inventories in comparison to a year

8 earlier. According to the press release:

9

The Company has increased inventory levels for several reasons including: a substantial increase in bookings;

10 earlier production of goods to ensure higher order fill rates; and offshore production of goods requiring larger

11 minimum buys.

12

52. Subsequent to the release of its lstQ fiscal 1998

13 results, Ashworth spoke to securities analysts, money and portfolio

14 managers, institutional investors ! large Ashworth shareholders,

15 brokers and stock traders to discuss Ashworth's business and its

16 prospects. During the conversations, Ashworth management directly

17 disseminated important information to the market, stating:

18

Sales of Ashworth's core products were strong, bookings were strong and Ashworth's inventory was appropriate compared

19

to demand.

20

• Ashworth had multiple sourcing for its products and would therefore not be severely impacted if it were to have

21 manufacturing problems at one of its facilities.

22 • Ashworth's relocation of its sewing operations offshore

was a great success and was yielding cost savings and

23

operating efficiencies, which would lead to continued gross margin growth in fiscal 1998.

24 • Ashworth's sales were strong and would compare favorably

25 year-over-year despite a very strong fiscal 1997.

26 • Ashworth was conservative in its inventory valuation and

had adequately reserved for excess or obsolete inventory. 27

• Ashworth was raising its fiscal 1998 EPS forecast to

28

$.62+ and its fiscal 1999 EPS forecast to $.85+.

- 27 - 99cv0121-L(JAH)


1


2 commenting on the Qi 1998 results and Ashworths purported strong

3 demand were false and/or misleading because of the financial

4 manipulations described herein for the reasons described in

5

61 (a) - (p).

6

54. On or about March 17, 1998, defendants caused Ashworth to

7 file a quarterly report on Form 10-Q for the first quarter ended

8 January 31, 1998, signed by defendants Herrel and Newman. This

9 report included the same financial results previously announced in

10 the press release of March 4, 1998 and stated that Ashworth's

11 financial statements contained therein were a " fair presentation "

12 of the Company's financial results and were in conformity with I

13 GAAP.

14

55. On 5/12/98, Ferris, Baker Watts issued a report on

15 Ashworth, written by Teklits, which was based on and repeated

16 information provided him in conversations with Herrel and other

17 Ashworth management. The report stated:

18

Fall Bookings Supporting Earnings Estimates

19

Ashworth reported that its worldwide Fall season (Q2 and Q3) bookings are up in excess of 30% as compared to this

20

time a year ago. In speaking with management, we believe the company's message was that it is comfortable with

21

guidance of at least 30% revenue growth in Q2 and Q3:98. Better orders are typically booked early, with smaller

22 orders taken late; so even though bookings are most

likely much higher than 30% today, we believe the company

23

is estimating that final order will be up at least 30%. We are projecting 25% top-line growth in the respective

24 quarters, and an incremental 5% would add EPS of roughly

$0.02 per quarter. 25

56. On May 27, 1998, defendants reported the results for 26

Ashworth's second quarter 1998, ended April 30, 1998. They 27

reported 'Significant Improvementfsl," with net sales increasing 28

24.3%, to $38 million, as compared to $30.6 million for the second

- 28 - 99cv0121-L(JAH)


1 quarter of 1997. Net income increased 56.3% as compared to the

2 second quarter of 1997. Defendant Herrel once again stated that

3 "the improvement in overall operating performance in the second

4 quarter of fiscal 1998 was a result of a substantial increase in

5 domestic and European sales which reflected the increasing demand

6 for the Ashworth brand as well as improved margins and controlled

7 operating expenses. ' The press release instructed interested

8 parties to contact either Herrel, G. Montiel or Newman.

9

57. On May 27-29, 1998, Ashworth's stock declined from $17 to

10 $12 on extremely heavy volume. In response, Ashworth issued a

11 press release, which stated:

12

Randall L. Herrel, Sr., President and Chief Executive Officer of Ashworth, Inc. (Nasdaq: ASHW) , stated today

13

that management is unaware of any events or developments with respect to either the Company or its business that

14

would account for the heaving trading volume or significant drop in share price over the last several

15

days.

16

58. Ashworth also held a conference call on or about June 1,

17 1998, for securities analysts, money and portfolio managers,

18 institutional investors, large Ashworth shareholders, brokers and

19 stock traders to discuss Ashworth's business and its prospects.

20 During the call, defendants Herrell and Newman made presentations

21 and answered questions and tried to prop up Ashworths stock by

22 making very bullish statements about Ashworth's business. During

23 the call - and in follow-up conversations with participants -

24 Herrel and Newman directly disseminated important information to

25 the market, stating:

26

• Sales of Ashworth's core products were strong, and Fall bookings were ahead of plan.

27 • Ashworth's Golfman in-store shops were expected to double

28

in 1998, enabling Ashworth to reduce its inventories markedly, and justifying the high inventory it held.

- 29 - 99cv0121-L(JAH)


1

• Ashworth's inventory was in line with its business plan and was higher not due to any problems but because the Company

2

had introduced a new Basics line.

3

• Ashworth's relocation of its sewing operations offshore was a great success and was yielding cost savings and

4 operating efficiencies, which would lead to continued gross margin growth.

5 • Ashworth expected fiscal 1998 and fiscal 1999 EPS of

6

$.Gl+ and $.85--.

7 These representations were repeated by securities analysts to the

8 public.

9

59. On 6/11/98 Ferris, Baker Watts issued a report on

10 Ashworth which was based on and repeated Ashworth management's

11 statements to analyst Teklits. The report forecast F98 and F99 EPS

12 of $.61 and $.85, respectively. The report stated:

13

Summary of Management Meetings

14

Ashworth recently reported Q2:98 EPS of $.30 compared to $0.23 a year ago, in line with our estimate and $0.01

15 above consensus. Sales increased 24.3%, exceeding our 20% growth projection, and gross margin was at its

16

highest since Q3:94. Nonetheless, because inventories and receivables rose about 50% year to year, the stock

17

has retreated by 20% from its recent highs.

18

Management is meeting with analysts and shareholders this week to address current issues business trends.

19

Highlights of our meetings are as follows:

20

The company aggressively launched a Basics program in spring 1998, which typically represents 40%-50% of an

21 apparel company's business but for Ashworth has been only about 10% heretofore. Basics must be replenishable, and

22

the company built its finished goods inventory to meet pre-booked and reorder demand. Also, the company is

23 sourcing 50% of its product of fshore versus less than 10% a year ago, merchandise in transit and early fall

24

imports from new sources in Asia also boosted finished goods inventory.

25 * * *

26 Inventory has been flat sequentially for three straight

27 quarters since Q4:97. We expect inventory to remain at approximately $33 million for the rest of FY98, meaning

28

that it will be about 25% higher than the prior year figure at the end of Q3:98, or in line with sales and

- 30 - 99cv0121-L(JAH)


1

bookings, and will be flat year over year at the end of Q4:98 on projected revenue growth of 24.2% for the year.

2

Thus, we believe that by fiscal year-end, what is now being perceived as a negative will be a positive for the

3

company.

4 * * *

5 * Sales of the company's U.K. subsidiary have been

growing at 35%, which is expected to continue. All of

6

Ashworth's European business is done in green grass shops and most is in the U.K.; opportunities exist in

7

department stores and in Continental Europe. Also, Ashworth just bought back its Canadian distribution

8

rights and has established a division (full margin versus 30% discount given to previous distributor) to be run by

9 a management company that currently has 900 golf accounts compared to the prior distributor's 250 accounts.

10 * We believe that Ashworths positioning for future

11 growth is complete, and that sales growth acceleration should continue through 1999. The new Ashworth

12

incorporates:

13

• Offshore sourcing. • A Basics line.

14

• A rapidly growing department store business; Fall bookings up 65%.

15

• A new women's line to be shipped for Holiday/Resort 1998.

16

• An infancy-stage young men's line. • A start-up corporate business.

17 • Burgeoning business and brand recognition in Europe. • A new Canadian division.

18

• A new Hong Kong distributor. • The best sales, design, and upper-level management

19

team in the company's history. • The highest gross margin in company history in the

20

latest quarter. • Positive cash flow which will create earnings-

21 enhancement opportunities in 1999.

22

Summary and Valuation

23

Based on our proprietary surveys as well as industry surveys, Ashworth continues to be the number-one brand of

24 apparel in the industry's core distribution channel - golf course pro shops. Its positioning there combined

25 with golf ' s growing popularity and participation rate and the continued trend toward casual workplace dress codes

26

lead us to believe that Ashworth has just begun to take advantage of the growth opportunities that are available.

27 60. On June 12, 1998, Ashworth filed its report on SEC Form

28 10-Q for the second quarter ended April 30, 1998, signed by

- 31 - 99cv0121-L(JAH)


1 1 defendants Herrel and Newman. The report contained the same

2 financial information previously announced on May 27, 1998 and

3 ' stated that Ashworth's financial statements contained therein were

4 a "fair presentation" of the Company's financial results and were

5 in conformity with GAAP.

6

61. Each of the foregoing positive statements about

7 Ashworth's business made by defendants during the Class Period, as

8 set forth in 1135-37, 39-42, 44, 46-48, 50-52 and 54-60 above, was

9 materially false and/or misleading when issued, and failed to

10 disclose, inter alia, the following adverse information which was

11 then known only to defendants due to their access to internal

12 Ashworth data and which was required to be disclosed to make the

13 statements made not misleading:

14

(a) Ashwarth's new, redeveloped infrastructure,

15 including its increasing use of offshore factories, was extremely

16 troubled with inadequate quality-control testing and insufficient

17 supervision which, while generating short-term cost savings, was

18 resulting in Ashworths offshore-manufactured merchandise being

19 riddled with defects such as mis-sized shirts and inferior quality

20 products which would require dramatically higher costs in future

21 periods to correct such problems and successfully manufacture,

22 supervise and monitor manufacturing in these locations;

23

(b) Ashworth's attempts to accelerate the relocation of

24 larger amounts of its manufacturing operations offshore were

25 resulting in significant operational inefficiencies and greatly

26 increased expense which was much more than offsetting the wage

27 savings obtained by such offshore production;

28

- 32 99cv0121-L(JAH)


1

(c) Ashworth 1 s sewing production was not double sourced

2 as represented, meaning Ashworth in fact did not have multiple

3 sources for its products so that if one of the offshore facilities

4 ran into production or quality problems, another of the facilities

5 would not have replacement product available for shipment. Also,

6 Ashworth could not control the inventories at the offshore

7 factories, resulting in the accumulation of excessive inventories

8 and an inability to produce other in-demand products;

9

(d) Ashworth's European operations were plagued by

10 outmoded and inefficient management, manufacturing and distribution

11 facilities and very soft demand for Ashworth 1 s products there,

12 resulting in excessive inventories and operational results far

13 below those internally budgeted and forecasted and necessary for

14 Ashworth to meet the revenue and EPS growth it was publicly

15 forecasting;

16

(e) Due to problems in matching production with demand,

17 Ashworth had accumulated large amounts of excessive inventories of

18 its Basics product line which were encountering extreme price

19 pressure in the marketplace while at the same time Ashworth was

20 unable to promptly produce significant amounts of other products

21 which were in strong demand and commanded higher, more profitable,

22 prices;

23

(f) Ashworth's financial results during the Class Period

24 were falsified, manipulated and materially overstated as detailed

25 in ¶f68-83 through improper revenue recognition, the creation of

26 phony "sales" and the failure to properly writedown excessive

27 inventories, which falsification was done to conceal from the

28 market the true negative conditions in Ashworth's business which

- 33 - 99cv0121-L(JAH)


1

were, in fact, then adversely affecting its results from operations

2 and which demonstrated that Ashworth's supposed turnaround was a

3 ' failure - not a success;

4

(g) There was not a "substantial increase" in Ashworth's

5 sales as represented by defendants but rather such sales were

6 intentionally fabricated by defendants as detailed in 80-83, by,

7 among other things, shipping merchandise for which there was no

8 buyer to warehouses or directly to Ashworth's sales representatives

9 i immediately before quarter ends while recording such shipments as

10 sales; by shipping customers merchandise just before quarter ends

11 even though the customers had not ordered any merchandise and

12 booking the shipments as sales; by shipping customers who had

13 ordered out-of-stock merchandise other non-conforming, in-stock

14 merchandise that the customers did not want, simply so that

15 Ashworth could record the shipments as sales at quarter ends; and

16 by forcing, just before quarter ends, its independent sales

17 representatives to take shipments of merchandise that they did not

18 order or want and for which they had no buyers under a 'car stock"

19 program and recording such shipments as sales;

20

(h) The purported "substantial increase ,, in Ashworth's

21 sales levels was also created by other improper revenue recognition

22 activities by defendants. As detailed in 1180-83, defendants

23 • improperly recorded as sales shipments of merchandise to customers

24 with extended payment terms of 90 days or more, unlimited rights to

25 return the product without paying for it, and shipments of

26 merchandise months before a customer wanted it shipped;

27

(i) Ashworth was suffering from weakening demand,

28 particularly for its Basics product line which was an important

- 34 - 99cv0121-L(JAH)


1 part of its overall product line and would adversely affect its F98

2 land F99 results;

3

(j) Ashworth's inventories were not li on plan' but in

4 tact were above Ashworths internal budgets and forecasts and

5 excessive in light of the actual demand for Ashworth's products and

6 Ashworth's actual rate of sales;

7

(k) New management had not "fixed" Ashworth's inventory

8 problems;

9

(1) Ashworth's financial strategy was not unfolding in

10 a positive manner or as planned, but rather, was failing, which

11 failure was being covered up and concealed by Ashworth's

12 misrepresentations and the falsification of its financial

13 statements detailed in ¶68-83;

14

(m) Ashworths selection of offshore sourcing was not

15 the careful, detailed process described by defendants, but in fact

16 was done haphazardly without implementing procedures which would

17 assure quality throughout the manufacturing process and which in

18 fact was resulting in defective and inferior merchandise;

19

(n) Ashworth's restructuring and/or turn-around had not

20 and was not succeeding, but rather, was failing due to the problems

21 afflicting its business as set forth above, which failure was being

22 covered up and concealed by defendants' false statements as

23 detailed herein;

24

(o) As a result of the foregoing adverse conditions in

25 Ashworth's business, defendants knew that their forecasts of strong

26 earnings for Ashworth during F98-F99 would not materialize and

27 therefore Ashworth would not achieve the EPS growth being forecast

28 by it for F98-F99 and beyond; and

- 35 - 99cv0121-L(JAH)


1

(p) As a result of the foregoing negative conditions

2 which were adversely affecting Ashworth's business during the Class

3 Period, defendants knew that the forecasts of revenue growth in

4 F98-F99 and growth in EPS to $.61+ and $.85 respectively, were each

5 false when made, as those results could not and would not be

6 I achieved.

7

62. On July 15, 1998, the last day of the Class Period, after

8 the close of trading, Ashworth shocked the market by revealing that

9 it would record disastrous results for the third quarter of 1998.

10 The Company revealed that third quarter sales would be down $2 to

11 $3 million. Ashworth attributed the anticipated shortfall to 'the

12 quality and timeliness of a few key styles of the Company's popular

13 Basics line received from offshore sources." The Company further

14 stated that these problems might also impact fourth quarter 1998

15 results.

16

63. Ashworth's stock immediately dropped to as low as $8-1/8

17 on huge volume of 8 million shares.

18

64. On September 3, 1998, Ashworth reported its results for

19 the 3rdQ fiscal 1998, including net sales of only $25.6 million,

20 net income and $782,000 and EPS of $0.05, a decline from 3rdQ

21 fiscal 1997 EPS of $0.06. Gross margins were only 36%.

22 Ashworth later spoke to analysts, admitting that:

23

• Some sales could not be completed due to manufacturing problems.

24 • Production problems were particularly acute in Peru and

25

Costa Rica.

26

• Sales discounts had caused both sales and gross margins to be lower than expected.

27 • Quality control procedures were inadequate in overseas

28

factories.

- 36 - 99cv0121-L (JAN)


1

• Ashworth did not have double sourcing and was now going to implement double sourcing to avoid the adverse impact of

2

production problems in the future.

ci

65. On September 22, 1998, G. Montiel retired as Chairman.

4 In the press release G. Montiel claimed the Company was "'in good

5 shape financially'' , and that he planned "'to remain a

6 I shareholder. " In fact, by this time G. Montiel only held 25,840

7 shares, having sold 452,000 shares, 95% of his holdings, during the

8 Class Period.

9

66. On December 17, 1998, Ashworth announced 4thQ fiscal 1998

10 and fiscal 1998 results - including annual sales of $107.3 million,

11 net income of $5.3 million., and EPS of $0.36 (well below Class

12 Period forecasts of $0.62) . Fourth quarter sales were only $19.6

13 million, and the Company reported a net loss of $1.9 million due to

14 ' 1 adjustments related to prior season inventory." Ashworth also

15 announced management changes in the European management team due to

16

"inventory mix problems." Ashworth's gross margins were only

17 28.9%.

18

67. Analysts, including Ferris, Baker Watts, cut their fiscal

19 1999 EPS estimates for Ashworth yet again to the $0.50 range.

20 Ferris, Baker Watts wrote:

21

Fiscal 1998: Ashworth's 4Q98 pretty much summed up the year - too much inventory and operational problems

22

hurting earnings and the stock. The company has yet to recover from its untimely decision to build inventory for

23

its Basics program, and from its production problems that cost it business and increased its cost of goods in the

24

second half of the fiscal year. If anything, the negative issues seem to be snowballing rather than being

25

fixed. The fourth quarter was plagued by systems problems in Europe, which are demanding a lot of

26 attention and may lead to management changes at the U.K.

- based subsidiary, and by inventory writedowns. The end

27 result was a significant loss in the quarter versus the

company's first break even fourth quarter a year ago. It

28 also created a negative EPS comparison for the fiscal

year ($0.36 vs. $0.37) after a 215% jump in 1997.

- 37 - 99cvOl21-L(JAI-I)


1

ASHWORTH'S FALSE FINANCIAL STATEMENTS

2

68. Defendants falsified Ashworth's financial statements for

3 fiscal Q397, fiscal Q497, fiscal year 1997, fiscal Q198 and fiscal

4 Q298. Ashworth reported the following financial results during the

5 Class Period:

6

Qtr-end Qtr-end Year-end Qtr-end Qtr-end 7/31/97 10131197 10131197 1131198 4/30/98

7

(3Q97) (4Q97) (E'97) (1Q98) (2Q98)

8

Revenues 21.7 M $16.9 M $89.1 M $24.0 M $38.1 M

9

Net income $767,000 $4,000 $4.8 N $1.9 N $4.5 M

10

EPS $0.06 $.00 $.37 $14 $.30

11 Ashworth later included these results in its fiscal 1997 Annual

12 Report, quarterly SEC Form 10-Qs and 1997 SEC Form 10-K which were

13 filed with the SEC. The SEC Form 10-Qs represented that the

14 financial statements included all adjustments which were, "in the

15 opinion of management, necessary to a fair statement" of the

16 Company's results.

17

69. These financial statements and the statements about them

18 were false and misleading, as such financial information was not

19 prepared in conformity with GAAP, nor was the financial information

20 "a fair presentation" of Ashworth's operations due to Ashworth's

21 improper accounting in violation of GAAP and SEC rules.

22

70. GAAP are those principles recognized by the accounting

23 'profession as the conventions, rules and procedures necessary to

24 define accepted accounting practice at a particular time.

25 Regulation S-X (17 C.F.R. §210.4-01(a) (1)) states that financial

26 statements filed with the SEC which are not prepared in compliance

27 with GAAP are presumed to be misleading and inaccurate. Regulation

S-x requires that interim financial statements must also comply

- 38 - 99cv0121-L(JAH)


1 with GAAP, with the exception that interim financial statements

2 need not include disclosure which would be duplicative of

3 disclosures accompanying annual financial statements. 17 C.F.R.

4

§210.10-01(a).

5

Defendants Improperly Accounted For Inventory

6

71. GAAP, as set forth in Accounting Research Bulletin

7 ("ARE") No. 43, Chapter 4, Inventory Pricing, requires that

8 inventories be recorded at the lower of cost or market. ARE No.

9 43, Chapter 4, Statement 5 states:

10

A departure from the cost basis of pricing the inventory is required when the utility of the goods is no

11

longer as great as its cost. Where there is evidence that the utility of goods, in their disposal in the

12 ordinary course of business, will be less than cost, whether due to physical deterioration, obsolescence,

13

changes in price levels, or other causes, the difference should be recognized as a loss of the current period.

14

This is generally accomplished by stating such goods at a lower level commonly designated as market.

15 (Emphasis in original.)

16 72. During the Class Period, defendants were aware of the

17 following factors that required them to record material charges for

18 excess and overvalued inventories during the Class Period:

19 (a) Demand for Ashworthrs Basics product line was not

20 increasing but, in fact, decreasing;

21 (b) Ashworths inventories were materially increasing;

22 (c) Ashworth had to offer its customers discount

23 programs in order to artificially inflate its sales when there was

24 no increase in demand for its products, but, in fact, demand was

25 decreasing;

26 (d) Ashworth's cost of product was increasing throughout

27 the Class Period;

28

- 39 - 99cv0121-L(JAH)


1

(e) Ashworth's inventory quantities were excessive given

2 its actual sales and demand for its products (in the 4thQ fiscal

3 1997 alone, inventories increased 32% to $33.6 million, and

4 remained high throughout the Class Period); and

5

(f) Ashworth's inventories were increasing much faster

6 than sales. Whereas Ashworth's inventory turnover was 2.37 turns

7 per year in Fiscal 94 and 2.12 in Fiscal 95, at Fiscal 1997, it was

8 less than 1.9 turns per year.

9

73. Defendants falsely represented that Ashworth's increase

10 in inventory levels was due to increased pre-booking demand for

11 Ashworth apparel. Notwithstanding Ashworth's increasing risk of

12 excess inventory, defendants slashed the Company's inventory

13 obsolescence reserve from $3,030,000 at October 31, 1996, and

14 $2,641,000 at October 31, 1995, to $990,000 at October 31, 1997.

15 As a percentage of inventory, the reserve was 9.48 percent at

16 fiscal year end 1995, 12.25 percent at fiscal year end 1996, and

17 2.94 percent at fiscal year end 1997. Ashworth's reduction in the

18 reserve was unjustified and contrary to the above factors

19 indicating an increased risk of excess and obsolete inventory and

20 in fact required an increase to the reserve.

21

74. Defendants' failure to properly reserve for excess and

22 obsolete inventory, and their unjustified reduction in the reserved

23 caused Ashworth's reported earnings to be materially inflated

24 during the Class Period. Set forth below is an illustration of the

25 huge impact on Ashworth's reported results arising from this gross

26 underreserving:

27

28

- 40 - 99cv0121-L(JAH)


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

Effect of Underreserving for Obsolete Inventory at September 30, 1997

Restated to reflect Restated to reflect impact if Ashworth had impact if Ashworth

reserved at 9/30/96 had reserved at

9130197 level (12.25% of 9/30/95 level (9.48% As Reported inventory) of inventory)

Inventories $33,645,000 $33,645,000 $33,645,000

Inventory obsolescence

Reserve $ 990,000 $ 4,122,000 $ 3,190,000

Pretax

Income $ 7,869,000 $ 4,747,000 $ 5,669,000

Net Income

(38.7% marginal tax

rate) $ 4,827,000 $ 2,904,000 $ 3,475,000

Earnings per

share (based

on

13,430,000 $ 0.37 $ 0.22 $ 0.26

shares

outstanding)

Reduction in

Earnings Per 41% 30% share

75. Further evidencing defendants' underreserving for

obsolete inventory at October 31, 1997, the reserve one year later,

as a percentage of inventory, increased 76 percent over the October

31, 1997 level.

76. Ultimately in the fourth quarter of fiscal 1998, the

Company was forced to take what it described as "adjustments

related to excess prior season inventory," resulting in a $1.86

million loss. Defendants also revealed in the 1998 SEC Form 10-K

what they had concealed during the Class Period:

The Company maintains high levels of inventory to support its Basics program, and additional products, greater sales volume, and customer trends toward increased 'at once" ordering may require increased inventory. Disposal of excess prior season inventory is an ongoing part of

41 - 99cv0121-L(JAH)


1

the Company's business, and inventory writedowns may impair the Company's financial performance in any period.

2

Particular inventory may be subject to multiple writedowns if the Company's initial reserve estimates

3

for industry obsolescence or lack of throughput prove to be too low. These risks increase as inventory grows.

4. 77. These post-Class Period revelations radically differed

5 from what defendants claimed during the Class Period. As set forth

6 above, during the Class Period defendants assured the public that

7 increases in inventory levels were both reasonable and a sign of

8 Ashworths strong order levels. According to defendants' false

9 representations during the Class Period, high levels of inventory

10 were desirable, facilitating increased sales indicated by strong

11 bookings.

12 78. Due to these accounting improprieties with respect to the

13 inventories, the Company presented its financial results and

14 statements in a manner which violated GAAP, including the following

15 fundamental accounting principles:

16 (a) The principle that interim financial reporting

17 should be based upon the same accounting principles and practices

18 used to prepare annual financial statements (APE No. 28, 110)

19 (b) The principle that financial reporting should

20 provide information that is useful to present and potential

21 investors and creditors and other users in making rational

22 investment, credit and similar decisions was violated (FASB

23 Statement of Concepts No. 1, 134)

24 (c) The principle that financial reporting should

25 provide information about the economic resources of an enterprise,

26 the claims to those resources, and effects of transactions, events

27 and circumstances that change resources and claims to those

28 resources was violated (FASB Statement of Concepts No. 1, 140)

- 42 - 99cv0121-L (JAR)


1

(d) The principle that financial reporting should

2 provide information about how management of an enterprise has

3 discharged its stewardship responsibility to owners (stockholders)

4 for the use of enterprise resources entrusted to it was violated.

5 To the extent that management offers securities of the enterprise

6 to the public, it voluntarily accepts wider responsibilities for

7 accountability to prospective investors and to the public in

8 general (FASB Statement of Concepts No. 1, ¶50)

9

(e) The principle that financial reporting should

10 provide information about an enterprise's financial performance

11 during a period was violated. Investors and creditors often use

12 information about the past to help in assessing the prospects of an

13 enterprise. Thus, although investment and credit decisions reflect

14 investors' expectations about future enterprise performance, those

15 expectations are commonly based at least partly on evaluations of

16 past enterprise performance (FASB Statement of Concepts No. 1,

17

¶42);

18

(f) The principle that financial reporting should be

19 reliable in that it represents what it purports to represent was

20 violated. That information should be reliable as well as relevant

21 is a notion that is central to accounting (FASB Statement of

22 Concepts No. 2, ¶58-59);

23

(g) The principle of completeness, which means that

24 nothing is left out of the information that may be necessary to

25 insure that it validly represents underlying events and conditions

26 was violated (FASB Statement of Concepts No. 2, ¶79); and

27

(h) The principle that conservatism be used as a prudent

28 reaction to uncertainty to try to ensure that uncertainties and

- 43 - 99cv0121-L(JAH)


1 risks inherent in business situations are adequately considered was

2 violated. The best way to avoid injury to investors is to try to

3 ensure that what is reported represents what it purports to

4 represent (FASB Statement of Concepts No. 2, ¶J95, 97)

79. Further, the undisclosed adverse information concealed by

6 defendants during the Class Period is the type of information

7 which, because of SEC regulations, regulations of the national

B stock exchanges and customary business practice, is expected by

9 investors and securities analysts to be disclosed and is known by

10 corporate officials and their legal and financial advisors to be

11 the type of information which is expected to be and must be

12 I disclosed.

13

Defendants Improperly Recognized Revenue and Engaged in Phantom Sales

14 80. In further violation of the accounting principles and SEC

15 requirements set forth above with respect to inventories,

16 defendants caused Ashworth to recognize revenue improperly. During

17 the Class Period, undisclosed to the public, defendants inflated

18 sales by discounting, providing liberal rights of return and

19 granting extended payment terms. Among the customers and others

20 granted these favorable terms were Cyrk, Inc., Granite Golf

21 Corporation, Cobblestone Golf Group, Edwin Watts Golf Shops, Club

22 Corporation of America, American Golf Corporation, T.J. Maxx, and

23 The Walt Disney Co. In one instance, a "sale" was made to Disney

24 who was given the right of return as well as extended payment terms

25 of 120 days.

26 81. Defendants began to disclose these sales practices only

27 after the Class Period. Only in the fiscal 1998 SEC Form 10K

28 Report, issued in January 1999, did defendants belatedly reveal:

- 44 - 99cv0121-L (JAH)


1 I 'Early in the 1998 fiscal year the Company promoted its Basics and

2 Fixtures programs by giving extended payment terms to customers."

3 Defendants carefully covered up this fact throughout the Class

4 Period. Indeed, in discussing reported increases in sales in the

5 first and second quarters, defendants cited "the increasing demand

6 for the Ashworth brand", concealing the fact that defendants had

7 spurred sales through extending payment terms. (1998 SEC Form 10-Q

8 Reports for 1st and 2nd quarters, ending January 31, 1998 and April

9

30, 1998.)

10

82. Moreover, defendants shipped merchandise to customers who I

11 did not order it and to sales representatives who did not order I

12 merchandise and who lacked customers to buy it. For example:

13

(a) It was the pattern and practice of Ashworth to ship

14 to its sales representatives, just before quarter ends, merchandise

15 even though they had not ordered it and did not have customers to

16 sell it to. Ashworth routinely shipped massive amounts of

17 merchandise to the warehouse of its independent sales

18 representative named Regional Sales, Inc. in San Marcos,

19 California, at quarter ends and recorded such shipments as sales

20 even though there were no orders or customers for the merchandise.

21 In another instance, a sales representative in the Southeastern

22 United States rented warehouse space in order to store $100,000

23 worth of merchandise, which was recorded as a sale, even though

24 there was no customer for the goods, and no sale occurred.

25

(b) In connection with its joint venture with Cyrk,

26 Inc., which Ashworth announced to the market on January 20, 1998,

27 Ashworth shipped hundreds of thousands of dollars of merchandise to

28 Cyrk, Inc. Ashworth booked these shipments as sales, even though

- 45 - 99cv0121-L(JAJ-I)


1 Cyrk, Inc. was granted an unlimited right of return, and, in fact,

2 I later returned such merchandise.

3

(c) Just prior to the close of each quarter, Ashworth

4 forced its sales representatives to take shipments of merchandise

5 pursuant to Ahworth's "car stock" program. The sales

6 representatives did not want the merchandise, had not ordered it,

7 did not have customers to sell it to, and had the right to return

8 such merchandise if they could not sell it. Defendants

9 continuously manipulated each quarter's results through the "car

10 stock" program.

11

(d) Shipments of merchandise were made to customers

12 before the customers requested shipment in order to manipulate

13 quarter-end sales results. In some instances, goods were shipped

14 to golf facilities that were not yet open for the season and to

15 facilities that had not yet been constructed. In other cases,

16 goods were shipped to customers months before they wanted it

17 shipped.

18

(e) Ashworth commonly shipped nonconforming goods which

19 were in stock to customers who sought merchandise that was out-of-

20 stock or unavailable. Ashworth would ship different types of goods

21 or different sizes that were not ordered but which Ashworth had in

22 stock in order to record the shipments as sales. The effect of

23 these creative sales practices was to artificially inflate

24 revenues.

25

83. In violation of GAAP, defendants treated such shipments

26 and programs as sales, materially inflating reported sales and

27 earnings during the Class Period. GAAP generally provides that

28 revenue should not be recognized until an exchange has occurred,

- 46 - 99cv0121-L(JAI-1)


1 the earnings process is complete, and collection of the sales price

2 is reasonably assured. Financial Accounting Standards Board

3 Statement of Financial Accounting Concepts No. 5, 183; Accounting

4 Principles Board Opinion No. 10, ¶12. The conditions for revenue

5 recognition under GAAP ordinarily are met when products and

6 services are exchanged for cash or claims to cash, and when the

7 entity has substantially performed the obligations which entitle it

8 to the benefits represented by the revenue. Generally, a transfer

9 of risk must occur in order to effect an exchanger for purposes of

10 revenue recognition under GkAP. Ashworth's recorded "sales' did

11 not comply with these requirements.

12

FIRST CLAIM FOR RELIEF For Violation Of 910(b) Of The 1934 Act

13

And Rule lOb-5 Against All Defendants

14

84. Plaintiffs incorporate ¶1-83 by reference.

15

85. During the Class Period, defendants disseminated or

16 approved the false statements specified above, which they knew or

17 recklessly disregarded were misleading in that they contained

18 misrepresentations and failed to disclose material facts necessary

19 in order to make the statements made, in light of the circumstances

20 under which they were made, not misleading.

21

86. Defendants violated §10(b) of the 1934 Act and Rule 10b-5

22 in that they:

23

(a) Employed devices, schemes, and artifices to defraud;

24

(b) Made untrue statements of material facts or omitted

25 to state material facts necessary in order to make statements made,

26 in light of the circumstances under which they were made, not

27 misleading; or

28

- 47 - 99cv0121-L(JMI)


1

(c) Engaged in acts, practices, and a course of business

2 that operated as a fraud or deceit upon Plaintiffs and others

3 similarly situated in connection with their purchases of Ashworth's

4 common stock and publicly traded options during the Class Period.

5

87. Plaintiffs and the Class have suffered damages in that,

6 in reliance on the integrity of the market, they paid artificially

7 inflated prices for Ashworth stock and options. Plaintiffs and the

8 Class would not have purchased Ashworth stock or options at the

9 prices they paid, or at all, if they had been aware that the market

10 prices had been artificially and falsely inflated by defendants'

11 misleading statements,

12

88. As a direct and proximate result of these defendants'

13 wrongful conduct, Plaintiffs and the other members of the Class

14 suffered damages in connection with their purchases of Ashworth

15 common stock and its publicly traded options during the Class

16 Period.

17

SECOND CLAIM FOR RELIEF For Violation Of §20(a) Of The 1934 Act

18

Against All Individual Defendants

19

89. Plaintiffs incorporate 111-88 by reference.

20

90. Each of the Individual Defendants acted as a controlling

21 person of Ashworth within the meaning of §20(a) of the 1934 Act.

22 By reason of their positions as officers and directors of Ashworth,

23 and their ownership of Ashworth stock, the Individual Defendants

24 had the power and authority to cause Ashworth to engage in the

25 wrongful conduct complained of herein.

26

PLAINTIFFS' CLASS ACTION ALLEGATIONS

27

91. Plaintiffs bring this action as a class action pursuant

28 Ito Federal Rules of Civil Procedure 23(a) and (b) (3) on behalf of

48 - 99cv0121-L(JAEI)


1 a Class consisting of all persons who purchased shares of Ashworth

2 common stock and its publicly traded options during the period

3 September 4, 1997 through July 15, 1998, inclusive (the Class

4 Period), and who were damaged thereby. Excluded from the Class are

5 defendants; the officers and directors of the Company during the

6 Class Period, members of their immediate families, and their legal

7 representatives, heirs, successors or assigns; and any entity in

8 which defendants have or during the Class Period had a controlling

9 interest.

10

92. The members of the Class are so numerous that joinder of

11 all members is impracticable. While the exact number of Class

12 members is unknown to plaintiffs at this time and can only be

13 ascertained through appropriate discovery, plaintiffs believe that

14 there are thousands of members of the Class and that they are

15 geographically dispersed. As of September 3, 1998, there were

16 approximately 14 million shares of Ashworth common stock

17 outstanding, which actively traded under the ticker symbol "ASHW"

18 on the NASDAQ National Market System.

19

93. Plaintiffs claims are typical of the claims of the

20 members of the Class, as all members of the Class are similarly

21 affected by defendants' wrongful conduct in violation of federal

22 law that is complained of in this Complaint.

23

94. Plaintiffs will fairly and adequately protect the

24 interests of the members of the Class and have retained counsel

25 competent and experienced in class action and securities

26 litigation.

27

95. Common questions of law and fact exist as to all members

28 of the Class and predominate over any questions solely affecting

- 49 - 99cv0121-L(JAH)


1 I individual members of the Class. Among the questions of law and 2 fact common to the Class are:

3

(a) Whether defendants' acts as alleged herein

4 constitute violations of the federal securities laws;

5

(b) Whether defendants participated in and pursued the

6 common course of conduct complained of herein;

7

(c) Whether statements made by defendants to the

8 investing public during the Class Period misrepresented material

9 facts about the business, finances and operating performance of

10 Ashworth;

11

(d) Whether the market price of Ashwcrth's common stock

12 and options during the Class Period was artificially inflated due

13 to the material misrepresentations and failure to correct the

14 material misrepresentations complained of in this Complaint; and

15

(e) Whether the members of the Class have sustained

16 damages as a result of defendants' conduct and, if so, the proper

17 measure of damages.

18

96. A class action is superior to all other available methods

19 for the fair and efficient adjudication of this controversy, since

20

joinder of all members is impracticable. Furthermore, as the

21 damages suffered by individual Class members may be relatively

22 small, the expense and burden of individual litigation make it

23 impossible for members of the Class to individually redress the

24 wrongs done to them. There will be no difficulty in the management

25 of this action as a class action.

26

STATUTORY SAFE HARBOR

27

97. The statutory safe harbor provided for forward-looking

28 statements under certain circumstances does not apply to any of the

- 50 - 99cv0121-L(JAH)


1 allegedly false forward-looking statements pleaded in this

2 Complaint. The statutory safe harbor does not apply to Ashworth's

3 false financial statements. Also, none of the particular oral

I forward-looking statements pleaded herein were identified as

I "forward-looking statements" when made. None of the written

I forward-looking statements made were identified as forward-looking

statements. Nor was it stated as to either type of forward-looking

S statement that actual results "could differ materially from those

9 projected." Nor did meaningful cautionary statements identifying

10 important factors that could cause actual results to differ

11 materially from those in the forward-looking statements accompany

12 those forward-looking statements. Each of the forward-looking

13 statements alleged herein to be false was authorized by an

14 executive officer of Ashworth and was actually known by each of the

15 Individual Defendants to be false when made.

16

PRAYER FOR RELIEF

17

WHEREFORE, Plaintiffs pray for judgment as follows:

18

A. Declaring this action to be a proper class action

19 pursuant to Rule 23;

20

B. Awarding Plaintiffs and the members of the Class damages,

21 interest and costs;

22

C. Awarding equitable and/or injunctive relief as permitted

23 by law or equity, including the imposition of a constructive trust

24 upon the proceeds of defendants' insider trading, pursuant to Rules

26 64, 65, and any appropriate state law remedies; and

26

D. Awarding such other relief as the Court may deem just and

27 proper.

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1

JURY DEMAND

2

Plaintiffs demand a trial by jury.

3

DATED this 15th day of December, 1999.

4

MILBERG WEISS BERSHAD HYNES & LERACH LLP

5

WILLIAM S. LERACH BLAKE M. HARPER

6

ARTHUR C. LEAHY MARISA JANINE

7

8

9

ARTHUR 6./EAHY

10

600 West Broadway, Suite 1800 San Diego, CA 92101

11

Telephone: 619/231-1058

12

BERGER & MONTAGUE, P.C. DANIEL BERGER

13

TODD S. COLLINS SANDRA STEIN, Of Counsel

14

1622 Locust Street Philadelphia, PA 19103

15

Telephone: 215/875-3000

16

THE OLSEN LAW FIRM KURT B. OLSEN

17

2121 "K" Street, NW Suite 800

18

Washington, DOCUMENT 20037 Telephone: 202/261-3553

19 Co-Lead Counsel for Plaintiffs

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25

26

27

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bJ - \cASEs\AsHwoRTu\cJN0353 .cpt

- 52 - 99cv0121-L(JAH)


1

DECLARATION OF SERVICE BY MAIL

2

3

I, the undersigned, declare:

4

1. That declarant is and was, at all Limes herein mentioned,

5 a citizen of the United States and a resident of the County of San

6 Diego, over the age of 18 years, and not a party to or interest in

7 the within action; that declarant's business address is 600 west

8 Broadway, Suite 1800, San Diego, California 92101.

9

2. That on December 15, 1999, declarant served the

10 CONSOLIDATED AMENDED COMPLAINT FOR VIOLATION OF THE SECURITIES

11 EXCHANGE ACT OF 1934 by depositing a true copy thereof in a United

12 States mailbox at San Diego, California in a sealed envelope with

13 postage thereon fully prepaid and addressed to the parties listed

14 on the attached Service List.

15

3. That there is a regular communication by mail between the

16 place of mailing and the places so addressed.

17

I declare under penalty of perjury that the foregoing is true

18 and correct. Executed this 15th day of December, 1999, at San

19 Diego, California.

20

y I • 1. 21

LISA INSUNZA 22

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24

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99cv0121 -L (JAB)


ASHWORTI-T Service List - 03/31/99 Page 1

COUNSEL FOR PLAINTIFF(S)

John W. Jeffrey JEFFREY & DREHER, LLP 225 Broadway, 19th Floor San Diego, CA 92101

619/230-8828 619/687-0136 (fax)

Kurt Olsen THE OLSEN LAW FIRM 2121 "K" Street, N.W., Suite BOO Washington, DC 20037

202/261-3553 703/351-5911 (fax)

Bruce G. Murphy LAW OFFICES OF BRUCE G. 265 Liwyds Lane Vero Beach, FL 32963

561/231-4202 561/231-4042 (fax)

Alan Cleveland MURPHY SHEEHAN PHINNEY BASS + GREEN,

P.A. 1000 Elm Street, P.O. Box 3701 Manchester, NH 03105-3701

603/668-0300 603/627-8121 (fax)

Daniel Berger Todd S. Collins Sandra Stein BERGER & MONTAGUE, P.C. 1622 Locust Street Philadelphia, PA 19103

215/875-3000 215/875-3053 (fax)

Blake M. Harper Arthur C. Leahy Marisa Janine MILBERG WEISS BERSHAD HYNES &

LERACI-J LLP 600 West Broadway, Suite 1800 San Diego, CA 92101-5050

619/231-1058 619/231-7423 (fax)

Howard D. Finkelstein Jeffrey R. Krinsk FINKELSTEIN & KRINSK 501 West Broadway, Suite 1250 San Diego, CA 92101

619/238-1333 619/238-5425 (fax)

COUNSEL FOR DEFENDANTS

*Thomas A. Jones GIBSON, DUNN & CRUTCHER LLP Jamboree Center 4 Park Plaza, Suites 1400-1800 Irvine, CA 92714-8557 949/451-3800 949/451-4220 (fax)

* DENOTES SERVICE VIA FEDERAL EXPRESS.

In Re: Ashworth, Inc. Securities Litigation 99-CV-00121...

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Transcript of In Re: Ashworth, Inc. Securities Litigation 99-CV-00121...