In re Dell, Inc. Securities Litig. 06-CV-00726-Consolidated Amended Complaint For Violations Of

Case 1:06-cv-00726-SS Document 164 Filed 01/11/08 of 8

IN THE UNITED STATES DISTRICT CtURT•' FOR THE WESTERN DISTRICT OFAUSTIN DIVISION

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Case No. A-06-CA-726-SS

' In Re Dell, Inc. Securities Litigation CONSOLIDATED AMENDED COMPLAINTFOR VIOLATIONS OF THE FEDERAL

SECURITIES LAWS

' DEMAND FOR JURY TRIAL

1 '


TABLE OF CONTENTS1 PAGE(s)

1. INTRODUCTION 1

II. EXECUTIVE SUMMARY 2

t III. JURISDICTION AND VENUE 12

IV. THE PARTIES 12

' V. CONFIDENTIAL SOURCES 15

' VI. BACKGROUND ON DELL AND THE REVELATION OF SERIOUSACCOUNTING FRAUD 22

A. Background 22

B. The Fraud At Dell Is Revealed 26

' VIL DELL'S FRAUDULENT SCHEME / ACCOUNTING VIOLATIONS 32

A. Dell Confesses That It Was Cooking Its Books and Announces That It WillRestate More Than Four Years of Results 32

B. The Dell Defendants Committed Fraud By Knowingly and Intentionally' Violating GAAP 37

C. The Dell Defendants Committed Multiple Fraudulent Accounting PracticesDuring the Class Period, Including By Fraudulently Accelerating Revenues 39

v Volume Software1. Improper Acceleration of Revenue o n Highg o u me So twa eProducts Where VSOE Had Not Been Appropriately Established 41

2. Improper Overstatement of Revenue on Software Sales When theCompany Was Not the Principal in the Transaction 43

3. Improper Recognition of Revenue in Incorrect Periods 44

4. Improper Recognition of Revenue Where Delivery Had Not Occurred 45

5. Improper Deferral of Revenue to Stockpile Revenue 46

6. Improper Acceleration of Revenues Related to Extended Warranties 46

D. The Dell Defendants Knowingly Manipulated Accruals And Reserves 48

' 1. GAAP Requirements and "Cookie Jar" Reserves 48

1


2. The Dell Defendants Manipulate Warranty Reserves 53

3. The Dell Defendants Violate GAAP by Over-Accruing EmployeeBonuses 54

4. The Dell Defendants Violate GAAP by Over-Accruing CustomerRebates 54

5. The Dell Defendants Violate GAAP by Improperly Accounting forVendor Funding Arrangements 55

E. The Materiality Of The Accounting Violations 57

F. Dell Failed To Maintain Internal Controls Over Financial Reporting 60

G. PwC Issues "Clean Audit" Opinions For Each Financial Report DellRestated 63

VIII. DEFENDANTS' FALSE AND MISLEADING STATEMENTS 64

A. First Quarter FY 2003 (For The Quarter Ended May 3, 2002) 65

' 1. Firstuarter 2003 Earnings Release 65Q g

' 2. First Quarter 2003 Earnings Conference Call 66

3. First Quarter 200310-Q 67

' 4. Michael Dell and Schneider Falsely and Misleadingly Attest to theAccuracy of Dell's Financial Reports 69

B. Second Quarter FY 2003 (For Quarter Ended August 2, 2002) 70

1. Second Quarter 2003 Earnings Release 70

2. Second Quarter 2003 Earnings Conference Call 71

' 3. Second Quarter 200310-Q 73

C. Third Quarter FY 2003 (For Quarter Ended November 1, 2002) 76

1. American Business Conference Call 76

2. Third Quarter 2003 Earnings Release 77

3. Third Quarter 2003 Earnings Conference Call 78

4. Third Quarter 200310-Q 80

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D. Fourth Quarter FY 2003 (For The Quarter Ended January 31, 2003) 85

' 1. Fourth Quarter 2003 Earnings Release 85

' 2. Fourth Quarter 2003 Earnings Conference Call 86

3. Dell's Stock Rises on Misleading Reports 87

4. Goldman Sachs Conference Call 88

5. 10-K for the Year Ended January 31, 2003 89

' E. FirstQ uarter 2004 (For The Quarter Ended May 2, 2003) 98

' 1. First Quarter 2004 Earnings Release 98

2. First Quarter 2004 Earnings Conference Call 100

3. 2004 Proxy 101


F. SecondQ uarter 2004 (For The Quarter Ended August 1, 2003) 106


2. Second Quarter 2004 Earnings Conference Call 107

' 3. Second Quarter 200410-Q 109

G. Third Quarter (For The Quarter Ended October 31, 2003) 115

1. Dell's ThirdQ uarter 2004 Earnings Release 115



tH. Fourth Quarter (For The Quarter Ended January 30, 2004) 123

1. Fourth Quarter 2004 Earnings Release 123

2. Fourth Quarter 2004 Earnings Conference Call 125

' 3. 10-K for the Year Ended January 30, 2004 126

1. First Quarter 2005 (For The Quarter Ended April 30, 2004) 135

1. First Quarter 2005 Earnings Release 135

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2. First Quarter 2005 Earnings Call 137

' 3. The 2005 Proxy 139


J. Rollins Touts Dell's Growth 146

K. Second Quarter 2005 (For The Quarter Ended July 30, 2004) 146

1. Second Quarter 2005 Earnings Release 1461 2. SecondQ guarter 2005 Earnings Conference Call 149

' 3. Rollins States that Dell's Performance Will Be in Line with WallStreet Estimates 151

4. Second Quarter 200510-Q 152

L. Third Quarter 2005 (For The Quarter Ended October 29, 2004) 158

' 1. Third Quarter 2005 Earnings Release 158



M. Fourth Quarter 2005 (For The Quarter Ended Jan 28, 2005) 169



3. 10-K for the Year Ended January 28, 2005 173

4. Schneider Reaffirms the Validity of Dell's Business Model 181

N. First Quarter 2006 (For The Quarter Ended April 29, 2005) 182


2. The 2006 Proxy 184

3. First Quarter 2006 Earnings Conference Call 185

' 4. First Quarter 200610-Q 186

O. Second Quarter 2006 (For The Quarter Ended July 29, 2005) 192


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2. Second Quarter 2006 Earnings Call 194

3. Second Quarter 200610-Q 194

P. Third Quarter 2006 (For The Quarter Ended October 28, 2005) 200

1. Dell Announces That Its Results for the Quarter Would Be Lower' Than Expected 200

2. Third Quarter 2006 Earnings Release 201

1 3. Third Quarter 2006 Earnings Conference Call 203


Q. Fourth Quarter 2006 (For The Quarter Ended February 3, 2006) 210



3. 10-K for the Year Ended February 3, 2006 213

R. First Quarter 2007 (For The Quarter Ended May 5, 2006) 222


' 2. First Quarter 2007 Earnings Conference Call 224

3. The 2007 Proxy 225

' 4. First Quarter 200710-Q 226

5. Dell Attempts to Condition the Market 231


7. Dell Downplays the Gravity of the SEC's Investigation 234

IX. SCIENTER/FRAUDULENT INTENT 235

A. The Individual Defendants' Knowing And/Or Reckless Participation In TheFraud 235

' B. The Individual Defendants Each Signed SEC Filings And Made Other PublicStatements That Contained Materially False And Misleading StatementsAnd/Or Omitted Material Facts 236

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C. The Individual Defendants Had Unfettered Access To All Of Dell's FinancialInformation And Were Intimately Involved In The Day-To-DayManagement Of The Company 238

' D. The Individual Defendants Oversaw And Actually Directed Dell'sManipulative Accounting Practices 241

E. The Individual Defendants Were Aware Of And Implemented Policies ThatEncouraged Fraud And Knowingly Ignored Dishonest Behavior Within TheCompany 243

1. Dell's Executive Compensation and Jumbo Bonus SchemeEncouraged Fraud 243

' 2. Dell Had a "Culture of Deception" 251

F. The Individual Defendants Reaped The Benefits Of Their Fraud ByEngaging In Massive Insider Trading 255

G. Individual Defendants Rollins And Schneider "Left" The Company AtSuspicious Times 260

X. PWC's KNOWING AND/OR RECKLESS PARTICIPATION IN THE FRAUD 260

' A. PwC Was Not Independent 265

B. PwC Had Full And Complete Access To Dell's Information 267

' C. PwC Failed To Render Accurate Audit Reports 267

D. PwC Improperly Issued Unqualified Opinions On The Effectiveness Of TheCompany's Internal Controls Over Financial Reporting During The ClassPeriod 269

' E. PwC Failed To Adequately Plan Its Audit 275

F. PwC Failed To Exercise Due Professional Care 279

G. Numerous "Red Flags" Should Have Alerted PwC To Dell's Materially FalseAnd Misleading Financial Statements 279

' H. PwC Failed To Properly Consider And Test For Management Override OfControls 284

' I. PwC Failed To Obtain Sufficient Competent Evidential Matter RegardingRevenue Recognition On High Volume Software Products 285

J. The Manipulation Of Accounting Accruals And Reserves For The PurposeOf Enhancing The Company's Reported Operating Results 286

Vi

Case 1:06-cv-00726-SS Document 164 Filed 01/11/08 of 81K. The Restatements Were Material To Dell's Reported Results 287

L. PwC Has A History Of Violating GAAS And Engaging In QuestionableConduct 288

XI. APPLICABILITY OF PRESUMPTION OF RELIANCE: FRAUD-ON-THE-MARKET DOCTRINE 289

' XII. NO SAFE HARBOR EXISTS FOR DEFENDANTS' FALSE STATEMENTS 290

XIII. LOSS CAUSATION 290

A. The August 11 2005 Announcement 292

' B. The February 16, 2006 Fourth Quarter FY 2006 Announcement 292

C. The May 8, 2006 Announcement 293t D. The August 17, 2006 Announcement 294

E. The September 11, 2006 Announcement 295

XIV. CLASS ACTION ALLEGATIONS 296

XV. CLAIMS FOR RELIEF 298

XVI. PRAYER FOR RELIEF 304

XVIL JURY DEMAND 304

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Case 1:06-cv-00726-SS Document 164-1 Filed 01 /11/08 Page 1 of 48

I. INTRODUCTION'

' 1. This is a shareholder securities fraud class action on behalf of the purchasers of

publicly traded securities of Dell Inc. ("Dell" or the "Company") during the period from May 16,

2002 through September 8, 2006, inclusive (the "Class Period") against Dell, Michael S. Dell

"Michael Dell"),Dell's founder and Chairman, Kevin B. Rollins ("Rollins"), Dell's former

President and Chief Executive Officer, James M. Schneider ("Schneider"), Dell's former Chief

Financial Officer (collectively, Michael Dell, Rollins, and Schneider are hereinafter referred to

' as "Individual Defendants"), and Pricewaterhouse Coopers ("PwC"), Dell's outside auditor.2

1

Lead Plaintiff alleges that Defendants made false statements to investors, engaged in accounting

fraud, and made billions in profits on insider information in violation of §§10(b), 20(a) and 20A

of the Securities Exchange Act of 1934 (the "Exchange Act") and of the Securities and Exchange

Commission ("SEC") Rule IOb-5.3

Lead Plaintiff is mindful of the fact that the instant complaint is lengthy. However, Lead Plaintiffs extensiveallegations provide a level of specificity and corroboration necessary to satisfy the strict requirements of the PrivateSecurities Litigation Reform Act of 1995 ("PSLRA"). The PSLRA requires a plaintiff to "specify each statementalleged to have been misleading [and) the reason or reasons why the statement is misleading," and a plaintiff mustalso "state with particularity facts giving rise to a strong inference that the defendant acted with the required state ofmind [i.e., seienterl," 15 U.S.C. § 78u-4(b)(1) & (2) (emphasis added). Given this burden, the length of theComplaint, which details a complex fraud scheme involving multiple bad actors and more than four years ofunlawful conduct, is unavoidable. Lead Plaintiff incorporates herein by reference Dell's Form 10-K dated October30, 2007, in its entirety. Where feasible, Lead Plaintiff has quoted sparingly from this document in order to avoidunnecessary repetition.

' 2 Dell, the Individual Defendants, and PwC collectively will be referred to as the "Defendants."

3 Lead Plaintiff alleges the following upon information and belief, except as to those allegations concerning LeadPlaintiff, which are alleged upon personal knowledge. Lead Plaintiff bases its belief upon information uncovered by

' its investigation, conducted by and through counsel, into the facts and circumstances alleged herein including,without limitation: (a) review and analysis of certain filings made by Dell with the SEC; (b) review and analysis ofcertain press releases, public statements, news articles, and other publications disseminated by or concerning theDefendants and related parties; (c) review and analysis of Dell press conferences, analyst conference calls andconferences, and Dell's corporate website; (d) review and analysis of securities analyst reports concerning Dell andits operations; (e) review and analysis of certain other information, documents and materials concerning Dell and theother Defendants, including newspaper and other articles; and (f) interviews with former Dell employees.

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Case 1:06-cv-00726-SS Document 164-1 Filed 01 /11 /08 Page 2 of 48

i

II. EXECUTIVE SUMMARY

2. During the Class Period, the Defendants engaged in a broad and complex scheme

' to deceive investors into buying Dell common stock at inflated prices. More specifically, the

Defendants orchestrated and executed a host of fraudulent accounting manipulations that, inter

alia, artificially enhanced Dell's financial results and concealed the fact that Dell's business

model had become dysfunctional. From shortly after its founding in the early 1990s, through the

rise and fall of the "dot com boom," Dell had successfully positioned itself as a highly efficient,

' low-cost manufacturer of personal computers ("PCs") that could deliver a quality product direct-

to-consumers with a cost structure that was far more efficient than its chief rivals. Dell's

superior inventory management and other management efficiencies provided it with strong

operating margins that fueled its growth. Between 1994 and 1998, its annual revenues grew

from $2 billion to $16 billion, representing a 50 percent annual growth rate. After 1998, Dell's

revenues continued to grow at double-digit rates.

'

3. Beginning in 2001, Dell's competitive advantage over its rivals withered. Prices

for PCs fell across the board, declining 16% between 2000 and 2001, and by 2002 Dell's profit

' onmargin, which had l

been the best in the business, began to decline (falling to 5.8% for the 12g

months ended in mid-2002, far below Dell's five year average of 6.7%). Also by 2002, Hewlett-

Packard had surpassed Dell as the global leader in PC sales.

' 4. Any declines in Dell's growth would, of course, be devastating to the Company.

Dell needed year-over-year growth in order to maintain its stock price and to continue to pay the

compensation its employees expected to receive. For example, in an August 21, 2007 piece

' entitled "Change course or cook the books? Dell chose latter," the Houston Chronicle stated:

Like many companies trading at a high multiple, Dell needed to maintain its1 growth to keep its stock price rising. That was important not just to investors butto employees and executives who got part of their compensation in stock options.

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5. However, rather than alter its business model or make necessary changes in the

'way t did business in order to return to its earlier dominance, Dell sought aY ^quick fix: theq

Defendants decided to "cook the books." In order to do that, the Company incentivized its

managers through enormous bonuses, which were tied to meeting financial benchmarks, and then

engaged in a massive accounting fraud scheme to meet its revenue growth numbers.

6. In 2002, Dell's Board recommended and the stockholders approved the "2002

Long Term Incentive Program" ("the 2002 Plan"). The 2002 Plan replaced the "Dell Computer

Corporation Corporate Incentive Plan," approved in 1994 ("the 1994 Plan"). The 2002 Plan

changed Dell's bonus structure in two significant ways. First, under the 2002 Plan bonuses

became directly linked to revenue-related figures. Like the 1994 Plan, the 2002 Plan provided

the Individual Defendants and other executives with "performance-based compensation." Under

the 2002 Plan, however, four new performance measures appeared: revenue; operating income;

operating margin; and return on investment capital. Moreover, in 2003 the Compensation

Committee introduced a new "performance-based" bonus opportunity for executives called the

"Long Term Cash Incentive Bonus Program" (the "Cash Incentive Plan"). The Cash Incentive

' Plan offered p"jumbo bonuses" to to Dell executives rather than the more traditional stock

options. The Cash Incentive Plan offered executives up to 10 times more than their normal

bonus. The Cash Incentive Plan linked "jumbo bonuses" directly to "certain revenue growth and

profitability metrics." Dell 2003 Proxy Statement at 22 (emphasis added). In short, at the start

of the Class Period, Dell created a compensation structure for both its executives and its rank and

file employees that rewarded them for hitting financial targets and punished them for missing

them.

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7. The timing of the changes in Dell's long-term bonus structure was not

coincidental. In fiscal 2002 as noted above, Dell's business model had begun to suffer serious

1

deficiencies and, as a result, Dell's earnings per share decreased for four straight quarters and

year-over-year revenue growth decreased for three quarters. As a result, the Individual

' Defendants' annual short-term bonuses suffered substantially. In an attempt to reverse the

decline, management implemented the 2002 Plan, which began to link all long-term

"performance-based" executive bonuses with revenue.

8. Under the new bonus plan, Dell management set unrealistic goals for employees.

In fact, Michael Dell has acknowledged that Dell's bonus structure placed unrealistic pressure on

Company employees. In early 2007, Michael Dell circulated an email/memo explaining that the

Company would now "set the annual bonus plan against realistic targets." (emphasis added).

9. Thus, Dell senior management was now incentivized to make the numbers, rather

than to take the harder path of actually fixing the business. The performance-based

compensation structure, coupled with Dell's admittedly deficient controls, created a fertile

breeding ground for fraud and generated a "culture of deception." Indeed, Dell's restatement

'

admitted that the Company's control environment failed to emphasize "strict adherence" toP

'

generally accepted accounting principles. At the same time, Dell's sales people employed

dishonest sales tactics and lied to customers. Simply put, dishonesty was a Company-wide

problem. Byway of examP Y Y le:p

'

• The SEC has now charged three Dell employees with insider tradingduring the Class Period;

• Dell has settled a consumer protection lawsuit that uncovered a host ofdishonest sales practices during the Class Period;

• The New York Attorney General has filed a consumer protection lawsuit' highlighting numerous dishonest consumer-oriented practices at the Company;

and

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• Dell managers lied to their own employees, providing them with "fake"' margins to encourage the sale of certain products.

10. As a consequence of Dell's "by any means necessary" environment and the

Company's culture of deception, beginning in 2002 the Defendants spun a web of deceit by

disseminating false and misleading information to the public and by touting the Company's

continued financial success as the result of its unique business model. In reality, however, Dell's

' "success" was based on accounting fraud. The Individual Defendants knew about the fraudulent

practices implemented and executed under their watch. Numerous confidential sources confirm

a simple truth: that these individuals were intimately involved in everything that was going on at

' Dell.

11. Over the next four years, Dell's senior management engaged in wide-spread

accounting fraud and manipulation using improper revenue recognition, cookie jar reserves,

and other accounting chicanery so as to make it appear that Dell was performing as it had

historically in order to justify managements' enormous bonuses. As Dell's fraud continued, the

PCompany's stock rice continued to climb.

12. To capitalize on Dell's increasing stock price, the Individual Defendants, along

with many other Dell insiders, cashed in on their Dell stock and stock option grants, selling many

billions of dollars worth of stock at inflated prices. While insiders were dumping their holdings

in the Company, the investing public was completely unaware that Dell's reported numbers were

being fabricated to cover up the fact that the Company's business model was no longer

performing as it had over most of the previous decade. The three Individual Defendants, alone,

collectively sold almost 90 million shares of their personal holdings of Dell stock, reaping

proceeds of almost $3 billion. These Individual Defendants also collectively received $18

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million in cash bonus compensation for fiscal years 2003 to 2006 based on "overall company and

I factibusiness performance, as well as ...customer satisfaction."o

13. Public speculation that the Company was experiencing problems began as early as

2005, when Dell announced that it had missed revenue and earnings projections for the first time

since 2002. It was not, however, until August 17, 2006, while announcing a 51% drop in

quarterly revenues, that Dell finally disclosed that it had been under investigation by the SEC for

more than a year for accounting irregularities relating to "revenue recognition and other

I accounting and financial reporting matters for certain past fiscal years." Just one month later, on

ISeptember 11, 2006, Dell issued a press release stating that it would delay filing its Form IO-Q

for the second quarter 2007, because the SEC investigation and a subsequently initiated

I independent investigation by its audit committee had raised serious questions about the accuracy

of the Company's reported financial results. Over the course of the next year, Dell would refuse

to file any audited financials, thereby risking being delisted from the NASDAQ stock exchange.

I Over that same period, numerous senior Dell executives, including Dell's CEO Rollins and CFO

Schneider, either resigned or were fired because of their complicity in the accounting fraud

unexpectedlyscheme that was slowly being exposed. Schneider "retired" as Dell's CFO

effective January 1, 2007. See Damon Darlin, "Dell's Financial Chief Resigns Unexpectedly,"

The New York Times, Dec. 20, 2006. Shortly after Schneider left the Company, Dell announced

that Rollins would "resign" as Dell's CEO and a board member effective January 31, 2007.

Following Schneider and Rollins, other Dell senior executives also resigned, retired, left or

announced their intention to leave the Company, including: Joe Marengi, Dell's Senior Vice

President, Americas; John Medica, Dell's Senior Vice President, Consumer Products; Senior

IVice President John Hamlin, head of Dell's online operations worldwide; and Senior Vice

I 6

Case 1:06-cv-00726-SS Document 164-1 Filed 01/11/08 Page 7 of 48

President Paul McKinnon, head of Dell's human resources department. In August 2007, Dell's

present CFO pointedly told investors that "the one's that knew about it [the accounting fraud]

' are the ones that are gone." (emphasis added).

14. Finally, on October 31, 2007, Dell filed restated financials for its fiscal years

2003, 2004, 2005, 2006, and the first quarter of 2007. In a stunning report, Dell's Audit

' Committee revealed the results of the investigation, stating:

The investigation raised questions relating to numerous accounting issues, most ofwhich involved adjustments to various reserve and accrued liability accounts, and

' identified evidence that certain adjustments appear to have been motivated by

the objective of attaining financial targets. According to the investigation, theseactivities typically occurred in the days immediately following the end of aquarter, when the accounting books were being closed and the results of thequarter were being compiled. The investigation found evidence that, in thatdineframe, account balances were reviewed, sometimes at the request or withthe knowledge of senior executives, with the goal of seeking adjustments so thatquarterly performance objectives could be met. The investigation concluded thata number of these adjustments were improper, including the creation and release

' of accruals and reserves that appear to have been made for the purpose ofenhancing internal performance measures or reported results, as well as thetransfer of excess accruals from one liability account to another and the use of the

' excess balances to offset unrelated expenses in later periods.

[O]ur previously issued financial statements for Fiscal 2003, 2004, 2005 and 2006(including the interim periods within those years), and the first quarter of Fiscal2007, should no longer be relied upon because of certain accounting errors andirregularities in those financial statements.

DELL FY 2007 Form 10-K at 37 (emphasis added).

15. Defendants also admitted that they had failed to maintain an adequate financial

reporting system. Specifically, "Management's Report on Internal Control Over Financial

Reporting" states:

Control environment — We did not maintain an effective control environment.Specifically:

7


• We did not maintain a tone and control consciousness that consistentlyremphasized strict adherence to GAAP. This control deficiency resulted in an

environment in which accounting adjustments were viewed at times as anacceptable device to compensate for operational shortfalls, which in certain

' instances led to inappropriate accounting decisions and entries that appear to havebeen largely motivated to achieve desired accounting results and, in someinstances, involved management override of controls. In a number of instances,information critical to an effective review of transactions and accounting entrieswas not disclosed to internal and external auditors.

• We did not maintain a sufficient complement of personnel with anappropriate level of accounting knowledge, experience, and training in theapplication of GAAP commensurate with our financial reporting requirementsand business environment.

• The control environment, which is the responsibility of senior' management, sets the tone of the organization, influences the control

consciousness of its people, and is the foundation for all other components ofinternal control over financial reporting. The control environment materialweaknesses described above contributed to the material weaknesses related to our

' period-end financial reporting process described below.

• Period-end financial reporting process — We did not maintain effectivecontrols over the period-end reporting process, including controls with respectto the review, supervision, and monitoring of accounting operations.Specifically:t • Journal entries, both recurring and nonrecurring, were not always

accompanied by sufficient supporting documentation and were not alwaysadequately reviewed and approved for validity, completeness, andaccuracy;

• Account reconciliations over balance sheet accounts were notalways properly and timely performed, and the reconciliations and theirsupporting documentation were not consistently reviewed forcompleteness, accuracy, and timely resolution of reconciling items; and

• We did not design and maintain effective controls to ensure thecompleteness, accuracy, and timeliness of the recording of accruedt

liabilities, reserves, and operating expenses, primarily related to ouraccrued warranty obligations, goods and services received but notinvoiced, customer rebates, and nonproduetion operating expenses.

• These material weaknesses resulted in the restatement of our annual andinterim financial statements for Fiscal 2003, 2004, 2005, and 2006 and the first

'

quarter of Fiscal 2007, and resulted in adjustments, including audit adjustments,to our annual and other interim financial statements for Fiscal 2007. Additionally,


these material weaknesses could result in misstatements of substantially all of our' financial statement accounts that would result in a material misstatement of our

annual or interim consolidated financial statements that would not be prevented ordetected on a timely basis.

'LcribedBased on management's evaluation, because of the material weaknesses

above, management has concluded that our internal control over' financial reporting was not effective as of February 2, 2007.

Dell FY 2007 Form 10-K at 112-113 ("Management's Report on Internal Control Over Financial

tReporting„)

16. Defendants' motivation to engage in accounting fraud was clear and concrete and

stemmed directly from the adoption in 2002 of the new executive compensation system. As

tnoted in one recent press report, "In simple[] terms: Executives were cooking the books to hit

performance targets that resulted in bigger payouts to them.” Andrew Osterland, "SarbOx exec

pay clawback could scratch Dell, Financial Week, Dec. 3, 2007.

17. Ultimately, the Company admitted that the Defendants used fraudulent accounting

to materially inflate Dell's reported revenues by approximately $463 million for fiscal years

' 2003 through 2006. Thus, during the Class Period, the Defendants knew, or recklessly

disregarded, the following material adverse facts and intentionally concealed these facts from

investors:

1) The Dell direct business model was not operating successfully or creatingthe strong, often record, financial results and operating margins Dell was

' reporting; in fact, due to overly aggressive cost-cutting in Dell's customer supportand service and manufacturing operations, Dell's business model was afflictedwith significant customer dissatisfaction and complaints, as well as increasingproduct quality problems;

2) For one year, beginning in August 2005, Defendants concealed that theSEC had notified Dell it was investigating Dell's prior financial reporting

' practices and SEC filings which Dell's top insiders knew would likely uncovernumerous irregularities and fraudulent accounting practices;

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3) Dell's financial statements issued during the Class Period were artificially' inflated and falsified and did not fairly represent Dell's results from operations,

nor did they comply with GAAP;

4) Dell's Sarbanes-Oxley representations were false, as Dell's internalfinancial and accounting and disclosure controls were deficient and anundisclosed material fraud was ongoing at Dell: Dell's financial statements werebeing falsified, its disclosures and its SEC filings were false and misleading, andan ongoing fraudulent violation of the securities laws was occurring; and

5) Dell's purported success in reducing its operating expenses as apercentage of net revenues and in increasing its net and gross operating profitmargins to record high levels was only being achieved at the cost of the seriousproduct quality and customer support and service problems outlined above, andwhich the Dell Defendants knew would require massive expenditures to fix,thereby harming Dell's profitability going forward.a

18. Although Dell has sought to paint its admissions as nothing more than minor

adjustments with little effect on the Company and its shareholders, the reality is that the

Defendants' fraud was much grander and more calculated than simple accounting manipulations.

' Indeed, without the accounting fraud, Dell would have repeatedly missed analyst consensus

estimates during the Class Period, which would hardly have been considered immaterial to the

investing public.gp

19. Despite all of the foregoing problems with Dell's accounting practices, Defendant

PwC, Dell's longtime auditor, consistently rubberstamped Dell's financial statements as being

tprepared in accordance with Generally Accepted Accounting Practices ("GAAP") during the

Class Period when, in fact, they were not. PwC issued unqualified "clean audit" opinions for

each and every one of the annual reports that Dell now admits was false. While the massive

accounting fraud was taking place at Dell, PwC received $36.5 million in compensation in

connection with auditing Dell's annual financial statements, reviewing the Company's quarterly

4 The term "Dell Defendants" refers collectively to the Company, Michael Dell, Rollins, and Schneider.

10


statements, and reviewing Dell's internal controls. PwC was a knowing or reckless participant in

the fraudulent scheme violating of the 10 standards of Genera lly Accepted Auditing Standardsg Y ^ g

("GARS"), including lacking independence in performing Dell's auditing services. Quite

pointedly, on numerous other occasions, PwC has been accused of violating its own professional

standards, including those relating to its independence, even after having been sanctioned by the

SEC. In fact, PwC's office in Austin, Texas, which is the office that had primary responsibility

for Dell's audit, previously has been subject to legal action for its failure to comply with GAAS

and standards of independence. Indeed, Dell's failure to file financial statements for more than

18 months demonstrates that the financial records used by PwC as support for its audit opinions

were totally unreliable and in complete disarray. The fact that Dell had to spend almost $30

million per month in order to ascertain the Company's true financial condition raises a strong

inference that PwC acted with reckless disregard when it issued clean audit opinions of Dell's

Class Period financial statements.

20. As a result of this scheme, and its revelation to the investing public, Dell's

shareholders have been severely damaged. As a direct result of the Defendants' fraudulent

actions and false and misleading tatements the rice of Dell's stock was bid u to a Classg p p

Period high of nearly $43 per share in 2004, only to fall to approximately $22 per share by the

end of the Class Period. The bulk of shareholders' losses were realized in the year between the1 (concealed) start of the SEC's investigation and Dell's ultimate admission that it was, indeed, the

target of an SEC inquiry. In fact, between August 2005, at the start of the SEC's investigation,

and the end of the Class Period, Dell's shares fell from $40.52 (close as of August 1, 2005) to

$21.65 (close as of September 8, 2006), eliminating more than $40 billion in market

' capitalization value.

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21. The impact of the Defendants' fraud continues to be felt by Dell's shareholders.

' hares are hovering near $20 per share approximately the sameAs of January 20Q8, Dell's s g p pp y ricep

at which the Company's shares closed on the last day of the Class Period.

III. JURISDICTION AND VENUE

22. The claims asserted herein arise under and pursuant to §§ 10(b), 20(a) and 20(A)

' of the 1934 Act, 15 U.S.C. §§78j(b) and 78t(a), and Rule lOb-5 promulgated thereunder by the

SEC, 17 C.F.R. §240.1Ob-5. This Court has jurisdiction over the subject matter of this action

Pursuant to 28 U.S.C. §§1331 and 1367 and §27 of the 1934 Act, 15 U.S.C. §78aa. Venue is

proper pursuant to §27 of the 1934 Act and 28 U.S.C. § 1391(b). Dell was headquartered in this

District during the Class Period and many of the alleged false and misleading statements were

made in and/or disseminated from this District.

IV. THE PARTIES

t Plaintiff Union Asset Management Holding AG ("Plaintiff'), of Europe's23. g g " '( ), P

' largest investment fund management companies, purchased a total of 3,228,000 shares of Dell

common stock at artificially inflated prices due to Defendants' fraud during the Class Period,

suffering massive losses as a result. See Certification and Schedule A (the "Funds").5

24. Defendant Dell is a Delaware corporation with its principal place of business at One

Dell Way, Round Rock, Texas, 78682. According to the Company's 2006 Form 10-K filed with

ithe SEC on March 15, 2006, Dell is a provider of information technology products and services:

' Dell offers a broad range of product categories, including desktop computersystems, mobility products, software and peripherals, servers and networkingproducts, enhanced services, and storage products. During calendar 2005, Dell

5 Lead Plaintiff's original Certification, Schedule A (listing Plaintiff's trades), and a copy of its SupplementalDeclaration discussing its commitment to this litigation is attached at Appendix 1 and incorporated herein.

' 12


was the number one supplier of personal computer systems worldwide as well asin the United States.

25. Dell touts that its "business strategy combines its direct customer model with a

highly efficient manufacturing and supply chain management organization and an emphasis on

standards-based technologies." According to the Company, the "key tenets" of this business

strategy include:

• A direct relationship is the most efficient path to the customer. A directcustomer relationship, also referred to as Dell's "direct business model,"eliminates wholesale and retail dealers that add unnecessary time and cost ordiminish Dell's understanding of customer expectations. As a result, Dell is ableto offer customers superior value by avoiding expenditures associated with theretail channel such as higher inventory carrying costs, obsolescence associatedwith technology products, and retail mark-ups.

0 Customers can purchase custom-built products and custom-tailoredservices. Dell believes the direct business model is the most effective model forproviding solutions that address customer needs. In addition, Dell's flexible,build-to-order manufacturing process enables Dell to turn over inventory everyfive days on average, and reduce inventory levels. This allows Dell to rapidlyintroduce the latest relevant technology more quickly than companies with slow-moving, indirect distribution channels, and to rapidly pass on component costsavings directly to customers.

•. Dell. is a low-cost leader. Dell's highly efficient supply chainmanagement and manufacturing organization, efficient direct business model, andconcentration on standards-based technologies allow Dell to maintain one of thelowest cost structures among its major competitors and to pass those savings to itscustomers. Dell's relentless focus on reducing its costs allows it to consistentlyprovide customers with superior value.

26. Dell also touts that its Board of Directors "expects each director, as well as each

member of senior management, to lead by example in a culture that emphasizes trust, integrity,

honesty, judgment, respect, managerial courage and responsibility." (emphasis added).

Investors have relied on this philosophy when evaluating Dell's financial statements and in

' unties. Indeed one of the kedeciding whether to buy Dell's sec y factors investors evaluate when

13


deciding to purchase a company's securities, along with a company's long-term earnings and

growth prospects, is the credibility of the management making those projections.^' P p ects tY

27. To that end, the Dell Defendants projected an image of integrity and honesty to

the marketplace. Dell has publicly claimed that its management operates at the "highest [ethical]

standards when doing business" and that this is a key factor in delivering long-term shareholder

value. For example, with respect to its Code of Conduct, Dell touts that:

Dell's success is built on a foundation of personal and professional integrity. Wehold ourselves to standards of ethical behavior that go well beyond legalminimums.... We owe this to our ... shareholders and other stakeholders. Andwe owe it to ourselves because success without integrity is essentiallymeaningless. This culture of performance with integrity unites us as a company

t that understands and adheres to our company values and to the laws of thecountries in which we do business.... [Wle want all members of our team, alongwith our shareholders, customers, suppliers and other stakeholders, to

t understand that they can believe what we say and trust what we do.

(emphasis added).

28. Defendant Michael Dell, Dell's founder, served as Dell's Chief Executive Officer

' and its Chairman during the Class Period. During the Class Period, Defendant Michael Dell was

a signatory to Dell's Form 10-K for the periods ending 01/31/2003, 01/30/2004, 01/28/2005, and

02/03/2006. Defendant Michael Dell also certified Dell's financial condition and internal

controls over financial reporting in Dell's Form 10-Ks for the periods ending 01/31/2003 and

01/30/2004, and Form 10-Qs for the periods ending 05/02/2003, 08/01/2003, 10/31/2003 and

04/30/2004.

29. Defendant Rollins served as Dell's President and Chief Operating Officer, Chief

Executive Officer, and a director during the Class Period. During the Class Period, Defendant

Rollins was a signatory to Dell's Form 10-K for the periods ending 01/28/2005 and 02/03/2006.

Defendant Rollins also certified Dell's financial condition and internal controls over financial

reporting in Dell's Form 10-K for the periods ending 01/28/2005 and 02/03/2006 and Form 10-^ g p g ,

14


Q for the periods ending 07/30/2004, 10/29/2004, 04/29/2005, 07/29/2005, 10/28/2005, and

' 05/05/2006.

30. Defendant Schneider served as Dell's Senior Vice President and Chief Financial

Officer during the Class Period and until his December 19, 2006 resignation. During the Class

1 Period, Defendant Schneider was a signatory to Dell's 10-K for the periods ending 01/31/2003,

01/30/2004, 01/28/2005, and 02/03/2006. Defendant Schneider also certified Dell's financial

condition and internal controls over financial reporting in Dell's Form 10-Ks for the periods

t ending 01/31/2003, 01/30/2004, 01/28/2005 and 02/03/2006, and Form 10-Qs for the periods

ending 05/02/2003, 08/01/2003, 10/31/2003, 04/30/2004, 07/30/2004, 10/29/2004, 04/29/2005,

07/29/2005, 10/28/2005 and 05/05/2006.

V. CONFIDENTIAL SOURCES

31. Several former employees of Dell have provided Plaintiffs with information

concerning he Defendants' fraudulent scheme and misrepresentations. These witnessesggavep g

' information on a confidential basis, and each is designated as "CS_," as stated below.

32. CS1 worked at Dell from 1998 to 2003, and his/her last position at Dell was as

Senior Manager in Software Support. CSI was two reporting levels removed from Rollins andg PP eP g

provided Plaintiffs with information concerning Dell's effort to sell more units by cutting its

prices.

33. CS2 worked at Dell between 2000 and 2004, and last held the position of Vice

' President of Corporate Communications, reporting directly to Rollins. CS2 provided

information concerning Dell's inability to set proper forecasts, as well as its failure to make the

necessary adjustments in its pricing and marketing strategies to stay competitive. CS2 also

reported that Dell pushed products at the end of reporting periods in order to meet sales numbers,

stating `there was always a scramble at the end of the quarter to make their sales.

' 15


34. CS3 worked at Dell from late-2002 to mid-2005. CS3 joined the Company as a

Sales Manager and was employed as a Project Manager immediately before his/her d eparture.g J g Y P

' CS3 revealed that Dell sold products at zero, if not negative, margins that sometimes caused the

Company to fail to make any profits on its sales. Specifically, CS3 reported that, between 2004

and 2005, the average Dell computer was sold at a negative $37 per computer margin.

I35. CS4 worked as a Senior Program Manager for Dell from 1997 through 2004, and

provided information concerning Dell's warranty under accruals.

36. CS5 worked as one of Dell's top Account Representatives from early 2004

through 2006. CS5 provided information concerning Dell's compensation structure that

emphasized revenue over margins, and reported that Dell made virtually "no margin" on sales of

products in its "Enterprise" product line.

37. CS6 was employed as a Financial Analyst by Dell between 2002 and late 2005.1CS6 provided information concerning Dell 's emphasis on shipping product at the end of

reporting periods, and stated that Dell encouraged employees to "move ship dates in order to

meet numbers" at the end of reporting periods. CS6 explained that at Dell, senior management

was "involved in everything."

38. CS7 worked at Dell from 1999 to mid-2005, and before his/her departure was

employed as an Operations Control Manager. CS7 provided information concerning Dell's

efforts to increaseroduction at the end of reporting periods in order to meet Dell's internalP ^

projections. CS7 also reported that he/she did not remember any quarter in which Dell did not

meet its production numbers. CS7 had regular calls with managers from other divisions to

'

discuss shortages and other manufacturing issues. Occasionally, but always at the end of a

quarter, Michael Dell or Rollins would participate in these calls in an effort to motivate

16


performance. CS7 described management as "hands off until the end of the quarter when they

were all involved because they were trying to meet the numbers."

39. CS8 worked at Dell from 1994 through mid-2005, and was employed as a Senior

Account Executive before his/her departure from the Company. CS8 provided information

regarding Dell's financial reporting practices and explained that the Company's financialg g

information was reported at least weekly, but at times, especially at the end of financial reporting

periods, more frequently. CS8 further stated that vice presidents had access to this information.

t40. CS9 held various positions at Dell from between 1991 and 2006. CS9's final

position with the Company was that of a Financial Controller.

41. CS 10 most recently worked as a Finance Advisor until his/her departure from

rDell in late 2006. CS 10 began working at Dell in 2003 as an IT Programmer.

42. CSI1 worked at Dell from 1996 to mid-2006. At the time of his/her departure,

CSI I had been employed as a Finance Senior Consultant in Sales Compensation for Dell's

Americas division. CSI 1, along with CS9 and CS10, explained that there was a subgroup within

the Corporate Finance department, the Reserve Policy Board, that laid out the reserve policies,

including warranty reserves, for the Company.

43. CS 12 worked at Dell for approximately four years until 1999. At the time of

his/her departure, CS12 was a Vice President of the Company and was two levels removed from

Rollins. CS 12 provided information concerning Dell's reserve policies and practices which,

according to this witness, were handled only by the most senior executives of the Company,

including Michael Dell, Rollins, and Schneider.

r44. CS13 worked at Dell from 1995 to 2006. In his/her last position at the Company,

CS13 served as Dell's Controller of Financial Services. CS13 was responsible for accounting for

17


revenue, including revenue from the sale of extended warranties, and provided information about

Dell's warrant recognition practices.Y t^ p

45. CS 14 was employed in DHS (Dell Home Sales), which was part of Dell's

Americas Consumer Division from mid-2004 to Spring 2006. CS14 provided information about

Dell's use of "fake margins" to motivate its sales force to push products.^ P p

'

46. CS15 worked at Dell from 1999 to 2005, and his/her final position at Dell was

operations manager. CS 15 provided information regarding Dell's use of "functional reserve f s]"

' to boost a division's numbers when the actual numbers were less than the projected numbers.

47. CS 16 worked at Dell from 1999 through 2005 and, before leaving Dell, worked as

a senior sales compensation analyst. CS16 provided information regarding Dell's practices of

'

enticing sales people to sell products at losses through the use of "fake" margins in order to meet

projected revenue numbers.

48. CS17 worked at Dell from 1999 to 2005 and, during the last year and a half of

his/her tenure, was an Account Executive focusing on sales to schools in California. CS 17

explained that pressure to sell increased around 2002 or 2003 when Joseph Marengi and Rosenda

Para took over the Americas Division. Under these individuals, quotas and goals became less

' attainable, the pressure to "hit the numbers" rose, and it was clear that the consequence for not

hitting the numbers was termination. CS 17 also noted that Michael Dell was keenly aware of the

computer business market, and that Rollins was "highly dialed in" and had a "laser focus" on

everything.

49. CS 18 worked at Dell from 1998 to 2005 and, for most of his/her tenure with the

tCompany, was a financial analyst. CSI analyzed warranty and reserve data and made forecasts

for management to ensure that Dell had enough reserves in the "bucket" for future warranty

18


liabilities. CS18 confirmed that, until 2002, the calculation of warranty reserves was based on a

set formula. Traditionally, the Company recognized warranty revenue over a 1.0 year period,Y P Y ^ Y P

' with most of the revenue being recognized by the third year. CS 18 recounted that in 2002,

however, Dell shortened its warranties and, more importantly, changed the way it calculated

' warranty reserves. CS 18 recalled that on several occasions he/she would submit figures to Dell's

Icorporate finance office and would in turn be told to make "adjustments" to account for

overhead. Moreover, CS 18 noted that at times warranty reserves were adjusted by as much as $2

' million.

50. CS19 worked at Dell from 2004 to 2006 as a Sales Manager who directed a group

of business-to-business sales executives. CS19 described Dell's work environment as high

pressured and noted that, to meet their requirements, Dell salespeople routinely tried to sell

customers products they did not need. For example, salespeople often tried to "scare" a

customer into buying unnecessary security software. CS19 stated that the Dell Ethics Office

wasn't very ethical."

51. CS20 worked at Dell from 1993 until 2005, and his/her latest position was Senior

Program Manager.er. CS20 recounted that Dell's environment changed in the early 2000s under

Rollins's leadership. CS20 believed that the Company's numbers "were amiss," and that the

numbers being reported were inconsistent with what he/she understood them to be. CS20

provided an example wherein another employee in the federal segment claimed to be making

' 300% of his quota, yet CS20 knew that the federal segment as a whole was not even close to

making its numbers. CS20 also noted that the numbers that Dell disseminated publicly did not

match the numbers fellow colleagues recounted to him/her. Throughout his/her career, CS20

heard constant rumors of improper revenue recognition within the Company.

' 19


52. CS21 worked as an engineer at Dell from 1998 until 2005. While at Dell, he/she

reported directly to a Vice President who reported to Michael Dell Rollins and Schneider, asp Y re pP

well as other senior executives. CS21 explained that in 2001, Dell quit focusing on customers,

and focus on Wall Street's expectations intensified. CS21 received numerous complaints from

' educational institution customers regarding low quality and reported these frequently. A well-

known customer offered feedback and CS21 recounted that management simply ignored the

complaint. CS21, like other witnesses, confirmed that Rollins set unrealistic expectations and

' that lower-level employees recognized this as a "quarter by quarter" approach. To satisfy these

demands, CS21 noted that other employees often fudged numbers. CS21 also explained that

he/she got the impression that senior management had bonuses tied to the numbers and, thus, felt

great pressure to meet them.

53. CS22 worked as a financial analyst at Dell from 1998 until 2002. CS22 was at

one time only one level removed from Rollins in that his/her boss reported to Rollins. CS22

'

explained that senior management, including Rollins, conducted monthly reviews of financial

forecasts. Like other confidential sources, CS22 confirmed that Rollins was a hands on manager.

54. CS23 worked at Dell as a Brand Manager from 2001 until 2002. CS23's positiong P

focused on forecasting revenue and margin goals for desktops in Dell's Small to Medium

Businesses Division. CS23 created forecasts four times a quarter and noted that Rollins

reviewed the forecasts. CS23 also explained that any Dell employee could view sales numbers

' (including revenues) through the Company's computers on an hourly basis.

55. CS24 worked at Dell between May 1997 and January 2005 in a variety of

positions. CS24 noted that the Company over-positioned itself to the public. He/she recounted

that, during the late 1990s, Michael Dell and his team were representing that the Company was

20


doing more than $1 million of internet business daily. CS24 explained that this was not true and

that Michael Dell and everyone at the Company knew it. In fact, Dell took the position thatrY p Y P

every time a customer admitted during a sales call to having seen Dell's website, that sale was to

be logged as an online sale, even though it was not. CS24 described Dell's corporate culture as

' willing to do anything to "buff things up."

'

56. CS25 worked at Dell from 2000 to 2005 and was the Vice President of Asia-

Pacific and Japan, an upper level executive position. CS25 reported directly to Rollins. CS25

' indicated that the Company's numbers targets were unrealistic, stating "there was a bit of stretch

'

in the system." He/she also confirmed, like other employees, that top management was "clear...

hands-on; they were in the details of the business."

57. CS26 worked at Dell in sales from 1995 until 2005. CS26 explained that

beginning in 2002, there was "intense and unrealistic" pressure to meet quotas. This was

coupled with a quarter by quarter mentality. CS26 explained that his/her group would come

up with a realistic projection for quarterly sales after doing market research, only to have upper

level management increase the forecast by millions of dollars without explanation. CS26 noted

that no one challenged the exaggerated forecasts because the feared for their jobs. CS26g gg Y J

described these forecasts as part of a "pervasive culture" at Dell. For example, although he/she

knew from fellow colleagues in the Europe and Asia division that sales were poor, the numbers

' forecasts from management did not reflect that fact. CS26 recounted that it was common

'

practice to increase revenue numbers by booking as sales laptops that were given away for free

as incentives, and that this practice was no secret.

58. CS27 worked at Dell in a variety of positions between 1996 and 2003. Prior to

' leaving the Company, he/she was the Vice President of Government Relations. CS27 provided

21


information about the working relationship between and among Defendants Michael Dell,

' Rollins, and Schneider. Although CS27 did not report to Michael Dell, he/she saw him all the

time. He/she also supplied quarterly operational reviews directly to Rollins. CS27 noted that

Dell's product quality slipped, as did its customer service, and that this was in part due to

Michael Dell's decision to outsource customer service to India. CS27 further explained that Dell

was missing its sales numbers as early as 2002 and that this continued until his/her departure in

2003.

' 59. CS28 worked at Dell between 2000 and 2005 in the Global Information Solutions

Group. CS28 provided Lead Plaintiff with information regarding PwC's Sarbanes-Oxley

compliance recommendations that management thought were "unnecessary."

VI. BACKGROUND ON DELL AND THE REVELATION OF SERIOUSACCOUNTING FRAUD

' A. Background

60. Dell started as a small, ad hoc business in a college dorm room, where founder

tMichael Dell built computers from surplus parts and sold them cheaply and directly to fellow

students. By 1994, Dell had decided to jump to the next level and compete with Hewlett-

Packard and IBM. Dell radically reinvented its business process and instituted a new inventory

' management plan that focused on reducing carrying inventories. Dell trained its employees to

"sell what you have," directing customers to products that were already in inventory, rather than

to what the customers needed or wanted. In addition, Dell targeted long-term corporate

relationship accounts, customers having predictable needs that were closely tied to their budget

cycles, and customer-specific intranet sites to track client needs. Dell's management overhaul

succeeded. Between 1994 and 1998, Dells revenues grew from $2 billion to $16 billion,

' representing a 50% annual growth rate.

22


61. While Dell's new business model allowed it to compete with top-tier computer

' manufacturers like IBM and Hewlett-Packard, Dell's growth was hamstrung because of a limited

' consumer market, In addition, Dell's cost and pricing structures, margins and ultimate

profitability were subject to the ever-increasing competition in (and commoditization oo the PC

market. Nonetheless, Dell avoided a potential plateau or reversal of fortune as the so-called "dot

' com boom" of the late 1990s provided an expanding market for Dell's direct-to-consumer

approach.

' 62. When the boom ended, however, it became apparent to Company insiders that

'

Dell had exhausted its market. Dell's cost-savings, compared to that of its competitors, had

eroded, it faced stiff price competition in its core PC business, and it had matured substantially

tenough that it could no longer sustain its historical growth rate without moving to new business

areas. Faced with these new problems, Dell began taking drastic measures to maintain

profitability and keep its position as the market leader.

63. For example, the Company slashed prices (at the cost of margin) to maintain

competitiveness. As one article recognized, "[t]hanks to intense discounting on all its products,

the company's average selling price fell 16% from 2000 to 2001. That dropped its gross profit

'

margin to 17.6% from 21.3%. And Dell expects to keep pricing aggressively until demand

improves." Andrew Park, "How Long Can Dell Defy Gravity?," Business Week, Jan. 15, 2002.

64. Dell's net profit margin was even worse. As a 2002 article explained, "[e]ven

'

though Dell's net profit margin of 5.8 percent over the past twelve months is tops in the industry,

it is below the company's five-year average of 6.7 percent." Paul R. La Monica, "Dude, Dell Is

' Not The Tech Sector," CNN Money, Oct. 2, 2002, available at http://money.cnn.com/2002/

' 10/02/pf/investing/q dell/index.htm. As CS1, formerly a Senior Manager in Software Support,

23


confirmed, Dell started a "price war with its competitors to capture the marketplace. They

' sacrificedP roftt for market share. We were operating, but losing money every day."

' 65. CS2, formerly a Vice President of Corporate Communications, explained that in

2002, at or about the beginning of the Class Period, Dell began to miss certain targets, mostly

' because Dell "got out of price position." CS2 noted that Dell used to lead the industry in

gauging how many units, e.g. computers, could be sold at any given price point. This changed,

however, and Dell increasingly found itself either priced too high relative to its competitors or

' too low to provide a healthy margin.

66. Pricing problems multiplied under Rollins' leadership, both when he served as

President and after he became Dell's CEO in 2004. According to CS2, Dell "just called the

' market wrong, and they started getting out-maneuvered, out-priced, out-bid, out-marketed, out-

manufactured by HP.... Under Rollins' leadership, [Dell's] ability to make the tradeoff

between revenue and margins got less accurate. It just fell off the rails. Under Rollins, pricing

continued to drive Dell's business, as it had in the past, but the environment in which Dell was

operating had changed. Dell's competitors were now using the same suppliers as Dell, thereby

' erasing Dell's prior supply-chain advantage. But, as CS2 explained, Rollins and "Dell [did] not

1 know how to live in a world where low price doesn't win every time." Dell did not have any

"hot" products like Apple did, with its titanium laptops and new iPod. Thus, when it could not

compete on price, Dell could not compete at all.

'

67. In late 2002, Dell stock fell as Hewlett-Packard reportedly surpassed the

Company in global PC sales, raising questions about whether Dell could continue to compete in

1 this new market. By mid-February 2003, a sharp drop in the Company's share price had wiped

124


out over $20 billion in Dell's stock market capitalization and over $1 billion in the value of

' Dell's to insiders' vested stock options.

e s p p

68. CS3, formerly a Sales and Project Manager in Dell's Home Sale Division,

reported that by 2004 Dell was offering computers for $499 and $599. These computers,

according to CS3, had negative margins of between $25 and $100, and the margins on other

projects were so razor thin, if not negative, that there was no way of making up this considerable

shortfall. As CS3 stated, "margins were cut so low we were bleeding money." Between 2004

and 2005, CS3 greported that Dell's average computer was sold at a negative margin of $37 per

computer.

69. Dell's decreasing margins, which were all important to Dell's shareholders,

placed the Company in a quandary. Adam Adelman, an analyst with Philippe Investment

Management, a money management firm based in New York, stated, "[t]he main reason to own

Dell [shares] was because of their margins. http://money.cnn.com/2002/10/02/PFinvesfng/

'

q dell/index.htm. As Mr. Adelman went on to explain, "at some point you have to wonder how

much more Dell can squeeze on the expense side and how much of a growth story it can be." Id.

70. These negative developments not only affected the Company's stock rice butg P Yp

executive bonuses, as well. In fiscal year 2002, the Individual Defendants each received bonuses

that were well below what they had come to expect. The reason they received lower bonuses

was crystal clear, as the Company'sstatement explained: Michael Dell only received 25%rY proxy

of his target bonus because "the Company's revenue growth performance fell short of some of

the aggressive internal goals established at the beginning of the year." DELL FY 2003 Form

14A at 17.

' 25


B. The Fraud At Dell Is Revealed

71. To hide Dell's deteriorating business model and artificially inflate the Company's

stock price, the Individual Defendants began their campaign of misinformation. They repeatedly

assured the investing public that Dell would continue to have consistent growth and revenue

expansion. The stressed that massive operating expense cuts, including large manufacturingP Y

and product warranty cost reductions, were being achieved without sacrificing Dell's quality

control or impairing customer service and support. They, along with PwC, also assured investors

that Dell's SEC filings were supported by an adequate system of internal financial, accounting

and disclosure controls as required by the Sarbanes-Oxley Act of 2002.

72. The Defendants' statements that: (1) Dell's market share, sales revenue, and

earnings were expanding in a predictable and stable manner; (2) the Company's gross profit

margins were not diminishing; and (3) Dell's "unique" business model continued to be robust in

that that its product quality and customer service were industry leaders, were false and

misleading and were designed to, and did, artificially inflate the Company's stock price.

73. Even as the Company's model was showing significant problems internally and

were vmargins virtually disappearing, the Dell Defendants continued to make false andg Y

misleading statements regarding its financials, such as:

• "[W]e made our guidance in each and every one of the last eight quarters —^' we have met or exceeded the guidance that we have given out. It's a very strong,

consistent performance. We set records for ... operating income, OPECs as apercent of revenue.

• "[W]e hit our targets again, making the twelfth consecutive quarter inwhich we have met or exceeded our guidance to investors. And we generatedrecord ... operating income and (EPS)."

74. Throughout the Class Period, Dell also consistently highlighted the integrity of its

financial results saying, "[W]e're winning the right way, with a high level of integrity."

' 26


Moreover, PwC certified that each and every annual report Dell filed during the Class Period

t " resent ed fairly, in all material respects, the financial position of Dell."P ^ ^P

75. Defendants' fraudulent scheme worked well and the Company's stock price

soared from a low of $22.59 per share in mid-February 2003 to a Class Period high of $42.57 per

share in December 2004, a 90% price increase that substantially outstripped the stock

performance of other publicly-traded computer equipment sellers.

76. By mid-2005, the Defendants' fraud caught up with them as the systemic

deficiencies in Dell's business model became increasingly apparent: poor product quality was

widespread, customer sales were down, and customer support was experiencing major problems.

Then, in August 2005, unbeknownst to investors, the SEC began to investigate the Company's

accounting practices, and Defendants were no longer able to utilize accounting fraud to smooth

Dell's financial results. Quickly pulling their hands out of the "cookie jar," the Defendants

1began to condition the market for bad news by slow ly leaking out the truth with quarterly

' reductions in Dell's revenue and earnings projections. As a result of a series of announcements

of missed revenue and earnings targets from August 2005 through the beginning of August 2006,

Dell's stockrice declined precipitously from approximately $40.00 per share to $22.00P P P Y PPperP P

'

share, without the Defendants ever having to expose the true nature of the fraud they had been

committing for years.

77. On August 17, 2006, in the context of announcing another quarter of

disappointing financial results (in which profits had fallen nearly 51% from the same financial

quarter a year prior and the Company had missed its earnings projections by $.10 per share, or

tnearly 30%), Dell confessed to the investing public for the first time that the SEC was

conducting an ongoing investigation into the Company's accounting practices and, further, that it

27


had being doing so for more than a year. Incredibly, Defendant Rollins told investors that there

"was really no reason" to disclose the investigation earlier. Dell's stock price immediately

declined another 9%, to a low of $20.65 on August 18, 2006. It was at this point that investors

first began to realize that the true reason for Dell's prior poor financial results and diminished

future prospects was due to more serious, but deliberately undisclosed, problems at the

1 Company.

78. Even with the cat half out of the bag, Dell delayed coming clean to investors

about these critical matters until September 11, 2006. At that time, the Company announced that

the U.S. Attorney's Office for the Southern District of New York had served a subpoena

irequesting documents concerning Dell's accounting and financial reporting between 2002 and

2006." Dell further stated that the Company would not be able to file its second quarter 2006

financial report because of questions raised in connection with the SEC's investigation.

On November 15 2006 Dell announced that the SEC had upgraded its

investigation into the Company's revenue and other accounting practices to "formal" status and,

therefore, Dell was delaying disclosure of its preliminary financial results for the third fiscal

quarter of 2006 due to "the level of complexity the company is facing in the preparation of

those results. Dell explained that the "complexity arises out of the ongoing investigations by the

Securities and Exchange Commission (SEC) and the company's Audit Committee into certain

accounting and financial reporting matters, and the fact the company has not filed its Form 10-Q

for the second fiscal quarter."

80. A Business Week news article published on November 19, 2006, characterized

Dell's November 15, 2006 announcement as a "double-barrel surprise" to Wall Street. The

article noted that:

28


[T]he SEC's decision to upgrade its probe of Dell's books to a formalinvestigation suggests the agency may be unsatisfied with the level of disclosurefrom the company. Often, the SEC declares a formal investigation because thisgives it the right to issue subpoenas.

81. Although the details of the SEC and Dell investigations were not yet public,

securities analysts began to opine that Dell was engaging in earnings smoothing, i.e., deliberate

manipulation of financial results through improper accounting techniques across different

financial reporting periods. Smoothing creates the facade of steady financial metrics, consistent

with analysts' expectations. This, in turn, fuels investor confidence in management's

predictions, and investors are, therefore, willing to pay a higher, inflated price for the company's

stock. This is precisely what happened at Dell. Through its accounting manipulations, the

Company was able to meet or exceed earnings guidance for every single quarter during the Class

Period, in stark contrast to the now restated financials.

82. As the scrutiny on Dell's deteriorating business model and improper accounting

practices intensified, the Company announced a series of resignations. Defendant Schneider,

Dell's Senior Vice President and Chief Financial Officer, announced his "retirement" from the

Company on December 19, 2006. In the next three months, other Dell senior executives also

resigned, retired, left, or announced their intention to leave the Company, including Joe Marengi,

Dell's Senior Vice President, Americas; John Medica, Dell's Senior Vice President, Consumer

Products; Senior Vice President John Hamlin, head of Dell's online operations worldwide; and

Senior Vice President Paul McKinnon, head of Dell's human resources department.

j83. On January 25, 2007, with Dell still not having filed any financial reports, the

Company announced that NASDAQ's Listing Qualifications Panel would continue to list Dell's

stock on that exchange if the Company provided the panel with certain information regarding

the previously announced Audit Committee investigation by March 1, 2007, and file[d] its

29


delinquent periodic reports, along with any required restatements of prior financial statements,

b March 14 2007. Although Dell stated that it would be "able to provide NASDAQ with theY " ^ P

requested information by the March 1 deadline," the Company did not expect that it would be

able to "file the delinquent [quarterly and restated financial] reports with the SEC" by March 14.

84. Less than a week later, on January 31, 2007, Dell announced that, "effective

immediately," Defendant Rollins "ha[d] resigned from his position as CEO and as a member of

the Board of Directors." However, just four months earlier, in September 2006, when asked

whether Defendant Rollins would be keeping his job in the wake of the Company's deteriorating

financial performance, Defendant Michael Dell had responded, "I think Kevin Rollins is anjoutstanding executive."

85. The extent and complexity of Company's Class Period accounting and financial

reporting irregularities are reflected in part by the Company's March 1, 2007 disclosure that ther fourth quarter 2007 "costs associated with the ongoing investigations into certain accounting and

jfinancial reporting matters reduced operating income and earnings per share by $89 million and

$0.03, respectively." In other words, Dell spent $89 million in the fourth fiscal quarter of 2007

alone, roughly $30 million per month, in connection with its internal investigation activities and

efforts to restate its financials.

86. On August 16, 2007, Dell confessed that it had, in fact, cooked its books. In its

press release, the Company announced that: (a) it had completed its internal investigation of

1 various accounting and financial reporting issues; (b) the investigation revealed a variety of

accounting errors and irregularities; and (c) Dell would restate results for fiscal years 2003, 2004,

2005 and 2006, and the first quarter of fiscal year 2007.

130


87. Dell stated that its investigation had uncovered, inter alia, "numerous accounting

issues, most of which involved adjustments to various reserve and accrued liability accounts"

and, further, that such adjustments had deliberately been made for the purpose of meeting Dell's

quarterly financial objectives. In this regard, the Company's August 16, 2007 press release

stated:

The investigation identified evidence that certain adjustments appear to havebeen motivated by the objective of attaining financial targets. According to theinvestigation, these activities typically occurred at the close of a quarter. Theinvestigation found evidence that, in that timeframe, account balances werereviewed, sometimes at the request or with the knowledge of senior executives,with the goal of seeking adjustments so that quarterly performance objectivescould be met. The investigation concluded that a number of these adjustmentswere improper, including the creation and release of accruals and reserves thatappear to have been made for the purpose of enhancing internal performancemeasures or reported results, as well as the transfer of excess accruals from onet liability account to another and the use of the excess balances to offset unrelatedexpenses in later periods.

(emphasis added).

88. In its August 16, 2007 press release, the Company also conceded that Dell

suffered from a lack of internal controls during the relevant time period:

As a result of the investigation issues, as well as other issues separately identifiedby management, current management has concluded the company did notmaintain an effective control environment, including a tone and controlconsciousness that consistently emphasized strict adherence to GenerallyAccepted Accounting Principles (GAAP). In addition, current management hasconcluded that the company did not maintain effective controls over the period-end reporting process, including controls with respect to the review, supervisionand monitoring of accounting operations.

Management expects to conclude that these control deficiencies constitutedmaterial weaknesses in the company's internal control over financial reporting.

(emphasis added).

89. Finally, on October 30 > 2007, as described in detail below, Dell issued the

restatement in which it acknowledged its fraudulent scheme.

31


VII. DELL'S FRAUDULENT SCHEME / ACCOUNTING VIOLATIONS

A.

Dell Confesses That It Was Cooking Its Books and Announces That It Will RestateMore Than Four Years of Results

90. As set forth above, supra In 3-10, the Company's failing business model caused

Dell to create a compensation program that paid bonuses that hinged upon hitting financial

targets. This failing-business environment coupled with deficient internal controls caused and

indeed motivated and encouraged Dell's employees to knowingly and intentionally misrepresent

the Company's financial results during the Class Period — exactly as the Company recently

admitted in its Form 10-K dated October 30, 2007:

accounting adjustments were viewed at times as an acceptable device tocompensate for operational shortfalls, which in certain instances led toinappropriate accounting decisions and entries that appear to have been largelymotivated to achieve desired accounting results and, in some instances, involvedmanagement override of controls.

Dell FY 2007 Form 10-K at 112 ("Management's Report on Internal Control Over Financial

Reporting") (emphasis added).

'

91. In Dell's Form 10-K, filed on October 30, 2007, management identified the

following control deficiencies as of February 2, 2007 that constituted "material weaknesses"6:

0 We did not maintain a tone and control consciousness that consistentlyemphasized strict adherence to GAAP... .

• We did not maintain a sufficient complement of personnel with anappropriate level of accounting knowledge, experience, and training in theapplication of GAAP commensurate with our financial requirements and businessenvironment....

6 Dell's Form 10-K filed on October 30, 2007 concedes that a "material weakness is a deficiency, or a combinationof deficiencies, in internal control over financial reporting such that there is more than a remote Iikelihood that amaterial misstatement of the annual or interim financial statements will not be prevented or detected." Dell FY 2007Form 10-K at 112.

t32


I

• We did not maintain effective controls over the period-end reportingprocess, including controls with respect to the review, supervision, andmonitoring of accounting operations. Specifically:

' • Journal entries, both recurring and nonrecurring, were not alwaysaccompanied by sufficient supporting documentation and were not alwaysadequately reviewed and approved for validity, completeness, andaccuracy;


' • We did not design and maintain effective controls to ensure thecompleteness, accuracy, and timeliness of the recording of accruedliabilities, reserves, and operating expenses, primarily related to ouraccrued warranty obligations, goods and services received but notinvoiced, customer rebates, and nonproduction operating expenses.

• These material weaknesses resulted in the restatement of our annual andinterim financial statements for Fiscal 2003, 2004, 2005, and 2006 and the firstquarter of Fiscal 2007, and resulted in adjustments, including audit adjustments,

Ito our annual and other interim financial statements for Fiscal 2007.

Dell FY 2007 Form 10-K at 112-113 ("Control Environment").

92. Dell attempted to spin the impact of the restatement by maintaining that its

cumulative quantitative impact would be small, and thus immaterial. In an August 16, 2007

conference call with Dell investors to discuss the completion of Dells internal investigation of

accounting misconduct and Dell's impending restatement, Dell's new CFO Don Carty ("Carty")

publicly stated:

Net revenue for each annualeriod as I said is expected to be reduced bp ^ P Y anamount that's less than 1% of the amount previously reported for that annualperiod. The adjustments to net revenue for the quarterly periods will vary. Thelargest changes in quarterly net revenue are expected to be in the fourth quarter offiscal 2003 and the second quarter of fiscal 2004. Each of those with expectedreductions of 2% or less. AM the other quarterly revenue changes are expectedto be less than 1 %.

Turning to net income, changes to net income for the annual periods areexpected to range from approximately 0.5% to S% of the amounts that were

33


Ipreviously reported. The cumulative change for the entire restatement period isexpected to be a reduction of between $50 and $150 million compared topreviously reported cumulative net income for that same restatement period of$12 billion.t (emphasis added).

93. However, Carty's spin on the impact of the restatement is specious, especially in

light of the Company's own press release of August 16, 2007, in which the Company admitted

tthat its accounting chicanery vis-a-vis accruals and reserves was material to Dell's shareholders:

The restatement will correct the accounting errors and irregularities that havebeen identified through the Audit Committee investigation and by management asa result of its additional reviews. The accounting errors and irregularities thatwill be corrected are significant because of the combination of the number of1 issues identified, the qualitative nature of many of the issues, and in somecases, the dollar amounts involved.

(emphasis added).

94. This attempt to downplay the quantitative significance of the gimmicks used by

'

Dell toPre are its financial statements was also met with great skepticism by many experiencedp

analysts in the business press. For example, in an August 21, 2007 piece entitled "Change

course or cook the books? Dell chose latter," the Houston Chronicle stated:

The problems that spawned [Dell's] accounting improprieties run deep, to thecore of the culture that grew around Dell as it transformed the personal computerindustry.

Back in 2003, the first year covered in the investigation, Dell was the undisputedKing of PC Land. Hewlett-Packard- Co. was struggling with what appeared to be

' a wrongheaded purchase of Compaq, and Dell, even with $35.4 billion in revenueat the time, continued to grow.

Like many companies trading at a high multiple, Dell needed to maintain itsgrowth to keep its stock price rising. That was important not just to investorsbut to employees and executives who got part of their compensation in stock

' options

Founder Michael Dell, for example, sold more than $2.8 billion worth of Dellstock from 2003 to 2006, SEC filings show.

34


After a stellar run during the 1990s in which it was the best-performing stock onthe Nasdaq, the PC market began to move away from Dell and its direct salesstrategy.

Businesses no longer needed to replace PCs every couple of years. Most now hadenough memory to handle software upgrades for years to come.

' Consumers, meanwhile, had become so accustomed to the PC as a commodity —a concept that Dell itself created — that custom-building a machine online nolonger seemed essential. Why wait even three days for a custom build when youcould fmd one with everything you needed right on the store shelf.

Faced with weakening demand, Dell cut back on expenses so it could continue toshow improving numbers to investors. In the process, Dell's once-sterlingcustomer service began to suffer. It alienated consumers at a time when consumersales were becoming increasingly important to PC makers.

"Dell has serious business issues they just flat-out weren't addressing," saidLynn Turner, a former chief accountant with the Securities and ExchangeCommission. "Rather than really managing the business and fixing theproblems, they started managing the numbers.

rNo one, it seemed, wanted to admit that one of the greatest success stories inAmerican business had become a numbers game

The desperation emanating from the finance department and the reliance onseemingly "acceptable devices" to shore up the books even failed to catch theattention of the directors on Dell's audit committee.

Only after the SEC contacted the company about its own investigation did thedirectors act.

"The directors, not unlike Enron, were totally asleep at the wheel," Turner said

Even now, with the SEC conducting its own investigation, Dell seems to havetrouble understanding that the true cost isn't measured in dollars per share. Inan SEC filing last week, it downplayed the tweaking of its finances.

"Often, these adjustments were several hundred thousand or several milliondollars, in the context of a company with annual revenue of between $35 billionand $56 billion," it said.

'

The dollar amounts may have been relatively small, but it doesn't matterwhether the books were simmered or boiled. The damage is in the cooking

35


(available at http://www.chron.com/disp/story.mpl/business/steffy/5073469.html) (emphasis

added).

95. Along these same lines, on August 20, 2007, Jack Ciesielski wrote as follows on

the web site Seeking Alpha:

After reviewing thousands of transactions, the forensic team "identified evidencethat accounting adjustments were viewed at times as an acceptable device tocompensate for earnings shortfalls that could not be closed through operationalmeans. Often, these adjustments were several hundred thousand or severalmillion dollars, in the context of a company with annual revenue of between $35

'

billion and $56 billion and annual net income of between $2.1 billion and $3.6billion for the periods in question."

So, materiality for adjustments that were known to be improper - "an acceptable' device to compensate for earnings shortfalls" - apparently was justified by

putting them into the wrong context of materiality. Instead of evaluating theadjustments for what they meant qualitatively to investors, they were probablyrationalized as immaterial strictly on a quantitative basis.

You're probably thinking, "Peanuts, quantitatively. What's the big deal?" Readon: back to the [Dell] 8-K.

' Most of these reductions relate to the timing of net income thatwould or will be recognized in periods before and after theRestatement Period. Net income and EPS for three of the fourannual periods are expected to be reduced by amounts rangingfrom approximately 0.5% to 5% of the amounts previouslyreported, while net income and EPS for the remaining annualperiod (fiscal 2006) are expected to be increased by approximately1%. The changes to net income and EPS for the quarterly periodswill vary, with the adjustments expected to increase net incomeand EPS in some quarters and reduce net income and EPS inothers. The largest percentage changes in quarterly net income andEPS are expected to be in the first quarter of fiscal 2003 and the

' second quarter of fiscal 2004, each with expected reductions ofbetween 10% and 13%; the fourth quarter of fiscal 2005, with anexpected reduction of approximately 7%; and the second quarter offiscal 2005 and the third and fourth quarters of fiscal 2006, eachwith an expected increase ranging from approximately 5% to 7%.Net income and EPS for each of the other quarters are expected tochange by 5% or less.

36


Those are some very wide intro year earnings swings that would have occurredwithout the "acceptable device/s/ to compensate for earnings shortfalls."

(available at http://seekingalpha.com/article/45090-dell-its-all-over-but-the-shoutin) (emphasis

'added).

B.

The Dell Defendants Committed Fraud By Knowingly and Intentionally ViolatingGAAP

96. Generally Accepted Accounting Principles, or GAAP, are those principles

recognized by the accounting profession as the conventions, rules, and procedures necessary to

define accepted accounting practice at a particular time. Those principles are the official

standards adopted by the American Institute of Certified Public Accountants ("AICPA"), a

private professional association, through three successor groups it established: the Committee on

Accounting Procedure, the Accounting Principles Board ("APB"), and the Financial Accounting

Standards Board ("FASB").

' 97. As set forth in SEC 4-01(a) of SEC Regulation S-X, "[f]inancial statements filed

' with the [SEC] which are not prepared in accordance with [GAAP] will be presumed to be

misleading or inaccurate." 17 C.F.R. § 210.4-01(a)(1). Throughout the Class Period,

' Defendants knew that they were responsible for preparing financial statements that conform to

GAAP. As noted by AICPA professional standards:

Financial statements are management's responsibility. ... [M]anagement isresponsible for adopting sound accounting policies and for establishing andmaintaining internal controls that will, among other things, record, process,summarize, and report transactions (as well as events and conditions) consistentwith management's assertions embodied in the financial statements. The entity'st transactions and the related assets, liabilities and equity are within the directknowledge and control of management.... Thus, the fair presentation offinancial statements in conformity with Generally Accepted Accountingt Principles is an implicit and integral part of management's responsibility.

AICPA Statements on Auditing Standards, AU § 110.03, Distinction Between Responsibilities of

Auditor and Management.

37


98. Despite their responsibility to ensure that the Company prepared accurate

' financial statements conforming to GAAP, Michael Dell, Rollins, and Schneider throughout the

' Class Period knowingly and intentionally presented a false picture of Dell's true financial

condition and future prospects by, among other things, concealing the deterioration in the

Company's business model in order to inflate or maintain the Company's stock price.

'

Defendants concealed Dell's true financial condition, smoothing the Company's reported

operating results by falsely inflating Dell's reported revenue, net income and earnings per share

' in Dell's earnings press releases and Form 8-K's during the Class Period. To accomplish this,

the Dell Defendants engaged in accounting fraud, violated GAAP, created the appearance of

revenue and earnings, and manipulated Dells accruals and reserves for the purpose of enhancing

reported financial results. These Defendants also made materially false and misleading

statements about other matters related to these critical financial metrics, as described in detail

below.

99. More specifically, as the Company admitted in its Form 10-K filed on October 30,

2007, in the section entitled "Management's Discussion and Analysis of Financial Condition and

Results of Operations — Audit Committee Independent Investigation and Restatement":

' The investigation raised questions relating to numerous accounting issues, most ofwhich involved adjustments to various reserve and accrued liability accounts, andidentified evidence that certain adjustments appear to have been motivated by the

' objective of attaining financial targets. According to the investigation, theseactivities typically occurred in the days immediately following the end of aquarter, when the accounting books were being closed and the results of thequarter were being compiled. The investigation found evidence that, in thattimeframe, account balances were reviewed, sometimes at the request or with theknowledge of senior executives, with the goal of seeking adjustments so thatquarterly performance objectives could be met. The investigation concluded that

' a number of these adjustments were improper, including the creation andrelease of accruals and reserves that appear to have been made for the purposeof enhancing internal performance measures or reported results, as well as the

' transfer of excess accruals from one liability account to another and the use of

38


i

the excess balances to offset unrelated expenses in later periods.

' The investigation identified evidence that accounting adjustments were viewedat times as an acceptable device to compensate for earnings shortfalls that couldnot be closed through operational means.

[O]ur previously issued financial statements for Fiscal 2003, 2004, 2005 and 2006(including the interim periods within those years), and the first quarter of Fiscal2007, should no longer be relied upon because of certain accounting errors andirregularities in those financial statements.

Dell FY 2007 Form 10-K at 37 (emphasis added).

100. The following chart shows the effect the restatements had in periods in which net

income in Dell's originally filed Consolidated Statements of Income was overstated.

Effect of Restatement on Net Income

(in millions) Q/E Q/E Q/E Q/E Q/E Q/E7129/05 4/29/05 1/28/05 8/1/03 1/31/03 5/3/02

Decrease in reported net $38 $26 $42 $63 $24 $56' income

Originally reported net $1,020 $934 $667 $621 $603 $457income

Restated net income $982 $908 $625 $558 $579 $401

% originally reported 3.7% 2.8% 6.3% 10.1% 4.0% 12.3%EPS was overstated

C.

The Dell Defendants Committed Multiple Fraudulent Accounting Practices Duringthe Class Period, Including By Fraudulently Accelerating Revenues

101. During the Class Period, Dell, with the knowledge and at the direction of the

Individual Defendants, materially inflated the Company's reported revenues by approximately

$463 million for fiscal years ended 2003 through 2006, by improperly accounting for or

accelerating evenues. As explained in detail below and as confirmed b Dell's recent Form 10-g p Y

K, the Company's fraudulent accounting practices included, but were not limited to: (i)

39


improperly accelerating revenue on high volume software products despite the fact that vendor

specific objective evidence ("VSOE") had not been appropriately established; (ii) improperlyp J

overstating revenue by including sales of software where the Company was not the principal in

the transaction; (iii) manipulating revenues by improperly recognizing revenue in the incorrect

periods or recognizingizin the incorrect amount of revenue on certain transactions; (iv) improperly

recognizing revenue on certain transactions when delivery had not occurred; (v) improperly

deferring revenue on certain sales in order to stockpile revenue that could be released in future

' quarters in order to improve Dell's consolidated financial results; and (vi) improperly

accelerating revenues in connection with extended warranties and enhanced service level

agreements.

102. It is important to note that Dell engaged in these fraudulent practices during the

Class Period while at the same time, in its financial statements, the Company represented to the

investors that:

' Revenue Recognition — Net revenue includes sales of hardware, software andperipherals, and services (including extended service contracts and professionalservices). These products and services are sold either separately or as part of amultiple-element arrangement. Dell allocates revenue from multiple-elementarrangements to the elements based on the relative fair value of each element,which is generally based on the relative sales price of each element when soldseparately. The allocation of fair value for a multiple-element softwarearrangement is based on vendor specific objective evidence ("VSOE") or inabsence of VSOE for delivered elements, the residual method. In the absence ofVSOE for undelivered elements, revenue is deferred and subsequently recognizedover the term of the arrangement. For sales of extended warranties with aseparate contract price, Dell defers revenue equal to the separately stated price.Revenue associated with undelivered elements is deferred and recorded whendelivery occurs. Product revenue is recognized, net of an allowance for estimatedreturns, when both title and risk of loss transfer to the customer, provided that nosignificant obligations remain. Revenue from extended warranty and service

' contracts, for which Dell is obligated to perform, is recorded as deferred revenueand subsequently recognized over the term of the contract or when the service iscompleted. Revenue from sales of third-party extended warranty and servicecontracts, for which Dell is not obligated to perform, is recognized on a net basis

40


at the time of sale.

' Dell defers the cost of shipped products awaiting revenue recognition until thegoods are delivered and revenue is recognized. In-transit product shipments tocustomers totaled $420 million and $430 million as of February 3, 2006 andJanuary 28, 2005, respectively, and are included in other current assets on Dell'sconsolidated statement of financial position.

' Dell FY 2005 Form 10-K ("Critical Accounting Policies — Revenue Recognition").

1.

Improper Acceleration of Revenue on High Volume Software ProductsWhere VSOE Had Not Been Appropriately Established

103. In one facet of their fraud, the Defendants caused Dell to improperly recognize

revenue from the sale of certain software products.

'

104. The Dell Defendants well knew that GAAP permits the recognition of revenue

from the sale of software products only if the following criteria are met: (i) persuasive evidence

of an (exists; arrangement (ii) delivery occur-red;occued; (iii) the vendor's fee is fixed org

'

determinable; and (iv) collectability of revenue is probable. Statement of Position 97-2 ("SOP

97-27), Software Revenue Recognition.

105. Moreover, in order for revenue to be recognized, it must be earned and realized or

' realizable. Concepts Statement No. 5, Recognition and Measurement in Financial Statements of

Business Enterprises, ¶ 83. Revenues are earned when the reporting entity has substantially

accomplished what it must do to be entitled to the benefits represented by the revenues.

Revenues are realizable when related assets received or held are readily convertible to known

amounts of cash or claims to cash. Concepts Statement No. 5 183. If collectability is not

reasonably assured, then revenues should be recognized on the basis of cash received. Concepts

Statement No. 5 ¶ 84g; see also Accounting Research Bulletin ("ARB") No. 43, (June 1943) Ch.

Opinion No. 10 Omnibus Opinion-19661A ^ 1; Accounting Principles Board Op p (Dec.( ) ¶ 12.

If payment is subject toy a significant contingency, then revenue recognition is improper.

41


Statement of Financial Accounting Standards ("SFAS") No. 5, Accounting for Contingencies

' (Mar. 1975).

'

106. Similarly, the SEC's Staff Accounting Bulletin ("SAB") No. 101, which sets forth

the SEC Staff's views in applying GAAP to revenue recognition in financial statements, imposes

' the same prerequisites to the recognition of revenues as does SOP 97-2.

107. SOP 97-2 contains specific guidance on whether a company may recognize

revenue from a software license sale at the time of the sale (that is, "immediately" or "upfront")

' or whether revenue must be deferred. Typically, arrangements with software companies consist

of a number of elements, only one of which is the delivery of the actual software. Upgrades and

enhancements of the software or Post Contract Support ( PCS) to customers satisfaction are

'

common additional elements of such arrangements. For these multiple element arrangements,

SOP 97-2 generally requires that the vendor have vendor specific objective evidence of fair

t r VSOE, for each of the delivered elements in order to recognize an uvalue, o S gn any revenue.p

VSOE is the specific price that a given vendor charges for each of the delivered elements when

sold separately. If the elements to be delivered as part of a multiple element arrangement are not

' sold separately, even if VSOE is known for all elements including the services or PCS, no

' upfront revenue can be recognized. This is based on a fundamental accounting concept that,

until the customer receives the essential value purchased, the vendor has not completed the

earnings process..

108. Contrary to the guidance provided by SOP 97-2, the Dell Defendants knowingly,

intentionally, and improperly accelerated revenue on high volume software products despite the

' fact that "VSOE ha[d] not been appropriately established." Dell recently admitted in its Form

10-K filed on October 30, 2007, that this improper acceleration of revenue recognition of high

42


volume software products overstated revenues for fiscal years ended 2003 through the First

' Quarter of 2007:

' Revenue Recognition Adjustments

Software Sales — The largest revenue recognition adjustment relates to correctingt the timing and amount of revenue recognized on the sale of certain softwareproducts. Dell is a reseller of a broad array of third-party developed software.Individually significant categories of software are analyzed for application of the

' appropriate accounting under American Institute of Certified Public Accountants("AICPA') Statement of Position No. 97-2, Software Revenue Recognition("SOP 97-2"). However, the allocation of software sales revenue between the

' software license (recognized at point of sale) and post-contract support (deferredand recognized over time) for other high volume, lower dollar value softwareproducts has historically been assessed as a group and the post-contract supportrevenue was deferred based on an estimate of average "Vendor Specific Objective

' Evidence" ("VSOE"). During the course of its internal reviews, Dell determinedthat its application of SOP 97-2 for these high volume software products was notcorrect. Dell has determined that the most appropriate application of SOP 97-2

' is to defer all of the revenue from these "other software" offerings and amortizethe revenue over the post-contract support period as VSOE has not beenappropriately established.

' Dell FY 2007 Form 10-K at 74 ("Revenue Recognition Adjustments – Software Sales")

' (emphasis added).

2. Improper Overstatement of Revenue on Software Sales When the Company' Was Not the Principal in the Transaction

109. Moreover, the Dell Defendants knowingly, intentionally, and improperly

' overstated revenue by including sales of software offerings when the Company was not the

' principal in the transaction. Although this particular improper reporting of revenue did not

inflate net income, it was nonetheless materially misleading because the Dell Defendants knew

that the revenue trends reported by the Company were closely watched by analysts and investors.

110. Under GAAP, "[i]f a supplier (and not the company) is responsible for

' fulfillment including he acceptability of the product ... ordered or purchased b a customer,g p Y P p Y

' that fact may indicate that the company does not have risks and rewards as principal in the

' 43


transaction and that it should record revenue net based on the amount retained (that is, the

' amount billed to the customer less the amount paid to a supplier)." FASB Emerging Issues Task

'

Force ("EITF") Issue 99-19, Reporting Revenue Gross as a Principal vs. Net as an Agent 115.

In assessing whether revenue should be as reported on a gross revenue basis, with a separate

' display of cost of sales to arrive at gross profit, or on a net basis, the SEC considers whether the

' company "acts as an agent or broker (including performing services, in substance, as an agent or

broker) with compensation on a commission or fee basis." EITF Issue 99-19 ¶ 3. Under this

' accounting guidance, because Dell was not the principal in the sale to the customer, Dell was

required to report revenues on a net basis. Yet during the Class Period, the Dell Defendants

knowingly and intentionally failed to report revenues on a net basis. Specifically, in the

' Company's Form 10-K filed on October 30, 2007, Dell conceded that:

[D]uring the course of its reviews, Dell identified certain software offerings whereit had previously recognized the gross amount of revenue from the sale but whereit functions more as a selling agent as opposed to the principal in the sale to thecustomer. In those cases Dell should have recognized the revenue net of the

'

related cost pursuant to EITF Issue No. 99-19, Reporting Revenue Gross as aPrincipal vs. Net as an Agent.

Dell FY 2007 Form 10-K at 75 ("Revenue Recognition Adjustments — Software Sales').

3. Improper Recognition of Revenue in Incorrect Periods

' 111. The Dell Defendants also manipulated revenues by improperly recognizing

revenue in the incorrect periods or recognizing the incorrect amount of revenue on certain

transactions. Moreover, in some instances, the Company improperly allocated revenue among

' the individual elements of the sale.

112. Confidential Sources have confirmed that Dell actively encouraged its employees

to improperly recognize revenue. According to CS6, the Company encouraged employees to

' "move ship dates in order to meet numbers" at the end of reporting periods. The protocol of

44


pushing for sales at the end of a quarter in which there was a revenue shortfall allowed the

' Company to book revenue for that quarter, but did not allow sufficient time to reverse thep Y q entry

should a product be returned, including cases in which there were double or otherwise unwanted

shipments. As CS6 explained, it generally took four or five days for a Dell computer to be

assembled and shipped. At the end of the quarter, however, production was stepped up so that

the time was reduced to one or two days. Revenue was booked at the time the product was

shipped. This was superficially beneficial in that reporting period, but triggered a pervasive

problem on the back end in that, by recklessly expediting the manufacturing process in order to

ship the product to "meet the numbers," the Dell Defendants knowingly caused serious quality

control problems, which in turn caused massive warranty costs in future periods.

113. According to CS6, because of the quick turnaround encouraged by the Dell

Defendants at the end of each quarter, the quality of the products being shipped out suffered, and

orders were shipped even if they were wrong or the equipment did not work properly. By the

' time these defective products were returned, Dell would be in its next fiscal quarter and the

return would be booked at that time. CS6 was even aware of sales representatives putting in

entirely phony orders at the end of the quarter.Y p Y q

4. Improper Recognition of Revenue Where Delivery Had Not Occurred

114. The Company also improperly recognized revenue on certain transactions when

delivery had not even occurred and the risk of loss had not passed from Dell to a third party.

' According to SAB No. 104, "delivery generally is not considered to have occurred unless the

customer has taken title and assumed the risks and rewards of ownership of the products

specified in the customer's purchase order or sales agreement. Typically this occurs when a

'

product is delivered to the customer's delivery site ...." Despite that clear principle, Dell was

forced to admit in its Form 10-K filed on October 30, 2007 that:

45


• SAB 104 Deferrals — Instances were identified where Dell prematurelyrecognized revenue prior to finalization of the terms of sale with the customer, orprior to title and/or risk of loss having been passed to the customer. Sometimesthese situations involved warehousing arrangements.1 Dell FY 2007 Form I O-K at 75 ("Revenue Recognition Adjustments – Other").

5. Improper Deferral of Revenue to Stockpile Revenue

115. The Dell Defendants also improperly deferred revenue on certain sales in order to

stockpile revenue that could then be released in future quarters in order to improve Dell's

consolidated financial results. GAAP normally reflects application of the "all-inclusive" income

statement concept. This concept recognizes all income and expenses, even irregularly occurring

losses or costs, in the results of operations in the period incurred, unless GAAP provides

otherwise. This all-inclusive concept is intended, among other things, to avoid discretionary1 omissions of losses or gains from income, thereby avoiding a presentation of a more (or less)

favorable report of performance than is justified. Statement of Financial Accounting Concepts

No. 5, Recognition and Measurement in Financial Statements of Business Enterprises 135.

However, as disclosed in Dell's Fiscal 2007 10-K, "[t]here were situations where revenue was

incorrectly deferred to later periods despite title and/or risk of loss having passed to the end

customer. Under SAB 104, there were also cases where the in-transit deferral calculation for the

period end was not appropriately calculated or was based on incorrect assumptions." Dell FY

2007 Form 10-K at 75 ("Revenue Recognition Adjustments – Other").

6. Improper Acceleration of Revenues Related to Extended Warranties

116. Additionally, the Dell Defendants improperly accelerated revenues in connection

with extended warranties and enhanced service level agreements. Pursuant to FASB Technical

Bulletin No. 90-1, Accounting for Separately Priced Extended Warranty and Product

' Maintenance Contracts, "[r]evenue from separately priced extended warranty and product

46


maintenance contracts should be deferred and recognized in income on a straight-line basis over

the contracteriod...." However, the Company'san s Fiscal 2007 10-K belated) admits that " ip p Y Y ^^n

' some instances Dell's accounting estimates of the agreement durations were not correct,

resulting in revenue being recognized over a shorter time period than the actual contract

durations. Additionally, an error was identified in the amount of deferred revenue recognized

and amortized during the restatement period." Dell FY 2007 Form 10-K at 75 ("Revenue

Recognition Adjustments — Other").

117. In fact, CS4, formerly a Senior Program Manager for Dell's Enterprise Product

Group, confirms that Dell intentionally, systemically, and improperly recognized warranty

revenue over a shorter period than the actual contract agreements. CS4 confirms that this

deceptive warranty revenue recognition practice was "standard operating procedure" at Dell and

not the result of an inadvertent error. Throughout the Class Period, Dell's standard operating

procedure of recognizing warranty revenue over a shorter period than that of the actual contract

agreements was knowingly, intentionally and deliberately implemented by the Individual

Defendants in order to fraudulently accelerate revenues.

118. CS4 estimates that up to 40% of Dell's product lines recognized warranty revenue

' in an accelerated manner.

119. CS4 confirms that Rollins and Schneider were in a position to knowingly and

intentionally implement Dell's standard operating procedure of recognizing warranty revenue

over a shorter period than the actual contract agreements. Throughout the Class Period, there

were monthly meetings where the profitability of product lines was reviewed and decisions were

tmade about adjustments of warranty revenue recognition. CS4 attended some of these meetings

and confirmed that Rollins and Schneider did, as well.

t47


D. The Dell Defendants Knowingly Manipulated Accruals And Reserves

120. Dell's financial results also were materially false and misleading during the Class

'

Period because the Dell Defendants knowingly and intentionally engaged in the improper

creation and release of accruals and reserves made for the sole purpose of inflating financial

iresults. The Dell Defendants further manipulated the Company's financial results through the

transfer of excess accruals from one liability account to another and through the use of the excess

balances to offset unrelated expenses in later periods.

1. GAAP Requirements and "Cookie Jar" Reserves

121. GAAP requires the establishment and accrual of reserves for expenses, losses and

expense, or realization of the loss may be contingentliabilities, even though payment of the p y ge t

upon future events. More specifically, GAAP states that:

An estimated loss from a loss contingency ... shall be accrued by a charge to1 income if both of the following conditions are met:

Information available prior to the issuance of the financial statementsindicates that it is probable that an asset had been impaired or a liabilityhad been incurred at the date of the financial statements ... [and]

The amount of loss can be reasonably estimated.

Statement of Financial Accounting Standards ("SFAS") No. 5, Accounting for Contingencies' 8

(March 1975) (footnotes omitted).

122. If there is at least a reasonable possibility that an additional loss has been incurred

beyond the amount accrued disclosure of the nature of the contingency and an estimate of theY ^ g Y

' possible loss or range of loss must be made. SFAS No. 5, ¶ 10. Pursuant to SFAS No. 5,

companies may establish reserves for identifiable, probable and estimable risks. In the past,

some enterprises have accrued so-called "reserves for general contingencies." However, general

' or unspecified business risks do not meet the conditions for accrual in paragraph 8 and GAAP

48


specifically forbids the accrual of "general" reserves. Id. ¶ 14. Indeed, under GAAP, any

' reserves that do not meet the accrual requirements of SFAS No. 5, when identified, should be

immediately released into income.

123. A systematic or timed release of excess reserves into income violates GAAP. hi

this regard, accounting estimates, including estimates for loss contingencies, may chapg g g g Y e as newg

events occur, as more experience is acquired, or as additional information is obtained. A change

in an accounting estimate should be accounted for in (a) the period of change if the change

' affects that period only, or (b) the period of change and future periods if the change affects both.

SFAS No. 154, Accounting Changes and Error Corrections, a replacement of APB Opinion No.

20 and FASB Statement No. 3 119 (May 2005); APB Opinion No. 20, Accounting Changes 131

(July 1971). If the effect on income is material, disclosure is recommended for changes in

estimates made each period in the ordinary course of accounting. SFAS No. 154 ¶ 22; APB No.

1 20 133. Materiality should be considered in relation to both the effects of each change

separately and the combined effect of all changes. A change in estimate made in an interim

accounting period should be accounted for in the interim period in which the estimate is changed.

The effect on earnings should be reported in the current period and in subsequent interim

periods, if the effect of the change is material in relation to any period presented. Accounting

Board Principles Board Opinions ("APB") No. 28, Interim Financial Reporting (May 1973).

124. GAAP also requires that the financial effects of transactions, events and

circumstances be accounted for in the period in which they occur. Concepts Statement No. 6

Elements of Financial Statements In 139-40, 144-46. In addition, Concepts Statement No. 5

' states that, "[aln expense or loss is recognized if it becomes evident that previously recognized

future economic benefits of an asset have been reduced or eliminated...." Here, the Dell

' 49


Defendants' knowing and intentional failure to account properly for Dell's accrued expensest violated this fundamental accounting principle and caused Dell's reported operating results to be

' materially misstated, thereby causing investors to be deceived during the Class Period.

125. As noted above, under GAAP a company only may set aside reserves in limited

circumstances. In this regard, FASB SFAS No. 5, Accounting for Contingencies, provides that

' a loss from a contingency may be recorded on a company's balance sheet only if (a) it is

probable that a loss has been incurred, and (b) the amount of the loss can be reasonably

iestimated. The intentional establishment of inflated accruals in those years when a company is

extremely profitable and doing well and can afford to incur larger expense amounts are not1permitted under GAAP. Such inflated accruals often are referred to as "cookie jar" reserves..

t 126. The term "cookie jar" reserves refers to inappropriate or excessive reserves that

are created by management, allegedly in connection with legitimate business events. For

example, a company may attempt to use unrealistic assumptions during good years to overstate

' liabilities for items such as sales returns, loan losses or warranty costs. These "cookie jar"

reserves are then tucked away for management to "reach into" and reverse in future years when

the company is unprofitable or marginally profitable and when a boost to earnings would be

beneficial.

127. The utilization of cookie jar reserves distorts a company's financial picture in two

ways. First, it reduces the company's earnings in earlier periods, when the excess reserve is

established. Second, it artificially inflates the company's earnings in later periods, when the

reserve is released into income, thereby making investors believe that the company has been

t more successful than it actually has been. As Walter P. Schuetze, former Chief Accountant of

' 50


the SEC's Division of Enforcement declared in his April 22, 1999 speech at the Nineteenth

Annual RayCorporateGarrett, Jr., and Securities Law Institute:

I have seen the amounts of those initially established reserves arbitrarily increasedfor good measure. These excessive amounts of reserves then are leeched,undisclosed, into subsequent operating income, at a rate that is under someone's

' radar screen of materiality.

128. Likewise, former SEC chairman Arthur Leavitt, in his famous speech "The

' Numbers Game" made at the NYU Center for Law and Business, described the illusory financial

' impact a cookie jar scam has when a company reverses its excess reserves into income: "if

[reserve] charges are conservatively estimated with a little cushioning, that so-called

conservative estimate is miraculously reborn as income when estimates change or future

earnings fall short." (emphasis added).

129. Such a cookie jar scam is precisely the conduct that the Dell Defendants

' knowingly and intentionally indulged in during the Class Period. The Dell Defendants permitted

the Company to accrue amounts in excess of required reserves related to the following accounts:

'warranty abilities employee benefits, accounts payable, litigation, sales commissions, payroll,h'PY g PYr

employee bonuses, and supplier rebates. Then, in "lean times," the Dell Defendants directed that

these reserves be released into income in order for Dell to meet earnings expectations. These'

accruals and subsequent releases from reserves generated the appearance of steady earnings

growth and permitted Dell to "achieve" specific earnings targets. (emphasis added).

130. For example, CS 15 confirms that he/she was ordered by his/her managers to draw

funds from "functional reserves" whenever the division was not going to meet its quarterly

numbers. CS15 confirms that he/she was very uncomfortable with this practice because, "I was

always taught that documentation was needed for an accrual ... [but here,] there was nothing

' backing it up." CS 15 further stated that, if it became apparent that his/her division had missed

51


their numbers for the quarter, part of the reserve would be released and credited against expenses

' to help hem et over the hump." According to CS 15, he/she was personally ordered b his/herp g p g P Y Y

' managers to release funds from the "functional reserve."

131. Using funds from a "reserve" to reduce costs was not unique to this one Dell

plant. According to CS 15, he/she participated in conference calls with employees from plants in

North Carolina, Austin and Nashville where employees openly discussed releasing funds held in

reserves to mask poor performance.

' 132. GAAP normally reflects application of the "all-inclusive" income statement

' concept. This concept recognizes all income and expenses, even irregularly occurring losses or

costs, in the results of operations in the period incurred, unless GAAP provide otherwise. This

' "all-inclusive" concept is intended, among other things, to avoid discretionary omissions of

losses or gains from income, thereby avoiding a presentation of a more or less favorable report of

performance than is justified. Statement of Financial Accounting Concepts No. 5, Recognition

' and Measurement in Financial Statements of Business Enterprises $ 35. However, as disclosed

in Dell's Fiscal 2006 10-K, "[t]he investigation concluded that a number of these adjustments

' were improper and a ear to have been made for the u ose of enhancing internal[and] PP p rP g

performance measures or reported results, as well as the transfer of excess accruals from one

liability account to another and the use of the excess balances to offset unrelated expenses in

' latereriods." Dell FY 2007 Form 10-K at 72 ("Summary of Investigation ".ation Findin sP g Findings").

133. In addition, GAAP states that the "recognition of revenues, expenses, gains, and

losses and the related increments or decrements in assets and liabilities—including matching of

costs and revenues, allocation, and amortization—is the essence of using accrual accounting to

' measure performance of business enterprises. The goal of accrual accounting for a business

52


enterprise is to account in the periods in which they occur for the effects of transactions and

other events and circumstances, to the extent that those financial effects are recognizable and

1 measurable." Concepts Statement No. 3 185.

134. As confirmed by Dell's Restatement of October 30, 2007, the Dell Defendants not

only overstated Dell's earnings per share in six financial quarters during the Class Period, but

they also improperly engaged in earnings smoothing by misstating Dell's earnings per share in

six other financial quarters, all with the knowledge and intent to deceive investors.

2. The Dell Defendants Manipulate Warranty Reserves

135. The Dell Defendants manipulated warranty liabilities during the Class Period to

manage earnings and "meet" earnings expectations. In some instances, the Dell Defendants

'

under-accrued warranty liabilities when there was an expectation of an earnings shortfall and

over-accrued in good times to stockpile reserves for future use, both in violation of GAAP. As

' the Company admitted in its Form 10-K filed on October 30 2007:P Y

Warranty Liabilities

The issues related to Dell's warranty liabilities include situations where certainvendor reimbursement agreements were incorrectly accounted for as a reductionin the estimate of the outstanding warranty liabilities. There were also instanceswhere warranty reserves in excess of the estimated warranty liability, as

' calculated by the warranty liability estimation process, were retained and notreleased to the income statement as appropriate. Additionally, certain adjustmentsin the warranty liability estimation process were identified where expected futurecosts or estimated failure rates were not accurate.

Dell FY 2007 Form 10-K at 76 ("Warranty Liabilities").

' 136. The Dell Defendants knowingly, intentionally, and systematically under-accrued

warranty expenses associated with basic warranties. For example, CS4, formerly a Senior

Program Manager for Dell's Enterprise Product Group, confirms that there was always pressure

' from senior management to reduce accruals for a particular product line. According to CS4,

53


"more often than not" accruals would be "cut to the absolute minimum." CS4 recalled one

'specific instance in which Dell under-accrued for a product line to such an extent that it ran out

' of accrued warranty reserves long before warranty-related expenses were covered. Specifically,

a server was released by the Enterprise Division in 2000 that was so substantially flawed that

Dell removed it from production by mid-2001. Indeed, the integrity of the product was so poor

' that Dell extended the warranty for those servers that had already been sold and installed.

Because of this, by 2003 Dell had exceeded accruals on this product by approximately $10

million and, despite the fact that warranty claims on this product were still incoming at a rapid

pace, nothing was done to replenish the accrued reserve for this product. Dell's failure to take an

accrual for this item violated GAAP.

3. The Dell Defendants Violate GAAP by Over-Accruing Employee Bonuses

137. Another mechanism the Dell Defendants used to stockpile reserves for release in

' futureeriods was to improperlyover-accrue employee bonuses in contravention of GAAP. InP

this regard, Dell disclosed on October 30, 2007 that "[c]ertain employee bonuses were not

accrued correctly, including the timing of the recording of the accrual for the employee

bonuses." Dell FY 2007 Form 10-K at 76 ("Other Reserves and Accruals — Employee

Bonuses"). Moreover, Dell admitted that it violated SFAS No. 154 because "in certain cases

when excess accruals resulted from differences in the actual bonus payments, the excess accruals

were not adjusted as appropriate." Id.

4. The Dell Defendants Violate GAAP by Over-Accruing Customer Rebates

138. Additionally, the Dell Defendants improperly over-accrued customer rebates to

' stockpile reserves for release in future periods. As explained previously, SFAS No. 5 requires

that reserves for expenses, losses and liabilities shall be accrued by a charge to income if both of

' the following conditions are met:

' 54


(a) Information available prior to the issuance of the financial statements indicates'

that it is probable that an asset had been impaired or a liability had been incurred at thedate of the financial statements [and]

' (b) The amount of loss can be reasonably estimated.

139. In several instances, however, the Dell Defendants did not "reasonably estimate"

' for liabilities. As set forth in the Company's Form 10-K filed on October 30, 2007:

'Lsiness

Customer Rebate Accruals — Dell's U.S. Consumer segment and smallgroup historically offered various forms of rebates to stimulate sales,

including mail-in rebates. The rebate redemption liability is estimated at the timeof sale based on historical redemption rates for the various types of promotions.Dell has determined that this liability was overstated due to a number of factors,including failure to update redemption rates when appropriate, additional amountsaccrued for expected customer satisfaction costs, and unsupported incremental

' accruals recorded in addition to the calculated redemption liability estimate.

Dell FY 2007 Form 10-K at 75 ("Revenue Recognition Adjustments – Other").

' 5. The Dell Defendants Violate GAAP b ImproperlyAccountin for VendorY gFunding Arrangements

140. Also, the Dell Defendants improperly accounted for vendor funding

'

arrangements, thereby violating GAAP in multiple ways. Under EITF Issue No. 02-16,

Accounting by a Customer (Including a Reseller) for Certain Consideration Received from a

' Vendor, "[c]ash consideration received by a reseller from a vendor is considered a reduction of

the price of the vendor's products or services and should, therefore, be characterized as a

reduction of cost of sales when recognized in the reseller's income statement." Dell, however,

'

has admitted that "[c]ertain amounts received from vendors were recorded as a reduction in

operating expenses instead of being correctly recorded as a reduction of cost of goods sold."

'10-K at 76 "Other Reserves and Accruals -- Vendor FundingDell FY 2007 Form ( g

' Arrangements' ). Moreover, in keeping with the Dell Defendants' overall theme of stockpiling

reserves for future use, the Company retained "certain amounts received ... on the balance sheet

' and released in future periods despite the earnings process having been complete in the earlier

55


Iperiod." Id. In addition, the Dell Defendants also improperly recorded "the benefit of certain

' vendor ... completionfunding prior to the of the earnings process." Id.

' 141. The Dell Defendants' accounting manipulations vis-a-vis the stockpiling of

reserves were not limited to a few accounts, but rather were pervasive and systemic throughout

the Class Period and included manipulating accounts for employee benefits, accounts payable,

'

litigation, sales commissions, payroll, employee bonuses, and supplier rebates. In this regard,

the Company's recent Form 10-K contains the following admissions:

'

• Unsubstantiated Accruals and Inadequately Reconciled Accounts — Insome instances accrual and reserve accounts lacked justification or supporting

' documentation. In certain cases these accounts were used to accumulate excessamounts from other reserve and accrual accounts. However, these excess reserveswere not released to the income statement in the appropriate reporting period orwere released for other purposes. In some instances accounts had incorrect

'

balances because they had not been properly reconciled or because reconcilingitems had not been adjusted timely.

' Dell FY 2007 Form 10-K at 76 ("Others Reserves and Accruals").

142. In violation of the foregoing well-established GAAP requirements, the Dell

' Defendants obscured the Company's true liabilities and related expense accrual in order to

' conceal their fraudulent activities from the investing public. The Dell Defendants also made

materially false and misleading statements about a variety of matters that affected investors'

' perceptiontion of Dell's ability to deliver earnings growth; namely, the efficiency in Dell's business

model and its greatly expanding revenue through sales efforts: However, a key reason the Dell

Defendants were able to report improvement in Dell's net income and earnings was because they

' had knowingly permitted Dell to create "cookie jars" from which to take or add funds in order to

' adjust the Company's net income and to manipulate or smooth out the Company's earnings.

I56


E. The Materiality Of The Accounting Violations

' 143. Dell's accounting misstatements were materially false and misleading. The

tmateriality of Dell's accounting violations are highlighted by the fact that in 4 of 6 quarters in

which earnings were restated downwards, such restatement caused Dell to miss its earnings

'

guidance to investors, whereas the originally reported amounts caused Dell to "meet" (albeit only

in appearance) its guidance, as the following graph illustrates:

Earnings Per Share

$0.45

$0.40

$0.35

` $0.30

$0.25_^$0.20

1 $0.15

$0.10

May 3, January August 1, January April 29. July 29, 0 Earnings manipulations2002 31, 2003 2003 28, 2005 2005 2005 0 Restated EPS

144. Notably, the SEC, in Staff Accounting Bulletin ("SAB") No. 99, states that a

consideration that may well render material a quantitatively small misstatement of a financial

' statement item is "whether the misstatement hides a failure to meet analysts' consensus

expectations for the enterprise." Indeed, in each of the 4 quarters shown above, but for the

' manearningss iP ulations, Dell would not have achieved consensus estimates. Moreover, the

timpact of the earnings manipulation had a direct and material impact on Dell's stock price. For

example, after Dell announced its Q1:06 results, shares climbed more than 7%, to close at

$39.33, as investors reacted to the positive earnings results.

57


1

145. Likewise, in the quarters where Dell's earnings were restated upwards, Dell's

originallyr orted earnings had already met guidance, thereby further confirming Defendants'eP g Y 1'oY g

deliberate "earnings manipulation" scheme.

146. The following chart shows the effect the restatements had in periods in which

earnings per share in Dell's originally filed Consolidated Statements of Income were overstated.

Effect of Restatement on Earnings Per Share

Q/E Q/E Q/E Q/E Q/E Q/E7/29/05 4/29/05 1/28/05 8/1/03 1/31/03 5/3/02

Decrease in reported $(.01) $(.01) $(.02) $(.03) $(.01) $(.02)diluted EPSOriginally reported $0.41 $0.37 $0.26 $0.24 $0.23 $0.17diluted EPSRestated diluted EPS $0.40 $0.36 $0.24 $0.21 $0.22 $0.15

' % originally reported 2.4% 2.7% 7.7% 12.5% 4.5% 11.8%EPS was overstated

147. As explained in detail above, the Company recently admitted in Dell's Form 10-K

filed on October 30, 2007, that Dell's senior management improperly misapplied GAAP and

distorted facts that existed at the time the financial statements were prepared. In that same Form

10-K, the Company also stated that:

As a result of issues identified in the Audit Committee investigation, as well asissues identified in additional reviews and procedures conducted by management,the Audit Committee, in consultation with management andPricewaterhouseCoopers LLP, our independent registered public accounting firm,

' concluded on August 13, 2007 that our previously issued financial statements forFiscal 2003, 2004, 2005, and 2006 (including the interim periods within thoseyears), and the first quarter of Fiscal 2007, should no longer be relied uponbecause of certain accounting errors and irregularities in those financialstatements. Accordingly, we have restated our previously issued financialstatements for those periods.

Dell FY 2007 Form 10-K at 37 ("Restatement").

58


148. Under GAAP, only "material" accounting "mistakes in the application of GAAP

... that existed at the time the financial statements wereYre ared" may be restated. SFAS No.P P

' 154, Accounting Changes and Error Corrections ¶ 2h (May 2005). By restating Dell's financial

statements for fiscal years 2003, 2004, 2005, 2006 and the first quarter of fiscal year 2007, the

' Dell Defendants have thereby admitted the materiality of the errors in the Company's previously

issued financial statements.

149. In addition, the accounting violations in question were qualitatively material. In

this regard, SAB No. 99 emphasizes the importance of considering both quantitative and

'

qualitative factors in assessing the materiality of accounting misstatements. In SAB No. 99, the

SEC reminds public companies that it is inappropriate to rely exclusively on any percentages or

' numerical thresholds in determining materiality. As such, SAB No. 99 mentions several

qualitative considerations that may cause misstatements of quantitatively small amounts to be

qualitatively material, including:

• Whether the misstatement arises from an item capable of precisemeasurement or whether it arises from an estimate and, if so, the degree ofimprecision inherent in the estimate.

• Whether the misstatement masks a change in earnings or other trends.

• Whether the misstatement hides a failure to meet analysts' consensusexpectations for the enterprise.

' Whether the misstatement changes a loss into income or vice versa.

• Whether the misstatement concerns a segment or other portion of theregistrant's business that has been identified as playing a significant role in the

' registrant's operations or profitability.

' • Whether the misstatement has the effect of increasing management'sompencompensation - for example, by satisfying requirements for the award of bonuses

or other forms of incentive compensation.

' 59


150. Here, the Company's recently-filed Form 10-K concedes that Dell's senior

' management failed to consider qualitative aspects of materiality during the Class Period. Bg q P ^' g Y

' way of example, with regard to warranty liabilities, the recently issued Form 10-K states:

Warranty Liabilities

The issues related to Dell's warranty liabilities include situations where certainvendor reimbursement agreements were incorrectly accounted for as a reduction

' in the estimate of the outstanding warranty liabilities. There were also instanceswhere warranty reserves in excess of the estimated warranty liability, ascalculated by the warranty liability estimation process, were retained and notreleased to the income statement as appropriate. Additionally, certain adjustmentsin the warranty liability estimation process were identified where expected futurecosts or estimated failure rates were not accurate.

Dell FY 2007 Form 10-K at 76 ("Warranty Liabilities').

151. Indeed, throughout the Class Period, by deliberately manipulating Dell's accrual

for the standard warranty, and failing to adequately disclose Dells standard warranty activity

separate and apart from its extended warranty activity, the Dell Defendants were able to mask the

inadequacy of Dell's warranty accrual for its standard warranty. Defendants' representations

concerning the financial results during the Class Period were materially false and misleadin g

because Defendants, in violation of GAAP, improperly reported Dell's standard warranty

liability and the related expenses. As a result, the Company's reported earnings and earnings per

' share were materially misrepresented during the Class Period.

F. Dell Failed To Maintain Internal Controls Over Financial Reporting

152. In addition to the foregoing deliberate accounting improprieties, Dell suffered

from a serious lack of internal controls over its financial reporting throughout the Class Period.

This rendered the Company's financial reporting inherently corrupt, subject to manipulation and

unreliable. It also means that each of Defendants Class Period statements that Dells financial

results complied with GAAP were materially false and misleading.

60


153. Throughout the Class Period, the Individual Defendants lied in each of Dell's

Form 10-Ks and 10-Q s filed with the SEC that the Company "prepares its financial statements in

conformity with generally accepted accounting principles in the U.S." Moreover, in each Form

10-Q and 10-K that Dell filed with the SEC during the Class Period, at least two of the three

Individual Defendants( Michael Dell, Rollins, and Schneider) certified Dell's financial condition

and internal controls over financial reporting, expressly representing that:

• Based on my knowledge, this ... report does not contain any untruestatement of a material fact or omit to state a material fact in order to make thestatements made, in light of the circumstances under which such statements weremade, not misleading with respect to the period covered by this quarterly report'';

• "Based on my knowledge, the financial statements, and other financialinformation included in this ... report, fairly present in all material respects thefinancial condition, results of operations and cash flows of the registrant as of,and for, the periods presented in this ... report";

• "[Dell's] other certifying officer(s) and I have disclosed, based on ourmost recent evaluation of internal controls over financial reporting to [Dell's]auditors and audit committee of [Dell's] board of directors:

(a) All significant deficiencies and material weaknesses in the designor operation of internal controls over financial reporting which arereasonably likely to adversely affect the registrant's ability to record,process, summarize and report financial information; and

(b) Any fraud, whether or not material, that involves management orother employees who have a significant role in the registrant's internalcontrol over financial reporting."

154. Yet, contrary to the Individual Defendants' "certifications" and SEC

intentionally or recklessly failed to implementrequirements, the Dell Defendants m y y and maintainp

' an adequate financial reporting control system, thereby causing significant, repeated, and

pervasive GAAP violations. Specifically, the Company was recently forced to admit in Dell's

Farm 10-K filed on October 30, 2007, that, as a result of an evaluation conducted by "Dell's

management, under the supervision and with the participation of the current Chief Executive

' 61


Officer and current Chief Financial Officer," that "management identified the following control

deficiencies as of February 2, 2007 that constituted material weaknesses:"

• We did not maintain a tone and control consciousness that consistentlyemphasized strict adherence to GAAP. This control deficiency resulted in anenvironment in which accounting adjustments were viewed at times as anacceptable device to compensate for operational shortfalls, which in certaininstances led to inappropriate accounting decisions and entries that appear to havebeen largely motivated to achieve desired accounting results and, in someinstances, involved management override of controls. In a number of instances,information critical to an effective review of transactions and accounting entrieswas not disclosed to internal and external auditors.

• We did not maintain a sufficient complement of personnel with anappropriate level of accounting knowledge, experience, and training in theapplication of GAAP commensurate with our financial reporting requirementsand business environment.

• The control environment, which is the responsibility of seniormanagement, sets the tone of the organization, influences the controlconsciousness of its people, and is the foundation for all other components ofinternal control over financial reporting. The control environment materialweaknesses described above contributed to the material weaknesses related to ourperiod-end financial reporting process described below.

Period-end financial reporting process — We did not maintain effectivecontrols over the period-end reporting process, including controls with respect tothe review, supervision, and monitoring of accounting operations. Specifically:

• Journal entries, both recurring and nonrecurring, were not alwaysaccompanied by sufficient supporting documentation and were not alwaysadequately reviewed and approved for validity, completeness, andaccuracy;


• We did not design and maintain effective controls to ensure thecompleteness, accuracy, and timeliness of the recording of accruedliabilities, reserves, and operating expenses, primarily related to ouraccrued warranty obligations, goods and services received but notinvoiced, customer rebates, and nonproduction operating expenses.

62


• These material weaknesses resulted in the restatement of our annual andinterim financial statements for Fiscal 2003, 2004, 2005, and 2006 and the firstquarter of Fiscal 2007, and resulted in adjustments, including audit adjustments,to our annual and other interim financial statements for Fiscal 2007. Additionally,these material weaknesses could result in misstatements of substantially all of ourfinancial statement accounts that would result in a material misstatement of ourannual or interim consolidated financial statements that would not be prevented ordetected on a timely basis.

• Based on management's evaluation, because of the material weaknessesdescribed above, management has concluded that our internal control overfinancial reporting was not effective as of February 2, 2007.

Dell FY 2007 Form 10-K at 112-113 ("Management's Report on Internal Control Over Financial

Reporting")

1 155. Moreover, by intentionally or recklessly failing to implement and maintain

adequate internal controls over Dell's financial reporting during the Class Period, the Individual

Defendants also are responsible for the fraudulent recognition of revenue from fabricated and

"fictitious transactions" made during the Class Period:

• Japan Services Transactions — In late January 2007, a Japanese systemsintegrator with whom Dell's Japanese services division did business, filed forbankruptcy. The bankruptcy trustee publicly indicated that the systems integratorhad engaged in fictitious transactions. Dell promptly commenced an internalinvestigation led by Dell's Ethics Office to determine whether its Japanesebusiness unit had engaged in any fictitious transactions with the systemsintegrator. Dell hired independent outside counsel who retained independentaccountants to lead the investigation. The investigation determined that almostall of the transactions of the Japan services business involving the systemsintegrator likely were fabricated, as were certain additional smaller transactionsinvolving two other Japanese systems integrators The impact of the adjustmentsreduced net revenue and cost of revenue to eliminate the effect of the fictitioustransactions.

Dell FY 2007 Form 10-K at 75 ("Revenue Recognition Adjustments – Other") (emphasis added).

G. PwC Issues "Clean Audit" Opinions For Each Financial Report Dell Restated

156. PwC was a critical component to the execution of the fraudulentp e t conduct

1 described herein.

63


157. As Dell's auditor, PwC was paid millions of dollars during the Class Period to

' certify to investors that the reportsprepared inwere reaudit Dell's annual financial reports and ce fy p p p

accordance with GAAP and that the reports fairly presented the Company's financial position. If

Dell's financial reports did not meet this criteria, PwC was required to issue a "qualified audit"

certifyor refuse toopinion Dell's financial results. PwC did neither.p fY

158. Year after year, and for each annual report issued during the Class Period, PwC

r

issued unqualified "clean audit" opinions certifying Dell's annual reports (filed on Form 10-K).

i Each of the reports PwC certified has now been restated by Dell.

1

159. As explained in detail infra at Section X, PwC's audit of Dell was conducted in

violation of GRAS. Had PwC fulfilled its obligations as Dell's "independent auditor," the fraud

rdetailed herein could not have occurred.

VIII. DEFENDANTS' FALSE AND MISLEADING STATEMENTSt160. In press releases, filings with the SEC, and other public statements, Defendants

made scores of materially false and misleading statements during the Class Period. In particular,

and as Dell now admits through its restatements, Defendants: (a) misstated Dell's financial

O P Y gresults; b provided fraudulently misleading explanations in the notes to Dell's financial

statements; (c) failed to disclose that Dell achieved these results through fraudulent accounting

manipulations described above; and (d) failed to disclose that projections of future results

ndepended on a continuation of Defendats' fraudulent scheme. Additionally, Augustp Y, ^

2005 and August 17, 2006, Defendants failed to disclose that the SEC was investigating Dell's

accounting practices and that its poor stock performance was due not to a temporary slump or a

business miscalculation, but rather to a winding down of the fraudulent accounting practices that

had inflated the Company's stock price during the Class Period. Defendants' specific false and

misleading statements are fully set forth below.

64


A. First Quarter FY 2003 (For The Quarter Ended May 3, 2002)

1. Firstuarter 2003 Earnings ReleaseQ g

161. On May 16, 2002, Dell issued an earnings release announcing its financial results

for the quarter ended May 3, 2002 (the "Q1 2003 Earnings Release"). The Q1 2003 Earnings

Release quoted Defendant Rollins, who stated: "Our objectives are simple and unchanged: to

further reduce costs; to deliver great value to customers, particularly enterprise customers; and to

profitably gain market share.... We're continuing to make good on all three commitments."

(emphasis added). Rollins further stated that "Dell's Q2 revenue could be up 8 percent year-

over-year to $8.2 billion, with higher operating margin producing per-share earnings of about 181cents." Additionally, the Q1 2003 Earnings Release contained the following false and

misleading financial information relating to the Company's first quarter results:

In Millions of Dollars' Net Revenue $8,066

Operating Income $590Net Income $457

tEarning Per Share (Diluted) $.17Gross Margin $1,391Stockholders' Equity $4,521Total Liabilities $8,795

162. Defendants knew, or recklessly disregarded, that Dell's reported net revenue,

toperating income net income earnings per share and gross margin figures were misstated

P g ^ g P 1^' ^ ^

because, as admitted by Dell's restatement, the Company improperly recognized revenue

throughout the Class Period and used "accounting adjustments ... to compensate for earnings

shortfalls that could not be closed through operational means." As a result of the Company's

fraudulent revenue recognition practices, its reported stockholders' equity and total liabilities

figures were also misstated. Moreover, as Dell has itself declared, "our previously issued

financial statements for Fiscal 2003, 2004, 2005, and 2006 (including the interim periods within

65


those years), and the first quarter of Fiscal 2007, should no longer be relied upon because of

errorsrs and irregularities in those financial statements." The foregoingcertain accounting e o gu g g

statements are included in the periods Dell now admits are inaccurate and should no longer be

relied upon.

2. First Quarter 2003 Earnings Conference Call

163. On May 16, 2002, Dell held a conference call to discuss its first quarter FY 2003

earnings ("Q12003 Earnings Call'). On this call, Defendant Schneider stated:

our sequential and year-over-year revenue performance, earnings, and unit growthsignificantly outperformed the market.... Despite competitive pricing and someshort-term component cost increases, we demonstrated the powers of the directmodel by maintaining operating stability. We again maximized operating profits,delivering operating income of 7.3%.

1

164. Defendants knew, or recklessly disregarded, that the above statements concerning

Dell's financial results, performance and prospects were false and misleading when made.

reported figures (including its operating profits and its operating incomeDell's repo gur ( g p g p p g ) were misstated



shortfalls that could not be closed through operational means." Moreover, as Dell has itself

declared, "our previously issued financial statements for Fiscal 2003, 2004, 2005, and 2006

(including the interim periods within those years), and the first quarter of Fiscal 2007, should no

'longer be relied upon because of certain accounting errors and irregularities in those financial

statements." The foregoing statements are included in the periods Dell now admits are

inaccurate and should no longer be relied upon.

66


3. First Quarter 2003 10-Q

165. On June 17, 2002, Dell filed its Form 10-Q for the quarter ended May 3, 2002

("Q1 2003 10-Q"). The Q1 2003 10-Q, which was signed by Schneider, repeated the following

false and misleading financial information from the Company's Q1 2003 Earnings Release:

In Millions of Dollars(except per share data)

Net Revenue $8,066Operating Income $590Net Income $457Earnings Per Share (Diluted) $.17Gross Margin $1;391Total Stockholders' Equity $4,521

ITotal Liabilities $8,795

166. Additionally, the Q1 2003 10-Q misleadingly stated:

During he first quarter of fiscal 2003... the Company's revenues were ug q ^ ^_Pslightly year-over-year and sequentially, while its five largest competitorscollectively experienced declining year-over-year revenues and continuedoperating losses in their personal computer systems and related businesses.

During the quarter the Company further demonstrated the strength of its low-coststructure and efficient direct-to-customer model to generate stable operatingprofitability. Gross margins were down sequentially as a result of short-term costincreases in certain components. However, the Company's continued focus oncost control resulted in Company record-low operating expenses as a percentageof revenue and stable operating income. By maintaining itsstrategy of profitablemarket share growth, with a focus on improving overall profitability,management currently expects to continue to capitalize on market opportunitiesas the industry consolidates.

t(emphasis added).

167. In terms of its operating segments, the Q 12003 10-Q stated:

On a geographic basis, Americas net revenue increased 3% compared to the firstquarter of fiscal 2002 and declined I% sequentially on normal seasonal patterns inthe consumer market. Net revenue in the U.S. Consumer segment grew 26% fromthe first quarter of fiscal 2002 as the Company continued to build on fiscal 2002market share gains, and declined 23% sequentially consistent with normal

' seasonal patterns.

67


168. The Ql 2003 10-Q further falsely and misleadingly stated:

uAs a percentage of net revenue, gross margin decreased from 18.0% in the firstquarter of fiscal 2002 to 17.2% in the first quarter of fiscal 2003, while alsodecreasing 0.4% sequentially.


Ioperating income, net income, earnings per share and gross margin figures were misstated








certain accounting errors and irregularities in those financial statements. The foregoing

t statements are included in the periods Dell now admits are inaccurate and should no longer be

relied upon.

170. In terms of Dell's operations in Japan, the 12003 10-p p Q Q stated:

[N]et revenue in Japan increased 33% sequentially as the Company experiencedboth its normal seasonal strength in the quarter and an improved enterpriseproduct mix in a weak market.


' Dell's operations in Japan were materially false and misleading and/or omitted material

information about Dell's use of fictitious transactions with its Japanese business. As admitted in

Dell's restatement, "[Dell's internal] investigation determined that almost all of the transactions

of the Japan services business involving the systems integrator likely were fabricated, as were

certain additional smaller transactions involving two other Japanese systems integrators. The

68


impact of the adjustments reduced net revenue and cost of revenue to eliminate the effect of the

fictitious transactions.

4. Michael Dell and Schneider Falsely and Misleadingly Attest to the Accuracyof Dell's Financial Reports

'

172. On August 14, 2002, Michael Dell and Schneider filed signed statements under

oath with the SEC on Form 8-K attesting that:

'

(1) To the best of my knowledge, based upon a review of the covered reports ofDell Computer Corporation, and, except as corrected or supplemented in a

' subsequent covered report:

no covered report contained an untrue statement of a material fact as of theend of the period covered by such report (or in the case of a report on Form

' 8-K or definitive proxy materials, as of the date on which it was filed); and

no covered report concealed a material fact necessary to make the statements' in the covered report, in light of the circumstances under which they were

made, not misleading as of the end of the period covered by such report (orin the case of a report on Form 8-K or definitive proxy materials, as of the

' date on which it was filed).

(2) 1 have reviewed the contents of this statement with Dell Computer' Corporation's audit committee.

(3) In this statement under oath, each of the following, if filed on or before thedate of this statement, is a "covered report":

the Annual Report on Form 10-K of Dell Computer Corporation for thefiscal year ended February 1, 2002;

Form 10- all reports on Form 8-K and all definitive proxyall reports on Fo Q, p p ymaterials of Dell Computer Corporation filed with the Commission

' subsequent to the filing of the Form 10-K identified above; and

any amendments to any of the foregoing.

'

173. Michael Dell and Schneider knew, or recklessly disregarded, that the statements

in the foregoing 8-K were materially false and misleading when made because Dell's "covered

rreport[s]," as admitted by Dell's restatement, included figures that were manipulated because the

' Company improperly recognized revenue and used "accounting adjustments ... to compensate

' 69


for earnings shortfalls that could not be closed through operational means." As a result of the

Company's fraudulent revenue recognition practices, its reported stockholders equity and total

liabilities figures were also misstated. Moreover, as Dell has itself declared, "our previously

issued financial statements for Fiscal 2003, 2004, 2005, and 2006 (including the interim periods

' within thoseears , and the first quarter of Fiscal 2007, should no longer be relied upon becauseY ) q p

of certain accounting errors and irregularities in those financial statements." The covered reports

referenced in the foregoing statements are included in the periods Dell now admits are inaccurate

and should no longer be relied upon.

B. Second Quarter FY 2003 (For Quarter Ended August 2, 2002)

1. Second Quarter 2003 Earnings Release

174. On August 15, 2002, Dell issued an earnings release announcing its financial

results for the quarter ended August 2, 2002 (the "Q2 2003 Earnings Release"). The Q2 2003

Earnings Release contained the following false and misleading financial information relating to

the Company's second quarter results:


Net Revenue $8,459Operating Income $677Gross Margin $1,515Total Stockholders' Equity $4,566Total Liabilities $9,496

175. The Q2 2003 Earnings Release also contained the following false and misleading

' statement:

Dell demonstrated the unique advantages of its efficient, customer-focused' business model again in fiscal second-quarter 2003, shipping a record number of

computer systems, exceeding the company's latest revenue guidance and sharplyimproving profitability. The company has met or exceeded its guidance toinvestors for six straight quarters.

i(emphasis added).

70


176. The Q2 2003 Earnings Release further falsely and misleadingly stated:

'in expenses were 9.9 percent of revenue matchingSecond-quarter operating e p p g acompany record set in Q1. Improved product mix, lean cost management andlower component costs contributed to a jump in operating profit as a percent ofrevenue to 8.0 percent-the company's highest in seven quarters, and up from 7.3percent in the first quarter and 7.2 percent one year ago.

' (emphasis added).


operating income and gross margin figures were misstated because, as admitted by Dell's

restatement, the Company improperly recognized revenue throughout the Class Period and used

"accounting adjustments ... to compensate for earnings shortfalls that could not be closed

through operational means. As a result of the Company's fraudulent revenue recognition

practices, its reported stockholders' equity and total liabilities figures were also misstated.

Moreover, as Dell has itself declared, "our previously issued financial statements for Fiscal 2003,

2004 2005 and 2006 (including the interim periods within those years), the first> ( g P Y )^quarter ofq

Fiscal 2007, should no longer be relied upon because of certain accounting errors and

irregularities in those financial statements." The foregoing statements are included in the periods

Dell now admits are inaccurate and should no longer be relied upon. Moreover, the Companyg P p Y

was only able to meet guidance figures because it manipulated its reported figures as described

herein.

2. Second Quarter 2003 Earnings Conference Call

178. On August 15, 2002, Dell held a conference call to discuss its second quarter FY

2003 earnings ("Q2 2003 Earnings Call"). On the Q2 2003 Earnings Call, Defendant Schneider

falsely stated:

Dell continued to outperform the market during the second-quarter, gaining' significant market share worldwide while also delivering higher profit margins It

is increasingly clear that our execution, our performance and our prospects

71


continue to further differentiate Dell from the rest of the industry. Specifically,' continued customer preference for our products helped drive a 2.2 point year-year

increase in our worldwide market share to 14.9 percent, while the share of the restof the top 10 competitors declined by more than 2 points.

' 179. Defendant Schneider further falsely and misleadingly stated on this call: "[W]e

' are confident that our financial and operating model will allow us to outperform the market yet

again, as we maintain our focus on profitably taking share and maximizing operating income."

180. Furthermore, on the Q2 2003 Earnings Call, Defendant Rollins falsely and

' misleadingly stated:

But first I want to give you a brief update on our cost-saving initiative that we laid' out in the spring analyst conference. These initiatives help maintain our strategy

of gaining share while also increasing operating margins as we havecommunicated to. [sic] Currently we are ahead of plan in all four areas of theinitiatives, reducing warranty, manufacturing on logistics, structural or designcost, and finally, our overhead costs. And we now expect to deliver well over $1billion in savings. Keep in mind that these costs are proprietary, not for theindustry as a whole.

' 181. Finally, this call Michael Dell falsely stated:Y> Y

During the second quarter we, once again differentiated ourselves, as wecontinued to outperform the industry and profitably gain market share, deliveringdouble-digit year-over-year unit revenue and earnings growth in a challenge [sic]macroeconomic environment.

182. Defendants knew, or recklessly disregarded, that the statements quoted above

' concerning Dell's financial results, performance and prospects were false and misleading when

made because, • as described above, Dell's reported net revenue, operating income and

gross/operating margin figures were misstated. Moreover, as further admitted by Dell's

' restatement, the Company improperly recognized revenue throughout the Class Period and used



' practices, its reported stockholders' equity and total liabilities figures were also misstated. Dell

72


has itself declared, "our previously issued financial statements for Fiscal 2003, 2004, 2005, and

' 2 (including the interim periods within those years), the first quarter of Fiscal 2007006 ( g p Y ), q ,

should no longer be relied upon because of certain accounting errors and irregularities in those

financial statements" The foregoing statements are included in the periods Dell now admits are

inaccurate and should no longer be relied upon.

' 3. Second Quarter 200310-Q

183. On September 16, 2002, Dell filed its Form 10-Q for the quarter ended August 2,

' 2002 ("Q2 2003 10-Q"). The Q2 2003 10-Q, which was signed by Schneider, repeated the

following false and misleading financial information, for the three months ended August 2, 2002,

from the Company's Q2 2003 Earnings Release:


Net Revenue $8,459' Operating Income $677

Gross Margin $1,515Stockholders' Equity $4,566

' Total Liabilities $9,496

184. The Q2 2003 10-Q further falsely and misleadingly stated:

During the second quarter and first six months of fiscal 2003, the Companycontinued to profitably grow and increase its market share, strengthening its

' reputation as a leading supplier of personal and business computing systems. TheCompany's second quarter performance significantly exceeded the overallindustry. Its revenue, earnings and unit shipments increased year-over-year andsequentially, while its top competitors collectively experienced declining year-over-year revenues and continued operating losses in their personal computersystems and related businesses.

'

During the quarter, the Company further demonstrated the strength of its low-coststructure and efficient direct-to-customer model generating increased operating

' profitability.

(emphasis added).

' 73


185. Additionally, the Q2 2003 10-Q falsely and misleadingly stated:

' As a percentage of revenue, gross marginin increased from 17.5% in the secondquarter of fiscal 2002 to 17.9% in the second quarter of fiscal 2003, while also

' increasing sequentially from 17.2%. On a year-to-date basis, gross margindecreased from 17.8% during the first six months of fiscal 2002 to 17.6% duringthe first six months of fiscal 2003. The year-over-year growth of second quartergross margin occurred primarily as a result of a favorable shift in product mixtoward enterprise systems, competitive cost reductions driven by moderatingpersonal computer market demand, and the Company's continued focus on

' control of component costs. Based on industry, economic and other factorsdiscussed above, the Company currently expects that this gross marginenvironment will continue to be challenging, but the Company's intent is to focus

' on continuing to improve gross margins and operating margins as the economyimproves. Management believes that the strength of the Company's direct-to-customer business model, as well as its strong liquidity position, makes the

'

Company better positioned than its competitors to profitably grow market share inthe current business climate.

(emphasis added).

186. The Q2 2003 10-Q falsely and misleadingly stated, the accompanying condensed

' consolidated financial statements reflect all adjustments of a normal recurring nature considered

necessary to present fairly the financial position of the Company and its consolidated

' subsidiaries at August 2 2002 and February 1, 2002, and the results of their operations and their^ z rY p

' cash flows for the three and six months ended August 2, 2002 and August 3, 2001."


' operating income and gross margin figures were misstated because, as admitted by Dell's

' restatement, the Company improperly recognized revenue throughout the Class Period and used


' through operational means." As a result of the Company's fraudulent revenue recognition



' 2004, 2005, and 2006 (including the interim periods within those years), and the first quarter of

' 74



irregularities in those financial statements. The foregoing statements are included in the periods

' Dell now admits are inaccurate and should no longer be relied upon.

188. In explaining the Company's revenue recognition policy Dell falsely and


' Revenue Recognition — Net revenue includes sales of hardware, software andperipherals, and services (including extended service contracts and professionalservices). The Company offers separately-priced extended service contracts tocustomers that extend the support, parts and labor coverage offered as a part ofthe base warranty included with the product. The Company allocates fees frommultiple element arrangements to the various elements based on the relative fair

' values of each element. Fair values are generally determined based on separatelist prices. Product revenue is recognized when both title and risk of loss transferto the customer, provided that no significant obligations remain. The Companyprovides for an estimate of product returns and doubtful accounts, based onhistorical experience. Revenue from service and extended warranty contracts forwhich the Company is obligated to perform is deferred and subsequently

t recognized on a gross basis over the term of the contract. Revenue from sales ofthird party service and extended warranty contracts for which the Company is notobligated to perform is recognized on a net basis at the time of sale. Professionalservices revenue is recorded when services are performed.

t The Company does not recognize revenue for product shipments until received bp Y t^ P P Ythe customer, although title transfers to the customer on substantially all productswhen shipped. Consequently, the product costs related to these in-transitcustomer shipments are included in other current assets in the accompanyingcondensed consolidated statement of financial position.

189. Defendants knew, or recklessly disregarded, that this statement was false and

' misleading when made because, as described above, Dell failed to adhere to its stated revenue

recognition policies and used "accounting adjustments ... to compensate for earnings shortfalls

that could not be closed through operational means."I

190. The Q2 2003 10-Q also included signed certifications from Michael Dell andi

Schneider which stated:

' 1. I have reviewed this quarterly report on Form 10-Q of Dell ComputerCorporation;

75I


2. Based on my knowledge, this quarterly report does not contain any untrue1 statement of a material fact or omit to state a material fact necessary to make thestatements made, in light of the circumstances under which such statements weremade, not misleading with respect to the period covered by this quarterly report;

3. Based on my knowledge, the financial statements, and other financialinformation included in this quarterly report, fairly present in all material respects

'

the financial condition, results of operations and cash flows of the registrant as of,and for, the periods presented in this quarterly report.


contained in the signed certifications filed with the Q2 2003 10-Q were materially false and

misleading when made because the report did in fact contain untrue statements of material facts.

As Dell has itself declared, "our previously issued financial statements for Fiscal 2003, 2004,

2005, and 2006 (including the interim periods within those years), and the first quarter of Fiscal

2007, should no longer be relied upon because of certain accounting errors and irregularities in

those financial statements." The foregoing statements are included in the periods Dell now

ate and should no longer be relied uadmits are inaccurate on.g p

C. Third Quarter FY 2003 (For Quarter Ended November 1, 2002)

1. American Business Conference Call

' 192. On October 10, 2002, Dell's Senior Vice Presidents Rosendo Parra, Joseph

' Marengi and John Hamlin held a conference call entitled America's Business Conference Call

("AB Conference Call"). On the AB Conference Call, a Dell representative falsely and

misleadingly stated:

Certainly for the entire time that I've been at Dell, and the entire time I've had theconsumer business, it's been a very price competitive market. I think if you lookback last year at our results, if you look at what we did in the first half of thisyear, those are all in very tough pricing environments so I would say its

' business as usual, but I would also say if you look at our track record, we founda way to make very acceptable margins and operating income in those priceenvironments so what you're seeing today is no more aggressive than whenGateway was out dropping price very aggressively in QI of this year. Some ofthe faces have changed in terms of who's driving the aggressiveness but the

76


overall market is no different from what we've seen in the past several quarters.

.added(emphasis )


operating income, net income, earnings per share and gross margin figures were misstated







1


certain accounting errors and irregularities in those financial statements." The foregoing

'1 in periods Dell now admits are inaccurate and should no longerstatements are included pbe

'

relied upon. Finally, the Defendants concealed that increases in Dell's share included increases

from fraudulent activity.

' 2. Third Quarter 2003 Earnings Release

1 194. On November 14, 2002, Dell issued an earnings release announcing its financial

results for the quarter ended November 1, 2002 (the "Q3 2003 Earnings Release"). The Q3 2003


the Company's third quarter results:

77


In Millions of Dollars' (except per share data)

Net Revenue $9,144Operating Income $758Net Income $561Gross Margin $1,662Stockholders' Equity $4,648Total Liabilities $10,064


operating income net income and gross margin figures were misstated because, as admitted bP g ^ ^' g ^' Y

' Dell's restatement, the Company improperly recognized revenue throughout the Class Period and

used "accounting adjustments ... to compensate for earnings shortfalls that could not be closed

through operational means." As a result of the Company's fraudulent revenue recognition

' practices, its reported stockholders' equity and total liabilities figures were also misstated.


2004, 2005, and 2006 (including the interim periods within those years), and the first quarter of



tDell now admits are inaccurate and should no longer be relied upon.

3. Third Quarter 2003 Earnings Conference Call

' 196. On November 14, 2002, Dell held a conference call to discuss third q uarter FY

2003 earnings ("Q3 2003 Earnings Call'). On the Q3 2003 Earnings Call, Defendant Schneider

stated:

Dell continues to demonstrate execution, performance and opportunities for futuregrowth that differentiate us from the best of the industry. The third quarter wasanother successful quarter for Dell as we delivered on our commitment tooutperform the market, gain significant market share worldwide and deliverimproving profit margins. Specifically, sequential and year-over-year revenue,earnings and unit growth significantly outperformed the market once again.

(emphasis added).

i78


197. Defendant Schneider also falsely and misleadingly stated: "Dell continues to

outperform the market in all segments, products and regions due to our superior execution and

focus on profitably gaining share."

198. Furthermore, on the Q3 2003 Earnings Call, Defendant Rollins falsely and


From the very beginning, Dell has always been successful at gaining marketshare. We've increased our market share by more than 400 percent since thebeginning of 1995 while all of our major competitors have lost share. But over

' the past seven quarters, we have more than doubled the pace in which we gainshare from the competition so that where we used to earn about 3/10 of sharepoints per quarter on average, we have now doubled that to earn about 7/10 ashare points per quarter. We've achieve [sic] these gains through geographicexpansion, broadening our product line and focusing on extending ourcompetitive cost advantage to deliver the best total value to our customers.

r199. Additionally, on the Q3 2003 Earnings Call, a Dell representative falsely and

misleadingly stated that "[w]ith our cost structure, what are great margins for us might not be

great for others. But, sure, we are achieving very nice profitability. Those businesses are

growing in profit faster than other parts of our business." The Company's representative also

falsely and misleadingly stated:

On the cost side we have madeood progress. We're actually ahead on the $1g P t^' Ybillion target. I think even back to the question that was asked earlier, if you talk

' about the pricing environment, it has been aggressive for a long time. But ourgross margins are higher now than they have been in quite a number of quarters.So we continue to make progress with these cost reductions. We're passing a lot

' of it through to customers in terms of taking marketshare, but we have also fromquarter to quarter been dropping some of it down to the bottom line. So I thinkyou can actually attribute most of that to our cost reduction initiatives.

200. The Company representative also falsely and misleadingly stated:

I think, despite all of this conversation about increased pricing aggression, we aregrowing at twice the rate of the market and we are improving profitability withour operating margins up more than 100 basis points this year. If I look at ourthird quarter here and the revenue growth in our small medium businessesactually ahead of the corporate average.

79


'S o you can see there was pricing pressure more from an overall sellingL J Y P gP gPricestandpoint. It had slight impact as well on margins and consumer profitability.But, overall, it has really been more of the price points of expanding our marketshare.

201. Lastly, the Company representative, falsely and misleadingly stated:

We continue to outperform the industry and profitably gain market share,delivering greater than 20 percent year-over-year unit, revenue and earningsgrowth in a challenged macroeconomic environment and we expect this tocontinue as we stand behind our stated goal to double our revenues. While wehave improved operating margins by a full percentage point from last year, we'realready the only profitable manufacturer of computer hardware. We also continueto march towards our goal of 9-10 percent operating margins.


operating income, net income and gross margin figures were misstated because, as admitted by

Dell's restatement the Company improperlyreco ized revenue throughout the Class Period andp Y recognized g



practices, its reported stockholders' equity and total liabilities figuresp P q Y were also misstated.

' Moreover, as Dell has itself declared, "our previously issued financial statements for Fiscal 2003,



irregularities in those financial statements." The foregoing statements are included in the periods1Dell now admits are inaccurate and should no longer be relied upon.

4. Third Quarter 200310-Q

203. On December 16, 2002, Dell filed its Form 10-Q for the quarter ended November

1 2002"3 2003 10- . The 3 2003 10- repeated the following false and misleading(Q Q) Q Q P g g

financial information from the Company's Q3 2003 Earnings Release:

80



Net Revenue $9,144Operating Income $758

' Net Income $561Gross Margin $1,662Total Stockholders' Equity $4,648Total Liabilities $10,064

204. Further, the Q3 2003 10-Q falsely and misleadingly stated:

During q Pthe quarter, the Company further demonstrated the strength of its low-coststructure and efficient direct-to-customer model by generating increased operating

' profitability. Gross margins for the quarter increased sequentially and year-over-year primarily as a result of the Company's cost savings initiatives, decliningcomponent costs and a favorable shift in product mix.

205. In discussing Dell's gross margins, the Q3 2003 10-Q falsely and misleadingly

' stated:

As a percentage of net revenue, gross margin increased from 17.6% in the thirdquarter of fiscal 2002 to 18.2% in the third quarter of fiscal 2003, while alsoincreasing sequentially from 17.9%. On a year-to-date basis, gross marginincreased from 17.7% during the first nine months of fiscal 2002 to 17.8% duringthe first nine months of fiscal 2003. While gross margin was essentially flat on ayear-to-date basis, the year-over-year and sequential improvement in thirdquarter gross margin occurred primarily as a result of the Company's costsavings initiatives, declining component costs and a favorable shift in product

' mix.

(emphasis added).


' operating income, net income and gross margin figures were misstated because, as admitted by

Dell's restatement, the Company improperly recognized revenue throughout the Class Period and





' 81




' irregularities in those financial statements." The foregoing statements are included in the periods

Dell now admits are inaccurate and should no longer be relied upon.

' 207. The Q3 2003 10-Q falsely and misleadingly stated, "the accompanying condensed

consolidated financial statements reflect all adjustments of a normal recurring nature considered

necessary to present fairly the financial position of the Company and its consolidated

' subsidiaries at November 1, 2002 and February 1, 2002, and the results of their operations and

their cash flows for the three and nine months ended November 1, 2002 and November 2, 2001."

208. In explaining the Company's revenue recognition policy Dell falsely and


Revenue Recognition — Net revenue includes sales of hardware, software and' peripherals, and services (including extended service contracts and professional

services). The Company offers separately-priced extended service contracts tocustomers that extend the support, parts and labor coverage offered as a part of

' the base warranty included with the product. The Company allocates fees frommultiple element arrangements to the various elements based on the relative fairvalues of each element. Fair values are generally determined based on separatelist prices. Product revenue is recognized when both title and risk of loss transferto the customer, provided that no significant obligations remain. The Companyprovides for an estimate of product returns and doubtful accounts, based on

II' historical experience. Revenue from service and extended warranty contracts forwhich the Company is obligated to perform is deferred and subsequentlyrecognized on a gross basis over the term of the contract. Revenue from sales of

sill third party service and extended warranty contracts for which the Company is notobligated to perform is recognized on a net basis at the time of sale. Professionalservices revenue is recorded when services are performed.

The Company does not recognize revenue for product shipments until received bythe customer, although title on substantially all products transfers to the customerwhen shipped. Consequently, the product costs related to these in-transitcustomer shipments are included in other current assets in the accompanyingcondensed consolidated statement of financial position.

' 82


209. Defendants knew, or recklessly disregarded, that the statements regarding the fair

rpresentation of the Company ' s financial results and its revenue recognition policy were false and

misleading when made because, as described above, Dell failed to adhere to its stated revenue


that could not be closed pthrough operational means." As a result, Dell's financial statements didg

not fairly and accurately present the financial position of the Company to investors.

210. The Q3 2003 10-Q also included signed certifications from Michael Dell and

' Schneider which stated:

'

1. I have reviewed this quarterly report on Form 10-Q of Dell ComputerCorporation;

2. Based on my knowledge, this quarterly report does not contain any untruestatement of a material fact or omit to state a material fact in order to make thestatements made, in light of the circumstances under which such statements weremade, not misleading with respect to the period covered by this quarterly report;

3. Based on my knowledge, the financial statements, and other financialinformation included in this quarterly report, fairly present in all material respects

'

the financial condition, results of operations and cash flows of the registrant as of,and for, the periods presented in this quarterly report;

4. The registrant's other certifying officers and I are responsible forestablishing and maintaining disclosure controls and procedures (as defined inExchange Act Rule 13a-14 and 15d-14) for the registrant and we have:

a) designed such disclosure controls and procedures to ensure thatmaterial information relating to the registrant, including its consolidatedsubsidiaries, is made known to us - by others within those entities,

' particularly during the period in which this quarterly report is beingprepared;

1 b) evaluated the effectiveness of the registrant's disclosure controlsand procedures as of a date within 90 days prior to the filing date of thisquarterly report (the "Evaluation Date"); and

c resented in this quarterly report our conclusions about theP q Y peffectiveness of the disclosure controls and procedures based on our

' evaluation as of the Evaluation Date.

83


5. The registrant's other certifying officers and I have disclosed, based on'

our most recent evaluation, to the registrant's auditors and the audit committee ofregistrant's board of directors (or persons performing the equivalent function):

a) all significant deficiencies in the design or operation of internalcontrols which could adversely affect the registrant's ability to record,process, summarize and report financial data and have identified for the

' registrant's auditors any material weaknesses in internal controls; and

b) any fraud, whether or not material, that involves management orother employees who have a significant role in the registrant's internalcontrols; and

6. The registrant's other certifying officers and I have indicated in thisquarterly report whether or not there were significant changes in internal controlsor in other factors that could significantly affect internal controls subsequent tothe date of our most recent evaluation, including any corrective actions withregard to significant deficiencies and material weaknesses.


contained in their signed certifications filed with the Q3 2003 10-Q were materially false and

' misleading when made because the report did in fact contain untrue statements of material facts.

As Dell has itself declared, "our previously issued financial statements for Fiscal 2003, 2004,

2005, and 2006 (including the interim periods within those years), and the first quarter of Fiscal

2007, should no longer be relied upon because of certain accounting errors and irregularities in

those financial statements." The foregoing statements are included in the periods Dell now

admits are inaccurate and should no longer be relied upon. Moreover, as admitted by Dell in its

restatement, the Company failed to maintain effective controls which led to, inter alia, Dell

employees using accounting adjustments in order to compensate for operational shortfalls.

1 In its restatement, Dell also admitted that its control deficiencies led to: a failure by the

Company to consistently adhere to GAAP; a failure by the Company to employ persons with

appropriate accountin knowledge given the complexity of Dell's reporting requirements; and ag eg ^ p tY p g q

' failure by the Company to maintain effective controls over period-ending reporting.

84


D. Fourth Quarter FY 2003 (For The Quarter Ended January 31, 2003)

' 1. Fourthuarter 2003 Earnings ReleaseQ g

' 212. On February 13, 2003, Dell issued an earnings release announcing its financial

results for the quarter ended January 31, 2003 (the "Q4 2003 Earnings Release"). The Q4 2003


the Company's fourth quarter results:


Net Revenue $9,735Operating Income $819Net Income _ $603Earnings Per Share (Diluted) $.23Gross Margin $1,781Stockholders' Equity $4,873 Total Liabilities $10,597

213. In the Q4 2003 Earnings Release, Defendant Rollins stated: "Customers always

look for higher levels of value, particularly when economic conditions are weak.... That's why

we're profitably gaining market share, and consistently producing industry-leading operating

results. This performance would be outstanding in any environment, and we have no intention to

' depart from a very successful strategy."P rY gY




'



' fraudulent revenue recognition practices, its reported stockholders' equity and total liabilities



85


those years), and the first quarter of Fiscal 2007, should no Ionger be relied upon because of

accounting errors and irregularities in those financial statements." The foregoingcertain ac g gu g g

' statements are included in the periods Dell now admits are inaccurate and should no longer be

relied upon. Finally, the Defendants concealed that increases in Dell's share included increases

from fraudulent activity.

2. Fourth Quarter 2003 Earnings Conference Call

215. On February 13, 2003, Dell held a conference call to discuss fourth quarter FY

' 2003 earnings ("Q4 2003 Earnings Call'). On the Q4 2003 Earnings Call, Defendant Schneider

' stated:

Specifically our year-over-year revenue, unit and earnings growth significantlyoutpaced the market. While industry revenues were down more than 2 percent

' year-aver-year, Dell revenues grew by 21 percent.... We delivered improvedprofitability as operating margin increased by another 10 basis pointssequentially to 8.4 percent in an environment that is reportedly more

' competitive than ever.... [W]e said that we would continue to profitably gainshare. We also achieved this goal increasing our worldwide share by 2.6 points,and we are the only major systems vendor that gained share in every region andproduct segment.

(emphasis added).

216. On the Q4 2003 Earnings Call, Defendant Rollins also continued to tout Dell's

ability to grow market share profitably:

Finally, our profitable share gain strategy continues unabated. We gained more' share in fiscal year `03 than any other year in our history, while every other

company in the top five lost share. At the same time, we increased our operatingprofit margin in every single quarter.... But we also expect to significantlyreduce our warranty cost, and we intend to use the cost savings the same way thist

year to fuel share gains, optimize operating income and improve operating incomemargins.

' 217. Defendants knew, or recklessly disregarded, that the above statements concerning

Dell's financial results and performance were false and misleading when made because Dell's

'reported results were based on misstated net revenue, operating income, net income, earnings per

' 86


share and gross margin figures. As admitted by Dell's restatement, the Company improperly

' recognized revenue throughout the Class Period and used "accounting adjustments^ g ... toJ

compensate for earnings shortfalls that could not be closed through operational means." As a

result of the Company's fraudulent revenue recognition practices, its reported stockholders'

equity and total liabilities figures were also misstated. Moreover, as Dell has itself declared,

our previously issued financial statements for Fiscal 2003, 2004, 2005, and 2006 (including the

interim periods within those years), and the first quarter of Fiscal 2007, should no longer be

relied upon because of certain accounting errors and irregularities in those financial statements."

' The foregoing statements are included in the periods Dell now admits are inaccurate and should

no longer be relied upon. Finally, the Defendants concealed that increases in Dell's share

' included increases from fraudulent activity.

3. Dell's Stock Rises on Misleading Reports

218. On February 17, 2003, The Associated Press reported the following:

' • Stock in Dell Computer Corp., one of the leading barometers of the globalcomputer industry, rose more than 10 percent Friday after the company reportedrecord sales and sharply higher profits in its latest quarter as sales of servers and

' storage devices surged.

L "This performance would be outstanding in any environment," said Kevin' lins, Dell president and chief operating officer. "We have no intention to

depart from a very successful strategy."

219. Rollins knew or was reckless in not knowing that the information pushing up

Dell's stock was based on false and misleading figures and not on Dell's "outstanding" business

model. As Dell has itself declared, "our previously issued financial statements for Fiscal 2003,



' irregularities in those financial statements." The foregoing statements are included in the periods

i87


Dell now admits are inaccurate and should no longer be relied upon. Moreover, Dell's

admitted that " a s a result of our review of issues ... management hasrestatement also adm [ ] g

identified several deficiencies in our control environment that constitute material weaknesses

and, consequently, has concluded that our internal control over financial reporting was not

effective at February 2, 2007." The now-restated false statements, not the business acumen of

' any of the Defendants, were the driving force behind the increases in Dell's share price.

4. Goldman Sachs Conference Call

220. On February 25, 2003, Michael Dell participated in a Goldman Sachs Technology

' Conference Call ("Goldman Sachs Call") during which he falsely stated: "[Dell] improved profit

margins to 8.4 percent in an environment that was reportedly more competitive than ever."

' Michael Dell also falsely and misleadingly stated: "we were the only company to gain share in

every region in every product, while improving operating margins in every single quarter during

the year.

' 221. Michael Dell knew, or recklessly disregarded, that the above statements

concerning Dell's financial results, performance and prospects were false and misleading when

made because, as described above, Dell's reported results were based on misstated net revenue,

' operating income, net income, earnings per share and gross margin figures. As admitted by


used "accounting adjustments .. to compensate for earnings shortfalls that could not be closed




2004, 2005, and 2006 (including the interim periods within those years), and the first quarter oftFiscal 2007, should no longer be relied upon because of certain accounting errors and

' 88



inaccurate and should no longer be relied upon. Finally,Dell now admits are c g p y, Michael Dell

' fraudulently concealed that increases in Dell's share included increases from fraudulent activity.

5. 10-K for the Year Ended January 31, 2003

222. On April 28, 2003, Dell filed its Form 10-K for the year ended January 31, 2003

("2003 10-K"). The 2003 10-K, which was signed by, inter alia, Michael Dell and Schneider,

contained the following false and misleading financial information for the 2003 fiscal year:

'


' Net Revenue $35,404Operating Income $2,844Net Income $2,122

' Earnings per Share (Diluted) $0.80Gross Margin $6,349Total Stockholder Equity $4,873Total Liabilities $10,597

223. In describing Dell's FY2003 results the 2003 10-K stated:

tDell generated record net revenue of $35.4 billion, and achieved operating incomeof approximately $2.8 billion, whereas its top competitors collectively continuedto experience declining revenues and operating losses in their personal computer

' systems and related businesses. In addition to maximizing profitability andgrowth, Dell delivered outstanding liquidity.

' Dell achieved these strong financial results in fiscal 2003 despite continued weaktechnology spending brought about by a soft global economic environment. Dellresponded to these market conditions as it has previously by delivering award-

' winning products and services with leadership pricing to maximize market sharegrowth and to realize as much profit as possible in light of existing conditions.Dell also expanded more broadly and deeply into the enterprise by launching the

' second generation Dell y EMC product line; significantly increasing the numberof installations of high performance computing clusters; further developingrelationships with other strategic partners; and improving professional services

' offerings. In executing its strategy, Dell leveraged its low-cost structure andefficient direct-to-customer model to aggressively price all products and passthrough declining component prices and structural savings to its customers. Dell'scontinued focus on cost control resulted in record low operating expenses in fiscal2003 as a percentage of revenue as well as improved operating margins.Management believes that Dell's continued industry-leading operating results

89


validate that the Dell model excels in any macro-economic environment and thatby maintaining its strategy of profitable market share growth with a focus onimproving overall profitability, Dell will continue to outperform the industry inany economic environment.

' 224. Further commenting on Dell's FY2003 results, the Company stated:

During fiscal 2003, Dell continued to execute its profitable market share growthstrategy and achieved record unit shipments, net revenue and operating incomedespite a difficult industry and macro-economic environment. Management's

' relentless focus on cost improvements resulted in improved gross and operatingmargins compared to fiscal 2002 even though average revenue per unit declinedover the same period as Dell passed on substantially all component cost declines

' to its customers. By maintaining its strategy of profitable market share growth,with a focus on improving overall profitability, management currently expects tocontinue to capitalize on market opportunities.

'

225. In commenting on the Company's FY2003 reported net revenues, the 2003 10-K

stated:

During fiscal 2003, Dell generated record net revenue and unit shipments eventhough the global economy remained soft impacting capital spending and overall

' industry demand. Dell achieved this growth, among other things, by continuingto focus on geographic expansion, by expanding customer-focused product andservice offerings, and by offering a superior value proposition to its customers.

' Net unit shipments grew 21% for fiscal 2003 compared to an industry decline of1% (excluding Dell) in calendar year 2002, and grew 15% in fiscal 2002compared to an industry decline of 7% (excluding Dell) in calendar year 2001.Dell's market share gain of 2.3 points worldwide in fiscal 2003 was one of thebest in Dell's history.

Average revenue per-unit sold in fiscal 2003 decreased 7% compared to fiscal2002, which was primarily due to component cost declines and Dell's practice of

' aggressively passing on these declines to customers to increase market share.Management currently expects that average revenue per unit will continue todecline at a moderate rate as technology spending remains soft and component

' cost declines continue at historical rates. However, Dell will adjust its pricing asnecessary in response to future economic and competitive conditions. Averagerevenue per unit sold in fiscal 2002 decreased 15% compared to fiscal 2001,which was primarily due to aggressive pricing across all product lines in additionto Dell passing component cost declines through to its customers.

In fiscal 2003, net revenue increased 14% as compared to fiscal 2002 to a record$35.4 billion. Strong growth in net unit shipments across all regions and products

' 90


drove the revenue increase, which was somewhat offset by lower average selling' prices. Fiscal 2002 net revenue was 2% lower than fiscal 2001 as declines in

average per-unit revenues more than offset growth in net unit shipments.

On a geographic basis, Dell extended its No. 1 share ranking in the U.S. and theAmericas overall with a 15% net revenue increase in fiscal 2003 as compared tofiscal 2002. Americas net revenue decreased 5% from fiscal 2001 to fiscal 2002.In the Business segment, net revenue increased 12% in fiscal 2003 as compared toa 9% decline in fiscal 2002 as technology spending stabilized. Net revenue in theU.S. Consumer segment grew 26% in fiscal 2003 and 15% in fiscal 2002, as Dellsuccessfully drove substantial market share gains as compared to the industry.

' Net revenue in Asia Pacific-Japan increased 16% in fiscal 2003 as compared tofiscal 2002....

226. Commenting on Dell's reported FY2003 gross margins, the 2003 10-K stated:

Gross margin as a percentage of net revenue increased from 17.7% in fiscal 2002to 17.9% in fiscal 2003. Gross margin increased across all geographies andproduct categories primarily as a result of Dell's cost reduction initiatives anddeclining component costs. As part of its focus on improving margins, Dell

' remains committed to reducing costs to maintain price leadership and improveprofitability through four primary cost reduction initiatives: manufacturing costs,warranty costs, structural or design costs, and overhead or operating expenses.

As a percentage of consolidated net revenue, gross margin decreased from 20.2%t in fiscal 2001 to 17.7% in fiscal 2002. This erosion began in the fourth quarter offiscal 2001, when Dell saw industry demand starting to decline and began anaggressive pricing strategy to gain market share and maximize profitability.Throughout fiscal 2002, Dell focused on stabilizing and improving net operatingmargins. The year-to-year decrease occurred primarily as a result of Dell'sstrategy to drive profitable market share growth






' 91



'1 has itself declared,figures were also misstated. Moreover, as Del s se dec ared, our previously issued



certain accounting rrors and irregularities in those financial statements." The foregoingg ^ g g


relied upon. Finally, the Defendants fraudulently concealed that increases in Dell's share

' included increases from fraudulent activity.

228. Defendants also knew, or recklessly disregarded, that the above statements

concerning Dell's operations in Japan were materially false and misleading and/or omitted

material information about Dell's use of fictitious transactions with its Japanese business. As

i

admitted in Dell's restatement, "[Dell's internal] investigation determined that almost all of the

transactions of the Japan services business involving the systems integrator likely were

' fabricated, as were certain additional smaller transactions involving two other Japanese systems

integrators. The impact of the adjustments reduced net revenue and cost of revenue to eliminate

the effect of the fictitious transactions."

229. In discussing Dell's adherence to reporting its financial results in conformance

with GAAP, the 2003 10-K falsely stated; "Dell prepares its financial statements in conformity

with generally accepted accounting principles in the U.S. Dell believes its most critical

accounting policies relate to revenue recognition and warranty accruals."

230. The 2003 10-K further misleadingly stated, in a section titled "Revenue

Recognition," that:

Net revenue includes sales of hardware, software and peripherals, and services(including extended service contracts and professional services). The Company

92


offers separately priced extended warranty and service contracts to customers thatextend and/or enhance the technical support, parts, and labor coverage offered asa part of the base warranty included with the product. The Company allocatesfees from multiple element arrangements to the various elements based on therelative fair values of each element. Fair values are generally determined basedon separate list prices. Product revenue is recognized when both title and risk ofloss transfer to the customer, provided that no significant obligations remain. TheCompany provides for an estimate of product returns and doubtful accounts,based on historical experience. Revenue (net of estimated costs to be incurred)related to extended warranty and service contracts for which the Company isobligated to perform is recorded as deferred income and subsequently recognizedon a gross basis over the term of the contract. Revenue from sales of separatelypriced third party extended warranty and service contracts for which the Companyis not obligated to perform is recognized on a net basis at the time of sale.Professional services revenue is recorded when services are performed.

231. Defendants knew, or recklessly disregarded, that Dell's statements concerning its

adherence to GAAP and its purported revenue recognition practices were false and misleading

when made because, as described above, Dell failed to adhere to its stated revenue recognition

policies and used "accounting adjustments ... to compensate for earnings shortfalls that could1not be closed through operational means. Moreover, Dell's restatement admits that the

Company did not follow GAAP when reporting its financial results during the Class Period.

232. In commenting on Dell's Warranty accounting practices, the 2003 10-K stated:

Warranty Dell records warranty liabilities for the estimated costs that may beY Yincurred under its basic limited warranty as well as under separately pricedextended warranty and service contracts for which Dell is obligated to perform.These liabilities are accrued at the time product revenue is recognized. Thespecific warranty terms and conditions vary depending upon the product sold andcountry in which Dell does business, but generally includes technical support,repair parts and labor and a period ranging from 90 days to three years. Factorsthat affect Dell's warranty liability include the number of installed units currentlyunder warranty, historical and anticipated rates of warranty claims on those unitsand cost per claim to satisfy Dell's warranty obligation. The anticipated rate ofwarranty claims is the primary factor impacting Dell's estimated warrantyobligation. The other factors are relatively insignificant because the averageremaining aggregate warranty period of the covered installed base isapproximately 20 months, repair parts are generally already in stock or availableat pre-determined prices, and labor rates are generally arranged at pre-established

r

amounts with service providers. Warranty claims are relatively predictable basedon historical experience of failure rates. Each quarter, Dell reevaluates its

93


estimates to assess the adequacy of its recorded warranty liabilities and adjusts the' amounts as necessary.

233. Defendants knew, or recklessly disregarded, that these statements were false and

misleading when made because, as described above, Dell accelerated the recognition of at least

some deferred revenue from extended warranties and under-accrued costs associated with basic

warranties in violation of GAAP.

234. The 2003 10-K also disclosed the following warranty-related information:

' atggregWe Frorhrct Warranty Curb 4 — Changes in the Cmpany's aggwgde product warranty liability are presated to the following table,

FtaWYearKohdJammq 3 t. 2803

ie liability at begiaaiaS ai`p-tod X54}Coat aomued for standard warranties and separately priced extended warroa ty and service

c t acls issued d=414e period I ^7(3blfy nahonal td `the^riod $j

Aggregate liability at end ufperiod $1,309

tp `.: 4Noncurrrnt porum 635

Agpgatetibilq' at and af*oii ^ l at39





236. In commenting on Dells controls, the 2003 10-K stated:

Under the supervision and with the participation of Dell's management, includingDell's Chief Executive Officer and Chief Financial Officer, Dell has evaluated theeffectiveness of the design and operation of its disclosure controls and procedures(as defined in Rule 13a-14(c) under the Securities Exchange Act of 1934) withinthe 90 days prior to the date of this Report. Based on that evaluation, the Chief'Executive Officer and Chief Financial Officer have concluded that thesedisclosure controls and procedures are effective in enabling Dell to record,process, summarize and report information required to be included in Dell'speriodic SEC filings within the required time period. There have been nosignificant changes in Dell's internal controls or in other factors that couldsignificantly affect internal controls subsequent to the date that Dell completed its

t94


evaluation.

237. The Defendants knew, or recklessly disregarded, that the foregoing statement

regarding Dell's controls was materially false and misleading when made. As admitted by Dell

in its restatement, the Company failed to maintain effective controls which led to, inter alia, Dell

employees usin accounting "adjustments" in order "to compensate for operational shortfalls."g g

In its restatement, Dell also admitted that its control deficiencies led to: a failure by the


appropriate accounting knowledge given the complexity of Dell's reporting requirements; and a

failure by the Company to maintain effective controls over period-ending reporting.

238. The 2003 10-K also included signed certifications from Michael Dell and


1. I have reviewed this annual report on Form 10-K of Dell ComputerCorporation;

2. Based on my knowledge, this annual report does not contain any untruej statement of a material fact or omit to state a material fact necessary to make the

statements made, in light of the circumstances under which such statements weremade, not misleading with respect to the period covered by this annual report;

3. Based on my knowledge, the financial statements, and other financialinformation included in this annual report, fairly present in all material respectsthe financial condition, results of operations and cash flows of the registrant as of,and for, the periods presented in this annual report;

4. The registrant's other certifying officers and I are responsible forestablishing and maintaining disclosure controls and procedures (as defined inExchange Act Rules 13a-14 and 15d-14) for the registrant and have:

a) designed such disclosure controls and procedures to ensure thatmaterial information relating to the registrant, including its consolidatedsubsidiaries, is made known to us by others within those entities,particularly during the period in which this annual report is beingprepared;

b) evaluated the effectiveness of the registrant's disclosure controlsand procedures as of a date within 90 days prior to the filing date of this

95


annual report (the "Evaluation Date"); and

c resented in this annual report our conclusions about theppeffectiveness of the disclosure controls and procedures based on ourevaluation as of the Evaluation Date.

5. The registrant's other certifying officers and I have disclosed, based on'

our most recent evaluation, to the registrant's auditors and the audit committee ofregistrant's board of directors (or persons performing the equivalent functions):

a) all significant deficiencies in the design or operation of internalcontrols which could adversely affect the registrant's ability to record,process, summarize and report financial data and have identified for theregistrant's auditors any material weaknesses in internal controls; and


6. The registrant's other certifying officers and I have indicated in thisannual report whether there were significant changes in internal controls or inother factors that could significantly affect internal controls subsequent to the dateof our most recent evaluation, including any corrective actions with regard to

' significant deficiencies and material weaknesses.


Schneider pursuant to Section 906 of the Sarbanes-Oxley Act which certified that: "(a) the

Company's Annual Report on Form 10-K for the fiscal year ended January 31, 2003, as filed

with the Securities and Exchange Commission (the 'Report'), fully complies with the

requirements of Section 13(a) of the Securities Exchange Act of 1934 and (b) information

contained in the Report fairly presents, in all material respects, the financial condition and results

of operations of the Company."P


contained in their signed certifications filed with the 2003 10-K were materially false and

misleading when made because, as admitted by Dell in its restatement, the Company failed to

' maintain effective controls which led to, inter alia, Dell employees using accounting

t96


i

"adjustments" in order "to compensate for operational shortfalls." In its restatement, Dell also

r admitted that its control deficiencies led to: a failure by the Company to consistently adhere to

GAAP; a failure by the Company to employ persons with appropriate accounting knowledge

given the complexity of Dell's reporting requirements; and a failure by the Company to maintain

effective controls overeriod-ending reporting. Additionally, Michael Dell and Schneider'sp gY

Section 906 certifications were false because Dell has itself declared, "our previously issued


those), and the first quarteruarter of Fiscal 2007, should no longer be relied upon because ofY



' relied upon.

241. The 2003 10-K also included a "clean audit" opinion from PwC which stated:

In our opinion, the consolidated financial statements listed in the accompanyingindex present fairly, in all material respects, the financial position of Dell

' Computer Corporation and its subsidiaries at January 31, 2003 and February 1,2002, and the results of their operations and their cash flows for each of the threefiscal years in the period ended January 31, 2003, in conformity with accountingprinciples generally accepted in the United States of America. In addition, in ouropinion, the financial statement schedule listed in the accompanying index,presents fairly, in all material respects, the information set forth therein when read1 in conjunction with the related consolidated financial statements.

242. PwC's certification also assured investors that:

We conducted our audits of these statements in accordance with auditingstandards generally accepted in the United States of America, which require that

' we plan and perform the audit to obtain reasonable assurance about whether thefinancial statements are free of material misstatement. An audit includesexamining, on a test basis, evidence supporting the amounts and disclosures in thefinancial statements, assessing the accounting principles used and significantestimates made by management, and evaluating the overall financial statementpresentation. We believe that our audits provide a reasonable basis for our

' opinion.

' 97


I

243. PwC knew, or recklessly disregarded, that its statements in the 2003 10-K were

materially false and misleading. As evidenced by Dell's restatement, the financial reports

covered by PwC's foregoing "clean audit" opinion were materially false, required restating and,

as cautioned by Dell, "should no longer be relied upon because of certain accounting errors and

irregularities in those financial statements." Moreover, as explained infra at Section X, PwC's

r audit of Dell failed to comply with GARS.

n E. First Quarter 2004 (For The Quarter Ended May 2, 2003)

' 1. First Quarter 2004 Earnings Release


for the quarter ended May 2, 2003 (the "QI 2004 Earnings Release"). The Q1 2004 Earnings

' Release, which was also filed with the SEC on Form 8-K, touted Dell's performance for the

quarter as "its best-ever fiscal first-quarter operating results, recording exceptional growth and

profitability in all product and regional markets... " The 1 2004 Earnings Releasep y p g Q g further

informed investors that Dell's "second-quarter increases should also be strong." The Q1 2004

Earnings Release also contained the following false and misleading financial information

relating to the Company's first quarter results:


Net Revenue $9,532

1 Operating Income $811Net Income $598Gross Margin $1,748Total Stockholders' Equity $5,076Total Liabilities $10,636

245. In commenting on Dell's reported financial figures and its future prospects the

Company stated:

First-quarter operating profit as a percent of revenue was 8.5 percent, Dell'shighest in two and one-half years. Operating expenses were a record low 9.8

98


percent of revenue, down from 9.9 percent a year ago.




used "accounting djustments ... to compensate for earnings shortfalls that could not be closedg J P g

'



t Moreover, as Dell has itself declared, "our previously issued financial statements for Fiscal 2003,



1



247. The Ql 2004 Earnings Release also included comments from Michael Dell that

hailed the Company's reported results as an endorsement of the Company's products: "The

words and actions of customers are clear.... They're recognizing the performance and

reliability standards-based enterprise computing,and choosing such servers and storage

h' 1P g eg

' products at an accelerating rate. . . . Dell's unique ability is innovating, integrating and

delivering technology with the best possible value, and our execution in those areas has never

been better."

' 248. Michael Dell knew, or recklessly disregarded, that his statements about the

Company were materially false and misleading because, rather than indicating an endorsement

from Dell's customers, Dell's reported figures were the result of accounting manipulations

intended to compensate for earnings shortfalls that could not be achieved through operational

means.

' 99



249. On May 15 2003 Dell held a conference call to discuss first quarter FY 2004Y q

earnings ("Q1 2004 Earnings Call'). On the Q1 2004 Earnings Call, Defendant Schneider

falsely stated: "What is certain is that our strategy to drive for profitable share growth and extend

further into the enterprise [market] has proven successful...."

250. Similarly, on the Q1 2004 Earnings Call, a Dell representative stated: "[W]e

believe and have communicated to you and your colleagues that we intend to grow both share

revenues and improve profitability and we think that is a good long-term trajectory...:p p tY

251. Furthermore, a Dell representative falsely and misleadingly stated: "If you look at

a 29 percent unit growth for us, the market without us went up low-single digits, so this is one of

our better growth premiums out in Europe.... You can see that from the standpoint of what

happened to overall growth rate and then profitability. That growth is part of the overall model

and we see when we scale up with the business, we get great profits as well as market share

gains and growth." (emphasis added).

252. Defendants knew, or recklessly disregarded, that the above statements concerning1 Dell's financial results anderformance were false and misleading when made because Dell'sP g

reported results were based on misstated net revenue, operating income, net income and gross

margin figures. As admitted by Dell's restatement, the Company improperly recognized revenue

'throughout the Class Period and used "accounting adjustments ... to compensate for earnings


fraudulent revenue recognition practices, its reported stockholders' equity and total Iiabilities




' 100



're included in the periods Dell now admits are inaccurate and should no longer belonstatements a p g

relied upon. Finally, the Defendants fraudulently concealed that increases in Dell's share (and

the growth of its products) included increases from fraudulent activity.

3. 2004 Proxy

1

253. On May 30, 2003, Dell filed its proxy statement for 2004 with the SEC ("2004

Proxy"), in which the Company stated:

' The Board of Directors believes that adherence to sound corporate governancepolicies and practices is important in ensuring that Dell is governed and managedwith the highest standards of responsibility, ethics and integrity and in the bestinterests of its stockholders. The Board has adopted Principles of CorporateGovernance, which provide an effective corporate governance framework forDell, intending to reflect a set of core values that provide the foundation for Dell's

' governance and management systems and its interactions with others.


' Dell'sorted adherence to sound corporate governance policies and practices were false andpmP 1P g P P

misleading when made because, rather than operating the Company in the best interest of

stockholders, Dell manipulated its accounting to compensate for earning shortfalls, as described

above. Moreover, these accounting manipulations were carried out b Dell to hide the true stateg p Y

'

of the Company from investors and so the Company's "quarterly performance adjustments could

be met."

' 4. First Quarter 200410-Q

255. On June 16, 2003, Dell filed its Form 10-Q for the quarter ended May 2, 2003

("Q 1 2004 10-Q"). The Q 12004 10-Q repeated the following false and misleading information

in the Company's Q 12004 Earnings Release:

101



Net Revenue $9,532Operating Income $811Net Income $598Gross Margin $1,748Total Stockholders' Equity $5,076


256. In discussing the Company's results for the quarter, the Q12004 10-Q stated:

During the first quarter of fiscal 2004, Dell's performance once againsignificantly exceeded the industry, resulting in Dell regaining the position as the

' world's No. 1 supplier of personal computer systems. Year-over-year unitshipments increased 29% while industry shipments declined 1% (excluding Dell),resulting in market share gains in every region and product line. Dell generated

' revenue of $9.5 billion in the first quarter while operating income grew by 37%year over year to $811 million. Conversely, Dell's top competitors collectivelycontinued to experience declining revenues in their personal computer systems

' businesses. Additionally, Dell's continued focus on geographic expansionresulted in record unit shipments, revenues and operating income in both Europeand Asia Pacific-Japan as operating income outside the Americas nearly doubled

' from year ago levels. This strong performance was broad-based and led by ourfocus countries: United Kingdom, Japan, France, China and Germany. Dell alsodelivered strong liquidity during the quarter with cash flows from operations of$812 million and cash and investments totaling a company record of $10.3 billion

' at the end of the quarter.

257. In discussing the Company's gross margins, the Q 12004 10-Q stated:

' Gross as a margin percentage of net revenue increased from 17.2% in the firstg P gquarter of fiscal 2003 to 18.3% in the first quarter of fiscal 2004, while remainingflat sequentially. The year-over-year improvement in gross margin occurredprimarily as a result of Dell's cost savings initiatives and declining componentcosts. As part of its focus on improving margins, Dell remains committed to

' reducing costs to maintain price leadership and improve profitability through fourprimary cost reduction initiatives: manufacturing costs, warranty costs, structuralor design costs, and overhead or operating expenses.

' 258. Defendants knew, or recklessly disregarded, that Dell's reported net revenue,




102



practices, its reported stockholders' equity and total liabilities figuresp ^ p ^ Y were also misstated.



' Fiscal 2007, should no longer be relied upon because of certain accounting errors and

'



' 259. Also, Defendants knew, or recklessly disregarded, that the above statements





fabricated, as were certain additional smaller transactions involving two other Japanese systems



' 260. In an effort to reassure investors that Dell's reports complied with AAPp p G ,theQl

200410-Q stated:

The accompanying unaudited condensed consolidated financial statements of Dell' Computer Corporation (the "Company") should be read in conjunction with the

consolidated financial statements and notes thereto filed with the U.S. Securitiesand Exchange Commission in the Company's Annual Report on Form 10-K for

' the fiscal year ended January 31, 2003. In the opinion of management, theaccompanying condensed consolidated financial statements reflect all adjustmentsof a normal recurring nature considered necessary to present fairly the financial

' position of the Company and its consolidated subsidiaries at May 2, 2003 andJanuary 31, 2003, and the results of their operations and their cash flows for thethree months ended May 2, 2003 and May 3, 2002.

' 103


261. Defendants knew, or recklessly disregarded, that its statements concerning Dell's

adherence to GAAP and its purported revenue recognition practices were false and misleading

when made because, as described above, Dell failed to adhere to its stated revenue recognition

policies and used "accounting adjustments ... to compensate for earnings shortfalls that could

not be closed through operational means." Moreover, Dell's restatement admits that the

Company did not follow GAAP when reporting its financial results during the Class Period.

262. The QI 2004 10-Q contained the following false and misleading information

concerning warranties:

NOTE fi—AGGREGATE PRODUCT WARRANTY LIABILITY

Cbangn in the Compauy*s affegate Product warmly liability no pmented in the following taffle:

Thm MIWIMVA&d

-May 1, 2N3

On Mir—)

Cost acaud for Amidard warmntles snd sqmtely prk^ extended wmarity andgiod 329

OX04.110 d ftp=

Aggog* liability at end ofpffiod S I ^w

263. Defendants knew, or recklessly disregarded, that Dell's reported warranty figures

were misstated because, as described above, Dell accelerated the recognition of at least some

deferred revenue from extended warranties and under-accrued costs associated with basic


264. The QI 2004 10-Q also included signed certifications from Michael Dell and

Schneider in which each defendant stated:

1. 1 have reviewed this quarterly report on Form 10-Q of Dell Computer

Corporation;

2. Based on my knowledge, this quarterly report does not contain any untrue

statement of a material fact or omit to state a material fact in order to make the

statements made, in light of the circumstances under which such statements were

made, not misleading with respect to the period covered by this quarterly report;

104


3. Based on my knowledge, the financial statements, and other financial' information included in this quarterly report, fairly present in all material respects

the financial condition, results of operations and cash flows of the registrant as of,and for, the periods presented in this quarterly report;

' 4. The registrant's other certifying officers and I are responsible forestablishing and maintaining disclosure controls and procedures (as defined inExchange Act Rule 13a-14 and 15d-14) for the registrant and we have:

a) designed such disclosure controls and procedures to ensure thatmaterial information relating to the registrant, including its consolidatedsubsidiaries, is made known to us by others within those entities,particularly during the period in which this quarterly report is being

' prepared;

b) evaluated the effectiveness of the registrant's disclosure controlsand procedures as of a date within 90 days prior to the filing date of this

' quarterly report (the `Evaluation Date"); and

c) presented in this quarterly report our conclusions about theeffectiveness of the disclosure controls and procedures based on ourevaluation as of the Evaluation Date.t 5. The registrant's other certifying officers and I have disclosed, based on

our most recent evaluation, to the registrant's auditors and the audit committee ofregistrant's board of directors (or persons performing the equivalent function):

' a) all significant deficiencies in the design or operation of internalcontrols which could adversely affect the registrant's ability to record,process, summarize and report financial data and have identified for the

' registrant's auditors any material weaknesses in internal controls; and


' 6. The registrant's other certifying officers and I have indicated in thisquarterly report whether or not there were significant changes in internal controlsor in other factors that could significantly affect internal controls subsequent to

' the date of our most recent evaluation, including any corrective actions withregard to significant deficiencies and material weaknesses.

' 265. Michael Dell and Schneider also filed signed certifications pursuant to Section

906 of the Sarbanes-Oxley Act stating that they "hereby certify that (a) the Company's Quarterly

Report on Form 10-Q for the quarter ended May 2, 2003, as filed with the Securities and

105


Exchange Commission (the "Report"), fully complies with the requirements of Section 13(a) of

Securities Exchange Act of 1934 and b information contained in the Report fain resentsthe Secu g O p y presents,

' in all material respects, the financial condition and results of operations of the Company."


'in their signed certifications filed with the 1 2004 10- were materiallycontained gn Q Q y false and

' misleading when made because, as admitted by Dell in its restatement, the Company failed to

maintain effective controls which led to, inter alia, Dell employees using accounting

"adjustments" in order "to compensate for operational shortfalls." In its restatement, Dell also7

' admitted that its control deficiencies led to: a failure by the Company to consistently adhere to



effective controls over period-ending reporting.

F. Second Quarter 2004 (For The Quarter Ended August 1, 2003)



results for the quarter ended August 1, 2003 (the "Q2 2004 Earnings Release"). The Q2 2004

Earnings Release, which was also filed with the SEC on Form 8-K, contained the following false

and misleading financial information relating to the Company's second quarter results:


Net Revenue $9,778Operating Income $840Net Income $621Earnings Per Share (Diluted) $.24Gross Margin $1,778Stockholders' Equity $5,506Total Liabilities $11,034

' 106


268. In commenting on Dell's performance for the quarter, the Q2 2004 Earnings

h following comments from Defendant Rollins: "We've again shown Dell'sRelease included the o g g ell s

' unique ability to profitably earn a larger share of business by focusing on standards-based

technologies, managing costs and creating value for customers.... We've done that regardless

of the pace of industry demand and the appetite of others to generate sales, even at a loss."











statements are included in theeriods Dell now admits are inaccurate and should no longer beP g

relied upon. Rollins' comments regarding Dell were also false and misleading for the reasons

stated herein.


270. On August 15, 2003, Dell held a conference call to discuss second quarter FY

2004 earnings ("2004 Q2 Earnings Call"). On the conference call, Defendant Schneider falsely

and misleadingly stated: "We increased our worldwide share by 2.6 points year-over-year to

17.5%, maintaining a 20-plus point premium for the fifth consecutive quarter. And we delivered

improved profitability as operating income dollars continue to grow faster than revenues.

107


271. Additionally, on the Q2 2004 Earnings Call, Michael Dell, on behalf of the

Company, falsely and misleadingly stated. [W]e have a profit discipline too. So, you know,

you're not going to see us just go after volume, you know, and see profits go away."

272. Furthermore, on the Q2 2004 Earnings Call, Schneider added "[W]e had

challenged everyone reap to have the discipline to reap keep this tight....g rY Y P Y P ^ We talked aboutL]competitive pricing, we felt like we just had to hold the line on op[erating] ex[penses] to achieve

the results that we needed."

273. Defendants knew, or recklessly disregarded, that the above statements concernin g


reported results were based on misstated net revenue, operating income, net income, earnings per

' share and gross margin figures. As admitted by Dell's restatement, the Company improperly

recognized revenue throughout the Class Period and used "accounting adjustments ... to




" i financial statements for Fiscal 2003 2004 2005 and 200 1our previously issued 6 (including the


relied upon because of certain accounting errors and irregularities in those financial statements."

The foreg oing statements are included in the periods Dell now admits are inaccurate and should

no longer be relied upon. Finally, the Defendants concealed that increases in Dell's share

included increases from fraudulent activity.

108


3. Second Quarter 200410-Q

f274. On September 15, 2003, Dell filed its Form 10-Q for the quarter ended August 1,

2003 ("Q2 2004 10-Q"). The Q2 2004 10-Q repeated the following false and misleading

financial information in the Company's Q2 2004 Earnings Release:


Net Revenue $9,778Operating Income $840Net Income $621Earnings Per Share (Diluted) $.24Gross Margin $1,778Total Stockholders' Equity $5,506Total Liabilities $11,034

275. In commenting on the Company's net revenues for the quarter, the Q2 2004 10-Q

stated:

Net revenue was $9.8 billion for the second quarter of fiscal 2004, an increase of$1.3 billion from the same quarter last year. Net revenue increased to $19.3billion for the six months ended August 1, 2003, from $16.5 billion for the sixmonths ended August 2, 2002. The year-over-year increase in net revenue for thethree and six months ended August 1, 2003 was driven by strong net unit growthacross all regions and product lines, with an increase in product mix of enterprisesystems from 20% to 21 % of net revenue.

Americas — During the current quarter, Dell extended its No. 1 market shareposition by 4 points in the U.S. and the Americas overall. Year-over-year netrevenue increased 12% and 13% during the three and six months ended August 1,2003, respectively.

Asia Pacific-Japan — Dell generated year-over-year market share gains duringthe current quarter of 2.1 points with net unit growth of 46% in a market thatincreased only 7% (excluding Dell). Net revenue growth during the three and sixmonths ended August 1, 2003 was broad based and increased year-over-year by29% and 31%, respectively. This increase included combined net revenue growthof 31 % in the focus countries of Japan and China during the current quarter.

109

Case 1:06-cv-00726-SS Document 164-5 Filed 01/11/08 Page 1 1 of 44

276. In terms of the Company's gross margins, the Q2 2004 10-Q stated: "Gross

f net revenue improved to 18.2% during the secondmargin as a percentage o p gquarter of fiscalq

2004, as compared to 17.9% in the second quarter of fiscal 2003. Gross margin was 18.3% for

the six months ended August 1, 2003 and 17.6% during the same period last year. The year-

ear wasover- improvement primarily driven by Dell's cost savings initiatives."Y P p Y






tfraudulent revenue recognition practices, its reported stockholders' equity and total liabilities





r included in the periods Dell now admits are inaccurate and should no longer belonstatements are p g

relied upon.


concerning s operationserations in Japan were materially false and misleading and/or omitted



jtransactions of the Japan services business involving the systems integrator likely were


110



the effect of the fictitious transactions.

279. Assuring investors that Dell's reports complied with GAAP, the Q2 2004 10-Q

stated:

IThe accompanying unaudited condensed consolidated financial statements of DellInc., formerly Dell Computer Corporation ("Dell'), should be read in conjunctionwith the consolidated financial statements and notes thereto filed with the U.S.Securities and Exchange Commission (the "SEC") in Dell's Annual Report onForm 10-K for the fiscal year ended January 31, 2003. The accompanyingunaudited condensed consolidated financial statements have been prepared inaccordance with accounting principles generally accepted in the United States ofAmerica ("GAAP"). In the opinion of management, the accompanyingcondensed consolidated financial statements reflect all adjustments of a normalrecurring nature considered necessary to present fairly the financial position ofDell and its consolidated subsidiaries at August 1, 2003 and January 31, 2003, theresults of their operations for the three and six months ended August 1, 2003 andAugust 2, 2002, and cash flows for the six months ended August 1, 2003 andAugust 2, 2002.

280. Defendants knew, or recklessly disregarded, that Dell's statements concerning the

Company's adherence to GAAP were false and misleading when made because, as described

Dell failed to adhere to its stated revenue recognition policies and used "accountingabove, gm p g

adjustments . . . to compensate for earnings shortfalls that could not be closed through

operational means." Moreover, Dell's restatement admits that the Company did not follow

GAAP when reporting its financial results during the Class Period.P g

281. Additionally, the Q2 2004 10-Q contained the following false and misleading

information concerning warranties:

t111

Case 1:06-cv-00726-SS Document 164-5 Filed 01/11/08 Page 13 of 44INOTE 6 - AGGREGATE PRODUCT WARRANTY LIABILITY

Changes in Dell's egate pn3duct warranty liability are presented in tine following table.

Sh tamftEndod

AUCBd t, 20#3

Aji4atellability, l ot be of 1 tt9..... ,Cost accrued far standard warranties mid separately priced extended warranty

and servicesaatrads rued duriz tl►e period 642

:.t Este liability at end ofperiod $1,487

282. Defendants knew, or recklessly disregarded, that its warranty figures were

misstated because, as described above, Dell accelerated the recognition of at least some deferred

t revenue from extended warranties and under-accrued costs associated with basic warranties in

violation of GAAP.

- e following about Dell's controls:1283. The Q2 2004 10 Q also stated th g o s

Under the supervision and with the participation of Dell's management, includingDell's Chief Executive Officer and Chief Financial Officer, Dell has evaluated theeffectiveness of the design and operation of its disclosure controls and procedures(as defined in Rule 13a-14(c) under the Securities Exchange Act of 1934) within90 days prior to the date of this report. Based on that evaluation, the ChiefExecutive Officer and Chief Financial Officer have concluded that thesedisclosure controls and procedures are effective in enabling Dell to record,process, summarize and report information required to be included in Dell'speriodic SEC filings within the required time period. Additionally, there havebeen no significant changes in Dell's internal controls or in other factors thatcould significantly affect internal controls subsequent to the date that Dellcompleted its evaluation.

284. The Defendants knew, or recklessly disregarded, that the foregoing statements

regarding the effectiveness of Dell's controls were materially false and misleading when made.

As admitted by Dell in its restatement, the Company failed to maintain effective controls which

led to, inter alia, Dell employees using accounting "adjustments" in order "to compensate for

operational shortfalls." In its restatement, Dell also admitted that its control deficiencies led to:

a failure by Companythe Com an to consistently adhere to GAAP; a failure by the Company to employ

t 112


persons with appropriate accounting knowledge given the complexity of Dell's reporting

icontrolsrequirements; and a failure. by the Company to maintain effective over period-ending

reporting.


Schneider in which each defendant stated:

1. I have reviewed this Quarterly Report on Form 10-Q of Dell Inc.;

2. Based on my knowledge, this report does not contain any untrue statementof a material fact or omit to state a material fact necessary to make the statementsmade, in light of the circumstances under which such statements were made, notmisleading with respect to the period covered by this report;

3. Based on my knowledge, the financial statements, and other financialinformation included in this report, fairly present in all material respects thefinancial condition, results of operations and cash flows of the registrant as of,and for, the periods presented in this report;

4. The registrant's other certifying officer(s) and I are responsible forestablishing and maintaining disclosure controls and procedures (as defined inExchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have:

(a) Designed such disclosure controls and procedures, or caused suchdisclosure controls and procedures to be designed under our supervision,to ensure that material information relating to the registrant, including itsconsolidated subsidiaries, is made known to us by others within thoseentities, particularly during the period in which this report is beingprepared;

(b) Evaluated the effectiveness of the registrant's disclosure controlsand procedures and presented in this report our conclusions about theeffectiveness of the disclosure controls and procedures, as of the end of

tthe period covered by this report based on such evaluation; and

(c) Disclosed in this report any change in the registrant's internalcontrol over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) that occurred during the registrant's most recent fiscalquarter that has materially affected, or is reasonably likely to materiallyaffect, the registrant's internal control over financial reporting.

5. The registrant's other certifying officer(s) and I have disclosed, based onour most recent evaluation of internal control over financial reporting, to theregistrant's auditors and the audit committee of registrant's board of directors (or

113


persons performing the equivalent functions):

(a) All significant deficiencies and material weaknesses in the designor operation of internal control over financial reporting which are

'

reasonably likely to adversely affect the registrant's ability to record,process, summarize and report financial information; and

(b) Any fraud, whether or not material, that involves management orother employees who have a significant role in the registrant's internalcontrol over financial reporting.

286. Michael Dell and Schneider also filed signed certifications pursuant to 18 U.S.C.

§ 1350 stating that they "hereby certify that (a) Dell's Quarterly Report on Form 10-Q for the

quarter ended August 1, 2003, as filed with the Securities and Exchange Commission (the

`Report'), fully complies with the requirements of Section 13(a) of the Securities Exchange Act

of 1934 and (b) information contained in the Report fairly presents, in all material respects, the

financial condition and results of operations of Dell."

1 287. Michael Dell and Schneider knew, or recklessly disregarded, that the statements


misleading hen made because as admitted b Dell in its restatement, the Co mpany failed tog ^ Y Pant



' admitted that its control deficiencies led to: a failure by the Company to consistently adhere to



reffective controls over period-ending reporting. Additionally, Michael Dell and Schneider's


financial statements for Fiscal 2003 2004 2005 and 2006includin the interim periods within2006(including P


t114


1


statements are included in the periods Dell now admits are inaccurate and should no longer beons p g

relied upon.

G. Third Quarter (For The Quarter Ended October 31, 2003)

' 1. Dell's Third Quarter 2004 Earnings Release

288. On November 13, 2003, Dell issued an earnings release announcing its financial

results for the quarter ended October 31, 2003 (the "Q3 2004 Earnings Release"). The Q3 2004

Earnings Release, which was also filed with the SEC on Form 8-K, contained the following

false and misleading financial information relating to the Company's third quarter results:


' Net Revenue 10,622Operating Income $912Net Income $677Gross Margin $1,935Total Stockholders' Equity $5,878Total Liabilities $12,247

289. In commenting on the Company's performance for the quarter Michael Dell89 gP q

stated, "Customers and investors get best value over time from companies like Dell that are

growing and financially very healthy.... [T]he market should insist on both, and it's a credit to

our teams and a better way of doing business that we're consistently meeting those

expectations." The Q3 2004 Earnings Release also reported that Dell "anticipates its fourth-

quarter shipments will be up more than 25 percent year-over-year, and again outpace the rest of

the industry. Dell expects revenue of $11.5 billion, an increase of 18 percent, and earnings per

' share of 28 cents, up 22 percent."

290. In commenting on Dell's performance for the quarter the Q3 2004 Earnings

t Release stated:

115


Third-quarter operating expenses were 9.6 percent of revenue, equaling a' company record. Despite sharp industry price competition and slower than

expected declines in component costs, Dell's operating profit was 8.6 percent ofrevenue for the second straight quarter. In dollar terms, operating income was$912 million, up 20 percent from a year ago.

Dell generated $1.1 billion in cash from operations in the quarter. Total cash andinvestments at the end of the period was $11.0 billion, another company record.

(emphasis added).



Dell's restatement, the Company improperly recognized revenue throughout the CIass Period and



practices, its reported stockholders equity and total liabilities figures were also misstated.



Fiscal 2007, should no longer be relied upon because of certain accounting errors. and



292. The Q3 2004 Earnings Release also touted Dell's growth by stating: "Asia-

Pacific and Japan led the company's regional growth with a 35-percent increase, nearly three

times the combined rate of other companies."


Dell's operations in Japan were materially false and misleading and/or omitted material


t Dell's restatement, "[Dell's internal] investigation determined that almost all of the transactions

116


1of the Japan services business involving the systems integrator likely were fabricated, as were

certain additional smaller transactions involving wo other Japanese systems integrators. Theg P Y ^'

'


fictitious transactions."

2. Thirduarter 2004 Earnings Conference CallQ g

294. On November 13, 2003, Dell held a conference call to discuss third quarter FY

2004 results ("Q3 2004 Earnings Call'). On the Q3 2004 Earnings Call, Defendant Rollins

' falsely and misleadingly stated: "[W]e really were trying to balance out our profitability with

growth.... I think it's quite possible we could have had more — more unit growth in the

quarter, but in an area where it would ... hurt our overall profitability. So I think we're

1 pretty disciplined and, again, focused on the things that are most important to us, which would

be the Enterprise product area where growth is very good." (emphasis added).


'



tmargin figures. As admitted by Dell's restatement, the Company improperly recognized revenue

'







' certain accounting errors and irregularities in those financial statements." The foregoing

' 117



relied upon.e p

' 3. Third Quarter 2004 10-Q

296. On December 15, 2003, Dell filed its Form 10-Q for the quarter ended October

31 2003 3 2004 10-Q"). The 3 2004 10- repeated the following false and misleading(QQ Q P g g

financial information from the Company's Q3 2004 Earnings Release:


Net Revenue 10,622Operating Income $912

I Net Income $677Gross Margin $1,935Total Stockholders' Equity $5,878Total Liabilities $12,247

297. Commenting on Dell's performance for the quarter, the Q3 2004 10-Q stated:

During the third quarter of fiscal 2004, Dell's year-over-year performancecontinued to outpace the industry. Year-over-year net unit shipments increased22% during the third quarter as Dell increased its worldwide market share by 1.4

rpoints and maintained its position as the world's No. 1 supplier of personalcomputing systems with 17.1% market share. Net revenue increased 16% year-over-year to $10.6 billion during the quarter with operating expenses remaining ata record low 9.6% of net revenue. During the third quarter, Dell continued itsfocus on maximizing operating dollars by achieving record operating profits andnet income of $912 million and $677 million, respectively. Dell also deliveredstrong liquidity with cash flows from operations of $2.6 billion during the ninemonths ended October 31, 2003 and ended the quarter with record cash, cashequivalents, and investments of $11.0 billion. Dell's low-cost structure and

' efficient direct-to-customer model have enabled the company to consistentlyachieve year-over-year market share growth while maximizing operatingprofitability.

298. In terms of Dell's net revenues for the quarter, the Q3 2004 10-Q stated, "Net

revenue was $10.6 billion for the third quarter of fiscal 2004, an increase of $1.5 billion from the

same quarter last year. Net revenue increased to $29.9 billion for the nine months ended October

31, 2003, from $25.7 billion for the nine months ended November 1, 2002." The Company also

' 118


stated the following about its reported gross margin figure, "Gross margin as a percentage of net

'i at 18.2° during the third quarter of fiscal 2004 as compared the thirdrevenue remained /o g qquarterp q

of fiscal 2003. Gross margin was 18.2% for the nine months ended October 31, 2003 and 17.8%

during the same period last year. The year-over-year improvement for the nine months ended

October 31, 2003 was primarily driven by Dell's cost savings initiatives."




' used "accounting adjustments ... to compensate for earnings shortfalls that could not be closed








g P

300. The Q3 2004 10-Q stated the following about Dell's financial statements'

adherence to GAAP:

The accompanyingunaudited condensed consolidated financial statements of DellInc. ("Dell") should be read in conjunction with the consolidated financialstatements and notes thereto filed with the U.S. Securities and ExchangeCommission (the "SEC") in Dell's Annual Report on Form 10-K for the fiscalyear ended January 31, 2003. The accompanying unaudited condensed

' consolidated financial statements have been prepared in accordance withaccounting principles generally accepted in the United States of America("GAAP"). In the opinion of management, the accompanying condensed

'

consolidated financial statements reflect all adjustments of a normal recurringnature considered necessary to present fairly the financial position of Dell and its

' 119


consolidated subsidiaries as of October 31, 2003 and January 31, 2003; the results' of their operations for the three and nine months ended October 31, 2003 and

November 1, 2002; and cash flows for the nine months ended October 31, 2003and November 1, 2002.

301. Defendants knew, or recklessly disregarded, that Dell's statements concerning

Dell's adherence to GAAP were false and misleading when made because, as described above,

Dell failed to adhere to its stated revenue recognition policies and used "accounting adjustments

... to compensate for earnings shortfalls that could not be closed through operational means."

Moreover, Dell's restatement admits that the Company did not follow GAAP when reporting its

financial results during the Class Period.

302. The Q3 2004 10-Q contained the following false and misleading information


N07E 5 —AGGREGATE PRODUCT WARRANTY LIABIUTY

' Chmiges is Bell's ,, Y egate pwduct warranty liability for the nine months ended October 31, 2.003 are pxesentedinthe followingtable:

MW biaatt0Ft

(letoher3t, I8A'3

ku > HON)

Ag* at b ` t rrfper xl 109 k

Cost accrued for standard warranties and separately priced extended warrantyand service contract issued dudng the period 1,097

(bbliatt dduring,thep^iad 1 ( k

:'a gate haboty at end of period 51,530

' 303. Defendants knew, or recklessly disregarded, that warranty figures were misstated

because, as described above, Dell accelerated the recognition of at least some deferred revenue

from extended warranties and under-accrued costs associated with basic warranties in violation

of GAAP.

304. Dell also stated the following about the Company's controls:

1 The management of Dell, with the participation of Dell's Chief Executive Officerand Chief Financial Officer, has evaluated the effectiveness of Dell's disclosure

i 120


controls and procedures (as defined in Rule 13a-15(e) under the SecuritiesExchange Act of 1934) as of the end of the period covered by this Report. Basedon that evaluation, the Chief Executive Officer and Chief Financial Officer haveconcluded that Dell's disclosure controls and procedures are effective in enabling

' Dell to record, process, summarize, and report information required to be includedin Dell's periodic SEC filings within the required time period.

' In addition, the management of Dell, with the participation of Dell's ChiefExecutive Officer and Chief Financial Officer, has evaluated whether any changein Dell's internal control over financial reporting (as defined in Rule 13a-15(f)under the Securities Exchange Act of 1934) occurred during the period coveredby this Report. Based on that evaluation, Dell's Chief Executive Officer andChief Financial Officer have concluded that there has been no change in Dell'sinternal control over financial reporting during the period covered by this Reportthat has materially affected, or is reasonably likely to materially affect, Dell'sinternal control over financial reporting.

t 305. The Defendants knew, or recklessly disregarded, that the foregoing statements


the Company failed to maintain effective controls whichAs admitted by Dell m its restatement,p y hc

' led to, inter alia, Dell employees using accounting "adjustments" in order "to compensate for


' a failure b the Company to consistent) adhere to GAAP; a failure by the Company to employY p Y Y P Y p Y


requirements; and a failure by the Company to maintain effective controls over period-ending1 reporting.


Schneider stating:


2. Based on my knowledge, this report does not contain any untrue statement' of a material fact or omit to state a material fact necessary to make the statements

made, in light of the circumstances under which such statements were made, notmisleading with respect to the period covered by this report;

' 121


3. Based on my knowledge, the financial statements, and other financial' information included in this report, fairly present in all material respects the

financial condition, results of operations and cash flows of the registrant as of,and for, the periods presented in this report;

4. The registrant's other certifying officer(s) and I are responsible forestablishing and maintaining disclosure controls and procedures (as defined in

' Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have:

(a) Designed such disclosure controls and procedures, or caused suchdisclosure controls and procedures to be designed under our supervision,to ensure that material information relating to the registrant, including itsconsolidated subsidiaries, is made known to us by others within thoseentities, particularly during the period in which this report is being

' prepared;

(b) Evaluated the effectiveness of the registrant's disclosure controls' and procedures and presented in this report our conclusions about the

effectiveness of the disclosure controls and procedures, as of the end ofthe period covered by this report based on such evaluation; and

' (c) Disclosed in this report any change in the registrant's internalcontrol over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) that occurred during the registrant's most recent fiscalquarter that has materially affected, or is reasonably likely to materiallyaffect, the registrant's internal control over financial reporting.

' 5. The registrant's other certifying officer(s) and I have disclosed, based onour most recent evaluation of internal control over financial reporting, to theregistrant's auditors and the audit committee of registrant's board of directors (orpersons performing the equivalent functions):

(a) All significant deficiencies and material weaknesses in the design' or operation of internal control over financial reporting which are


(b) Any fraud, whether or not material, that involves management orother employees who have a significant role in the registrant's internal

' control over financial reporting.

307. Michael Dell and Schneider also filed certifications pursuant fo .l$ U.S.C. § 1350

' stating, "that (a) Dell's Quarterly Report on Form 10-Q for the quarter ended August 1, 2003, as

filed with the Securities and Exchange Commission (the "Report"), fully complies with the


' 122


l^


' of operations of Dell."

'






admitted that its control deficiencies led to: a failure by the Company to consistently adhere to

'



' effective controls over period-ending reporting. Additionally, Michael Dell and Schneider's



1



' statements are included in theeriods Dell now admits are inaccurate and should no lo nger bep g

relied upon.

H. Fourth Quarter (For The Quarter Ended January 30, 2004)

1. Fourth Quarter 2004 Earnings Release

309. On February 12, 2004, Dell issued an earnings release announcing its financial

results for the quarter ended January 30, 2004 (the "Q4 2004 Earnings Release"). The Q4 2004

' Earnings Release, which was filed with the SEC as an exhibit to Form 8-K, stated that "Dell's

fiscal fourth-quarter 2004 was its best operating period ever. The company achieved record

product shipments, revenue, operating and net income, and earnings per share. It also contained

' 123


the following false and misleading financial information relating to the Company's fourth quartert results:


Net Revenue 11,512Operating Income $981Net Income $749Earnings Per Share $.29Gross Margin $2,091Stockholders' Equity $6,280Total Liabilities $13,031

' 310. Defendant Rollins stated the following about Dell's performance for the quarter:

' "Dell is alone in simultaneously providing customers great value, growing faster than the

industry and earning a compelling profit for investors.... Doing that requires a high-quality,

low-cost business model and great discipline. We have both."

' 311. The Q4 2004 Earnings Release further stated:

Dell's profitability was up strongly from a year ago, both in absolute terms and asa percent of revenue. Fourth-quarter operating income was $981 million, or 8.5

' percent of revenue.

Mr. Rollins said Dell expects first-quarter fiscal-2005 product shipments to risep q p pmore than 20 percent, ahead of anticipated industry growth. The resultingcompany volume should produce quarterly revenue of $11.2 billion, up about 17percent from the prior year, and earnings per share of 28 cents, up 22 percent.





recognized revenue throughout the Class Period and used "accounting adjustments ... to


124



II 1 equity and total liabilities figures were also misstated. Moreover, as Dell has itself declared,

ourreviousl issued financial statements for Fiscal 2003, 2004, 2005, and 2006 (including theP Y ( g


' relied upon because of certain accounting errors and irregularities in those financial statements."

'

The foregoing statements are included in the periods Dell now admits are inaccurate and should

no longer be relied upon.


313. On February 12, 2004, Dell held a conference call to discuss fourth quarter FY


' stated: "Our fourth quarter results cap a year of impressive performance in a market where

competitors continued to operate without profits. In the quarter we posted profitable share gains

while making substantial progress against our strategic growth initiatives. Schneider further

stated: "What is certain is that our strategy to drive for profitable growth and extend further into

the enterprise has proven successful and is the correct strategy to drive long-term value."

314. Defendants knew, or recklessly disregarded, that the above statements concerningY g ^ g




' recognized revenue throughout the Class Period and used "accounting adjustments ... to




"our previously issued financial statements for Fiscal 2003, 2004, 2005, and 2006 (including the

125



certain accounting errors and irregularitiesretied upon because of ce g in those financial statements."


no longer be relied upon. Finally, the Defendants concealed that Dell's growth strategy

depended on continuing the fraudulent activity which led to the misstatement of its financialP g

reports.


315. On April 12, 2004, Dell filed its Form 10-K for the year ended January 30, 2004

("2004 10-K!'). The 2004 10-K, which was signed by, inter alia, Michael Dell and Schneider,

contained the following false and misleading financial information for the 2004 fiscal year:

1 In Millions of Dollars(except per share data)

Net Revenue $41,444Operating Income $3,544Net Income $2,645Earning per Share (diluted) $1.01Gross Margin $7,552Total Stockholder Equity $6,280Total Liabilities $13,031

1 falsely and misleadingly316. The 200410-K also g y stated:

Dell is the low-cost leader. Dell's highly efficient supply chain management andmanufacturing organization, efficient direct-to-customer model, and concentrationon standards-based technologies allow Dell to maintain the lowest cost structurein the industry and pass on those savings to its customers. Additionally, Dell'sfocus on cost control during fiscal 2004 resulted in the lowest operating expense(measured as a percent of net revenue) in Dell's history and the lowest among itsmajor competitors during the year. Dell's relentless focus on reducing its costsallows it to consistently provide customers with a superior value.

317. In discussing the Company's performance for the year, the 2004 10-K falsely and


During fiscal 2004, Dell reinforced its position as the world's No. 1 supplier ofpersonal computer systems as its performance continued to outpace the industry.

126


During the year, Dell maintained its focus on standards-based technologies andextending its capabilities further into the enterprise by utilizing its direct-to-customer model to drive down costs while achieving profitable market sharegrowth. Year-over-year net unit shipments increased 26% during fiscal 2004, ledby strong growth in Asia Pacific-Japan, U.S. Consumer, and Europe. Dellincreased its worldwide market share by almost 2 points during the calendar yearand captured the number one market share position at 16.7%. Net revenue

I!, increased 17% to $41.4 billion during fiscal 2004 with operating expensesreaching a record low 9.7% of net revenue. Dell's focus on maximizingoperating income dollars resulted in record operating profits and net income of$3.5 billion and $2.6 billion, respectively. Dell also delivered strong liquiditywith operating cash flow of $3.7 billion.

(emphasis added).

318. The 2004 10-K stated the following about Dell's reported revenue figures:

During fiscal 2004, Dell's strategy and execution translated to the No. 1worldwide market share position for the calendar year. Dell produced net revenueof $41.4 billion in fiscal 2004, compared to $35.4 billion in fiscal 2003, and $31.2t billion in fiscal 2002. The year-over-year increase in net revenue during fiscal2004 and 2003 was driven by strong unit growth across all regions and productlines. Dell's fiscal 2004 growth continued to exceed market growth asconsolidated net unit shipments increased 26% year-over-year while industrygrowth for the calendar year was only 9% (excluding Dell). During fiscal 2003,Dell produced net unit growth of 21%, while the industry declined 1% for thecalendar year (excluding Dell). Dell's strong unit growth during fiscal 2004 waspartially offset by lower average selling prices, which can be primarily attributedto the increased competitive pricing environment and moderate declines incomponent costs.

(emphasis added).

319. In commenting on Dell's reported gross margin, the 2004 10-K stated:

Gross margin as a percentage of net revenue continued to improve in fiscal 2004to 18.2%, compared to 17.9% in fiscal 2003 and 17.7% in fiscal 2002. The year-over-year improvement for fiscal 2004 and 2003 was primarily driven by Dell'scontinued cost savings initiatives. As part of management's focus on improvingmargins, Dell remains committed to reducing costs through four primary costreduction initiatives: manufacturing costs, warranty costs, structural or designcosts, and overhead or operating expenses. These cost savings initiatives alsoinclude providing certain customer technical support and back-office functionsfrom cost effective locations as well as driving more efficient processes and toolsglobally. Dell's general practice is to aggressively pass on declines in costs to itscustomers in order to add customer value while increasing market share. Dellcurrently expects the component cost and competitive pricing environment will

127


continue to be challenging. However, management believes that the strength ofDell's direct-to-customer business model, as well as its strong liquidity position,makes Deli better positioned than its competitors to continue profitable marketshare growth in any business climate.




throughout the Class Period and used "accounting adjustments ... to compensate for earni ngs^ g

' shortfalls that could not be closed through operational means." As a result of the Company's







relied upon.

321. The 2004 10-K also reassured investors that Dell's financial statements complied

with GAAP by falsely stating, "Dell prepares its financial statements in conformity with

generally accepted accounting principles in the United States of America (`GAAP')."

322. Defendants knew, or recklessly disregarded, that the Company's statements

concerning Dell's adherence to GAAP were false and misleading when made because, as

described above, Dell failed to adhere to its stated revenue recognition policies and used


through operational means." Moreover, Dell's restatement admits that the Company did not

financial results during the Class Period,follow GAAP when reporting itsz anc g e od.

128


323. The 2004 10-K also touted Dell's performance in Asia stating, "Dell's strongest

Pacific-Japansegment revenue growth rate during fisca12004 was in Asia p at 260 /o









325. In discussing Dell's revenue recognition policies, the 2004 10-K stated:

Revenue Recognition — Dell frequently enters into sales arrangements withcustomers that contain multiple elements or deliverables such as hardware,software, peripherals, and services. Judgments and estimates are critical toensure compliance with GAAP. These judgments relate to the allocation of theproceeds received from an arrangement to the multiple elements, thedetermination of whether any undelivered elements are essential to thefunctionality of the delivered elements, and the appropriate timing of revenue1 recognition. Dell offers extended warranty and service contracts to customersthat extend and/or enhance the technical support, parts, and labor coverageoffered as part of the base warranty included with the product. Revenue fromextended warranty and service contracts, for which Dell is obligated to perform,is recorded as deferred revenue and subsequently recognized over the term ofthe contract or when the service is completed. Revenue from sales of third-partyextended warranty and service contracts, for which Dell is not obligated toperform, is recognized on a net basis at the time of sale.

(emphasis added).

326. Dell continued its discussion of its revenue recognition practices, stating:

Revenue Recognition — Net revenue includes sales of hardware, software andperipherals, and services (including extended service contracts and professionalservices). These products and services are sold either separately or as part of amultiple-element arrangement. Dell allocates fees from multiple-elementarrangements to the elements based on the relative fair value of each element,

129


which is generally based on the relative list price of each element. For sales ofextended warranties with a separate contract price, Dell defers revenue equal tothe separately stated price. Revenue associated with undelivered elements isdeferred and recorded when delivery occurs. Product revenue is recognized, netof an allowance for estimated returns, when both title and risk of loss transfer tothe customer, provided that no significant obligations remain. Revenue fromextended warranty and service contracts, for which Dell is obligated to perform, isrecorded as deferred revenue and subsequently recognized over the term of thecontract or when the service is completed. Revenue from sales of third-partyextended warranty and service contracts, for which Dell is not obligated toperform, is recognized on a net basis at the time of sale. During fiscal 2004 Delladopted Emerging Issues Task Force ("EITF") Issue 00-21, Accounting forRevenue Arrangements with Multiple Deliverables. The consensus addresses notonly when and how an arrangement involving multiple deliverables should bedivided into separate units of accounting but also how the arrangement'sconsideration should be allocated among separate units. EITF 00-21 did not havea material impact on Dell's consolidated results of operations or financialposition.

Delp defers the cost of product revenue for in-transit shipments until the goods aredelivered and revenue is recognized. In-transit product shipments to customerstotaled $387 million and $423 million as of January 30, 2004 and January 31,2003, respectively, and are included in other current assets on Dell's consolidatedstatement of financial position.


concerning s revenue recognitionDell' practices were false and misleading when made because,

as described above, Dell failed to adhere to its stated revenue recognition policies and used



follow GAAP when reporting its financial results during the Class Period.

328. The 2004 10-K stated the following about Dell's policies in terms of accounting

for warranties:

Warranty — Dell records warranty liabilities at the time of sale for the estimatedcosts that may be incurred under its basic limited warranty. The specific warrantyterms and conditions vary depending upon the product sold and country in whichDell does business, but generally includes technical support, repair parts, labor,

rand a period ranging from 90 days to three years. Factors that affect Dell'swarranty liability include the number of installed units currently under

130


warranty, historical and anticipated rates of warranty claims on those units,and cost per claim to satisfy Dell's warranty obligation. The anticipated rate ofwarranty claims is the primary factor impacting Dell's estimated warrantyobligation. The other factors are relatively insignificant because the averageremaining aggregate warranty period of the covered installed base isapproximately 20 months, repair parts are generally already in stock or availableat pre-determined prices, and labor rates are generally arranged at pre-establishedamounts with service providers. Warranty claims are relatively predictable basedon historical experience of failure rates. Each quarter, Dell reevaluates itsestimates to assess the adequacy of its recorded warranty liabilities and adjusts theamounts as necessary.

(emphasis added).

329. The 2004 10-K also provides the following warranty-related information:

.tggreOe !)fared Revenue ard Warrann, LmhtW --- Revenue from attended warranty azrd service cordracis, for which Dell is obligated to perform, israwrded as deferred reverim and subsetlucraly recognized over the term of the coatract or when the service is completed. Dell rmordswarmntyliabiittiea atthe time of sale for the estimated costs that maybe incurred under Its basic hatted wmrar ty. Charges in Bell's a ,agate defarrtad revenua and warrantyliability (basic and extended warranties) are pnsetmxl in the folic wing table,

Fbktw Year ERMJarnwry34

"am 31,

gnALdafarr D revenue 1l^ b ofpaarlluam)

£l447warranty 1)ty, egmnhrg parledRavennarlefrxredacrd accruedfarcrawwa anties 2 542 2,137

Amortization ofdafervedrevenue (412) (674)

A ie te 'deferredFevenriandwarrad Fty'*ghdo`prrixt > S tld2

aaaa^ aaaa^

Coacnt portirru 1,363 S.1#343lrratn prution 16I'. r;9

Aggregate deferred revenue and warranty liability at end ofpfflod $ 2,694 S 2,1142

aaa^ aa^

j330. Defendants knew, or recklessly disregarded, that these statements were false and

Imisleading when made because, as described above, Dell accelerated the recognition of at least

tisome deferred revenue from extended warranties and under-accrued costs associated with basic


331. In commenting on Dell's controls, the 2004 10-K stated:

The management of Dell, with the participation of Dell's Chief Executive Officerand Chief Financial Officer, has evaluated the effectiveness of Dell's disclosurecontrols and procedures (as defined in Rule 13a-15(e) under the SecuritiesExchange Act of 1934) as of the end of the period covered by this Report. Basedon that evaluation, the Chief Executive Officer and Chief Financial Officer haveconcluded that DeII's disclosure controls and procedures are effective in enablingDell to record, process, summarize, and report information required to be included

131


in Dell's periodic SEC filings within the required time period.

In addition, the management of Dell, with the participation of Dell's ChiefExecutive Officer and Chief Financial Officer, has evaluated whether any changein Dell's internal control over financial reporting (as defined in Rule 13a-15(f)under the Securities Exchange Act of 1934) occurred during Dell's fourth fiscalquarter. Based on that evaluation, Dell's Chief Executive Officer and ChiefFinancial Officer have concluded that there has been no change in Dell's internalcontrol over financial reporting during the fourth fiscal quarter that has materiallyaffected, or is reasonably likely to materially affect, Dell's internal control overfinancial reporting.


rregarding Dell's controls were materially false and misleading when made. As admitted by Dell


employees using accounting adjustments in order to compensate for operational shortfalls.



j appropriate accountin knowledge given the complexity of Dell's reporting requirements; and ag g g P Y P g q




I. I have reviewed this Annual Report on Form 10-K of Dell Inc.;



4. The registrant's other certifying officer(s) and I are responsible forestablishing and maintaining disclosure controls and procedures (as defined inExchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have:

132


(a) Designed such disclosure controls and procedures, or caused suchLdisclosure controls and procedures to be designed under our supervision,

to ensure that material information relating to the registrant, including itsconsolidated subsidiaries, is made known to us by others within thoseentities, particularly during the period in which this report is beingprepared;

i

(b) Evaluated the effectiveness of the registrant's disclosure controlsand procedures and presented in this report our conclusions about theeffectiveness of the disclosure controls and procedures, as of the end ofthe period covered by this report based on such evaluation; and

(c) Disclosed in this report any change in the registrant's internalcontrol over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) that occurred during the registrant's fourth fiscalquarter that has materially affected, or is reasonably likely to materiallyaffect, the registrant's internal control over financial reporting.

' officer(s)er I5. The registrant's other certifying o c (s) and have disclosed, based onour most recent evaluation of internal control over financial reporting, to theregistrant's auditors and the audit committee of registrant's board of directors (orpersons performing the equivalent functions):

(a) All significant deficiencies and material weaknesses in the designor operation of internal control over financial reporting which arereasonably likely to adversely affect the registrant's ability to record,process, summarize and report financial information; and

(b) Any fraud, whether or not material, that involves management orother employees who have. a significant role in the registrant's internalcontrol over financial reporting.


Schneider pursuant to 18 U.S.C. §1350 which certified that. (a) Dells Annual Report on Form

10-K for the fiscal year ended January 30, 2004, as filed with the Securities and Exchange

Commission (the `Report'), fully complies with the requirements of Section 13(a) of the

Securities Exchange Act of 1934 and (b) information contained in the Report fairly presents, in

all material respects, the financial condition and results of operations of Dell."



133




' "adjustments" in order "to compensate for operational shortfalls." In its restatement, Dell also




effective controls over period-ending reporting. Additionally, Michael Dell and Schneider's






rrelied upon.

336. The 2004 10-K also included a signed "clean audit" opinion from PwC which

stated:

the consolidated financial statements listed in the accompanyingIn our opinion,index present fairly, in all material respects, the financial position of Dell Inc. andits subsidiaries at January 30, 2004 and January 31, 2003, and the results of theiroperations and their cash flows for each of the three fiscal years in the periodended January 30, 2004, in conformity with accounting principles generallyaccepted in the United States of America. In addition, in our opinion, thefinancial statement schedule listed in the accompanying index, presents fairly, inall material respects, the information set forth therein when read in conjunctionwith the related consolidated financial statements. These financial statements andfinancial statement schedule are the responsibility of Dell's management; ourresponsibility is to express an opinion on these financial statements and financialstatement schedule based on our audits. We conducted our audits of thesestatements in accordance with auditing standards generally accepted in theUnited States of America, which require that we plan and perform the audit toobtain reasonable assurance about whether the financial statements are free ofmaterial misstatement. An audit includes examining, on a test basis, evidence

134


supporting the amounts and disclosures in the financial statements, assessing theaccounting principles used and significant estimates made by management, andevaluating the overall financial statement presentation. We believe that our auditsprovide a reasonable basis for our opinion.

(emphasis added).


materially false and misleading. As evidenced by Dell's restatement, the financial reports


' as cautioned by Dell, "should no longer be relied upon because of certain accounting errors and

irregularities in those financial statements." Moreover, as explained infra at Section X, PwC's

audit of Dell failed to comply with GARS.

I. First Quarter 2005 (For The Quarter Ended April 30, 2004)

1. First Quarter 2005 Earnings Release


for the quarter ended April 30, 2004 (the "Q1 2005 Earnings Release"). The Q1 2005 Earnings

Release, which was filed as an exhibit to Form 8-K, contained the following false and misleading

financial information relating to the Company's first quarter results:


Net Revenue $11,540Operating Income $966Net Income $731Gross Margin $2,073Stockholders' Equity $6,105Total Liabilities $13,604

339. In touting the Company's results and its ability to meet guidance estimates quarter

after quarter, the Q1 2005 Earnings Release stated:

JEJxceeded its own robust worldwide growth expectations while achievingrecord revenue during fiscal first-quarter 2005.

t135


Product shipments for the period ended April 30 were up 25 percent from thesame quarter a year ago; volumes for the rest of the industry increased 14 percent.Dell growth was 38 percent in Asia-Pacific and Japan, where the company's shareranked No. 2 for the first time. Shipments in Europe, the Middle East and Africaincreased 37 percent.

First-quarter company revenue was up 21 percent to $11.5 billion, higher thanDell's previous guidance. The company has now met or exceeded guidance toinvestors for 13 straight quarters. Net earnings were $731 million, or 28 centsper share, 22 percent higher than a year ago. Dell's growth in both productshipments and net income has surpassed 20 percent for seven consecutivequarters.

(emphasis added).

340. The Q 1 2005 Earnings Release also included the following statements from

Defendant Rollins: "In our industry, only Dell simultaneously creates great customer value, rapid

growth and solid profitability.... Others sometimes do one or two of those things. Our global

team and our shareholders insist on all three.i

341. The Q1 2005 Earnings Release further reported that, "First-quarter operatingi

income was $966 million, up 19 percent from a year ago despite higher-than-expected costs for

random-access memory date in the quarter. Operating expenses as a percent of revenue were 9.6

percent, matching a company low and better than 9.8 percent last year."


operating income, net income and gross margin figures were misstated because, as admitted byi





iMoreover, as Dell has itself declared, "our previously issued financial statements for Fiscal 2003,


136



foregoingirregularitiesties those financial statements." The statement s are includedc uded m the periods

Dell now admits are inaccurate and should no longer be relied upon. Moreover, the Company

was only able to meet guidance figures because it manipulated its reported figures as described

herein.

343. In discussing Dell's operations in Japan, the Q12005 Earnings Release stated:

Dell server volumes in Asia-Pacific and Japan increased 33 percent, almost twicethe average of other companies. Dell Japan ranked No. 1 in shipments ofstandards-based servers for the first time.

Dell again scored highly in a major Japanese customer-satisfaction survey,ranking first in after-sale service among personal-computer companies for thefourth straight year in research conducted by a leading business publication.


Dell's operations in Japan were materially false and misleading and/or omitted materialp p Y g

information about. Dell's use of fictitious transactions with its Japanese business. As admitted in


of the Japan services business involving the systems integrator likely were fabricated, as werep g Y



' fictitious transactions."

2. First Quarter 2005 Earnings Call

345. On May 27, 2004, Dell held a conference call to discuss first quarter FY 2005

earnings ("Q1 2005 Earnings Call'). On the Q1 2005 Earnings Call, Defendant Schneider

stated: "During Q1, we continued to execute on our strategic growth initiatives. We delivered

' 137


profitable balanced growth in each of our businesses, despite a challenging competitive and

component cost environment.

' 346. Schneider further stated: "Despite this cost pressure, we stayed true to our

strategy of optimizing growth and profitability. We intensified our focus on unit revenue growth

to offset the impact of these cost increases, and delivered on our EPS target. With 11.5 billion in

' revenues, we delivered 28 cents in earnings per share. An increase of 22% year-over-year."

347. Additionally, Defendant Rollins stated:

I want to briefly touch on our strategy in the current environment and revisit howDell growth initiatives support our goal to drive strategic and profitable growth innew and existing profit pools. Q1 was another impressive quarter for Dell. Weagain hit our financial targets representing the 13th consecutive quarter ofdelivering on our guidance to investors. Over the last seven quarters, our units ofnet income have grown by over 20% year-over-year.

348. Rollins further stated:

' In closing, the Dell model has proven itself advantaged in any environment, evenversus the competitors that subsidized their business model. It provides us theflexibility to drive for market share while still achieving profitability targets. Inthe enterprise, we continue to tap into the accelerating growth with additionalsolutions such as those announced with Oracle, SAP and EMC.

349. At the same time, Rollins also stated: `By effectively balancing share growth and

profitability, Dell is continuing to balance our growth opportunities such as enterprise products,

enhanced services and printers while also ramping our business rapidly outside of the U.S."




margin figures. As admitted by Dell's restatement, the Company improperly recognized revenue



138



t figures were also misstated. Moreover, as Dell has itself declared "our previously issuedgur ^ p Y





relied upon. Finally, the Defendants concealed that Dell's growth strategy depended on

continuing the fraudulent activity which led to the misstatement of its financial reports.

3. The 2005 Proxy



The Board of Directors believes that adherence to sound corporate governance' policies and practices is important in ensuring that Dell is governed and managed

with the highest standards of responsibility, ethics and integrity and in the bestinterests of its stockholders. The Board maintains a set of Corporate Governance

' Principles, which provide an effective corporate governance framework for Dell,intending to reflect a set of core values that provide the foundation for Dell'sgovernance and management systems and its interactions with others.

' 352. Also, in a statement opposing a shareholder proposal, Dell stated "Management of

Dell is committed to the highest standards of corporate governance and fully supports all efforts

to provide investors with the highest degree of integrity, quality and transparency in financial

' reporting and disclosures."


Dell's purported adherence to sound corporate governance policies and practices were false and

misleading when made because, rather than operating the Company in the best interest of

stockholders, Dell manipulated its accounting to compensate for earning shortfalls as described

above. Moreover, these accounting manipulations were carried out by Dell to hide the true state

139


of the Company from investors and so the Company's "quarterly performance adjustments could

be met."

4. First Quarter 200510-Q

354. On June 9, 2004, Dell filed its 10-Q for the quarter ended April 30, 2004 ("Ql

2005 10-Q"). The Q1 2005 10-Q repeated the following false and misleading information from

Dell's Q 12005 Earrings Report:


Net Revenue $11,540Operating Income $966

' Net Income $731Gross Margin $2,073Total Stockholders' Equity $6,105Total Liabilities $13,604

355. In discussing Dell's net revenue figures, the Ql 2005 10-Q falsely and


Net revenue was a record $11.5 billion for the first quarter of fiscal 2005, anincrease of $2.0 billion or 21% from the same quarter last year. The year-over-year increase was led by strong net unit growth across all regions and productlines.

1 Dell's year-over-year net unit growth continued to outpace the market withconsolidated net unit shipments increasing 25% during the first quarter while theindustry increased only 17% for the calendar quarter.... Despite the continuedcompetitive pricing environment, Dell has outperformed the market byt executing on its strategy of gaining profitable market share. Dell continues toexecute on its international growth strategy with revenue outside the U.S.increasing to 40% of consolidated net revenue during three months ended April30, 2004, compared to 38% during the same quarter last year.

(emphasis added).

'

356. The Q1 2005 10-Q stated the following about Dell's reported gross margin

figures:

140


Gross margin as a percentage of net revenue was 18.0% during the first quarter oftfiscal 2005, as compared to 18.3% during the first quarter of fiscal 2004. The

year-over-year decline was primarily due to the continued competitive pricingenvironment and short-term increases in certain component costs during the

' quarter.



'




' practices, its reported stockholders' equity and total liabilities figures were also misstated.




irregularities in those financial statements. The foregoing statements are included in the periods

' Dell now admits are inaccurate and should no longer be relied upon.

358. Dell's Ql 2005 10-Q reassured investors that its financial reports adhered to

' GAAP by stating:

' The accompanying unaudited condensed consolidated financial statements of DellInc. ("Dell") should be read in conjunction with the consolidated financialstatements and notes thereto filed with the U.S. Securities and ExchangeCommission (the "SEC") in Dell's Annual Report on Form 10-K for the fiscalyear ended January 30, 2004. The accompanying unaudited condensedconsolidated financial statements have been prepared in accordance withgenerally accepted accounting principles in the United States of America("GAAP"). In the opinion of management, the accompanying condensedconsolidated financial statements reflect all adjustments of a normal recurringnature considered necessary to present fairly the financial position of Dell and its

' consolidated subsidiaries as of April 30, 2004 and January 30, 2004 and theresults of its operations and cash flows for the three months ended April 30, 2004and May 2, 2003.

' 141



' concerning ell's adherence to GAAP were false and misleading when made becauseg g , as

'



' through operational means." Moreover, Dell's restatement admits that the Company did not

' follow GAAP when reporting its financial results during the Class Period.

360. In terms of its Asia/Japan operations, Dell stated`.

'

Asia Pacific-Japan — Dell generated year-over-year market share gains ofapproximately 1.6 share points to 8.3% market share for the calendar quarter and

' the No. 2 share position in Asia Pacific-Japan. Dell shipped one million units forthe first time in any fiscal quarter with net unit growth of 38% in a market thatincreased only 15% for the calendar quarter. Net revenue growth during the threemonths ended April 30, 2004 was broad-based and increased year-over-year by31%. This increase included combined year-over-year net revenue growth of26% in the focus countries of Japan and China during the first quarter.

' 361. Defendants also knew, or recklessly disregarded, that the above statements


' material information about Dell's use of fictitious transactions with its Japanese business. As

'



' fabricated as were certain additional smaller transactions involving wo other Japanese systemsg P Y

'



362. The QI 2005 10-Q contained the following false and misleading information

' concerning warranties:

' 142


' NOTES—AGGREGATE DEFFIMI)REVENUIt AND WARRANTY LIABILITY

Dell records warranty liabilities at the time of sate for the estimated costs that may be incurred under its basic 1 merited warranty. Revenue from extendedwarranty and scrvice contract, for which Dellis obligated w perfomr, is recorded as deferred revenue and subsequently recoguixed over the term of thecontract or when the service is completed. Changes in DeWs a Wie deferred revemre and warmly Nobility we prated in the foll©wmg table:

Apaa 30, llap 2„

Agiggiti itakrlravoa'vtur"MbditY> atbe^erod ^r- -:' $2)D42Revenue, deferred and cats accrued for nose warreutrea f"S3 till .

u imred tZ7$) ' (am)Amortization of defertedrevenue (288) (201)

atedefanedreveaiue ' arrdwarraripiiabitity, aterndrsiprtiod , ..:- ,.> S 8i4 $2,210

'



'




' The management of Dell, with the participation of Dell's Chief Executive Officerand Chief Financial Officer, has evaluated the effectiveness of Dell's disclosurecontrols and procedures (as defined in Rule 13a-15(e) under the Securities

' Exchange Act of 1934) as of the end of the period covered by this Report. Basedon that evaluation, the Chief Executive Officer and Chief Financial Officer haveconcluded that Dell's disclosure controls and procedures are effective in enabling

'

Dell to record, process, summarize, and report information required to be includedin Dell's periodic SEC filings within the required time period.

' In addition, the management of Dell, with the participation of Dell's ChiefExecutive Officer and Chief Financial Officer, has evaluated whether any changein Dell's internal control over financial reporting (as defined in Rule 13a-15(0

' under the Securities Exchange Act of 1934) occurred during the period coveredby this Report. Based on that evaluation, Dell's Chief Executive Officer andChief Financial Officer have concluded that there has been no change in Dell'sinternal control over financial reporting during the period covered by this Report

'

that has materially affected, or is reasonably likely to materially affect, Dell'sinternal control over financial reporting.

1



b Dell in its restatement the CompanyAs admittedy p y failed to maintain effective controls which

' 143



operational shortfalls. In its restatement, Dell also admitted that its control deficiencies led to:

a failure by the Company to consistently adhere to GAAP; a failure by the Company to employ


requirements; and a failure b the Company to maintain effective controls over period-ending9 ^ Y P

reporting.

366. The Q1 2005 I O-Q also included signed certifications from Michael Dell and

Schneider stating:

' 1. I have reviewed this Quarterly Report on Form 10-Q of Dell Inc.;


3. Based on my knowledge, the financial statements, and other financialinformation included in this report, fairly present in all material respects thefinancial condition, results of operations and cash flows of the registrant as of,

' and for, the periods presented in this report;

4. The registrant's other certifying officer(s) and I are responsible for' establishing and maintaining disclosure controls and procedures (as defined in

Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have:


' (b) Evaluated the effectiveness of the registrant's disclosure controlsand procedures and presented in this report our conclusions about theeffectiveness of the disclosure controls and procedures, as of the end ofthe period covered by this report based on such evaluation; and

(c) Disclosed in this report any change in the registrant's internalcontrol over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) that occurred during the registrant's most recent fiscal

' 144


quarter that has materially affected, or is reasonably likely to materiallyaffect, the registrant's internal control over financial reporting.

5. The registrant's other certifying officer(s) and I have disclosed, based on' our most recent evaluation of internal control over financial reporting, to the

registrant's auditors and the audit committee of registrant's board of directors (orpersons performing the equivalent functions):


(b) Any fraud, whether or not material, that involves management orother employees who have a significant role in the registrant's internalcontrol over financial reporting

367. Michael Dell and Schneider also filed certifications pursuant to 18 U.S.C. §1350,

"that (a) Dell's Quarterly Report on Form 10-Q for the quarter ended April 30, 2004, as filed

' with the Securities and "Exchange Commission the "Report"), full compliesg ( P )^ Y lies with theP



of operations of Dell."




maintain effective controls which led to, inter a/ia, Dell employees using accounting




given the complexity of Dells reporting requirements; and a failure by the Company to maintain

effective controls over period-ending reporting. Additionally, Michael Dell and Schneider's

145






statements are included in theeriods Dell now admits are inaccurate and should no longer be

p g

relied upon.

I Rollins Touts Dell's Growth

369. On August 12, 2004, Rollins was quoted in a story carried by the Dow Jones

Newswire in which he stated, "We've seen very good growth."

370. Rollins knew, or recklessly disregarded, that Dell's growth was based on

misstated figures which, inter alia, improperly recognized revenue throughout the Class Period

and used "accounting adjustments ... to compensate for earnings shortfalls that could not be

closed through operational means." As a result of the Company's fraudulent revenue recognition



2004 2005 and 2006includin the interim periods within those ears and the first quarter of

2006(including p years), q


irregularities in those financial statements."

K. Second Quarter 2005 (For The Quarter Ended July 30, 2004)



results for the quarter ended July 30, 2004 (the "Q2 2005 Earnings Release"). The Q2 2005

Earnings Release, which was filed with the SEC as an exhibit to Form 8-K, contained the

146


following false and misleading financial information relating to the Company's second quarter

results:


Net Revenue $11,706Operating Income $1,006Net Income $799Earnings Per Share $0.31Gross Margin $2,134Stockholders' Equity $6,207Total Liabilities $13,725

372. Commenting n Dells reported figures, the 2 2005 Earnings Release stated:g ' P ^' Q g

[Dell] showed its unique ability to both grow rapidly in key markets and achievestrong profitability again in the company's fiscal second-quarter 2005, whichended July 30. Dell revenue was $11.7 billion, a company record and 20 percenthigher than in the same quarter a year ago. Sales in Europe, the Middle East andAfrica and in Asia-Pacific and Japan rose 30 and 29 percent, respectively.Combined revenue for enterprise systems, including servers and storage systems,accounted for 22 percent of overall sales, matching a company high.

Earnings per share were 31 cents, 29 percent higher and also a Dell record.Results were consistent with revised company guidance in mid-July, whichincluded an increase in earnings expectations.

373. The Q2 2005 Earnings Release also included the following statements from

Defendant Rollins touting s performance:erformance:

We start with the marketplace advantage of a more efficient, more customer-focused way of doing business. . . . And our global team is consistentlydisciplined in applying that business model.... Like our shareholders, ourexpectation is for volume and share growth along with solid profitability. Thoseobjectives aren't mutually exclusive.

(emphasis added)

374. Rollins also predicted that Dell's success would continue into the third quarter.

As stated in the Q2 2005 Earnings Release, "According to Mr. Rollins, Dell's third-quarter

product shipments should be 21 percent higher than in the same year-ago period. Such growth is

147


expected to produce quarterly revenue of about $12.5 billion, up 18 percent, and earnings per

share of 33 cents, a 27-percent increase.

I375. Defendants knew, or recklessly disregarded, that Dell's reported net revenue,


because as admitted b Dell's restatement, the Company improperlyreco ized revenueY p Y ^









relied upon.


concerning Dells operations in Japan were materially false and misleading and/or omitted



transactions of the Japan services business involving the systems integrator likelyp g Y 1^ Y were




148



377. On August 12 2004 Dell held a conference call to discuss second quarter FYgu , q


stated: "[W]e posted record revenue with double-digit growth across all products, segments, and

regions, coupled with enhanced overall rofitabili Quarterly operating income was in excessg , P profitability. Q Y P g

of $1 billion, a company record. We delivered improved margin sequentially by focusing on

profitable growth in key products and geographies."

378. Further, in the Q2 Earnings Call, Defendant Rollins stated: "Dell again

demonstrated consistency of execution as we hit our guidance to investors for the 14th

consecutive quarter. Our strategy of driving profitable share growth is working exceptionally

well and we continue to outperform the market."

379. Rollins further stated: "Rather than chasing market share indiscriminately at the

cost of margins we drove our business in those products, customer segments, and geographies

where we could do so profitably, particularly in the enterprise."

380. Schneider further stated:

[W]hen we saw a lot of business that didn't look profitable for us we didn't goafter it and focused on the places where we thought we could do the best. I thinkin this quarter, when component costs go down — again, this is the great thingabout it, because if you look at that time last couple of quarters it's the worstcomponent cost environment that we've had in a long time. And this is wherepeople talk about how maybe Dell can't achieve its targets in that kind ofenvironment, and we clearly not only hit our targets, but beat them. And I thinkwhat's happening on the third quarter we're seeing it get back closer ... maybe a.5% a week of cost declines, and we perform a lot better in that environment. Sothen we look to maybe take a little bit more share and try to balance passing thosecosts through to our customers. But also trying to retain a little bit so we can getthat operating income percentage up.

(emphasis added).

149


381. Rollins also commented:

[I]f you follow the consumer PC business for years after years, there's companiesthat come in, they drop price, they grow rapidly, they may gain share, and thenthey go out of business in about 2 years. So we've decided that's not a long-termsustainable and desirable strategy. So we're going to be focused very carefully onprofitable business, and if it becomes a nonprofitable segment we'll shift ourfocus into those segments, and grow faster than the ones that are profitable.

382. During the Q2 2005 Earnings Call, Defendant Michael Dell stated: "[I]f you look

over the last 7 or 8 years desktops have kind of continued to shrink as we've added more and

more product lines. But the desktop business itself at Dell continues to be very healthy in terms

of revenue growth, profit growth, it's a great, healthy business."

383. Rollins added that: "We're going to stay aggressive with all of our pricing. The

typical Dell effect moves into category after category, that's kind of what we try to do is bring

greater value to customers. That's just the way we operate, and you can assume that will

continue."





recognized revenue throughout the Class Period and used "accounting adjustnwnts ... to






trelied upon because of certain accounting errors and irregularities in those financial statements."

150



no longer be relied upon. Finally, the Defendants concealed that Dells growth strategy

depended on continuing the fraudulent activity which led to the misstatement of its financial

reports.

3.

Rollins States that Dell's Performance Will Be in Line with Wall StreetEstimates

385. On August 13, 2004, Business and Finance Daily News Service reported that:

' Kevin Rollins, Dell's chief executive officer, said he expects Dell to post a third-quarter profit of 33 cents a share on USD12.5bn in revenue, in line with WallStreet analysts' current forecasts. It was Dell's first quarterly report underRollins, who took over the CEO post from founder Michael Dell on July 16.Speaking on a conference call with reporters, Rollins emphasised [sic] how Dellcan seemingly buck the trend that has seen many tech companies post weakresults and give cautious forecasts in recent weeks. Rollins said Dell's globalproduct shipments rose 19pc from the same quarter a year ago, while servershipments grew 31pc. Notebook computers were also a major growth area, asDell said shipments rose 28pc from a year earlier.

386. Defendant Rollins knew, or recklessly disregarded, that the above statements

concerning Dell's financial results and performance were false and misleading when made

because Dell's reported results were based on misstated net revenue, operating income, net

income, g per earnings share and figures. As admitted by Dell's restatement, thegross marging n ^'

Company improperly recognized revenue throughout the Class Period and used "accounting

adjustments . . . to compensate for earnings shortfalls that could not be closed through

operational means." As a result of the Company's fraudulent revenue recognition practices, its

reported stockholders' equity and total liabilities figures were also misstated. Moreover, as Dell

has itself declared, "our previously issued financial statements for Fiscal 2003, 2004, 2005, and

2006 (including the interim periods within those years), and the first quarter of Fiscal 2007,

should no longer be relied upon because of certain accounting errors and irregularities in those

financial statements. The foregoing statements are included in the periods Dell now admits are

151


inaccurate and should no longer be relied upon. Moreover, Rollins knew or was reckless in not

knowing that the Company was only able to meet guidance figures because it manipulated its

reported figures as described herein. Finally, Rollins concealed that Dell's growth strategy

depended on continuing the fraudulent activity which led to the misstatement of its financial

reports.


387. On September 7, 2004, Dell filed its Form 10-Q for the quarter ended July 30,


information from the Company's Q2 2005 Earnings Release:


Net Revenue $11,706Operating Income $1,006Net Income $799Earning Per Share (Diluted) $31Gross Margin $2,134Total Stockholders' Equity $6,207

r Total Liabilities $13,725

388. The Q2 2005 10-Q also stated:

oNet revenue increased 20% year-over-year to a record $11.7 billion and operatingexpenses remained at a record low 9.6% of net revenue. During the second

tquarter, Dell achieved quarterly operating income that exceeded $1.0 billion forthe first time, as Dell continues to focus on growth in its most profitable products,regions, and customer segments. During the six months ended July 30, 2004, Dell

j

delivered strong liquidity with cash flows from operations of $1.7 billion andended the quarter with cash, cash equivalents, and investments of $11.8 billion.

Dell's low-cost structure and efficient direct-to-customer model have enabled thecompany to consistently achieve year-over-year market share growth whilemaximizing operating profitability.

(emphasis added).

152


389. The Q2 2005 10-Q commented on reported revenue as follows:i Net revenue was a record $11.7 billion for the second quarter of fiscal 2005, anincrease of $1.9 billion or 20% from the same quarter last year. Net revenueincreased to $23.2 billion for the six months ended July 30, 2004, from $19.3billion for the six months ended August 1, 2003. The year-over-year increase wasled by strong net unit growth across all regions and product lines. Dell's net unitgrowth continued to outpace the market with consolidated net unit shipmentsincreasing 19% year-over-year while the industry increased only 15% for thecalendar quarter. During the quarter, Dell continued to optimize its financial

' results with a disciplined focus on profitable growth as Dell's average revenueper-unit sold remained relatively constant year-over-year.

390. In terms of Dell's performance in Japan, the Q2 2005 10-Q stated:

Asia Pacific-Japan — Dell generated year-over-year personal computer marketshare gains in Asia Pacific-Japan of approximately 1.1 share points to 8.5%market share for the calendar quarter and the No. 2 share position. Net unitshipments grew 28% year-over-year during the second quarter, in a market thatincreased only 15% for the calendar quarter. Year-over-year net revenue growthduring the three and six months ended July 30, 2004 was 29% and 30%,respectively. This increase included combined year-aver-year net revenue growthin the focus countries of China and Japan of 21% and 23% during the three andsix months ended July 30, 2004, respectively.


operating income net income earnings per share and gross margin figures were misstatedp g g p ^' g Sin'






ifinancial statements for Fiscal 2003, 2004, 2005, and 2006 (including the interim periods within

those years), and the first quarter of Fiscal 2007, should no longer be relied upon because oficertain accounting errors and irregularities in those financial statements." The foregoing

153



relied upon.

392. The Q2 2005 10-Q stated the following about Dell's adherence to GAAP:

The accompanying unaudited condensed consolidated financial statements of DellInc. ("Dell") should be read in conjunction with the consolidated financialstatements and notes thereto filed with the U.S. Securities and ExchangeCommission (the "SEC") in Dell's Annual Report on Form 10-K for the fiscalyear ended January 30, 2004. The accompanying unaudited condensedconsolidated financial statements have been prepared in accordance withgenerally accepted accounting principles in the United States of America("GAAP"). In the opinion of management, the accompanying condensedconsolidated financial statements reflect all adjustments of a normal recurringnature considered necessary to present fairly the financial position of Dell and itsconsolidated subsidiaries as of July 30, 2004 and January 30, 2004 and the resultsof its operations for the three and six months ended July 30, 2004 and August 1,2003, and cash flows for the six months ended July 30, 2004 and August 1, 2003.







394. The Q2 2005 10-Q also included the following warranty-related information:

NOTE S— AGGREGATE DEFERRED REVENUE AND WARRANTY LIABILITY

Dell meends warranty liabilities at the time of sale for the estimated casts that may be incurred under its basic Itunted warranty. Revenue from emendedwarranty and service contracts„ for which Dell is oblipted to perform. is recorded as deferred revenue and subsequently recogghind overthe term ortheconttad or when the service is completed. Glwges in Dell's aggregate deferred revenue and warranty liability are presented in the following table:

Sh Mooft Ended

A X3

On edlgmas)

ak efurad ream midvrarranlyliabillty $2, MRevenue deferred and casts accrued for now watr noes 1,48(1 1,221,Se> ,tmkltlrsns Ilonored " (35 1464), .Amortisation of dsfertad revenue (585) (419)

AaEpjats deftred revenue and warranty liability, stead ofpetiod $302 32, 11

100000 000001

154



recognitionmisleading when made because, as described above, Dell accelerated the ecogn on of at least

( some deferred revenue from extended warranties and under-accrued costs associated with basic


' 396. Dell also stated the following about the Company's controls:

1 The management of Dell, with the participation of Dell's Chief Executive Officerand Chief Financial Officer, has evaluated the effectiveness of Dell's disclosurecontrols and procedures (as defined in Rule 13a-15(e) under the Securities

' Exchange Act of 1934) as of the end of the period covered by this Report. Basedon that evaluation, the Chief Executive Officer and Chief Financial Officer haveconcluded that Dell's disclosure controls and procedures are effective in enablingDell to record, process, summarize, and report information required to be includedin Dell's periodic SEC filings within the required time period.

In addition, the management of Dell, with the participation of Dell's ChiefExecutive Officer and Chief Financial Officer, has evaluated whether any changein Dell's internal control over financial reporting (as defined in Rule 13a-15(ounder the Securities Exchange Act of 1934) occurred during the period coveredby this Report. Based on that evaluation, Dell's Chief Executive Officer andChief Financial Officer have concluded that there has been no change in Dell'sinternal control over financial reporting during the period covered by this Reportthat has materially affected, or is reasonably likely to materially affect, Dell'sinternal control over financial reporting.








requirements; and a failure by the Company to maintain effective controls over period-ending

' reporting.

t155


395. The Q2 2005 10-Q also included signed certifications from Defendants Rollins

and Schneider stating:



3. Based on my knowledge, the financial statements, and other financialinformation included in this report, fairly present in all material respects the

'

financial condition, results of operations and cash flows of the registrant as of,and for, the periods presented in this report;

4. The registrant's other certifying officer(s) and I are responsible forestablishing and maintaining disclosure controls and procedures (as defined inExchange Act Rules 13a-I5(e) and 15d-15(e)) for the registrant and have:1 (a) Designed such disclosure controls and procedures, or caused such

disclosure controls and procedures to be designed under our supervision,to ensure that material information relating to the registrant, including itsconsolidated subsidiaries, is made known to us by others within thoseentities, particularly during the period in which this report is beingprepared;

(b) Evaluated the effectiveness of the registrant's disclosure controlsand procedures and presented in this report our conclusions about theeffectiveness of the disclosure controls and procedures, as of the end ofthe period covered by this report based on such evaluation; and

(c) Disclosed in this report any change in the registrant's internalcontrol over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) that occurred during the registrant's most recent fiscalquarter that has materially affected, or is reasonably likely to materially

' affect, the registrant's internal control over financial reporting.

5. The registrant's other certifying officer(s) and I have disclosed, based onour most recent evaluation of internal control over financial reporting, to theregistrant's auditors and the audit committee of registrant's board of directors (orpersons performing the equivalent functions):


'


! 156


(b) Any fraud, whether or not material, that involves management orrother employees who have a significant role in the registrant's internal

control over financial reporting.

399. Rollins and Schneider also filed certifications pursuant to 18 U.S.C. §1350, "that

(a) Dell's Quarterly Report on Form 10-Q for the quarter ended July 30, 2004, as filed with the

Securities and Exchange Commission (the "Report"), fully complies with the requirements of

Section 13(a) of the Securities Exchange Act of 1934 and (b) information contained in the

Report fairly presents, in all material respects, the financial condition and results of operations of

Dell."

400. Rollins and Schneider knew, or recklessly disregarded, that the statements




adjustments in order to compensate for operational shortfalls. In its restatement, Dell also



given the complexity of Dell's rep orting requirements; and a failure b the Company^ P tY P g q ^ Y P Y to maintain

effective controls over period-ending reporting. Additionally, Rollins and Schneider's Section

1350 certifications were false because Dell has itself declared, "our previously issued financial

' statements for Fiscal 2003, 2004, 2005, and 2006 (including the interim periods within those

years), and the first quarter of Fiscal 2007, should no longer be relied upon because of certain

accounting errors and irregularities in those financial statements." The foregoing statements are

' included in the periods Dell now admits are inaccurate and should no longer be relied upon.

t157


L. Third Quarter 2005 (For The Quarter Ended October 29, 2004)

Quarter 2005 Earnings1. Third Q s Releaseu g

401. On November 11, 2004 Dell issued an earnings release announcing its financial

results for the quarter ended October 29, 2004 (the "Q3 2005 Earnings Release"). The Q3 2005

' Earnings Release, which was also filed as an exhibit to Form 8-K, contained the following false

and misleading financial information relating to the Company's third quarter results:


Net Revenue $12,502Operating Income $1,095Net Income $846Gross Margin $2,313Stockholders' Equity $5,880Total Liabilities $15,174

402. Furthermore, in the Q3 2005 Earnings Release, Defendant Rollins falsely and

misleadingly stated: "The record quarter is testament to the company's superb team executing a

better business model.... An improving component cost environment further favors Dell, with

customers and shareholders the primary beneficiaries.... Dells disciplined focus on profitable

growth around the world and across businesses continues to differentiate us in the market.

We've been doing that for years."

403. Dell also stated:

' According * to Mr. Rollins, Dell's fourth-quarter product shipments should beabout 20 percent higher than in the same year-ago period. Such growth isexpected to produce quarterly revenue of about $13.5 billion, up 17 percent, and

' earnings per share of 36 cents, a 24-percent increase.

In the third quarter, Dell's operating profit improved to 8.8 percent of revenue, thecompany's highest rate in four years. The company generated a record $1.8billion in cash from operations, and total cash and investments rose to $12.4billion.

158



'inc me net income and gross margin figures were misstated because as admitted boperating income, gr gm gur y



through operationalerational means." As a result of the Company's fraudulent revenue recognition



2004, 2005, and 2006uincldin the interim periods within those years), and the first quarter of2006(including




405. In commenting on its results in Japan, the Q3 2005 Earnings Release stated, "In

Asia-Pacific and Japan (APJ), company-shipment growth of 25 percent was nearly three times

the rate of the market excluding Dell. Revenue from enterprise systems, including servers and

storage, increased 27 percent."

406. Defendants also knew, or recklessly disregarded,arded that the above statements







' the effect of the fictitious transactions."

159



407. On November 11 2004 Dell held a conference call to discuss third quarter FY, q

' 2005 earnings ("Q3 2005 Earnings Call"). A transcript of the Q3 2005 Earnings Call, which was

attended by Michael Dell, Rollins, and Schneider, was attached as an exhibit to a Form 8-K filed

' by the Company.

' 408. During the Q3 2005 Earnings Call, Defendant Schneider stated:

We're extremely pleased with our overall performance and the team's executionduring the third quarter. We leveraged the unique strengths of our model todeliver enhanced profitability and record performances across our business. Letme list a few.

' Product shipments, revenue, operating and net income, EPS, cash flow fromoperations, share repurchase, and total cash and investments were all Companyrecords. And we established an industry record with 8 million units shipped in a1 quarter, increasing our number 1 worldwide systems market share by 1.2 pointsyear-over-year to 18.1 percent.

Turning to our financials, we had industry leading performances across the board.' We delivered EPS of 33 cents, an increase of 27% year over year on $12.5 billion

in revenues and unit growth of 22%. Our operating margins grew to 8.8%, up 20basis points sequentially and 40 basis points since the first quarter. We drove thisenhanced profitability while making investments to support our anticipatedgrowth and improve our customer support capabilities.

'oIn Asia Pacific and Japan we delivered strong results as units grew 25% year-over-year, almost 3 times faster than the rest of the market with similar revenue

' growth. Our market share expanded by over 1 point year-over-year and we arenow less than 1.5 points from the regional leader.

Turning to Dell, we're forecasting revenues of $13.5 billion, up 8 percentsequentially and 17 percent year-over-year. Units should be up about 13 percentsequentially and approximately 20 percent versus last year.

160


409. Defendant Rollins followed Schneider, stating:

For the 15th consecutive quarter we met or beat our guidance to investors. Weremain committed to our strategy of profitable growth, balancing revenue andmarket share gains with enhanced profitability regardless of the environment. Asa result Dell's operating profits and earnings per share again grew faster thanrevenue with our operating margin at its highest level in 4 years.

With the third quarter run rate of 50 billion, we're now almost a full year ahead ofour $60 billion objective.

410. During the Q&A portion of the call, Rollins responded to a question about Dell's

' goal to achieve $60 billion in revenue by stating:

[t]he comment was in general as we've looked at our original 5-year, doubles the' size of the Company, it would have suggested that we would have hit

approximately a $60 billion number a couple of years out.

I think you can see now with the numbers for this year and the guidance we'vegiving for Q4, we're getting a lot closer to even a $50 billion number this year,which suggests we're going to get a lot closer to 60 in the coming year than wehad thought 3 years ago.

Our trajectory in growth revenue has been in the 18 to 20 percent range on and offJ rY ^' P gthroughout this year quarter-to-quarter. We don't see any reason to believe thatthe trajectory of our growth rate is going to slow or change a lot. In fact, thecomponent environment has gotten more favorable for us this quarter, and wethink for Q4 as well. So given that, our confidence in hitting some pretty goodnumbers is increasing.

411. Also, responding to a question about Dell's ability to meet expectations, Rollins

stated, "we're trying to hit numbers by putting up good, solid guidance and then meet that

guidance. And if we can do that with slightly improved profitability with our goal of getting to

the 9% to 10% op[erating] inc[ome] range, that's what we're going to do."

412. In ending the call, Rollins stated:

Our third quarter again demonstrated the ability of Dell's model to utilize' visibility throughout the value chain to optimize overall growth and profitability.

These structural advantages allowed us to drive improved profitability combinedwith unit and revenue growth during the quarter.

161


Going forward we will continue to innovate and grow in key areas of our business1 between the enterprise, international, and printing. This disciplined focus ongrowth combined with our differentiated business model will deliver bothsuperior value for customers and returns on capital for our shareholders.





'



' Moreover, as Dell has itself declared, "our previously issued financial statements for Fiscal 2003,




Deli now admits are inaccurate and should no longer be relied upon.

414. Schneider knew, or recklessly disregarded, that the above statements concerning




' of the Japan services business involving the systems integrator likely were fabricated, 'as were



'

fictitious transactions." Finally, the Defendants concealed that Dell's growth strategy depended

on continuing the fraudulent activity which led to the misstatement of its financial reports.

i

162



' 415. On December 1 2004 Dell filed its Form 10- for the quarter ended October 29Q q ,

'


financial information set forth in the Company's Q3 2005 Earnings Release:


Net Revenue $12,502Operating Income $1,095Net Income $846

' Gross Margin $2,313Total Stockholders' Equity $5,880Total Liabilities $15,174

416. The Q3 2005 10-Q also stated:

' During the quarter, Dell's net revenue grew 18% year-over-year to a record $12.5billion, increasing the company's worldwide PC market share by 1.1 points to18.0% for the calendar quarter. Dell maximized its operating profitability with

' operating income increasing 20% year-over-year to a record $1.1 billion. Dell'sgross profit margin of 18.5% and operating margin of 8.8% reached the highestlevels in four years. During the nine months ended October 29, 2004, Delldelivered strong liquidity with cash flows from operations of $3.5 billion and

'

ended the quarter with record cash, cash equivalents, and investments of $12.4billion.

417. The Q3 2005 10-Q stated the following about Dell's reported net revenue:

During the third quarter of fiscal 2005, Dell's net unit growth continued to' outpace the market with consolidated net unit shipments increasing 22% year-

over-year while the total industry increased only 13% for the calendar quarter.Net revenue reached a record $12.5 billion for the third quarter of fiscal 2005, anincrease of $1.9 billion or 18% from the same quarter last year. Net revenueincreased to $35.7 billion for the nine months ended October 29, 2004, from$29.9 billion for the nine months ended October 31, 2003. The consolidated year-over-year net unit and revenue increase was led by strong growth across allregions and product lines, particularly in the European region and Dell's notebookproduct group.

418. The Q3 2005 10-Q stated the following about Dell's reported gross margins:

Gross margin as a percentage of net revenue increased to 18.5% during the third' quarter of fiscal 2005, compared to 18.2% during the third quarter of fiscal 2004.

Gross margin was 18.2% for the nine months ended October 29, 2004, consistent

163


with the same period last year. During the third quarter of fiscal 2005,tmanagement utilized component cost declines to achieve profitable market share

growth as the cost environment improved.







'






420. As for Dell's operations in Japan, the Q3 2005 10-Q stated:

Dell generated year-over-year personal computer market share gains in Asia' Pacific-Japan of approximately 1.0 share point to 8.1% market share for the

calendar quarter and the No. 3 share position. Net unit shipments grew 25% and30% year-over-year during the three and nine months ended October 29, 2004,

' respectively, in a market that increased only 11 % for the calendar quarter. Year-over-year net revenue growth during the three and nine months ended October 29,2004 was 24% and 28% respectively. This increase included combined year-

' over-year net revenue growth in the focus countries of China and Japan of 19%and 22% during the three and nine months ended October 29, 2004, respectively.

'


Dell's- operations in Japan were materially false and misleading and/or omitted material

' information about Dell's use of fictitious transactions with its Japanese business. As admitted in

'



164




f fictitious transactions."


' The accompanyingunaudited condensed consolidated financial statements of DellInc. ("Dell") should be read in conjunction with the consolidated financial

' statements and notes thereto filed with the U.S. Securities and ExchangeCommission ("SEC") in Dell's Annual Report on Form 10-K for the fiscal yearended January 30, 2004. The accompanying unaudited condensed consolidated

' financial statements have been prepared in accordance with accounting principlesgenerally accepted in the United States of America ("GAAP"). In the opinion ofmanagement, the accompanying unaudited condensed consolidated financialt statements reflect all adjustments of a normal recurring nature considerednecessary to present fairly the financial position of Dell and its consolidatedsubsidiaries as of October 29, 2004 and January 30, 2004; and the results of its

' operations for the three and nine months ended October 29, 2004 and October 31,2003,


concerning Dells adherence to GAAP were false and misleading when made because, as



through operational means." Moreover Dell's restatement admits that the Company did notgh p p Y


165


424. The Q3 2005 10-Q further stated:

No7'E 5—AMnGATE AEl F_PUD REVENUE AND WARRANTY I:IABILI'rti

' Dell records warranty liabilities at the tine of sale forthe estimated coats that maybe incurred under its basic limited warranty. Revenue from extendedwarrar8y aml aerY7G2 contracts, for wbich Dellis obligated tot perfom4 is recd riled as deferred revenue and nubsequirtly re rogrrized oveT the teTM ofthec^ntraCt ar when the service is completed. As cf October 29.2004, the current and non—cumafportioms of deferred revenue each totaled $1.3 bilhou, and

are recomded in other crarent and rmn cunent liabilities on Dell's condensed consolidated statement of francial position. Changes in Bell's aggregatedeferred revenue and warranty liability are presented in the following table:

' Nine Nbift IhWed

Oata1>ee29, oet8lea3t,

2M Zou

.' r tl t+,T dreY tld'a'illi Arran }tabllit^y tlNE^3110tn s9F^dr d S^694 32,{14ReVenue deferred and costs accrued for new warrantors 2,420 1,,896tl^talrllgatiotahtxtorett -- ^) (fZ6) _, ,;Amortizatiun of deferred revenue (946) (658)

Aggiiiie dekrred ehve amt warraity liability, atemt ofp d'



'




The management of Dell, with the participation of Dell's Chief Executive Officerand Chief Financial Officer, has evaluated the effectiveness of Dell's disclosurecontrols and procedures (as defined in Rule 13a-15(e) under the Securities

' Exchange Act of 1934) as of the end of the period eovered by this report. Basedon that evaluation, the Chief Executive Officer and Chief Financial Officer haveconcluded that Dell's disclosure controls and procedures are effective in enabling

'

Dell to record, process, summarize, and report information required to be includedin Dell's periodic SEC filings within the required time period.

' In addition, the management of Dell, with the participation of Dell's ChiefExecutive Officer and Chief Financial Officer, has evaluated whether any changein Dell's internal control over financial reporting (as defined in Rule 13a-15(0

' under the Securities Exchange Act of 1934) occurred during the period coveredby this report. Based on that evaluation, Dell's Chief Executive Officer and ChiefFinancial Officer have concluded that there has been no change in Dell's internalcontrol over financial reporting during the period covered by this report that hasmaterially affected, or is reasonably likely to materially affect, Dell's internalcontrol over financial reporting.

166



regarding the effectiveness of Delis controls were materially false and misleading when made.

' As admitted by Dell in its restatement, the Company failed to maintain effective controls which



' a failure by the Company to consistently adhere to GAAP; a failure by the Company to employ



reporting.

428. The Q3 2005 10-Q also included signed certifications from Rollins and Schneider

stating:



' 3. Based on my knowledge, the financial statements, and other financialinformation included in this report, fairly present in all material respects thefinancial condition, results of operations and cash flows of the registrant as of,and for, the periods presented in this report;

4. The registrant's other certifying officer(s) and I are responsible for'

establishing and maintaining disclosure controls and procedures (as defined inExchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have:

(a) Designed such disclosure controls and procedures, or caused suchdisclosure controls and procedures to be designed under our supervision,to ensure that material information relating to the registrant, including itsconsolidated subsidiaries, is made known to us by others within those

'

entities, particularly during the period in which this report is beingprepared;

'

(b) Evaluated the effectiveness of the registrant's disclosure controlsand procedures and presented in this report our conclusions about the

167


effectiveness of the disclosure controls and procedures, as of the end of' the period covered by this report based on such evaluation; and

(c) Disclosed in this report any change in the registrant's internal' control over financial reporting (as defined in Exchange Act Rules 13a-

15(f) and 15d-15(f)) that occurred during the registrant's most recent fiscalquarter that has materially affected, or is reasonably likely to materially

' affect, the registrant's internal control over financial reporting.

5. The registrant's other certifying officer(s) and I have disclosed, based on' our most recent evaluation of internal control over financial reporting, to the

registrant's auditors and the audit committee of registrant's board of directors (orpersons performing the equivalent functions):

t (a) All significant deficiencies and material weaknesses in the designor operation of internal control over financial reporting which arereasonably likely to adversely affect the registrant's ability to record,

' process, summarize and report financial information; and

(b) Any fraud, whether or not material, that involves management or'

other employees who have a significant role in the registrant's internalcontrol over financial reporting.

' 429. Rollins and Schneider also filed certifications pursuant to 18 U.S.C. §1350, "that

(a) Dell's Quarterly Report on Form 10-Q for the quarter ended October 29, 2004, as filed with

the Securities and Exchange Commission, full complies with the requirements of Section 13g Y aP q ()

' of the Securities Exchange Act of 1934 and (b) information contained in the report fairly

presents, in all material respects, the financial condition and results of operations of Dell."

' 430. Rollins and Schneider knew, or recklessly disregarded, that the statements



tmaintain effective controls which led to, inter alia, Dell employees using accounting


' admitted that its control deficiencies led to: a failure b the Company to consistent) adhere toY p Y Y

' GAAP; a failure by the Company to employ persons with appropriate accounting knowledge

168


' given the complexity of Dell's reporting requirements; and a failure by the Company to maintain


' 1350 certifications were false because Dell has itself declared, "our previously issued financial

statements for Fiscal 2003, 2004, 2005, and 2006 (including the interim periods within those

'and the first quarter of Fiscal 2007 should no longer be relied uyears), q ^ on because of certaing P

'


included in the periods Dell now admits are inaccurate and should no longer be relied upon.

' M. Fourth Quarter 2005 (For The Quarter Ended Jan 28, 2005)

' 1. Fourth Quarter 2005 Earnings Release


' results for the quarter and full year ended January 28, 2005 (the "Q4 2005 Earnings Release").

The Q4 2005 Earnings Release, which was also filed as an exhibit to Form 8-K, contained the

following false and misleading financial information relating to the Company's fourth quarter

results:


Net Revenue $13,457Operating Income $1,187

' Pro Forma Net Income $947Net Income $667Pro Forma Earnings Per Share $37Earnings Per Share $.26Gross Margin $2,495

Stockholders' Equity $6,485' Total Liabilities $16,730

(tax change footnote omitted)

432. The Q4 2005 Earnings Release also announced the following as Dell's results for

the 2005 fiscal year:

169



Net Revenue $49,205Operating Income $4,254

' Pro Forma Net Income $3,323Net Income $3,043Pro Forma Earnings Per Share $1.29

' Earnings Per Share (Diluted) $1.18Gross Margin

$9,015 (tax change footnote omitted)

' 4 The 4 2005 Earnings Release stated the following about Dell's reported results:33. Q g g p

Strong growth throughout Dell's diversified range of products and services in thefiscal fourth-quarter 2005 led to the company's best ever operating period. Thecompany achieved quarterly records for revenue, unit shipments, operatingincome and cash flow from operations.

Sales increased 22 percent in Europe, the Middle East and Africa, and 21 percentin Asia-Pacific and Japan. Worldwide revenue growth from servers and storagesystems accelerated from the last quarter, increasing 20 percent year-over-year.In the United States, sales to business customers grew 19 percent year-over-year.

'

Revenue for the quarter ended Jan. 28 was $13.5 billion, up 17 percent from ayear ago. Pro-forma fourth-quarter net earnings were 37 cents per share, 28

' percent higher than last year. That exceeded Dell's guidance by one cent, ascontinued strong profit growth in markets outside the United States reduced thecompany's operating tax rate.

Dell's fourth-quarter reported earnings were $667 million, or 26 cents per share.

434. The Q4 2005 Earnings Release also included the following comments from

Defendant Rollins:

' "The quarter represents continued record performance by our team around- theworld.... No one has higher expectations for Dell over time than we do, andwe're constantly driving for excellence on behalf of customers and shareholders."

' Mr. Rollins said the company expects Dell first-quarter fiscal-2006 productshipments to increase 21 percent. The resulting company volumes shouldproduce quarterly revenue of about $13.4 billion, up 16 percent from the prioryear, and earnings per share of about 37 cents, up 32 percent.

In the fourth quarter, Dell's operating margins improved to 8.8 percent, up from8.5 percent a year ago. The company generated $1.8 billion in cash flow fromoperations, and total cash and investments at quarter-end was $14.1 billion, a

170


company record.

'knew or recklessly disregarded, that Dell's reported net revenue435. Defendants y g ep ,

'



' throughout the Class Period and used "accounting adjustments ... to compensate for earni ngs^ g




' financial statements for Fiscal 2003, 2004, 2005, and 2006 (including the interim periods within


' certain accounting errors and irregularities in those financial statements." The foregoing

'


relied upon.

' 436. In terms of Dell's performance in Japan, the Q4 2005 Earnings Release stated:

In Asia-Pacific and Japan, total Dell shipments increased 27 percent — nearlytthree times the growth rate excluding Dell — highlighted by a 29-percent gain in

notebook computer volumes.

' Unit shipments for the full year increased 29 percent, while revenue was up 26percent.




' Dell's restatement, "[Dell's internal] investigation determined that almost all of the transactions


' certain additional smaller transactions involving two other Japanese systems integrators. The

' 171




' 2. Fourth Quarter 2005 Earnings Conference Call

438. On February 10, 2005, Dell held a conference call to discuss the Company's

fourth quarter FY 2005 earnings ("Q4 2005 Earnings Call"). On the Q4 2005 Earnings Call a

Dell representative misleadingly stated: "Since 2001 we have grown our worldwide and U.S.

share by over 40 percent to almost 18 percent and over 33 percent respectively. While

improving our operating margins by 130 basis points. In contrast, companies relying on

inefficient business models will continue to pursue profitless share gains through acquisitions or

intense competitive moves, a strategy proven to be unsustainable in our sector. While it is a

' struggle, Dell continues to grow profitably." (emphasis added).


Dell's growth were false and misleading when made because Dell's purported growth was based

on misstated net revenue, operating income, net income, earnings per share and gross margin

figures. As admitted by Dell's restatement, the Company improperly recognized revenue

'the Class Period and used "accounting adjustments ... to compensate for earningsthroughout g s) p g



'figures were also misstated. Moreover, as Dell has itself declared, "our previously issued




' statements are included in the periods Dell now admits are inaccurate and should no longer be

relied upon.

172



' 440. On March 8 2005 Dell filed its Form 10-K for theear ended January 28 2005Y ly ,

'

("2005 104C'). The 2005 10-K, which was signed by, inter alia, Michael Dell, Rollins, and

Schneider, contained the following false and misleading financial information for the 2005 fiscalt year:

'


Total Net Revenue $49,205' Total Operating Income $4,254

Net Income $3,043Earning per Share (diluted) $1.18

' Gross Margin $9,015Stockholder Equity $6,485Total Liabilities $16,730

' 441. Commenting on Dell's reported numbers, the 2005 10-K stated:

' During fiscal 2005, Dell maintained its position as the world's number onesupplier of personal computer systems with performance that continued tooutpace the industry.... Consolidated net revenue increased 19% to $49.2billion during fiscal 2005, with DeIl's strong international performance being a

' key driver of this growth even as the company expanded its number one positionin the U.S.... Dell's focus on balancing growth and profitability resulted inrecord operating and net income of $4.3 billion and $3.0 billion, respectively.

' Dell's objective is to maximize stockholder value while maintaining a balance ofthree key financial metrics: liquidity, profitability, and growth. Dell's strategycombines its direct business model with a highly efficient manufacturing andsupply chain management organization and an emphasis on standards-basedtechnologies. Dell's business model provides the company with a constant flowof information about trends in customers' plans and requirements.

'

442. The 2005 10-K reported the following with respect to Dell's reported net revenue

figures:

During fiscal 2005, Dell's strategy and execution extended the company's numberone worldwide position for the calendar year. Dell produced net revenue of $49.2billion in fiscal 2005, compared to $41.4 billion in fiscal 2004 and $35.4 billion infiscal 2003. The year-over-year increases in net revenue during both fiscal 2005

173


and 2004 were driven by strong unit growth across most regions and product' lines. Specifically, Dell's Europe and Asia Pacific-Japan segments produced

revenue growth in excess of 25% during fiscal 2005, while notebooks producedconsolidated revenue growth of 24%. During fiscal 2005, Dell's net unit growthcontinued to exceed industry growth as consolidated net unit shipments increased21% while total PC industry growth increased only 15% for the calendar year.During fiscal 2004, Dell produced net unit growth of 26%, while the total PC

' industry increased only 12% for the calendar year.

443. As for Dell's reported gross margin, the Company stated:

' Gross margin as a percentage of net revenue improved slightly to 18.3% duringfiscal 2005, compared to 18.2% fiscal 2004 and 17.9% in fiscal 2003. The year-over-year improvement during fiscal 2005 and 2004 was primarily driven by

' Dell's continued cost savings initiatives.

Management believes that the strength of Dells direct business model, as well asits strong liquidity position, makes Dell better positioned than its competitors tocontinue profitable growth in any business climate.



' because, as admitted by Dell's restatement, the Company improperly recognized revenue







' certain accounting rrors and irregularities in those financial statements." The foregoingg 1^ g g

'


relied upon.

174


445. Dell stated the following about its revenue recognition practices:

' Dell frequently enters into sales arrangements with customers that containq Y arran gmultiple elements or deliverables such as hardware, software, peripherals, andservices. Judgments and estimates are critical to ensure compliance with GAAP.These judgments relate to the allocation of the proceeds received from anarrangement to the multiple elements, the determination of whether any

' undelivered elements are essential to the functionality of the delivered elements,and the appropriate timing of revenue recognition. Dell offers extended warrantyand service contracts to customers that extend and/or enhance the technical

' support, parts, and labor coverage offered as part of the base warranty includedwith the product. Revenue from extended warranty and service contracts, forwhich Dell is obligated to perform, is recorded as deferred revenue and

' subsequently recognized over the term of the contract or when the service iscompleted. Revenue from sales of third-party extended warranty and servicecontracts, for which Dell is not obligated to perform, is recognized on a net basisat the time of sale.

Estimates that further impact revenue recognition relate primarily to customersales returns and allowance for doubtful accounts. Both estimates are relatively

' predictable based on historical experience. The primary factors affecting Dell'saccrual for estimated customer returns include estimated return rates as well as thenumber of units shipped that still have a right of return as of the balance sheet

' date. During recent fiscal years, customer returns as a percentage of revenueshave declined to approximately 1%. Factors affecting Dell's allowance fordoubtful accounts include historical and anticipated customer default rates of the

' various aging categories of accounts receivable. Each quarter, Dell reevaluates itsestimates to assess the adequacy of its recorded accruals for customer returns andallowance for doubtful accounts and adjusts the amounts as necessary.


' misleading when made because, as described above, Dell failed to adhere to its stated revenue


' that could not be closed through operational means."

447. As for Dell's performance in Japan, the 2005 10-K stated:

Asia Pacific-Japan — Dell's strong revenue growth in Asia Pacific-Japan of 26%during fiscal 2005 was supported by the company's strength and demand growthin China. During calendar 2004, Dell generated share gains in Asia Pacific-Japanof 1.1 percentage points to 8.3% share of personal computer sales, achieving thenumber three share position. During fiscal 2005, Dell's net unit growth was 29%,

'

in an industry with overall growth that increased only 13%. Dell's enterprisebusiness produced revenue growth of 23% and 32% during fiscal 2005 and 2004,

175


respectively.


' Dell's operations in Japan were materially false and misleading and/or omitted material



' of the Japan services business involving the systems integrator likely were fabricated, as were




449. The 2005 10-K also misleadingly stated:

' Warranty ---- Dell records warranty liabilities at the time of sale for the estimatedcosts that may be incurred under its basic limited warranty. The specific warrantyterms and conditions vary depending upon the product sold and country in which1 Dell does business, but generally includes technical support, repair parts, labor,and a period ranging from 90 days to three years. Factors that affect Dell'swarranty liability include the number of installed units currently under warranty,historical and anticipated rates of warranty claims on those units, and cost perclaim to satisfy Dell's warranty obligation. The anticipated rate of warrantyclaims is the primary factor impacting Dell's estimated warranty obligation. The

' other factors are relatively insignificant because the average remaining aggregatewarranty period of the covered installed base is approximately 20 months, repairparts are generally already in stock or available at pre-determined prices, andlabor rates are generally arranged at pre-established amounts with serviceproviders. Warranty claims are relatively predictable based on historicalexperience of failure rates. Each quarter, Dell reevaluates its estimates to assess

'

the adequacy of its recorded warranty liabilities and adjusts the amounts asnecessary.

450. Defendants knew, or recklessly disregarded, that this statement was false and1misleading when made because, as described above, Dell used the warranty and accrual process

to manage Dell's reported financial performance.

451. The 2005 10-K contains the following false and misleading information


' 176


Fiscal Year Ended

January 28, January 30,2005 2004

to mNllcrnsdamn e s wd liability at m#Rf ! a tiO N 2 ^.

1 avenueferred a(tti orals accnd for new warrentres 3, 93a 247_ ^, . .,an y 03 ^

Amortization of deferred revenue (1:359) (912)

tr:d8fetted revenuentyt#aFtiily at :e#"rttf ' $ ,:. '. 5,

Current portion $ 1<8 3. . $ 1.,333-"3 .Aggregate deferred revenue and warranty liability at end of period $ 359d 5 2,69

' 452. Defendants knew, or recklessly disregarded, that these statements were false and




453. In commenting on Dell's controls, the 2005 10-K stated:

' Dell's Chief Executive Officer and Chief Financial Officer, after evaluating theeffectiveness of Dell's disclosure controls and procedures (as defined in Rule 13a-15(e) or 15d-15(e) under the Exchange Act) as of the end of the period covered bythis report, have concluded that, based on the evaluation of these controls andprocedures, Dell's disclosure controls and procedures were effective.

' Management's Report on Internal Control Over Financial Reporting — Dell'smanagement, under the supervision of Dell's Chief Executive Officer and ChiefFinancial Officer, is responsible for establishing and maintaining adequate

' internal control over financial reporting (as defined in Rule 13a-15(0 or 15d-15(0under the Exchange Act). Management evaluated the effectiveness of Dell'sinternal control over financial reporting based on the framework in InternalControl — Integrated Framework issued by the Committee of SponsoringOrganizations of the Treadway Commission. Based on that evaluation,management has concluded that Dell's internal control over financial reporting

' was effective as of January 28, 2005.

Management's assessment of the effectiveness of Dell's internal control overfinancial reporting as of January 28, 2005, has been audited byPricewaterhouseCoopers LLP, an independent registered public accounting firm,as stated in their Report of Independent Registered Public Accounting Firmincluded in "Item 8 — Financial Statements and Supplementary Data."


' regarding Dell's controls was materially false and misleading when made. As admitted by Dell

' 177



' employees usin accounting "adjustments" in order "to compensate for operational shortfalls."g g J P P





455. The 2005 10-K also included signed certifications from Rollins and Schneider

rwhich stated:

' 1. I have reviewed this Annual Report on Form 10-K of Dell Inc.;


' 3. Based on my knowledge, the financial statements, and other financialinformation included in this report, fairly present in all material respects thefinancial condition, results of operations and cash flows of the registrant as of,

' and for, the periods presented in this report;

4. The registrant's other certifying officer(s) and I are responsible forestablishing and maintaining disclosure controls and procedures (as defined inExchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financialreporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(o) for theregistrant and have:


(b) Designed such internal control over financial reporting, or caused' such internal control over financial reporting to be designed under our

supervision, to provide reasonable assurance regarding the reliability offinancial reporting and the preparation of financial statements for external

' purposes in accordance with generally accepted accounting principles;

' 178


(c) Evaluated the effectiveness of the registrant's disclosure controls' and procedures and presented in this report our conclusions about the

effectiveness of the disclosure controls and procedures, as of the end ofthe period covered by this report based on such evaluation; and

'

(d) Disclosed in this report any change in the registrant's internalcontrol over financial reporting that occurred during the registrant's most

' recent fiscal quarter (the registrant's fourth fiscal quarter in the case of anannual report) that has materially affected, or is reasonably likely tomaterially affect, the registrant's internal control over financial reporting.

5. The registrant's other certifying officer(s) and I have disclosed, based onour most recent evaluation of internal control over financial reporting, to theregistrant's auditors and the audit committee of the registrant's board of directorst (or persons performing the equivalent functions):

(a) All significant deficiencies and material weaknesses in the design' or operation of internal control over financial reporting which are


'

(b) Any fraud, whether or not material, that involves management orother employees who have a significant role in the registrant's internal

' control over financial reporting.


' pursuant to 18 U.S.C. §1350 which certified: "that (a) Dell's Annual Report on Form 10-K for

the fiscal year ended January 28, 2005, as filed with the Securities and Exchange Commission,

fully complies with the requirements of Section 13(a) of the Securities Exchange Act of 1934

'

and (b) information contained in the report fairly presents, in all material respects, the financial

condition and results of operations of Dell."

457. Rollins and Schneider knew, or recklessly disregarded,y s egarded, that the foregoing

statement regarding the accuracy of the 2005 10-K and the effectiveness of Dell's controls, and

the statements in the Defendants' 18 U.S.C. §1350 certifications were materially false and



' 179



admitted that its control deficiencies led to: a failure b the Company to consistently adhere toY P Y Y

' GAAP; a failure by the Company to employ persons with appropriate accounting knowledge


' effective controls over period-ending reporting. Additionally, Rollins and Schneider's Section



' years), and the first quarter of Fiscal 2007, should no longer be relied upon because of certain

1 accounting errors and irregularities in those financial statements." The foregoing statements are


458. The 2005 10-K also included a "clean audit" opinion from PwC certifying that:

In our opinion, the consolidated financial statements listed in the accompanyingindex present fairly, in all material respects, the financial position of Dell Inc. andits subsidiaries at January 28, 2005 and January 30, 2004, and the results of theiroperations and their cash flows for each of the three years in the period endedJanuary 28, 2005 in conformity with accounting principles generally accepted inthe United States of America. In addition, in our opinion, the financial statementschedule listed in the accompanying index presents fairly, in all material respects,the information set forth therein when read in conjunction with the relatedconsolidated financial statements. . . . We conducted our audits of thesestatements in accordance with the standards of the Public Company AccountingOversight Board (United States). Those standards require that we plan andperform the audit to obtain reasonable assurance about whether the financialstatements are free of material misstatement. An audit of financial statements

' includes examining, on a test basis, evidence supporting the amounts anddisclosures in the financial statements, assessing the accounting principles usedand significant estimates made by management, and evaluating the overall

'

financial statement presentation. We believe that our audits provide a reasonablebasis for our opinion.

Internal Control Over Financial Reporting

Also, in our opinion, managements assessment, included in Management'sReport on Internal Control Over Financial Reporting appearing under Item 9A —

'

Controls and Procedures, that the company maintained effective internal controlover financial reporting as of January 28, 2005, based on criteria established in

' 180


Internal Control — Integrated Framework issued by the Committee of' Sponsoring Organizations of the Treadway Commission (COSO), is fairly stated,

in all material respects, based on those criteria. Furthermore, in our opinion, thecompany maintained, in all material respects, effective internal control over

' financial reporting as of January 28, 2005, based on criteria established in InternalControl — Integrated Framework issued by the COSO. The company'smanagement is responsible for maintaining effective internal control overfinancial reporting and for its assessment of the effectiveness of internal controlover financial reporting. Our responsibility is to express opinions onmanagement's assessment and on the effectiveness of the company's internalcontrol over financial reporting based on our audit. We conducted our audit ofinternal control over financial reporting in accordance with the standards of thePublic Company Accounting Oversight Board (United States). Those standards

' require that we plan and perform the audit to obtain reasonable assurance aboutwhether effective internal control over financial reporting was maintained in allmaterial respects. An audit of internal control over financial reporting includes1 obtaining an understanding of internal control over financial reporting, evaluatingmanagement's assessment, testing and evaluating the design and operatingeffectiveness of internal control, and performing such other procedures as weconsider necessary in the circumstances. We believe that our audit provides a

' reasonable basis for our opinions.


'l false and misleading. As evidenced b Dell's restatement the financialmaterially se g y reports

' covered by PwC's foregoing "clean audit" opinion were materially false, required restating and,


'irregularities in those financial statements." Moreover, as explained infra at Section X PwC's

' audit of Dell failed to comply with GAAS, and its certification of the effectiveness of Dell's

controls was false and misleading.

' 4. Schneider Reaffirms the Validity of Dell's Business Model

460. On March 3, 2005, Defendant Schneider was quoted in a story appearing in

BusinessWire in which he stated, "Our business is exceptionally efficient, and our cash flow

' from operations is consistently outstanding."

461. Schneider knew, or recklessly disregarded, that the above statements concerning

' the success of Dell's business model were based on misstated financial numbers. Specifically,p Y,

' 181


Dell's reported results were based on misstated net revenue, operating income, net income,

earnings per share and gross margin figures. As admitted b Dell's restatement the Companyg P 1^' 1^ ^ Y ^ P Y

' improperly recognized revenue throughout the Class Period and used "accounting adjustments . .

to compensate for earnings shortfalls that could not be closed through operational means." As a

' result of the Company's fraudulent revenue recognition practices, its reported stockholders'


"our previously issued financial statements for Fiscal 2003, 2004, 2005, and 2006 (including the

' interim periods within those years), and the first quarter of Fiscal 2007, should no longer be


N. First Quarter 2006 (For The Quarter Ended April 29, 2005)

' 1. First Quarter 2006 Earnings Release


' for theuarter ended Aril 29 2005 the 1 2006 Earni ngs "s Release . The 1 2006 Earningsq P ^ "( Q g ) Q g

Release, published as an exhibit to a Form 8-K, contained the following false and misleading

financial information relating to the Company's first quarter results:


' Net Revenue $13,386Operating Income $1,174Net Income $934

' Earnings Per Share (Diluted) $37Gross Margin $2,491Stockholders' Equity $5,624Total Liabilities $17,063

463. Commenting on the reported results, the Q 12006 Earnings Release stated:

Dell (NASDAQ:DELL) continued to grow significantly faster than the rest of theindustry in all global regions, customer segments and product categories during its

' fiscal first-quarter 2006, and did so with strong profitability. The company alsosaid it expects revenue growth to be higher in the second quarter.

' 182


Revenue growth outside of the United States and in strategic products and' services highlighted the first quarter. Sales outside the U.S. increased 21 percent

year-over-year and grew to 42 percent of the company's total revenue.Worldwide revenue from storage systems increased 49 percent and sales of

' mobility products grew 22 percent from a year ago.

For the quarter ended April 29, the company achieved total revenue of $13.4' billion, a 16-percent increase year-aver-year, and net earnings of 37 cents per

share, up 32 percent and a company record.


Defendant Rollins:

' Our greatest strength in the quarter was precisely in the products, services andregions in which we're most focused on growing.... Customers worldwide areincreasingly relying on us for their diversified information-technology

' requirements.

465. The Ql 2006 Earnings Release offered the following assessment of Dell's

' "Mr. Rollins said the company expects second-quarter fiscal 2006 to produceprospects: p y p q p ce a

trevenue increase of 16 to 18 percent, to $13.6 to $13.8 billion, and earnings per share of 37 to 39

cents."

' 4 The 1 2 06 Earnings Release further stat • '66. e Q 0 g ed. In the first quarter, Dell's

'

operating margin as a percent of revenue was 8.8 percent, up from 8.4 percent a year ago. The

company generated $1.2 billion in cash flow from operations."



because, as admitted by DelI's restatement, the Company improperly recognized revenue


shortfalls that could not be closed through operational means." As a result of the Company's1fraudulent revenue recognition practices, its reported stockholders

, equity and total liabilities

' figures were also misstated. Moreover, as Dell has itself declared, "our previously issued

' 183




certain accounting errors and irregularities in those financial statements." The foregoingI


relied upon.

468. Commenting on Dell's international operations, the Q1 2006 Earnings Release

stated:

Revenue in Europe, the Middle East and Africa (EMEA) and in Asia-Pacific andJapan (APJ) grew 20 percent and 19 percent, respectively.

In APJ, overall shipments of Dell products increased 27 percent from a year ago,' double the rest of the industry. Server volumes grew 38 percent, resulting in

revenue growth of 17 percent. Shipments of notebook computers increased 41percent, driving a 22-percent rise in revenue from mobility products. Storagerevenue grew 36 percent. Sales of software and peripheral products were up 52percent.

'



' information about Dell's use of fictitious transactions with its Japanese business. As admitted in

'






' 2. The 2006 Proxy


' Proxy"), which the Company stated:^ ), P Y

' 184


The Board of Directors believes that adherence to sound corporate governance' policies and practices is important in ensuring that Dell is governed and managed

with the highest standards of responsibility, ethics and integrity and in the bestinterests of its stockholders. The Board maintains a set of Corporate Governance

' Principles, which provide an effective corporate governance framework for Delland are intended to reflect a set of core values that provide the foundation forDell's governance and management systems and its interactions with others.

471. Also, in two statements opposing shareholder proposals, the Company stated,

' "Dell believes that adherence to sound corporate governance policies and practices is important

in ensuring that Dell is governed and managed with the highest standards of responsibility, ethics

' and integrity and in the best interests of its stockholders" and that "Dell's management fully

supports all efforts to provide investors with the highest degree of integrity, quality and

transparency in financial reporting and disclosures."

r472. Defendants knew, or recklessly disregarded, that the above statements, concerning

Dell's purported adherence to sound corporate governance policies and practices and Dell's

managements commitment to provide investors with the highest degree of integrity, quality and

'

transparency in financial reporting and disclosures, were false and misleading when made

because, rather than operating the Company in the best interest of stockholders, Dell manipulated

' its accounting P gto compensate for eamin shortfalls as described above. Moreover, these

accounting manipulations were carried out by Dell to hide the true state of the Company from

investors and so the Company's "quarterly performance adjustments could be met."


473. On May 12, 2005, Dell held a conference call to discuss first quarter FY 2006

earnings ("Q 12006 Earnings Call"). On the Q 12006 Earnings Call, a Dell representative stated:

' "Our results reaffirm the strength of the model and our ability to deliver balanced growth and

profitability across our customer segment, regions and product allowing us to continue to

outperform the industry.

' 185



' Dell's financial results anderformance were false and misleadi ng when made because Dell'sp g

'



'recognized revenue throughout the Class Period and used "accounting adjustments^ ^ g ... toJ

'



' equity and total liabilities figures were also misstated. Moreover, as Dell has itself declared,





no longer be relied upon.

' 4. First Quarter 200610-Q

475. On June 3, 2005, Dell filed its Form 10-Q for the quarter ended April 29, 2005

' (" Q1 2006 IO-Q"). The Ql 2006 10-Q repeated the false and misleading financial information

-^ set forth in the Company's Q1 2006 Earnings Release:


Revenue $13,386Operating Income $1,174Net Income $934Earnings Per Share (Diluted) $0.37Gross Margin $2,491Total Stockholders' Equity $5,624Total Liabilities $17,063

' 476.

' 186


' 477. The Q12006 10-Q also stated:

We grew revenue across all regions and product categories. Revenue reached$13.4 billion for the first quarter of fiscal 2006, an increase of $1.8 billion or 16%from the same quarter last year. We produced 21% year-over-year growth in ourinternational revenue. During the quarter, revenue outside the U.S. comprised42% of consolidated revenue compared to 40% for the same period last year.

478. The Q 12006 10-Q stated the following about Dell's reported gross margins:

Despite a competitive pricing environment, Dell's gross margin as a percentage ofrevenue increased to 18.6% during the first quarter of fiscal 2006, compared to

' 18.0% during the first quarter of fiscal 2005. Our year-over-year improvement ingross margin is due to favorable pricing on certain commodity components,higher revenue to leverage fixed production costs and a favorable shift in product

' mix.




'throughout the Class Period and used "account ing adjustments ... to compensate for earni ngs^ g J P g







statements are included in the periods Dell now admits are inaccurate and should no longer betrelied upon.

' 480. The Q12006 10-Q stated the following about Dell's adherence to GAAP:

The accompanying unaudited condensed consolidated financial statements of DellInc. ("Dell") should be read in conjunction with the consolidated financialstatements and notes thereto filed with the U.S. Securities and Exchange

187


Commission ("SEC") in Dell's Annual Report on Form 10-K for the fiscal year1 ended January 28, 2005. The accompanying unaudited condensed consolidatedfinancial statements have been prepared in accordance with accounting principlesgenerally accepted in the United States of America ("GAAP"). In the opinion ofmanagement, the accompanying unaudited condensed consolidated financialstatements reflect all adjustments of a normal recurring nature considerednecessary to present fairly the financial position of Dell and its consolidated

' subsidiaries as of April 29, 2005 and January 28, 2005.



' described above, Dell failed to adhere to its stated revenue recognition policies and used




482. As for Dell's operations in Japan, the Ql 2006 10-Q stated, "Asia Pacific-Japan

revenues increased 19% from a year ago. Over half of the segment's revenue growth came from

Japan and China."









188


484. The Q 12006 10-Q further stated:

' NOTE 3 —AGGREGATE DEFERRED REVENUE AND WARRANTY LIABILITYDeli records warranty liahilitles at the tune ofsale for the estimated costs tent rr^y be incw -red under Its basic limited warranty. Revere from extendedwarranty and service ¢^traeta, far which Dell Is obligated to pwlbrm, is recorded as deferred reveuae soil subsequently recogrrized r the terns of the

' contract or when the service is completed. Cbanges to De11's aggregate deferred revemte and warranty liability are presented in the fottowft table:

Three Manths Emded

Apr105 ,April3 0.S ltEti'

......#UmY^ and ararey ill t eFp^^ct r y f v^ # i ldkd r

Tic Yratue d2feuedanA^ « a Sm at w w mras 3 683

Atnottirttioa of deferratl tevernue 127 81

r TfaTlliyatarrlttfperirfdk ,Y , ... `3,i^ .,

485. Defendants knew, or recklessly disregarded,arded, that these statements were false and

' misleading when made because, as described above, Dell accelerated the recognition of at least




Dell's Chief Executive Officer and Chief Financial Officer, after evaluating theeffectiveness of Dell's disclosure controls and procedures (as defined in Rule 13a-15(e) or 15d-15(e) under the Exchange Act) as of the end of the period covered bythis report, have concluded that, based on the evaluation of these controls and

' procedures, Dell's disclosure controls and procedures were effective.




1 inter a is Dell employees usin accounting "adjustments" in order "to com pensateled to, i to 1 g g ^ o pensate for





reporting.

i189


488, The Ql 2006 10-Q also included signed certifications from Rollins and Schneider

stating:

1. 1 have reviewed this Quarterly Report on Form 10-Q of Dell Inc.;

2. Based on my knowledge, this report does not contain any untrue statement1 of a material fact or omit to state a material fact necessary to make the statements


' 3. Based on my knowledge, the financial statements, and other financialinformation included in this report, fairly present in all material respects thefinancial condition, results of operations and cash flows of the registrant as of,and for, the periods presented in this report;


Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financialreporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for theregistrant and have:


1 (b) Designed such internal control over financial reporting, or causedsuch internal control over financial reporting to be designed under oursupervision, to provide reasonable assurance regarding the reliability offinancial reporting and the preparation of financial statements for externalpurposes in accordance with generally accepted accounting principles;

(c) Evaluated the effectiveness of the registrant's disclosure controlsand procedures and presented in this report our conclusions about theeffectiveness of the disclosure controls and procedures, as of the end ofthe period covered by this report based on such evaluation; and

(d) Disclosed in this report any change in the registrant's internalcontrol over financial reporting that occurred during the registrant's mostrecent fiscal quarter that has materially affected, or is reasonably likely tomaterially affect, the registrant's internal control over financial reporting.


190


persons performing the equivalent functions):


'




(a) Dell's Quarterly Report on Form 10-Q for the quarter ended April 29, 2005, as filed with the

Securities and Exchange Commission, fully complies with the requirements of Section 13(a) of

' the Securities Exchange Act of 1934 and (b) information contained in the report fairly presents,

in all material respects, the financial condition and results of operations of Dell."







GAAP; a failure by Pthe Company to employ persons with appropriate accounting knowledge






191



w admits are inaccurate and should n longerincluded m the periods Dell no ad is obe relied upon.

O. Second Quarter 2006 (For The Quarter Ended July 29, 2005)

L Second Quarter 2006 Earnings Release



Earnings Release, which was also filed as an exhibit to Form 8-K, contained the following false

and misleading financial information relating to the Company's second quarter results:


Net Revenue 13,428Operating Income $1,173Pro Forma Net Income $935Net Income $1,020Pro Forma Earnings Per Share $38Earnings Per Share (Diluted) $.41Gross Margin $2,499Stockholders' Equity $5,509

i Total Liabilities $17,102

492. Commenting on the figures reported in Q2 2006 Earnings Release, the Company

stated:

Dell (NASDAQ:DELL) achieved record earnings in its fiscal 2006 second-quarter, as it exceeded industry shipment growth in a competitive pricingenvironment. Sales of storage systems, mobility products, enhanced services and

' software and peripherals were up strongly around the world.

Dell's second quarter, which ended July 29, was highlighted by industry-recordshipments of 9.1 million computer systems — including 2.7 million mobilityproducts — and company-record revenue of more than $2 billion from softwareand peripheral products, including printers and displays.

The company's second-quarter earnings were $1.02 billion, or 41 cents per share,up 32 percent from a year ago.... Dell revenue for the quarter was $13.4 billion,15 percent higher than the same quarter last year.

192

Case 1:06-cv-00726-SS Document 164-7 Filed 01/11/08 Page 44 of 45i1

493. The Q2 2006 Earnings Release also reported the following comments from

Defendant Rollins:

' Our teams performed well in a dynamic market. Our growth in Q2 wascharacterized by share increases in every region.... While average selling priceswere down more than we would have liked, we focused on balanced profitability

jand, in the process, delivered to our guidance for EPS.'

494. The Q2 2006 Earnings Release further stated:

Dell's operating margin as a percent of revenue was 8.7 percent, up from 8.6percent a year ago. The company generated more than $900 million in cash flowfrom operations....

Mr. Rollins said continued steady purchase rates by corporate customers, theseasonal impact of back-to-school buying in the consumer segment, andcontinued growth in markets outside of the United States will drive Dell's third-quarter business. The company expects Q3 revenue of $14.1 to $14.5 billion, andearnings per share of 39 to 41 cents. Dell plans to repurchase at least $1.2 billion

' in stock during the current fiscal quarter.


'operating income, net income, earnings per share and gross margin figures were misstatedP g g P 1^' g ^

' because, as admitted by Dell's restatement, the Company improperly recognized revenue









relied upon. Finally, the Defendants concealed that Dell's growth strategy depended on

continuing he fraudulent activity which led to the misstatement of its financialg tYreports.p

193


496. Commenting on Dell's operations in Japan, the Q2 2006 Earnings Release stated,

' "Asia-Pacific and Japan APJ revenue grew 24 percent ear-over-P ( } ^' ear."P Y Y

'




'



' fabricated, as were certain additional smaller transactions involving two other Japanese systems



2. Second Quarter 2006 Earnings Call

498. On August 11, 2005, Dell held a conference call to discuss second quarter FY

2006 earnings (Q2 2006 Earnings Call"), On the Q2 2006 Earnings Call, Rollins stated. [W]e

misexecuted. The additional volumes we generated from our pricing actions were not enough to

cover the resulting average selling price declines in excess of our original forecast."

' 499. This statement was materially false and misleading because Dell did not meet

1 expectations in this reporting period because Defendants were forced to begin unwinding their

scheme in order to avoid detection by the SEC, which had begun its investigation into the

Company by this time.


500. On September 1, 2005, Dell filed its Form 10-Q for the quarter ended July 29,


financial information set forth in the Company's Q2 2006 Earnings Release:

' 194



Revenue 13,428Operating Income $1,173Pro Forma Net Income $819Net Income $1,020Pro Forma Earnings Per Share (Diluted) $33Earnings Per Share(Diluted) $.41Gross Margin $2,499Total Stockholders' Equity $5,509Total Liabilities $17,102

501. In terms of Dell's reported revenue, the Q2 2006 10-Q stated: "In both the three

and six month periods ended July 29, 2005, we grew revenue across all regions and product

categories over the prior year periods."

502. The Q2 200610-Q stated the following about Dell's reported gross margin:

Despite a competitive pricing environment, our gross margin as a percentage ofrevenue increased to 18.6% for both the second quarter and first six months offiscal 2006, compared to 18.2% and 18.1% for the same period in fiscal 2005,respectively. Our year-over-year improvement in gross margin is due to favorablepricing on certain commodity components, higher revenue to leverage fixedproduction costs, and a favorable shift in product mix.

503. Defendants knew, or recklessly disregarded, that Dells reported net revenue,



throughout the Class Period and used "accounting adjustments ... to compensate for earnings^ " g sJ P g






tcertain accounting errors and irregularities in those financial statements." The foregoing

195



' relied upon.

504. The Q2 2006 10-Q stated the follow about Dell's adherence to GAAP:

The accompanying unaudited condensed consolidated financial statements of DellInc. ("Dell") should be read in conjunction with the consolidated financialstatements and accompanying notes filed with the U.S. Securities and ExchangeCommission ("SEC") in Dell's Annual Report on Form 10-K for the fiscal yearended January 28, 2005. The accompanying unaudited condensed consolidatedfinancial statements have been prepared in accordance with accounting principlesgenerally accepted in the United States of America ("GAAP"). In the opinion ofmanagement, the accompanying unaudited condensed consolidated financialstatements reflect all adjustments of a normal recurring nature considerednecessary to present fairly the financial position of Dell and its consolidated

' subsidiaries as of July 29, 2005 and January 28, 2005; and the results of itsoperations for the three and six month periods ended July 29, 2005 and July 30,2004.

1 505. Defendants knew, or recklessly disregarded, that the Company's statements



'




' 506. The Q2 2006 10-Q contains the following false and misleading chart:

NOTE 5 —AGGREGATE DEFERREDREVENUE AND WARRANTY LIABILITYDell records warmnty liabihtks at the time ofsale for the estimated costs that maybe incurred under its basic limited warranty. Revetate from ext erdad

' warranty and servzo coahmets, for which Dellis obligated to perthrm, is recorded as deferred revenue and subsegnentlyrecopixed aver the term of thecootractor when the service Ls oumpletet Changes in Dell's aggregate deferred reveme and warranty liability are presented in the following table:

Six Months End

July 29, July 38,' 2065 2004

A r.. ,,.v ar rs px s:al;wat ngofperihdmtliien^

y aew vratxaaties 1 „1

Arnottizatimt of deferred revenue (889) (585)

.retESeantl..,,

3 3. , 1

7

' 196




'


warranties in violation of GAAP.1 508. With respect to Dell's operations in Japan, the Q2 2006 10-Q stated, "APJ —

' Year-over-year net revenue growth during the second quarter and first six months of fiscal 2006

was 24% and 21%, respectively. Over half of the segment's revenue growth came from Japan

and China. India, South Korea and Malaysia produced year-over-yearowth at a highergher rate

than the overall region for the second quarter and first six months of fiscal 2006."





' transactions of the Japan services business involving the systems integrator likely were




510. Under the heading "Legal Proceedings," the Q2 2006 10-Q stated: "Dell is subject

to various legal proceedings and claims arising in the ordinary course of business. Dell's

' management does not expect that the outcome in any of these legal proceedings, individually or

collectively, will have a material adverse effect on Dell's financial condition, results of

operations, or cash flows."

197


511. Defendants knew, or recklessly disregarded, that the statements concerning legal

proceedings were false and misleading because Defendants knew at that time that Dell was being

' investigated by the SEC and that a civil or criminal action, or a settlement that involved a

restatement, was likely.


' Dell's Chief Executive Officer and Chief Financial Officer, after evaluating theeffectiveness of Dell's disclosure controls and procedures (as defined in Rule 13a-15(e) or 15d-15(e) under the Exchange Act) as of the end of the period covered bythis report, have concluded that, based on the evaluation of these controls andprocedures, Dell's disclosure controls and procedures were effective.





operational shortfalls. In its restatement, Dell also admitted that its control deficiencies led to:

1 a failure by the Company to consistently adhere to GAAP; a failure by the Company to employ


requirements; and a failure b the Company to maintain effective controls over period-endingq ^ Y P Y p g

1 reporting.


1 stating:



' 3. Based on my knowledge, the financial statements, and other financialinformation included in this report, fairly present in all material respects the

198


financial condition, results of operations and cash flows of the registrant as of,' and for, the periods presented in this report;


Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financialreporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for theregistrant and have:

(a) Designed such disclosure controls and procedures, or caused suchdisclosure controls and procedures to be designed under our supervision,

'

to ensure that material information relating to the registrant, including itsconsolidated subsidiaries, is made known to us by others within those

'

entities, particularly during the period in which this report is beingprepared;

(b) Designed such internal control over financial reporting, or causedsuch internal control over financial reporting to be designed under oursupervision, to provide reasonable assurance regarding the reliability offinancial reporting and the preparation of financial statements for external

' purposes in accordance with generally accepted accounting principles;

(c) Evaluated the effectiveness of the registrant's disclosure controlsand procedures and presented in this report our conclusions about theeffectiveness of the disclosure controls and procedures, as of the end ofthe period covered by this report based on such evaluation; and

' (d) Disclosed in this report any change in the registrant's internalcontrol over financial reporting that occurred during the registrant's mostrecent fiscal quarter that has materially affected, or is reasonably likely tomaterially affect, the registrant's internal control over financial reporting.



'



199



Dells Quarterly Report on Form 10- for the quarter ended Jul filed with the(a) ' QuY p Q q Y 29 2005, as

Securities and Exchange Commission, fully complies with the requirements of Section 13(a) of

the Securities Exchange Act of 1934 and (b) information contained in the report fairly presents,

in all material respects, the financial condition and results of operations of Dell."

I ' 516. Rollins and Schneider knew, or recklessly disregarded, that the statements





tadmitted that its control deficiencies led to: a failure by the Company to consistently adhere to


given the complexity of Dells reporting requirements; and a failure by the Company to maintain



statements for Fiscal 2003 2004 2005, and 2006includin the interim periods within those2006(including p


accounting errors and irregularities in those financial statements" The foregoing statements are


P. Third Quarter 2006 (For The Quarter Ended October 28, 2005)

1.

Dell Announces That Its Results for the Quarter Would Be Lower ThanExpected

517. On October 31, 2005, Dell issued a press release, which was also filed with the

' SEC on From 8-K, announcing that the Company:

' 200


expects to achieve earnings per share of $0.39 on a non-GAAP basis, which is atthe low end of the range of its previous guidance for fiscal 2006 third quarter, andexpects revenue to be approximately $13.9 billion versus its original guidance of$14.1 to $14.5 billion. The shortfall in revenue versus previous guidance wasdriven in part by the company's U.S. consumer and U.K. businesses, which fellshort of expectations. The company continues to refocus on higher valueproducts and services while optimizing profitability.

518. This statement was materially false and misleading because Dell's lower than

expected revenue was the result of the Defendants being forced to unwind their scheme in order

to avoid detection by the SEC, which had begun its investigation into the Company by this time.

2. Third Quarter 2006 Earnings Release

519. On November 10, 2005, Dell issued an earnings release announcing its financial1results for the quarter ended October 28, 2005 (the Q3 2006 Earnings Release"). The Q3 2006

' Earnings Release, which was also filed as an exhibit to Form 8-K, contained the following false

and misleading financial information relating to the Company's third quarter results:

' In Millions of Dollars(except per share data)

Net Revenue $13,911Non-GAAP Operating Income $1,196GAAP Operating Income $754Non-GAAP Net Income $944GAAP Net Income $606Non-GAAP Earnings per Share $39

' GAAP Earnings per Share $.25Non-GAAP Gross Margin $2,589Gross Margin $2,251Stockholders' Equity $4,821Total Liabilities $18,053

520. Commenting on Dell's reported results, the Q3 2006 Earnings Release stated:

Continued successful application of Dell's unique direct business model and solid' sales increases in enterprise products and services led the company to record

revenue and units in fiscal third quarter 2006.

' 201


Company revenue for the period ended Oct. 28 was $13.9 billion, a company' record and up 11 percent year-over-year. Dell's earnings per share was 39 cents

on a non-GAAP basis, up 18 percent from a year ago. Reported GAAP third-quarter earnings was 25 cents per share, reflecting a previously announced one-

' time charge of $442 million.


Defendant Rollins, "Our operating performance was again exceptional by any comparable

' measure.... However, we hold ourselves to higher standards."

522. The Q3 2006 Earnings Release also stated: "The company expects fourth quarter

irevenue of $14.6 to $15.0 billion and earnings per share of $0.40 to $0.42."





'operational means." As a r 'shortfalls that could not be closed through p result of the Company's







relied upon.

524. In terms of Dell's operations in Japan, the Q3 2006 10-Q stated, "Asia Pacific and

' Japan had significant growth year-over-year in Dell's most strategic product categories."


concerning Dells operations in Japan were materially false and misleading and/or omitted

202



' admitted in Dell's restatement, "[Dell's internal] g" ' investigation determined that almost all of the

' transactions of the Japan services business involving the systems integrator likely were



' the effect of the fictitious transactions."


526. On November 10, 2005, Dell held a conference call to discuss third quarter FY

2006 earnings ("Q3 2006 Earnings Call"). On the Q3 2006 Earnings Call, a Dell representative

stated: "While we are disappointed we didn't reach our revenue target for the quarter we are very

' pleased with our ability to deliver industry-leading profitability, consistent growth in earnings,

and a balanced P&L."

527. This statement was materially false and misleading because Dells lower-than-

' expected revenue was the result of the Defendants being forced to unwind their scheme in order

to avoid detection by the SEC, which had begun its investigation into the Company by this time.


'

528. On November 28, 2005, Dell filed its Form 10-Q for the quarter ended October

28, 2005 ("Q3 2006 10-Q"). The Q3 2006 10-Q repeated the following false and misleading

' financial information set forth in the Company's Q3 2006 Earnings Release:

' 203



Revenue $13,911Operating Income $754

' Net Income $606Earnings per Share $.25Gross Margin $2,251

' Total Stockholders' Equity $4,821Total Liabilities $18,053

' 529. Commenting on Dell's reported results, the Q3 200610-Q stated:

In both the three and nine month periods ended October 28, 2005, we grewrevenue across all regions and product categories over the prior year periods,other than Desktop PCs, which declined 2% in the third quarter of fiscal 2006compared to the prior year. The decline in Desktop PC revenue reflects

' continuing reductions in average selling prices and an industry-wide shift tomobility products. Revenue outside the U.S. comprised 40% of consolidatedrevenue for the third quarter of fiscal 2006 compared to 37% for the same periodlast year. For the nine months ended October 28, 2005, revenue outside the U.S.represented 40% of the consolidated revenue compared to 38% in the prior yearnine month period. Internationally, we produced 20% and 21% year-over-year

' revenue growth for the third quarter and first nine months of fiscal 2006,respectively.


'in per share and gross margin figures were misstatedoperating . income, net income, earnings p gr g gur asst ted

'







' those years), and the first quarter of Fiscal 2007, should no longer be relied upon because of


' 204



relied upon.


The accompanying unaudited condensed consolidated financial statements of Dell' Inc. ("Dell") should be read in conjunction with the consolidated financial

statements and accompanying notes filed with the U.S. Securities and ExchangeCommission ("SEC") in Dell's Annual Report on Form 10-K for the fiscal year

' ended January 28, 2005. The accompanying unaudited condensed consolidatedfinancial statements have been prepared in accordance with accounting principlesgenerally accepted in the United States of America ("GAAP"). In the opinion of

' management, the accompanying unaudited condensed consolidated financialstatements reflect all adjustments of a normal recurring nature considerednecessary to fairly state the financial position of Dell and its consolidatedsubsidiaries as of October 28, 2005 and January 28, 2005.


' concerning Dell's adherence to GAAP and its purported revenue recognition practices were false

and misleading when made because, as described above, Dell failed to adhere to its stated

revenue recognition policies and used "accounting adjustments ... to compensate for earnings

' shortfalls that could not be closed through operational means." Moreover, Dell's restatement

admits that the Company did not follow GAAP when reporting its financial results during the

Class Period.

'

533. The Q3 2006 10-Q stated the following about Dell's revenue and warranty

liability:

t205


PIOTE 3—AGGREGATE DEFERRED REVENUEAND WARRANTY LIABILITYDell reconds warranty ryabilitl<s atibetime ofsale for the estimated costs that may be incurred under its basic limited warranty. Revenue from extendedwarranty rend service contracts, for which Dell is obligated to perfDrm, is recordad as deferred revenue and subsequently recognized over thetmtm of thecontractor when the service is c ompleted. Granges in Dell's aggregate defoeed reverale and warramy liability are presented in die following table:

Nine #both% Elided

' October 22, October 29,200

rbvA, Ht)rat pfd ( ^rceru f^ raw atrar 3 l8 2420 -

.A" ' (dAmmrtinitiouofdeirnedrevenue ( 14118) (946)

--auni+liit^ate^d "^ ^^..,a.. .. ,' :l- ^^^•. ^

tad DuriniStbe g-rW,Dell w—piaad a peke[ ckargn of-'"a7 m1bm tar mtiamwd vaumdg caste of amvicng ar replacing ceeWr (*Ulm tmvjstow th& imiwta a veuku pad fitIran ioperk m tol3d's wedficaum. At Ocicbm 28, 2003, 3274 n0lionofthe a awd Ra UWcbliiiim romaine omiva ft for uxvicittg arrgAm ft ald tiond Optiplea Onqsk--

' 534. Defendants knew, or recklessly disregarded, that these statements were false and


rsome deferred revenue from extended warranties and under-accrued costs associated with basic

' warranties in violation of GAAP.

535. In discussing Dell's operations in Japan, the Q3 2006 10-Q stated, "APJ — Year-

over-year net revenue growth during the third quarter and first nine months of fiscal 2006 was

' 20% and 21%, respectively."


' concerning Dell's operations in Japan were materially false and misleading and/or omitted





integrators. The impact of the adjustments reduced net revenue and cost of revenue to eliminate^' P J


537. Under the heading "Legal Proceedings," the Q3 2006 10-Q stated: "Dell is subject

Sto various legal proceedings and claims arising in the ordinary course of business. Dell's

206

Case 1:06-cv-00726-SS Document 164-9 Filed 01 /11 /08 Page 8 of 47III!

management does not expect that the outcome in any of these legal proceedings, individually or

will have a material adverse effect on Dell's financial condition,collectively, o , results of

operations, or cash flows."


' proceedings were false and misleading because Defendants knew at that time that Dell was being

investigated by the SEC and that a civil or criminal action, or a settlement that involved a



1 Dell's Chief Executive Officer and Chief Financial Officer, after evaluating theeffectiveness of Dell's disclosure controls and procedures (as defined in Rule 13a-15(e) or 15d-15(e) under the Exchange Act) as of the end of the period covered bythis report, have concluded that, based on the evaluation of these controls andt procedures, Dell's disclosure controls and procedures were effective.


regarding the effectiveness of Dells controls were materially false and misleading when made.







reporting.


stating:


207


2. Based on my knowledge, this report does not contain any untrue statementtof a material fact or omit to state a material fact necessary to make the statements



' 4. The registrant's other certifying officer(s) and I are responsible forestablishing and maintaining disclosure controls and procedures (as defined inExchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financialreporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(o) for theregistrant and have:


(b) Designed such internal control over financial reporting, or causedsuch internal control over financial reporting to be designed under oursupervision, to provide reasonable assurance regarding the reliability offinancial reporting and the preparation of financial statements for externalpurposes in accordance with generally accepted accounting principles;

(c) Evaluated the effectiveness of the registrant's disclosure controlsandrocedures and resented in this report our conclusions about thep p Peffectiveness of the disclosure controls andrp ocedures, as of the end ofthe period covered by this report based on such evaluation; and

(d) Disclosed in this report any change in the registrants internalcontrol over financial reporting that occurred during the registrant's mostrecent fiscal quarter that has materially affected, or is reasonably likely tomaterially affect, the registrant's internal control over financial reporting.


' persons performing the equivalent functions):


208




(a) Dell's Quarterly Report on Form 10-Q for the quarter ended October 28, 2005, as filed with

the Securities and Exchange Commission, fully complies with the requirements of Section 13(a)

of the Securities Exchange Act of 1934 and (b) information contained in the report fairly

presents, in all material respects, the financial condition and results of operations of Dell."









effective controls overeriod-ending reporting. Additionally, Rollins and Schneider's SectionP gY






i

209


Q. Fourth Quarter 2006 (For The Quarter Ended February 3, 2006)

1. Fourths Releaseuarter 2006 Earningsg


results for the quarter ended February 3, 2006 (the "Q4 2006 Earnings Release"). The Q4 2006

' Earnings Release, which was filed as an exhibit to a Form 8-K, contained the following false and

misleading financial information relating to the Company's fourth quarter results:


Net Revenue $15,183Operating Income $1,246Net Income $1,012Earnings Per Share (Diluted) $.43Gross Margin $2,709Stockholders' Equity $4,129Total Liabilities $18,980

545. Commenting on Dell's reported results, the Q4 2006 Earnings Release stated:

Dell (NASDAQ:DELL) achieved record revenue of $15.2 billion and earnings of43 cents per share driven by growth in enterprise products and services and salesoutside the United States in the fiscal fourth-quarter 2006.

Dell's fourth quarter revenue of $15.2 billion was a 13 percent year-over-yearincrease. Earnings per share was 43 cents, a year-over-year increase of 65 percentand 16 percent on a Non-GAAP basis. Revenue and EPS exceeded expectations.Revenue was up due in part to a stronger than expected impact of the extra weekof sales in the quarter. EPS reflected an adjustment to a lower tax rate for the yearbecause of a larger mix of profits from outside the U.S.

Revenue for the fiscal year was $56 billion, a 14 percent increase. EPS for thefiscal year was $1.46, a 24 percent increase. Non-GAAP EPS, which excludes

' certain charges and an income tax benefit that occurred during fiscal 2006 and anincome tax charge in the fourth quarter of fiscal 2005, increased 21 percent to$1.56.

546. The4 2006 Earnings Release also included the followingQ g g comments from

Rollins:

210


We drove a better balance across all price points of our products and greateroperational efficiencies this quarter, and performed at the high level of executionwe expect for ourselves.... Our success in countries such as China and Germanyshows the Dell direct business model is preferred by customers in all regions and

1 provides us with a unique advantage and opportunity for continued growth.

547. The Q4 2006 Earnings Release further stated:

Cash flow from operations was $1.6 billion for the quarter and $4.8 billion for thefiscal year.

The company expects first quarter fiscal year 2007 revenue of $14.2 to $14.6billion and earnings per share of 39 cents to 41 cents, excluding an estimatedthree cents of stock compensation. Dell begins reporting earnings including stockcompensation expense in the first quarter of fiscal 2007.



Ibecause, as admitted by Dell's restatement, the Company improperly recognized revenue






those years), and the first quarter of Fiscal 2007, should no longer be relied upon because- of


t statements are included in the periods Dell now admits are inaccurate and should no longer be

relied upon.

549. Commenting n Dell's international performance, the 4 2006 Earningsg P s ReleaseQ g

' stated:

211


Strong Growth in All Regions of the World

aSales outside the U.S. were an all-time high of 43 percent of the company'soverall revenue for the fourth quarter, up from 40 percent in the previous quarter.The company gained share in every region during the year.

Asia Pacific and Japan (APJ) increased revenue in the quarter by 21 percent andunits by 27 percent year-over-year.




admitted in Dells restatement, [Dells internal] investigation determined that almost all of the



integrators. The impact of the ad justments reduced net revenue and cost of revenue to eliminatel^' P J



' 551. On February 16, 2006, Dell held a conference call to discuss fourth quarter FY


stated: "[W]e have a pretty tough compare with the year ago quarter when you see some of the

guidance. That was probably on a relative basis one of the better quarters we had in the half-

dozen past quarters. You had op[erating] income ... that was the highest it was in the past few

years."

' 552. On the Q4 2006 Earnings Call, in response to a question concerning the adequacy

of accruals the company took to cover future costs, Defendant Schneider stated: "On the accruals

that we-took in therior quarter we've been spending against those. We ana lyzed it here at thep q P g g Yz

212


end of the year, and we feel like what we booked is appropriate. So I don't really expect that

there would be any additional charges coming out of that.



because as admitted b Dell's restatement the Company improperlyreco ized revenue> Y ^ p Y ^

jthroughout the Class Period and used "accounting adjustments ... to compensate for earnings


Ifraudulent revenue recognition practices, its reported stockholders' equity and total liabilities

1 figures were also misstated. Moreover, as Dell has itself declared, "our previously issued



certain accounting errors and irregularities in those financial statements." The foregoingIstatements are included in the periods Dell now admits are inaccurate and should no longer be

' relied upon.

554. Schneider's statements about Dell's accruals were false and misleading because,

as admitted by Dells restatement, the Company improperly accounted for certain accruals.

3. 10-K for the Year Ended February 3, 2006

555. On March 15, 2006, Dell filed it Form 10-K for the year ended February 3, 2006

(the "2006 10-K"). The 2006 10-K, which was signed by, inter alia, Michael Dell, Rollins, and

Schneider, contained the following false and misleading financial information for the 2006 fiscal

year:

' 213



Net Revenue $55,908Operating Income $4,347Net Income $3,572Earning per Share (diluted) $1.46Gross Margin $9,950

' Total Stockholder Equity $4,129Total Liabilities $18,980

556. The 2006 10-K also stated:

In fiscal 2006, we grew revenue across all regions and product categories over the' prior year periods, other than Desktop PCs in the Americas' region, which

declined 2% in fiscal 2006 compared to the prior year.... In fiscal 2006,consolidated net revenue increased 14% to $55.9 billion, which included an extra

' week of operations.... International performance was also an important driver ofthis growth. Revenue outside the U.S. represented 41% of fiscal 2006consolidated revenue compared to 38% in the prior year. Outside the U.S., weproduced 21% year-over-year revenue growth for fiscal 2006.

557. In terms of Dell's reported gross margin, the 2006 10-K stated:

tIn fiscal 2005, gross margin as a percentage of net revenue improved slightly to18.3% compared to 18.2% for fiscal 2004. This year-over-year improvement wasprimarily driven by our continued cost savings initiatives.

558. The 2006 10-K also false] and misleadingly stated: "Our focus on balancingY gY g

growth and profitability resulted in record operating and net income of $4.3 billion and $3.6

billion for fiscal 2006, respectively. Operating and net income for fiscal 2005 were $4.3 billion

' and $3.0 billion, respectively."







' 214

Case 1:06-cv-00726-SS Document 164-9 Filed 01/11/08 Page 16 of 471figures were also misstated. Moreover, as Dell has itself declared, "our previously issued

financial statements for Fiscal 2003 2004 2005 and 2006includin the interim periods within2006(including P




relied upon.

560. Dell stated the following about its adherence to GAAP:

' We prepare our financial statements in conformity with accounting principlesgenerally accepted in the United States of America ("GAAP"). The preparation

' of GAAP financial statements requires certain estimates, assumptions, andjudgments to be made that may affect our consolidated statement of financialposition and results of operations. We believe our most critical accountingpolicies relate to revenue recognition, warranty accruals, and income taxes.



described above, Deli failed to adhere to its stated revenue recognition policies and used

"accounting djustments ... to compensate for earnings shortfalls that could not be closedg J P g

through operational means." Moreover, DelI's restatement admits that the Company did not


n 562. Dell stated the following about its operations in Asia (including Japan), "Asia

1

Pacific-Japan -- In fiscal 2006, year-over-year net revenue growth was 21% on unit growth of

30% in fiscal 2006 compared to 26% revenue growth on 29% unit growth in fiscal 2005."



information about Dells use of fictitious transactions with its Japanese business. As admitted in

rDell's restatement, "[Dell's internal] investigation determined that almost all of the transactions

' 215




' impact of the adjustments reduced net revenue and cost of revenue to eliminate the effect of the


' 564. The 2006 10-K stated: "Dell is subject to various legal proceedings and claims

arising in the ordinary course of business. Dell's management does not expect that the results in

any of these legal proceedings will have a material adverse effect on Dell's financial condition,

' results of operations, or cash flows."





566. In describing the Company's warranty liability recognition practices, the 2006 10-

K stated:

Dell frequently enters into sales arrangements with customers that contain' multiple elements or deliverables such as hardware, software, peripherals, and

services. Judgments and estimates are critical to ensure compliance with GAAP.These judgments relate to the allocation of the proceeds received from an

' arrangement to the multiple elements, the determination of whether anyundelivered elements are essential to the functionality of the delivered elements,and the appropriate timing of revenue recognition. Dell offers extended warrantyand service contracts to customers that extend andlor enhance the technicalsupport, parts, and labor coverage offered as part of the base warranty includedwith the product. Revenue from extended warranty and service contracts, forwhich Dell is obligated to perform, is recorded as deferred revenue andsubsequently recognized over the term of the contract or when the service iscompleted. Revenue from sales of third-party extended warranty and servicecontracts, for which Dellis not obligated to perform, is recognized on a net basisat the time of sale.

1 216


We record warranty liabilities at the time of sale for the estimated costs that maybe incurred under its limited warranty. The specific warranty terms andconditions vary depending upon the product sold and country in which Dell doesbusiness, but generally includes technical support, parts, end labor over a period

' ranging from 90 days to three years. Factors that affect our warranty liabilityinclude the number of installed units currently under warranty, historical andanticipated rates of warranty claims on those units, and cost per claim to satisfyour warranty obligation. The anticipated rate of warranty claims is the primaryfactor impacting our estimated warranty obligation. The other factors are lesssignificant due to the fact that the average remaining aggregate warranty period ofthe covered installed base is approximately 20 months, repair parts are generallyalready in stock or available at pre-determined prices, and labor rates aregenerally arranged at pre-established amounts with service providers. Warranty

' claims are relatively predictable based on historical experience of failure rates. Ifactual results differ from our estimates, we revised our estimated warrantyliability to reflect such changes. Each quarter, we reevaluate our estimates toassess the adequacy of the recorded warranty liabilities and adjust the amountsas necessary.

(emphasis added).


' misleading when made because, as described above, Dell under-accrued costs associated with

basic warranties in violation of GAAP.

' 568. The 200610-K also stated:

tNOTk T— lleferreit Rivenne and Warranty LiabilityRevenue rrcon extended warranty and service coxntracts, for witch Dellis obligated to perfomr, is recorded as deferred revenue and subsequently recognizedover the term of the contractor when the service is completed, Da records warranty liabiln6es at the time of sale for the estinlaled costs that may beincurred under its limited warranty. Changes in Dell's aggregate deferred revenue and warranty liability (basic and extendal warranties), wbich arc includedin othff current and Iron-current liabilities on Deli's consolidated statement offmanciai position, are prevented in the following table:

' Fiscal Year Ended

Fef u 3, Jan

2B,

x„ Q0 millions)a£3d t r^tEittlit^fiftlltFNtlrtlfrfi.t '+ '+^. •--

mile deferred and gusts accrued far near warranties( A}603 3.435llo

Amortization of deferred revenue (1,974) (1,359)£ 3^'f ..

t^t^liti$ at^l ` r[fSr l9fl^€ at f R'tf ftt3^d . I i,,'•, ^ ., ^'^ «,,, ;, .. 3. ``_...

rr' rr r _ 2A79 $ 1 ,893

Aggregate deferred revenue and warranty liability at end of period $ 4,572 5 3.594

' (a) During die tried quadey ofbxal 2006, Dui r moquixada polio ctatda of SIN millet for estimated coats of Nniciap OrmptacinE owinn OPUPlme m symew nut ixb We itvatafsv pert tlwt fvilad m pnr&cm url7ar 's spaoilu^atuats. At Felvre^, 3,2 fd")ti, i t9Pmilrtxt of t6a secrnttd wanwdr iidti^atimrmmrans fixr xarvcate cs rePlaoing adaitiat>glt)ptPir¢d° ayatume.

217



' above Dellmisleading when made because, as described cce accelerated the recognition of at least

' some deferred revenue from extended warranties and under-accrued costs associated with basic


' 570. In commenting on Dell's controls, the 2006 I O-K stated:

Evaluation of Disclosure Controls and Procedures — Dell's Chief ExecutiveOfficer and Chief Financial Officer, after evaluating the effectiveness of Dell'sdisclosure controls and procedures (as defined in Rule 13a-15(e) or 15d-15(e)

' under the Exchange Act) as of the end of the period covered by this report, haveconcluded that, based on the evaluation of these controls and procedures, Dell'sdisclosure controls and procedures were effective.

' Management's Report on Internal Control Over Financial Reporting — Dell'smanagement, under the supervision of Dell's Chief Executive Officer and Chief

' Financial Officer, is responsible for establishing and maintaining adequateinternal control over financial reporting (as defined in Rule 13a-15(o or 15d-15(0under the Exchange Act). Management evaluated the effectiveness of Dell'sinternal control over financial reporting based on the framework in Internal

' Control — Integrated Framework issued by the Committee of SponsoringOrganizations of the Treadway Commission. Based on that evaluation,management has concluded that Dell's internal control over financial reporting

' was effective as of February 3, 2006.

Management's assessment of the effectiveness of Dell's internal control overfinancial reporting as of February 3, 2006 has been audited byPricewaterhouseCoopers LLP, an independent registered public accounting firm,as stated in their Report of Independent Registered Public Accounting Firm

1 included in "Item 8 — Financial Statements and Supplementary Data."


regarding Dell's controls was materially false and misleading when made. As admitted by Dell


employees using accounting "adjustments" in order "to compensate for operational shortfalls."

i' In its restatement, Dell also admitted that its control deficiencies led to: a failure by the


218



failure b the Company to maintain effective controls over period-ending reporting.Y P Y P g ep .g

'


which stated:

I. I have reviewed this Annual Report on Form 10-K of Dell Inc.;



' 4. The registrant's other certifying officer(s) and I are responsible forestablishing and maintaining disclosure controls and procedures (as defined inExchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial

' reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for theregistrant and have:

' (a) Designed such disclosure controls and procedures, or caused suchdisclosure controls and procedures to be designed under our supervision,to ensure that material information relating to the registrant, including its

' consolidated subsidiaries, is made known to us by others within thoseentities, particularly during the period in which this report is beingprepared;

t(b) Designed such internal control over financial reporting, or causedsuch internal control over financial reporting to be designed under oursupervision, to provide reasonable assurance regarding the reliability offinancial reporting and the preparation of financial statements for externalpurposes in accordance with generally accepted accounting principles;

(c) Evaluated the effectiveness of the registrant's disclosure controlsS and procedures and presented in this report our conclusions about the

effectiveness of the disclosure controls and procedures, as of the end of' the period covered by this report based on such evaluation; and

(d) Disclosed in this report any change in the registrant's internalcontrol over financial reporting that occurred during the registrant's mostrecent fiscal quarter (the registrant's fourth fiscal quarter in the case of an

219


annual report) that has materially affected, or is reasonably -likely tomaterially affect, the registrant's internal control over financial reporting.

5. The registrant's other certifying officer(s) and I have disclosed, based onour most recent evaluation of internal control over financial reporting, to theregistrant's auditors and the audit committee of the registrant's board of directors(or persons performing the equivalent functions):


'


(b) Any fraud, whether or not material, that involves management or'

other employees who have a significant role in the registrant's internalcontrol over financial reporting.

'


pursuant to 18 U.S.C. §1350 which certified: "that (a) Dell's Annual Report on Form 10-K for

' the fiscal year ended February 3, 2006, as filed with the Securities and Exchange Commission,

'

fully complies with the requirements of Section 13(a) of the Securities Exchange Act of 1934

and (b) information contained in the report fairly presents, in all material respects, the financial

' condition and results of operations of Dell."

'





adjustments in order to compensate for operational shortfalls. In its restatement, Dell also

'



given the complexity of Dell's reporting requirements; and a failure b the Companyg p tY P g q ^ Y p Y to maintain


' 220



'r Fiscal 2003 2004 2005 and 2006 (including the interim periods withinstatements fo sc ( g p n those



' included in the periods Dell now admits are inaccurate and should no longer be relied upon.

' 575. The 200610-K also included a "clean audit" opinion from PwC certifying that:

In our opinion, the consolidated financial statements listed in the accompanying' index present fairly, in all material respects, the financial position of Dell Inc. and

its subsidiaries at February 3, 2006 and January 28, 2005, and the results of theiroperations and their cash flows for each of the three years in the period endedFebruary 3, 2006 in conformity with accounting principles generally accepted inthe United States of America. In addition, in our opinion, the financial statementschedule listed in the accompanying index presents fairly, in all material respects,the information set forth therein when read in conjunction with the relatedconsolidated financial statements. We conducted our audits of thesestatements in accordance with the standards of the Public Company AccountingOversight Board (United States). Those standards require that we plan and

' perform the audit to obtain reasonable assurance about whether the financialstatements are free of material misstatement. An audit of financial statementsincludes examining, on a test basis, evidence supporting the amounts and

' disclosures in the financial statements, assessing the accounting principles usedand significant estimates made by management, and evaluating the overallfinancial statement presentation. We believe that our audits provide a reasonable

' basis for our opinion.

Internal Control Over Financial Reporting

Also, in our opinion, management's assessment, included in Management'sReport on Internal Control Over Financial Reporting appearing under Item 9A —Controls and Procedures, that the Company maintained effective internal controlover financial reporting as of February 3, 2006, based on criteria established inInternal Control — Integrated Framework issued by the Committee of SponsoringOrganizations of the Treadway Commission (COSO), is fairly stated, in all

' material respects, based on those criteria. Furthermore, in our opinion, theCompany maintained, in all material respects, effective internal control overfinancial reporting as of February 3, 2006, based on criteria established in InternalControl — Integrated Framework issued by the COSO. The Company'smanagement is responsible for maintaining effective internal control overfinancial reporting and for its assessment of the effectiveness of internal controlover financial reporting. Our responsibility is to express opinions onmanagement's assessment and on the effectiveness of the Company's internal

' 221


control over financial reporting based on our audit. We conducted our audit ofinternal control over financial reporting in accordance with the standards of thePublic Company Accounting Oversight Board (United States). Those standardsrequire that we plan and perform the audit to obtain reasonable assurance about

' whether effective internal control over financial reporting was maintained in allmaterial respects. An audit of internal control over financial reporting includesobtaining an understanding of internal control over financial reporting, evaluatingmanagement's assessment, testing and evaluating the design and operatingeffectiveness of internal control, and performing such other procedures as weconsider necessary in the circumstances. We believe that our audit provides a

' reasonable basis for our opinions.


' materially false and misleading. As evidenced by Dell's restatement, the financial reports



' irregularities in those financial statements." Moreover, as explained infra at Section X, PwC's

audit of Dell failed to comply with GAAS, and its certification of the effectiveness of Dell's

controls was false and misleading.

' R. First Quarter 2007 (For The Quarter Ended May 5, 2006)

1. First Quarter 2007 Earnings Release


for the quarter ended May 5, 2006 (the "QI 2007 Earnings Release"). The Q1 2007 Earnings

Release, which was also filed as an exhibit to Form 8-K, contained the following false and

' misleading financial information relating to the Company's first quarter results:


Revenue $14,216Operating Income $949

' Net Income $762Gross Margin $2,472Stockholders' Equity $3,374


' 222


1578. Commenting on the results, the Q 12007 Earnings Release stated:

' Dell'sASDA anion of business outside the United States and its^ Q:DELL ) expansionsales of servers, storage and enhanced services drove revenue of $14.2 billion andearnings of 33 cents per share in the fiscal first-quarter 2007.

'

Revenue outside the United States grew 12 percent and was 44 percent of Dell'soverall revenue.

'

Dell had operating income of $949 million, or 6.7 percent of revenue, in thequarter, which reflected investments in customer experience as well as pricing

' decisions the company believes will drive future growth.










'


Dell now admits are inaccurate and should no longer be relied -upon.

580. In the Q1 2007 Earnings Release, Defendant Rollins gave the following false and

' misleading rationale for Dell's poorer-than-expected performance: "The competitive

environment has been more intense than we had planned for or understood."

'

581. This statement is false and misleading because Defendants knew at the time it was

made that Dell's disappointing performance was due to the unwinding of Defendants' fraudulent

' 223


scheme, which was prompted by the SEC's inquiry into the Company, and not solely due to

external conditions.

' 582. In terms of Dell's performance in, inter alia, Japan, the Q12007 Earnings Release

stated, "Asia Pacific and Japan (APJ) increased revenue in the quarter by 17 percent and units by

30 percent year-over-year or roughly twice the growth of the industry."








fictitious transactions.


584. On May 18, 2006, Dell held a conference call to discuss first quarter 2007

earnings ("QI 2007 Earnings Call"). On the Ql 2007 Earnings Call, Defendant Rollins stated:

Tony, just our history in the industry and our experience over the past 20 years orso suggests that when we started to stall, something was going on. We think weclearly had some service and support issues, but that was fairly localized

' segments here in the U.S. The greater issue was where we were price competitiveand reacting to some of our competitors' improvements in their overallefficiencies. We let it go on too long. But our history tells us, and we have even

' seen the examples now in markets and positions where we have moved back intoprice position, that it will accelerate growth.

It does come in a margin bump, and so we're prepared to take that move to' sustain the business longer-term. As we mentioned, it is not a one quarter pop.

We're going to have to stay at this for awhile [sic], and we believe that we willsee sustained growth that will allow us then to work back into better levels ofprofitability over time. Our goal is to run the Company for the strategic successof the Company for the long run, not for one quarter, not for one month.

224


585. This statement is false and misleading because Defendants knew at the time it was

made that Dells disappointing performance was due to the unwinding of Defendants fraudulent

'

scheme, which was prompted by the SEC's inquiry into the Company, and not solely due to

external conditions.

3. The 2007 Proxy

586. On June 5, 2006, Dell filed its proxy statement for 2007 with the SEC ("2007


' Corporate Governance Principles — The Board of Directors believes thatIP Padherence to sound corporate governance policies and practices is important inensuring that Dell is governed and managed with the highest standards ofresponsibility, ethics and integrity and in the best interests of its stockholders.The Board maintains a set of Corporate Governance Principles intended to reflecta set of core values that provide the foundation for Dell's governance andmanagement systems and its interactions with others.

587. Also, in two statements opposing different shareholder proposals, Dell stated:

The Board of Directors and management of Dell are committed to the belief that abusiness has many responsibilities — to its customers, investors, partners andemployees and to the communities in which it operates. Dell already has manyprograms and policies in place to effectively support these globalresponsibilities.

' Enhancing the return on investment for Dell stockholders is of the utmostimportance to Dell's Board of Directors and management.


iDells purported adherence to sound corporate governance policies and practices and Dell's

management's commitment to provide investors with the highest return on investment were false

and misleading when made because, as described above, Dell manipulated its accounting to

compensate for earning shortfalls. Moreover, these accounting manipulations were carried outP g g P

225


i

by Dell to hide the true state of the Company from investors and so the Company's "quarterly

performance adjustments could be met.

4. First Quarter 200710-Q

589. On June 7, 2006, Dell filed Form 10-Q for the quarter ended May 5, 2006 ("Q1

2007 10-Q" ). The Ql 2007 10-Q repeated the following false and misleading financial

information set forth in the Company's Ql 2007 Earnings Release:


Revenue $14,216Operating Income $949Net Income $762Gross Margin $2,472Total Stockholders' Equity $3,374Total Liabilities $19,497

590. The Q12007 10-Q also stated:

In the three month period ended May 5, 2006, we grew revenue across all regionsand product categories over the prior year periods, other than Desktop PCs, whichdeclined 3% in the first quarter of fiscal 2007 compared to the prior year. Thedecline in Desktop PC revenue reflects continuing reductions in average sellingprices and an industry-wide shift to mobility products. Revenue outside the U.S.comprised 44% of consolidated revenue for the first quarter of fiscal 2007compared to 42% for the same period last year. Internationally, we produced12% year-over-year revenue growth for the first quarter of fiscal 2007.

591. The Q1 2007 10-Q stated the following about Dell's reported gross margins:

Our margins declined for the first quarter of fiscal 2007 as compared to the sameperiod in the prior year as pricing declined more rapidly than offsettingcomponent price improvements.






226



itself declared, "our previously issued financial tMoreover, as Dell has tse d p y statements for Fiscal 2003,



irregularities in those financial statements." The foregoing statements are included in the periods?^ P

Dell now admits are inaccurate and should no longer be relied upon. Moreover, Dell's

statements concerning the reasons for the decline in its reported margins were materially false

when made because the Defendants knew at the time the statement was made that Dell's

disappointing performance was due to the unwinding of Defendants' fraudulent scheme, which

was prompted by the SEC's inquiry into the Company, and not solely due to external factors.


The accompanying condensed consolidated financial statements of Dell Inc.("Dell") should be read in conjunction with the consolidated financial statementsand accompanying notes filed with the U.S. Securities and Exchange Commission("SEC") in Dell's Annual Report on Form 10-K for the fiscal year ended1 February 3, 2006. The accompanying condensed consolidated financialstatements have been prepared in accordance with accounting principles generallyaccepted in the United States of America ("GAAP"). In the opinion ofmanagement, the accompanying condensed consolidated financial statementsreflect all adjustments of a normal recurring nature considered necessary to fairlystate the financial position of Dell and its consolidated subsidiaries as of May 5,2006 and February 3, 2006.

594. Defendants knew, or recklessly disregarded, that the Company's statements1 concerning Dell's adherence to GAAP were false and misleading when made because, as





227


595. With respect to bell's operations in Japan, the Ql 2007 10-Q stated, "APJ

revenuegrew 17% on unit growth of 30% for the first quarter of fiscal 2007."









597. The Q 12007 10-Q further stated:

NOTE 7—AGGREQATE DEFERRED BEVENUEAND WARRANTY LIABILITYRevenue from extended warranty and service contracts, for which Dellis obligated to perfaan, is recorded as defeered reverare and snlrsequeraly recognizedover the term of the contraotar when the service is completed. Den records warranty liabilities at the thne of sale far the eslimaed casts that mq inirmwed under its limited warranty. Changes in Dells aggregate deferred revenue and warranty liability (basic and extended warranties), which are includedin offier durst and namcudrent liabilities an Dell's consolidated statement oftinancial pwition, are presented in the following table:

Three MonthsEnded

May S, April 29,20% 200

(in sadllioas)XV aT r^d^ Jhid Uatilltyatbegtifuiu^c 10d 4X2 .,<<g

ek lfermd► ca , dccruai (ofzrew wurraaties l 2S 9?

Amortizatienofdefuredrevenue (612) (427)

a^rrata€^Balnlityatersd^fpert^€I . „I. ,' ^ 5 2, .;;, B;f6d! ^ :;, ;^',;

598. Defendants knew, or recklessly disr egarded,arded that these statements were false and




599. The Q1 2007 10-Q falsely and misleadingly stated: "Dell is subject to various

legal proceedings and claims arising in the ordinary course of business. Dell's management doesi228


not expect that the outcome in any of these legal proceedings, individually or collectively, will

have a material adverse effect on Dell's financial condition results of operations, or cash flows."p






Evaluation of Disclosure Controls and Procedures — Dell's Chief ExecutiveOfficer and Chief Financial Officer, after evaluating the effectiveness of Dell'sdisclosure controls and procedures (as defined in Rule 13a-15(e) or 15d-15(e)under the Exchange Act) as of the end of the period covered by this report, haveconcluded that, based on the evaluation of these controls and procedures, Dell'sdisclosure controls and procedures were effective.




Ied to inter alia, Dell employees usin accounting "adjustments" in order "to compensate forg g J P





reporting.

603. The Q 12007 10-Q also included signed certifications from Rollins and Schneider

stating:


2. Based on my knowledge, this report does not contain any untrue statementof a material fact or omit to state a material fact necessary to make the statements

229


i



4. The registrant's other certifying officer(s) and I are responsible forestablishing and maintaining disclosure controls and procedures (as defined inExchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financialreporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for theregistrant and have:

(a) Designed such disclosure controls and procedures, or caused suchdisclosure controls and procedures to be designed under our supervision,to ensure that material information relating to the registrant, including its

iconsolidated subsidiaries, is made known to us by others within thoseentities, particularly during the period in which this report is beingprepared;

(b) Designed such internal control over financial reporting, or causedsuch internal control over financial reporting to be designed under oursupervision, to provide reasonable assurance regarding the reliability offinancial reporting and the preparation of financial statements for externalpurposes in accordance with generally accepted accounting principles;

(c) Evaluated the effectiveness of the registrant's disclosure controlsand procedures and presented in this report our conclusions about theeffectiveness of the disclosure controls and procedures, as of the end of

' the period covered by this report based on such evaluation; and

(d) Disclosed in this report any change in the registrant's internalcontrol over financial reporting that occurred during the registrant's mostrecent fiscal quarter that has materially affected, or is reasonably likely tomaterially affect, the registrant's internal control over financial reporting.



230



604. Rollins and Schneider also filed certifications pursuant to 18 U.S.C. §1350

stating, "that (a) Dell's Quarterly Report on Form 10-Q for the quarter ended May 5, 2006, as

filed with the Securities and Exchange Commission, fully complies with the requirements of

Section 13(a) of the Securities Exchange Act of 1934 and (b) information contained in the report

fairly presents, in all material respects, the financial condition and results of operations of Dell."


contained in their signed certifications filed with the Ql 2007 10-Q were materially false and

imisleading when made because, as admitted by Dell in its restatement, the Company failed to












5. Dell Attempts to Condition the Market

606. On July 21, 2006, Dell issued an earnings release projecting "second quarter fiscal

1 2 revenue to be approximately 14 billion with EPS of approximately007pp y $ 21 to 23 cents."

231


According to the press release, " [t]hese estimates primarily reflect aggressive pricing in a

slowing commercial market worldwide." In the July 21 2006 press release, Defendant Rollins

stated "All of our initiatives are focused on providing the best value, experience and products to

customers every day, which will maximize shareholder value over the long-term." (emphasis

added).


Dell's projected performance for the second quarter of fiscal 2007 were false when made

because, as described above, Dell's lower EPS numbers were the result of the Defendants being

forced to unwind their scheme in order to avoid detection by the SEC, which had begun its

investigation into the Company by this time.



results for the quarter ended August 4, 2006 (the Q2 2007 Earnings Release"). The Q2 2007

Earnings Release, which was filed with the SEC as an exhibit to Form 8-K, contained the

following false and misleading financial information relating to the Company's second quarter

results:


Net Revenue $14,094Operating Income $605Net Income $502Earnings Per Share (Diluted) $.22

I Gross Margin $2,190Stockholders' Equity $3,125Total Liabilities $20,023

609. The Q2 2007 Earnings Release stated the following about the Company's

1 performance for the quarter:

232


Dell (NASDAQ:DELL) reported revenue of $14.1 billion for the second quarter

jof fiscal year 2007, an increase of 5 percent year-over-year. Operating incomewas $605 million, or 4.3 percent of revenue, which includes $119 million ofstock-based compensation. The company priced aggressively in a slower marketresulting in operating income which was lower than its May expectations onsimilar revenue. As a result, EPS for the quarter finished at 22 cents.




throughout the Class Period and used "accounting adjustments ... to compensate for earnings1shortfalls that could not be closed through operational means." As a result of the Company's

t fraudulent revenue recognition practices, its reported stockholders' equity and total liabilities





statements are included in theeriods Dell now admits are inaccurate and should no longer bep g

relied upon.

611. Further, in the Q2 2007 Earnings Release, Defendant Rollins stated: "While we

are disappointed with the results for the quarter, we are taking the necessary actions to correct

missteps and improve our results for the long-term.... Key actions include accelerating cost

initiatives, increasing investments in service and support, and better pricing management."

612. These statements were materially false and misleading. In point of fact, Dell did

not meet expectations in this reporting period because Defendants were forced to begin

unwinding their scheme to avoid detection by the SEC, which had begun its investigation by this

' time.

233


613. In discussing Dell's operations in Japan, the Q2 2007 Earnings Release stated:

h Asia-Pacific and Japan region, Dell had unit growth of 27 percent; almostIn the p g, gr' p ,triple the rate of the industry, excluding Dell. This allowed the company to moveinto the No. 2 position in the region with 11.1 percent share, up 1 percentage pointyear-over-year. In Japan, Dell also moved to the No. 2 position with 16.1 percentshare.




iadmitted in Dell's restatement, "[Dell's internal] investigation determined that almost all of the





7. Dell Downplays the Gravity of the SEC's Investigation

615. On August 17, 2006, the Dow Jones News Service reported the following about

the SEC's inquiry into Dell and Dell's response to the investigation:

AUSTIN, Texas (Dow Jones)--Dell Inc. (DELL) executives downplayed thesignificance of a year-long informal SEC investigation that the companydisclosed Thursday, saying nothing illegal has been alleged.

Chief Financial Officer Jim Schneider told the news media during a conferenceI call Thursday that Dell received a letter from the Securities and Exchange

Commission in August 2005 and has been answering "mainly general questionson some practices" since then.

The letter was "one of hundreds I think that they send out each year," Dell ChiefExecutive Kevin Rollins said.

Both Rollins and Schneider said the questions related to "revenue recognition"and some other accounting practices but declined to elaborate.

They said they opted to make the inquiry public now - instead of a year ago -because Dell has decided internally to delve deeper into some issues that the

234


i

company discovered in the course of responding to the SEC's questions.

Because more internal resources are being devoted to the issue, the companydecided to make it public "really at the first appropriate opportunity, which was

' now," Schneider said.

Still, he and Rollins maintained that they expect nothing financially material tocome of either the internal effort or the SEC inquiry.

"This [SEC inquiry] has gone on for about a year without anything really being

ralleged," Schneider said.

n (emphasis added).

616. Defendants knew, or recklessly disregarded, that the above statements

downplaying the significance of the SEC's investigation into Dell were false and misleading

when made because Dell had ap ractice of misstating net revenue, operating income, net income,

' earnings per share and gross margin figures in its SEC filings and public statements. As

admitted by Dell's restatement, the Company improperly recognized revenue throughout the

Class Period and used "accounting adjustments ... to compensate for earnings shortfalls that

could not be closed through operational means." As a result of the Company's fraudulent

revenue recognition practices, its reported stockholders' equity and total liabilities figures were

also misstated. Moreover, as Dell has itself declared, "our previously issued financial statements

for Fiscal 2003, 2004, 2005, and 2006 (including the interim periods within those years), and the

first quarter of Fiscal 2007, should no longer be relied upon because of certain accounting errors

and irregularities in those financial statements." Furthermore, Dell's financial statements failed

to comply with GAAP when they were filed with the SEC.

IX. SCIENTER/FRAUDULENT INTENT

A. The Individual Defendants' Knowing And/Or Reckless Participation In The Fraud

617. As Dell's most senior executives, the Individual Defendants were active,

iculpable, and primary participants in the fraud as evidenced by their knowing issuance and

' 235


1control over Dell's materially false and misleading statements. The following evidence further

' bolsters the already gstron inference of scienter:

!at The Individual Defendants each signed SEC filings and made statementscontained materially false and misleading facts and/or omitted material facts;

' •

The Individual Defendants had unfettered access to all financialinformation and were intimately involved in the day-to-day management of theCompany,

• The Individual Defendants had direct oversight of and actively managedaccounting functions, including accounting for warranties and the commensurateaccruals and reserves;

II^

• The Individual Defendants were aware of and implemented policies thatencouraged the fraud and knowingly ignored dishonest behavior within the

I ,Company;

• The Individual Defendants reaped the benefit of their fraud by engaging inrmassive insider trading during the Class Period; and

• The Individual Defendants Schneider and Rollins "left" the Company atsuspicious times.

Quite pointedly, the Individual Defendants knew of and directed or recklessly disregarded the

materially false and misleading nature of the information they disseminated to the investing

public, and these actions constituted a fraud and deceit upon .Lead Plaintiff and the members of

the Class.

B. The Individual Defendants Each Signed SEC Filings And Made Other PublicStatements That Contained Materially False And Misleading Statements And/OrOmitted Material Facts

618. During the Class Period, Defendant Michael Dell was the Chairman of the Board

and CEO and, as discussed supra 128 and Section VIII, he signed a number of Dell's fraudulent

SEC filings, and made statements during conference calls and interviews that were false and

'misleading. Moreover, Michael Dell also certified Dell's financial condition and internal

1' 236


controls over financial reporting in certain of the Company's Forms 10-K and 10-Q disseminated

' during the Class Period.

619. During the Class Period, Defendant Rollins was Dell's COO, a Board Member

and CEO, and, as discussed supra ¶ 29 and Section VIII, he signed a number of Dell's fraudulentIII

SEC filings and made statements during onference calls and interviews that were false andg

misleading. Moreover, Rollins signed certifications pursuant to SEC Rule 13a-14(a) and 18

U.S.C.1350 and assumed responsibility for the accuracy of the statements in the Company's§ P tY Y p Ys

' annual and quarterly reports.

620. During the Class Period, Defendant Schneider was a Senior Vice President and

Dell's CFO, and, as discussed supra $ 30 and Section VIII, he signed a number of Dell's

' fraudulent SEC filings and made statements during conference calls and interviews that were

false and misleading. Moreover, Schneider signed certifications pursuant to SEC Rule 13a-14(a)

and 18 U.S.C. § 1350 for every quarterly and annual report after August 29, 2002, and thus

' assumed responsibility for the accuracy of the statements therein.

621. The certification requirements of Sarbanes-Oxley were expressly designed to

prevent adoptingrevent to executives from ado tin a "head in the sand" defense to actions for securities fraud

' committed on their watch. The SEC has expressly warned corporate officers that "a false

certification potentially could be subject to ... both Commission and private actions for violation

of Section 10(b) of the Exchange Act and Exchange Act Rule lOb-5." Sec. Act Release No.

8124, Pt. Il. B.6,2002 WL 31720215 (Aug. 29, 2002). As one commentator explained:

The usual route for officers and directors facing IOb-5 liability is to plead lack ofknowledge or specific intent by relying on failures in the PSLRA's proof ofscienter requirement to avoid liability for having signed off on deficient reports.In an effort to counter such arguments, the SEC implemented rules pursuant to the

'

certification provision of section 302, which specifically mandated that falsecertifications would expose the CEO and/or CFO to private causes of action under

' 237


1l Ob-5.

' See KourtneY T. Cowart, "The Sarbanes-Oxley Act: How A Current Model in the Law of

' Unintended Consequences May Affect Securities Litigation," 42 Duq. L. Rev. 293, 310-11

(2004). If Michael Dell, Rollins, and Schneider had truly evaluated the effectiveness of Dell's

controls, as they claimed in their Sarbanes-Oxley certifications, then Dell senior management

could not have engaged in the blatant and pervasive accounting chicanery which has since been

revealed. Thus, the inference of scienter is strong.

' C. The Individual Defendants Had Unfettered Access To All Of Dell's FinancialInformation And Were Intimately Involved In The Day-To-Day Management OfThe Company

622. Each of the Individual Defendants was involved in Dell's daily operations, had

' unfettered access to all of the Company's financial information, and was ultimately responsible

for making and/or approving all high-level financial decisions. Thus, the inference is strong that

' each one knew of or recklessly disregarded, the ongoing fraud at the Company.Y g ^ g g .P Y

' 623. CS27 observed that the leadership of Dell was "very hands on" and aware of

"everything." For example, CS27 noted that it was Michael Dell who made the decision to

' outsource customer service to India, which led to the major customer support problems at Dell

during the Class Period.

624. CS27 also indicated that, even after Rollins took over, Michael Dell was still

involved in the daily business of the company. Even though Michael Dell gave up the CEO title

1 to Defendant Rollins in 2004, the Company stated that he would still be "deeply involved" in the

day-to-day business of the Company. Michael Dell himself stated that he would "continue to be

actively full-time engaged and involved in all the company's affairs. We're running the

company together, and it continues a partnership that we've had for the last decade." Ron

Insana, Dell Knows His Niche and He'll Stick With It, USA Today, Apr. 4, 2004. In 2006,

r238


i

Michael Dell stated that he "couldn't step back in any more than I already have because I never

stepped out.... At Dell, Kevin [Rollins] and I have operated together for most of the last 10

years.... He and I are intimately involved in running every aspect of the company together."

"Michael Dell: Still Betting on the Future of Online Commerce and Supply Chain Efficiencies,"

( JWhartonKnowledg e@ online business journal of the Wharton School) Sept. 29, 2006, publicly

available at http://knowledge.wharton.upenn.edu/article.cfm?articleid=1 543 (emphasis added).

625. On September 12, 2006, Defendant Michael Dell admitted his responsibility for

the problems at Dell when he and Rollins met with a small group of hand-picked reporters to

discuss the Company's business strategy going forward. During that meeting, Michael Dell

accepted responsibility for and admitted his personal involvement in the Company's day-to-day

affairs: "Characterizations of the company's challenges being only of Kevin's doing are

inaccurate. Kevin and I run the business together. If you want to blame somebody, you can

" Michael Dell's "mea cul ablame me, too. (emphasis added). Mic p ," is consistent with Rollins's

' characterization of their relationship that same year: "I don't think there's an ounce of light

between us.... Michael and I make every decision together. We don't do anything in the

companyn that he and I are not fully locked in to." (emphasis added).

626. CS27 supplied quarterly operational reviews directly to Rollins and, as a 2003

press report noted, "all of Dell's business units and staff functions report to Rollins on a daily

basis." William J. Holstein, "Dell: One Company, Two CEO's: Michael Dell Knew He Couldn't

Manage Alone. So He's Struck a Partnership with Kevin Rollins," The Chief Executive, Nov.

2003, publicly available at http://findarticles.com/p/articles/mi m4070/is_193/ai_110811913.

CS 17 described Rollins as "highly dialed in," with "laser focus" on everything.

239


627. CS4, a former senior manager for the Company, explained that Dell held a

' monthIY g profitability meeting on the rofitabili review of product lines and both Rollins and Schneider

participated in those meetings. The meetings generally took place once a month, but occurred

more frequently at the end of the fiscal year or if a quarter was "tight." One of the topics

addressed at these meetings was whether to adjust warranty revenue recognition.

628. CS6 corroborated CS27's description of the Company and explained that senior

management, including the Individual Defendants, was "involved in everything." According to

' CS6, analysts from each segment of the Company would prepare daily and weekly reports for

senior management so that they had a real-time picture of the company, down to the operational

level.

' 629. CS8, a Senior Account Executive during the Class Period, further explained that

'

financial information was reported at least weekly, but at times, especially at the end of financial

reporting periods, more frequently. CS8 further stated that vice presidents had access to this

' information which was on a form that was provided to the operating division "from the top."

630. The Individual Defendants shared this information among themselves, and what

' one knew, the others knew. As Defendant Michael Dell stated in an interview with The Harvard

Business Review, "[olur organization is flat so that information can flow freely and quickly."

"Execution without Excuses: An Interview with Michael Dell and Kevin Rollins," Harv. Bus.

Rev., Mar. 2005 (emphasis added). Defendant Rollins echoed this view: "felverybody sees

'

everybody else's numbers and gets to help with suggestions about their business.... Openness

and sharing are part of success at Dell." Id. (emphasis added).

'

631. Defendants Rollins and Dell "had an unusually close partnership, sharing an

office separated by a glass door that was rarely closed. `I don't think there's an ounce of light

r240


between us' Rollins said last year." Dan Zehr & Kirk Ladendorf, "CEO Rollins Resigns Amid

Dell Shakeup; Michael Dell Retakes To Office, Austin American-Statesman, Feb. 1, 2007.Top

'

CS9 confirmed that Rollins and Dell worked very closely together, consistent with Dell's "two in

a box" policy, whereby two executives co-managed the same role. The same was true of

' Defendant Schneider. CS27 stated that Rollins and Michael Dell "were in constant contact with

'

each other" and that Rollins worked directly and "closely" with Defendant Schneider, the

Company's CFO.

D. The Individual Defendants Oversaw And Actually Directed Dell's ManipulativeAccounting Practices

632. As President and CEO, and Senior Vice President and CFO, the Individual

Defendants each (a) were involved in the decisions concerning accounting issues, including

warranty and other accruals, made at the Company; (b) directly knew or learned of through the

'

supervisory nature of their positions, or recklessly disregarded, the accounting fraud within the

Company; and (c) made false and misleading statements omitting these material facts.

' 633. The Individual Defendants had complete information about and control over the

'

accrual process and warranty accounting. CS4 described how Dell planned and accounted for

warranties. Each quarter, the Program Managers would meet with their Vice Presidents. In

' anticipation of these meetings, financial analysts working for the Program Managers compiled

detailed reports with extensive information on the warranty costs and claims by product line

since the warranty accruals were supposed to be made based on the historical costs. These

reports were so detailed that they even tracked costs and claims to the individual product serial

number. Then, according to CS4, the Vice Presidents would meet to discuss warranty claims,

warranty accruals, revenues, margins, and other financial and operational information. CS2

' confirmed that the Individual Defendants attended these meetings, along with Joe Marengi (head

' 241


of Americas), Ron Parra (head of Americas), Paul Bell (head of Europe), Bill Amelio (head of

Asia), Jeff Clarke head of Product Group), Tom Green General Counsel),Mike George head

of Marketing), John Hamlin (head of Consumer Business), Paul McKinnan (head of Human

Resources), Elizabeth Allen (Vice President of Corporate Communications), and Lynn Tyson

(head of Investor Relations and Communications). These meetings took place once a quarter for

an entire week and, according to CS2, they were closed, closely-guarded, and only involved high

level people (i.e., only people who needed to be there). In addition to these week-long quarterly

' meetings, CS2 stated that there were often discussions among senior management, including the

' Individual Defendants, about reserves.

634. All policy, accounting and reporting decisions were ultimately made at the highest

' level of the Company. CS9 (Financial Controller), CS 10 (Finance Advisor), and CS 11 (Finance

Senior Consultant) each indicated that the Corporate Finance Department, headed by Schneider,

controlled the accounting and finance functions at the Company. CS 11 explained that a

subgroup of the Corporate Finance Department, "the Reserve Policy Board," dictated reserve

policies, including warranty reserves.

' 635. CS12, formerly Vice President, likewise explained that reserves were notY p

' handled in the business units. Rather, reserve policy and accounting were managed only at the

most senior levels, including by Michael Dell, Rollins, and Schneider. As did CS2, CS12

explained that reserve accounting was a closed process and that the Corporate Finance

'

department and senior management would lock the doors and work on consolidating the numbers

at the close of each financial period. According to CS12, the Individual Defendants were

' involved in this process, and only executives one or two levels down from Schneider were

' allowed to participate.

' 242


636. In short, the Individual Defendants controlled the accounting and reporting

' decisions at the heart of the fraud. The were the only ones with complete information from theY Y P

'

operational level up, they were aware of the increasing warranty costs, and they made the

ultimate decisions on how much to accrue for such estimated future expenses. Thus, they

' knowingly or recklessly made the false and misleading statements alleged herein.

' E. The Individual Defendants Were Aware Of And Implemented Policies ThatEncouraged Fraud And Knowingly Ignored Dishonest Behavior Within TheCompany

' 1. Dell's Executive Compensation and Jumbo Bonus Scheme EncouragedFraud

'

637. Michael Dell, Rollins, and Schneider earned substantial compensation during the

Class Period through their bonuses, which were tied directly to the revenue-related numbers. In

2002 as the Individual Defendants began their fraudulent scheme Dell changed its lon -termgg

' equity bonus plans, directly linking bonuses to revenues and offering new "jumbo bonuses" if

executives achieved financial targets for an extended period. This new revenue-focused

structure provided the Individual Defendants with the motive to engage in and exploit the fraud.

' Moreover, the convergence of these compensation changes with the fraud at Dell gives rise to a

strong inference of scienter. Financial Week succinctly reached the same conclusion a month

' ago: "In simple[] terms: Executives were cooking the books to hit performance targets that

' resulted in bigger incentive payouts for them. "''

638. Dell's audit committee admitted as much when it stated that it had "identified

' evidence that certain adjustments appear to have been motivated by the objective of attaining

This article, incorporated herein by reference, is publicly available at http://www.financialweek.com/apps/pbcs . dll/article?AID=/200712031REG17 110101111 004/COMPLIANCEGOVERNANCE&template=printart.

' 243


financial targets," and that manipulations "appear to have been made for the purpose of

enhancing internal performance measures." See Dell Form 10-K dated October 30 2007 at 37

'

(emphasis added). It was these financial targets and performance measures that were the very

factors upon which executive bonuses depended.

639. Executive compensation at Dell had three components during the Class Period:

' base salary, short-term bonuses, and long-term bonuses. Base salary and short-term bonuses

each accounted for only 10% of executive compensation. (Notably, Individual Defendant

Michael Dell's base salary as CEO, and later that of Individual Defendant Rollins, was below the

base median salary of executives in similar companies.) The other 80% of executive

compensation was long-term "at-risk" and/or equity-based, such as stock options. The

Compensation Committee confirmed that the pay for the Company CEO (which included Rollins

and Dell during the Class Period), focused on "performance-based elements ... and plac[ed] less

emphasis on faxed base pay. See Dell 2006 Proxy Statement at 23, 18. Thus, during the Class

Period, the lion's share of each of the Individual Defendants' compensation, as much as 90%,

depended upon Dell "making its numbers." As long as it did, the Individual Defendants and

other executives made heft cash bonuses and received "in the mone " options.Y Y P

640. The Individual Defendants and other Dell executives received short-term bonuses

under the "Executive Annual Incentive Plan" (the "Short-Term Plan"). Both before and during

' the Class Period, executive bonuses were consistently linked to, among other things, "business

segment revenue growth, operating profit margin [and] operating income." In 2007, Dell's

Compensation Committee confirmed that the executive annual bonuses were tied to two key

' numbers: revenue growth and operating income margin. Dell 2007 Proxy Statement at 29.

Both of these numbers were fraudulently manipulated throughout the Class Period.

244


641. The Individual Defendants received tremendous bonuses under the Short-Term

Plan throughout the Class Period. The following chart summarizes the Individual Defendants'gh g

' short-term bonus compensation:

Defendant Fiscal Year Salary Bonus Salary + Bonus

Michael Dell 2003 $950,000 $2,479,500 $3,429,5002004 $950,000 $2,052,000 $3,002,000

' 2005 $950,000 $2,280,000 $3,230,0002006 $950,000 $1,805,000 $2,755,000

Total: $3,800,000 $8,616,500 $12,416,500

Rollins 2003 $770,962 $2,012,210 $2,783,1722004 $797,115 $1,721,768 $2,518,8832005 $869,231 $2,086,154 $2,955,3852006 $944,231 $1,794,039 $2,738,270

Total: $3,381,539 $7,614,171 $10,995,710

Schneider 2003 $417,692 $643,507 $1,061,1992004 $500,000 $720,000 $1,220,0002005 $535,385 $822,351 $1,357,736

' 2006 $566,539 $538,211 $1,104,750

Total: $2,019,616 $2,724,069 $4,743,685

' 642. Before the Class Period, the 1994 Plan had governed long-term bonuses for the

' Individual Defendants and all other Dell employees. Among other things, the 1994 Plan

awarded stock or cash bonuses that depended on attaining "performance standards," which

' included the following:

' • Total stockholder return;Net income;

• Earnings per share;• Return on sales;• Return on equity;• Return on assets;• Increase in the market price of stock or other securities; and• Performance of the corporation as compared to other similar companies.

245


' The 1994 Plan required that performance-based compensation for executives be based on one of

the foregoing standards.$

643. In 2002 just as the fraud was b eginning at Dell the Board recommended and the,J ^ g >

' stockholders approved, the 2002 Plan. The 2002 Plan replaced the 1994 Plan.

644. The 2002 Plan changed Dell's bonus structure in two significant ways. First,

bonuses became linked directly to revenue-related figures. Like the 1994 Plan, the 2002 Plan

provided the Individual Defendants and other executives with "performance-based

compensation." Under the 2002 Plan, however, four new performance measures appeared:

• Revenue;

• Operating income;• Operating margin; and• Return on investment capital.

The three revenue-related measures are the precise numbers that the Individual Defendants,

as Dell's "senior executives, "fraudulently manipulated for four years, beginning in 2003.

' 645. Second, in 2003 the Compensation Committee introduced a new "performance-

based" bonus opportunity for executives (other than Michael Dell and Rollins) called the "Long

Term Cash Incentive Bonus Program" (the "Cash Incentive Plan"). The Cash Incentive Plan was

a sub-part of the 2002 Plan. As CFO.com contemporaneously reported, the Cash Incentive Plan

offered "jumbo bonuses" to top Dell executives instead of more traditional stock options. The

8 For the CEO and the four highest paid officers, 26 U.S.C. § 162(m) provides that a company may not deductremuneration exceeding $1 million from its taxes. Section 162(m)(4)(C) excepts from this rule "performance-basedcompensation" that, subject to specified conditions, is "payable solely on account of the attainment of one or moreperformance goals." The statute itself does not dictate what those performance goals should be.

' 246


Cash Incentive Plan offered executives up to 10 times what their normal bonus was, leading the

1 reporter to state that "management seems to want a greater payoff for its senior staff. i9^ g g PY

646. The Cash Incentive Plan linked "jumbo bonuses" directly to "certain revenue

growth and profitability metrics." Dell 2003 Proxy Statement at 22 (emphasis added). Amounts

earned under the Cash Incentive Plan were calculated annually but were not to be awarded until

2007. Thus, to receive their "jumbo bonuses," Individual Defendant Schneider and other Dell

executives had to continue to meet numbers over an extended period.

Although Michael Dell and Rollins were note ligible647. tho themselves,ghsel es, the Cash

'

Incentive Plan gave them the opportunity to focus the attention of other Company executives on

revenue metrics.

648. The first executives to become eligible for the awards, Paul Bell, Rosendo Para,

and Joseph Marengi, would receive a cash bonus of nearly $7 million each in 2007, assuming

they met their numbers for four years straight. Over the course of the Class Period, all Dell

executives, including Defendant Schneider, began to earn substantial cash-incentive awards. For

fiscal 2004, every Dell executive earned 150% of his annual cash bonus. For fiscal year 2005,

eve Dell executive earned 200% of his annual cash bonus. For fiscal year 2006every Y every

executive earned 250% of his annual cash bonus.10

9 This article, incorporated herein by reference, is publicly available at http://www.cfo.com/article.cfin/3009266?f--search.

10 In 2005, because the Company achieved its "revenue and profitability goals ... earlier than projected," Dellimplemented another version of the program: the "2006 Long-Term Cash Incentive Program." See Dell 2005 ProxyStatement at 22.

247


649. Under the Cash Incentive Plan, Defendant Schneider earned:

• $1,080,000 in 2004;• $1,644,702 in 2005; and• $1,345,527 in 2006.11

650. The timing of the changes in Dell's long-term bonus structure was not

' coincidental. In fiscal 2002 Dell's earnings per share decreased for four straightg P ^uarters andq

year-over-year revenue growth decreased for three quarters. As a result, the Individual

Defendants' annual short-term bonuses suffered substantially. In fact, in fiscal 2002 Defendant

Michael Dell received only 25% of his target short-term bonus, $347,236, because "the

Company's revenue growth performance fell short of some of the aggressive internal goals

established at the beginning of the year." Dell 2002 Proxy Statement at 17 (emphasis added). In

tcontrast, in fiscal year 2003, after the implementation of the new long-term bonus plan that

focused attention on revenue, Michael Dell received 174% of his target short-term bonus, which

translated into nearly $2.5 million. Dell 2003 Proxy Statement at 18. In fiscal 2002, Rollins

received only $243,389 compared with more than $2 million in 2003. Schneider received only

$166,731 in fiscal year 2002 compared with $643,507 in 2003. Dell 2004 Proxy Statement at 20.

651. Immediately after the Individual Defendants experienced these severe reductions

in their short-term bonuses, they implemented the 2002 Plan, which began to link all executive

bonuses, both long- and short-term, with "recognized" revenue.

652. The CEO and the other Individual Defendants worked closely with the

Compensation Committee (the "Committee") to structure Dell's bonus system. However,

Because Dell failed to meet its performance goals in 2007, there were no awards under the Cash Incentive Plan.The amounts earned under the plan for previous years will not be paid out until 2008 or 2009. See Dell 2007 ProxyStatement at 32.

t248


although the Compensation Committee and the Board reviewed and approved compensation

plans, in reality, it was management that dictated them. Indeed, the Committee charter states that

it has responsibility for:

reviewing and approving ... management recommendations regarding all forms' of compensation to be provided to each executive officer ... including any

perquisites and equity compensation, and salary, bonus and equity compensationguidelines for all employees.

Leadership Development and Compensation Committee Charter (emphasis added). 12 Similarly,

' the Committee must review with management and approve "target opportunity levels" and

"performance goals." Dell 2007 Proxy Statement at 24-25 (emphasis added). Therefore, the

Individual Defendants, as Dell's top management, were aware of, recommended, and/or

explicitly approved the changes referenced above.

653. In 2007, the Committee delegated its compensation authority for all non-

executive officers to the Company's CEO, Defendant Michael Dell. Under Dell's long-term

bonus plans, the Committee always has had the discretion to delegate such authority. The

' Committee delegated this authority to the CEO throughout the Class Period. Thus Defendantsg y gh

Rollins and Michael Dell were keenly aware of the effect of the bonus plans on employees

because they, in fact, were administering the plans.

654. Under the new bonus plan, Dell management set unrealistic goals for employees

and thus encouraged them to manipulate financials. Defendant Michael Dell has acknowledged

that Dell's bonus structure placed unrealistic pressure on Company employees. In early 2007,

1 12 The charter is publicly available at http://www.dell.com/content/topics/global.aspx/corp/governance/en/compensation?c=us&l=en&s=corp.

I249


Michael Dell circulated an email/memo explaining that the Company would now "set the annual

bonuslan against realistic tar ets."t3P g g

655. One confidential source, CS17, explained that pressure increased substantially

when non-defendant executives Rosendo Para and Joseph Marengi took over the Vice President

positions in the Americas Division. The numbers and quotas were raised, making them even less

attainable. According to CS17, the policy under Para and Marengi was "execute or be fired."

Notably, just as they were turning up the pressure on their employees around 2002 or 2003, Para

' and Marengi became two of the first three executives eligible for "jumbo bonuses" under the

' Cash Incentive Plan.

656. The Individual Defendants were aware of the "jumbo bonuses" the Company was

offering employees. According to CS6, Dell's senior management was "involved in everything."

CS4 confirmed that his/her compensation was tied directly to the profitability of his/her product

lines. He/she stated that monthly meetings were held during which senior management reviewed

' the profitability of various product lines and that Defendants Schneider and Rollins participated

in some of these meetings. During these meetings, senior management, among other things,

would often raise the compensation or bonus goals for sales people, thereby making it harder forp g p p ^ Y g

them to attain their quotas. CS17 described Defendant Rollins as having "laser focus" on every

aspect of the business and being "highly dialed in."

's (emphasis added). An online article addressing this subject, incorporated herein by reference, is publicly availableat http://news.zdnet.co.uk/itmanagement/0,1000000308,39285781,00.htm . A copy of the email/memo itself,incorporated herein by reference, is publicly available at http://www.translueence.orglarchives/2007/02/no bonus foryo.htmland.

1250


657. In sum, the Individual Defendants were aware of, helped implement, or designed

the changes in Dells bonus structure. The bonus payments constituted a large majority of their

own personal compensation and gave them the motive to commit fraud.

2. Dell Had a "Culture of Deception"

658. In September 2007, further evidence of scienter emerged when the SEC filed a

civil insider trading complaint against three senior finance employees within Dell's Americas

Business Unit ("ABU'). 14 Two of the defendants, Salvador Chavarria ("Chavarria") and John

Nieto ("Nieto"), have entered into settlements with the SEC. The third defendant, Glenn

Leftwich ("Leftwich'), has not.

659. Nieto and Leftwich worked in the Planning Division of Finance, which was

' responsible for comparing Dell's projected quarterly revenues and margins with its actual results.

Thus, these individuals were in a position to know whether Dell's earnings guidance for their

unit matched its actual performance. They audaciously took advantage of this inside information

' just as the SEC was beginning its investigation of accounting practices at the Company. After

realizing that ABU was no longer going to meet its revenue projections, they began to purchase

P pYput options, essential) betting that Dell's stock would fall. And fall it did. This fraudulent

behavior illustrates that the Individual Defendants, as Dell's most senior managers, failed to

create sufficient internal controls and condoned a culture of misrepresentation and deception.

660. This culture of deception permeated the Company. Indeed, during the Class

' Period, the Company intentionally and/or recklessly deceived the consuming public about its

products and services. In May 2007, the New York Attorney General filed suit against Dell and

14 A copy of the SEC's complaint is attached hereto as Appendix 2.

251


Dell Financial Services ("DFS") for violation of a variety of state and federal consumer

The New York Attorney General alleged, among otherprotection laws. 15 e e o y g g o a things, that Dell and

DFS:

• Deceived consumers into believing they were receiving 0% financingwhen, in fact, the financing they received was at rates as high as 20%;

• Charged customers for products they never received;1 • Falsely claimed to offer effective technical support; and

• Promised rebates that it never delivered.

Although that lawsuit still is pending, the Attorney General has supported its Petition with

numerous customer affidavits that outline the ways in which Dell's marketing techniques misled

the public at large.

661. In October 2006, Dell and DFS settled another class action lawsuit based on

allegations similar to those made by the New York Attorney General. As part of that

settlement, 16 Dell and DFS agreed to refrain from:

' • Deceiving ustomers into believing that the could obtain 0% financingg y gwhen they could not; and

• "Rolling in" components to a computer in order to increase theP rice evenwhen the customer did not want the components.t Those concessions are only the tip of the iceberg as Dell and DFS also agreed to a list of other

reforms in conjunction with the settlement. The complaints in the action read like a laundry list

of misleading and deceptive bad acts that responsible companies do not indulge in. Dell wades

I15 A copy of the complaint in People of the State of New York v. Dell, Index No. 003778/2007 (N.Y. S. Ct. Albany

' County) is publicly available through the New York Unified Court System's website.

16 A copy of this settlement agreement is publicly available with the United States District Court for the WesternDistrict of Washington, Brenda Watson, et al. v. Dell, Inc., et al., No. C-01-5200-RBL.

' 252

Case 1:06-cv-00726-SS Document 164-11 Filed 01 /11 /08 Page 4 of 501in fraud.

662. Remarkably, management, including vice residents even misled theirY, g g presidents,

1

own employees. CS 16 explained that Dell managers lied to salespeople, giving them "fake"

higher margins for products in order to encourage them to sell the product. CS16's superiors

' were well aware of thisractice. In conjunction with the Washington class action Dell agreed toP J ^ ^'

' clarify to its salespeople that they would not be penalized for selling items with low or negative

margins. In fact, one manager directed CS16's superiors to keep using the false numbers even

thou the objected to the practice. This manager reported directly^ Y J P g P Y to Defendant Rollins had

'

bi-weekly phone calls with Rollins, prepared reports for Rollins detailing the Wall Street

"numbers," and, at times, attended meetings with Defendant Schneider where that fraudulent

' practice was discussed.

663. Apart from the foregoing, on August 14, 2006, Dell announced the largest-ever

electronics recall, involving a total of 4.2 million Dell-branded lithium-ion batteries included

twith the Company's notebook computers sold between April 1, 2004, and July 18, 2006. The

recall was expected to cost Dell between $200 and $400 million. According to a U.S. Consumer

Product Safety ommission press release issued the same day, Dell had received sixY p Y> " ha[ d]reports ofP

[these] batteries overheating, resulting in property damage to furniture and personal effects." In

fact, it has been reported in the press that Dell was aware of the problem with the batteries as1 far back as 2003-2004. As noted in one such report:

[A] former Dell technician says Dell has known about the [battery] problem formore than two years.

1 Robert Day, Dell's lead acoustic technician from 1997-2005, said the computercompany received hundreds of laptops that were charred or melted as a result ofthe defective battery, which Dell is now recalling.

'

Day shared hundreds of photos of laptops with ConsumerAffairs.com that hedownloaded prior to leaving the company in January 2005. His lab was next to

' 253


the Product Safety Investigations lab (PSI).

' Da says Dell tried to hide the problem from the public for ears. "The didn'tY Y P P Y ywant anyone to know how serious of a problem it was," Day said.

The photos are from one of PSI's technician's archives. By 2005 there were 14technicians in that lab.

' The findings of each lab, including the PSI, were submitted monthly toexecutives, so Day said there is no way many of the senior executives at Dellhave not known about this problem for years.

Joseph S. Enoch, "Insider: Dell Knew of Battery Problem for Years," ConsumerAffairs.com,

' Aug. 15, 2006 (emphasis added).

664. CS28 also reported that in 2004 Defendant PwC prepared a list of suggestions for

the Company in order to help it comply with Sarbanes-Oxley. . However, managementP Y P PY Y ^ g thought

some of the suggestions were "unnecessary," evidencing a reckless disregard for their fiduciary

responsibilities to shareholders. As addressed in detail elsewhere in this Complaint, supra $¶

152-155, Dell has admitted that effective internal controls were virtually non-existent during the

Class Period. Therefore, this utter failure to maintain effective internal controls demonstrates an

intent to deceive investors or a high degree of recklessness on the part of the Individual

' Defendants, each of whom was responsible for ensuring that Dell's internal controls were

adequate with respect to its financial reporting activities and practices.

665. In sum, while the Company may have preached honesty and fair dealing, Dell did

not practice those values during the Class Period. Instead, misrepresentations were "standard

operating procedure" at Dell. The Individual Defendants cannot seriously claim that they were

shocked, shocked to learn about the deceitful conduct that permeated major parts of the

organization.

1254


F. The Individual Defendants Reaped The Benefits Of Their Fraud By Engaging In' Massive Insider Trading

666. The Individual Defendants' fraudulent scheme artificially inflated Dell's stock

' price and allowed them, as well as other Dell senior officers and directors, to cash in on their

' personal stock holdings. The Individual Defendants reaped tremendous personal, financial

benefit through insider trading:

Defendant Class Period Shares Sold Proceeds % of Holdings Sold

Michael Dell 95,138,000 $3,119,068,560 29.61%

1 Rollins 2,163,000 $74,190,052 13.65%

Schneider 1,966,000 $66,064,898 49.33%

Total 99,267,000 $3,259,323,510

Further, during the Class Period, non-defendant insider officers and directors also sold a total of

11.5 million shares of Dell stock for combined proceeds of $4121 million. 17 Moreover, as

' noted supra, the SEC has already commenced formal legal proceedings against, and entered into

settlements with, certain Dell employees for violation of insider trading laws.

667. The Individual Defendants' insider trades are suspicious and unusual because:

• the Individual Defendants' trades all followed fraudulent earningst announcements;

• during the "peak" of the fraud, all three Individual Defendants tradedconsistently and in the same quarters, including the quarter in which theCompany's stock price reached its highest point in the Class Period; and

0 all three Individual Defendants stopped selling stock before the SECinvestigation began in August 2005.

Appendix 3, attached hereto, contains a list of all insider trades made by Dell officers and directors during theClass Period, as reported to the SEC.1

' 255


668. As Dell has admitted, "senior executives" directed accounting manipulations "in

the days immediately following the end of a quarter," before the Company hady y g q p y reported its

1

quarterly earnings to the market. 18 Dell Form 10-K dated October 30, 2007 at 37. This scheme

ensured both an inflated Dell stock price and that the Individual Defendants' stock options would

' remain "in-the-money," enabling the Individual Defendants to exploit the fraud. The IndividualY^ g p

Defendants and other insiders benefitted by trading after fraudulent earnings announcements.

669. This fraudulent scheme continued every quarter for an astounding sixteen straight

fiscal quarters (fiscal years 2003 to 2006). Insiders traded during each and every quarter. The

' Individual Defendants' insider trading continued until shortly before the SEC initiated its

investigation of the Company, in or about August 2005.

670. The following paragraphs detail the Individual Defendants' pattern of trading

after fraudulent earnings announcements:

a. After Third Quarter 2003

a November 1, 2002 — quarter ends.

• November 14, 2002 — Dell releases fraudulent numbers to the' market, understating its revenues by $40 million.

• Michael Dell and Schneider Trade: Between November 21 and22, 2002, Michael Dell sells 10,000,000 shares for proceeds of almost$290 million. Schneider sells 280,000 shares for proceeds of $8.2 million.

' b. After Fourth Quarter 2003

• January 31, 2003 — quarter ends.

• February 13, 2003 — Dell releases fraudulent numbers to themarket, overstating its Fourth Quarter 2003 revenue by $150 milliondollars (the largest overstatement during the Class Period).

is Dell typically issued a press release of quarterly financial information to the market thirteen to fourteen days afterthe close of each fiscal quarter.

' 256


• All Three Individual Defendants Trade: On February 28, 2003,' Rollins sells 270,000 shares for proceeds of $7.2 million. Between March

13 and 21, 2003, Michael Dell sells 12,000,000 shares for proceeds of$323 million and Schneider sells 200,000 shares for proceeds of $5.5million.

C. After First Quarter 2004

' • May 2, 2003 — quarter ends.

• May 15, 2003 — Dell once again releases fraudulent numbers to the1 market, overstating its revenue by $11 million.

• All Three Individual Defendants Trade. Between May 22 and' May 30, 2003, Michael Dell sells 11,000,000 shares for proceeds of $328

million and Rollins sells 650,000 shares for proceeds of $7.6 million.Between May 28 and June 16, 2003, Schneider sells 396,000 shares for

' proceeds of $5.5 million.

d. After Second Quarter 2004

' • August 1, 2003 — quarter ends

• August 14, 2003 — Dells once again releases fraudulent numbers to' the market, overstating its revenue by $98 million (the second largest

overstatement during the Class Period).

• All Three Individual Defendants Trade: Between August 19 and' September 18, 2003, Michael Dell sells 11,000,000 shares for proceeds of

$359 million; Rollins sells 650,000 shares for proceeds of $22 million; andSchneider sells 396,000 shares for proceeds of $13.3 million.

After Third Quartere. Afte h d Qua to 004

• October 31, 2003 — quarter ends.

• November 13, 2003 — Dell once again releases fraudulent numbersto the market, this time understating its revenue by $7 million.

' • Michael Dell and Schneider Trade: Between December 12 and19, 2003, Michael Dell sells 19,138,000 shares for proceeds of $638.8million. On January 5, 2004, Schneider sells 140,000 shares for proceeds

r of $4.9 million.

f. After First Quarter 2005

• April 30, 2004 quarter ends.

• May 13, 2004 — Dell once again releases fraudulent numbers to the' market, understating its revenues by $44 million.

' 257


• All Three Individual Defendants Trade: By June 21, 2004,' Michael Dell has sold 10,000,000 shares for proceeds of $351 million,

Rollins has sold 250,000 shares for proceeds of $8.8 million, andSchneider has sold 100,000 shares for proceeds of $3.5 million.

g. After Second Quarter 2005

' July 30, 2004 — quarter ends.

• August 12, 2004 — Dell once again releases fraudulent numbers tothe market, overstating revenues by $56 million.

f• All Three Individual Defendants Trade. Between August 17 andAugust 23, 2004, Michael Dell sells more than 11 million shares for

' proceeds of $384.4 million and Rollins sells 345,000 shares for proceedsof $11.9 million. On October 1, 2004, Schneider sells 50,000 shares forproceeds of $1.8 million.

h. After Third Quarter 2005

• October 29, 2004 — quarter ends.

'

0 November 11, 2004 — Dell once again releases fraudulent numbersto the market, this time understating its revenue by $11 million.

'

• December 9, 2004 — Dell stock reaches is highest point during theClass Period at $42.57.

• All Three Individual Defendants Trade: Between November 15' and December 9, 2004, Michael Dell sells ll million shares for proceeds

of $444 million; Rollins sells 398,000 shares for proceeds of $16.4million, and Schneider sells 240,000 shares for proceeds of $9.7 million.

i. After Fourth Quarter 2005

'0 January 28, 2005 — quarter ends.

0 February 10, 2005 — Dell once again releases fraudulent numbersto the market, overstating revenues by $83 million.

'

• Schneider Trades: On March 1, 2005, Schneider sells 20,000shares for proceeds of $809,000.

j. After First Quarter 2006

• April 29, 2005 — quarter ends.

' • May 12, 2005 — Dell once again releases fraudulent numbers to themarket, overstating revenues by $86 million.

'

• Schneider Trades: Between May 23 and May 25, 2005, Schneidersells 140,000 shares for proceeds of $5.6 million.

' 258


k. Second Quarter 2006 (August 2005)- The SEC launches its investigation.

' • The Individual Defendants Stop Selling Stock.

671. The following graph illustrates that, as the fraudulent numbers steadily inflated

Dell's stock price, the Individual Defendants consistently profited on a quarterly basis through

' insider trades, until the stock and the fraud "peaked":

Summary of Indixidual Debndants Sales After Fraudulent Earnings Releases812104 2170/05Dell rdeesesfraudJeA nrnbers to makel,overstating revenues Dell releasssfraudu0ere nnbers to makes, overstating revauss

$45.00- by $56 rn8bort 8!17'04-8123/04 individual defendants ads 113 by$83n'tiom 3rY051ndividusdefudaMS96120,000sharesforrril0onshaes for pracaeds of $396.3 rteUion. proceeds of $809,000.fill/G4

llreleases1

Datlfraudrlae nrrbers to merxat, ^^^ l S2/OS$10.00- understating itsrevaâby $44 illion 6/2104 Dellrel^ fraudulent rumbas to market, overstatingIrdividua defendants sell 40.3 rrillion shares 'or reven ^ by $86 m 5'2illion. 3105- 5251051ndividuatproceeds of 8363 miliiea R defendans sell 140,000 sharesfor proceeds of $59

$35.00-Y

.^ trillion,

$30.00 ri73/03Dell rely eses fraudUal nrrbers to maket,understating its revalues by $7 rriiliort

IV- V

7+ 2/72!03- 1504 Individual defedanta s* 19

$25.00 - nillionsiaes to prods of $es2 Atli".

IL 8/14/03mDellreleasesiradrler4nnbastothemaket,ove elirgits

—by $98 nilk 911803$20.00-

81 103- Mdivid dateMads

sd 2 mllion shareses for proeas of $394.3 mllion.' !W15103lrel

âs fY1104

De ll

rel fraudulent nnbas to rreM ver

et, overstating Its 511 Dell rdêslrbdr4ad nrrhers to niaktl,udasfaling$15.00 _ rrillion.5r22/03-6l 15103 Individual defendants sell 1116 nelson share; for its revenues by$Hnilliort 1115(04 - 1219M Irdivid"

Proceeds of $348.1million.

Isladarts sell rib million shares for proceeds of $470nillicn.

2/73/03

$10.00 -Datl releases fra dulent n nbaa to nisrka, overstatbg 04 re anuaby

' $150 Mort 2128103 - 312103 Individual defendants sell 2.4 millionsiwes for proceeds o'$335,7 million.

Syr ^ _ ri14l02Dell red— fraudulent nnbers to n raket, uderstatbrg !is reverses by $40 rrillfm112102 - 1122!02 indMduai defendants sell 10.2 rrillion stares for proceeds of$298 rriilort

$0.00 12/2002 51212DD2 9/2/2002 1212003 51212003 9/2/2003 1212004 5/212004 912/2004 1212005 5212005 9/212005 12/2006 52/2008 9/212006 12/2007

' 672. Notably, the last quarter in which all three Individual Defendants traded Dell

stock, the third quarter of 2005, was also the quarter in which Dell stock reached its highest

' point during the Class Period On December 9, 2004, Dell stock traded for $42.57, a price to

which the stock has not yet returned. On this same day, Defendant Rollins sold $16.4 million

dollars worth of stock at a price of $42. Moreover, all three Individual Defendants traded

' following the two quarters in which Dell overstated its revenues by the largest amounts ($150

and $98 million respectively), as well as the quarter following the Company's largest

understatement ($44 million).

II' ' 259


673. The Individual Defendants' insider trading is inextricably intertwined with their

' fraudulent scheme to artificial) inflate Dell's stock rice. As the fraudulent scheme progressed,Y p p ^' ,

' the Individual Defendants traded consistently and reaped massive profits during the Class Period,

giving rise to a strong inference that the Individual Defendants acted with scienter.

G. Individual Defendants Rollins And Schneider "Left The Company At SuspiciousTimes

' 674. Following the announcement of the SEC's investigation into the Company's

' accounting practices, numerous members of the Company's senior management team, including

Schneider and Rollins, either resigned or were forced out of the Company. Dell admitted in its

Form 10-K dated October 30, 2007 that "senior executives," and not lower level employees,

' directed the accounting fraud. In August 2007, Carty, who replaced Schneider as the Company's

CFO, refused to identify which Dell "senior executives" were responsible for the fraudulent-

' scheme, but his response was telling: "the ones that knew about it are the ones that are gone."

Matt Slagle, "Dell to Cut Prior Earnings Up to $150M," Associated Press, Aug. 17, 2007

' (emphasis added).em . In other words all of the Dell senior executives that left after the SEC

' investigation was disclosed publicly, including Schneider and Rollins, were responsible for and

knowledgeable regarding the fraud at Dell and that is precisely why they were forced out.

'Against the background of Dell's long-running accounting fraud scheme, this admission by

' Dell's current management further strengthens the inference of scienter.

X. PWC's KNOWING AND/OR RECKLESS PARTICIPATION IN THE FRAUD

' 675. The "independent auditor" serves an invaluable role in this nation's economy.

The accuracy and reliability of a company's public financial disclosures are necessary to ensure

that investors are provided with truthful information on which they can base investment

' decisions. In this regard, the independent auditor serves the very public function of ensuring the

' 260


integrity of the securities market, and owes ultimate allegiance to the shareholders and creditors

' of the reporting corporation, and to the investing public as a whole. The United Statesg rP gSupremepp

'

Court has observed that these obligations require the independent auditor to maintain "total

independence" from the company whose financial statements it audits, and to exhibit "complete

' fidelity to the public trust":

' By certifying the public reports that collectively depict a corporation's financialstatus, the independent auditor assumes a public responsibility transcendingany employment relationship with the client The independent public accountant

' performing this special function owes ultimate allegiance to the corporation'screditors and stockholders, as well as to the investing public. This "publicwatchdog" function demands that the accountant maintain total independence

' from the client at all times and requires complete fidelity to the public trust.

United States v. Arthur Young & Company., 465 U.S. 805, 817-18 (1984) (emphasis added in

per)-

676. PwC is a certified public accountant, auditor and consultant which provides a

variety of accounting, auditing, and consulting services. PwC served as Dells independent

'

auditor and principal accounting firm both before and during the Class Period. PwC acted in this

capacity pursuant to the terms of contracts it had with Dell that, among other things, required

' PwC to audit Dell's financial statements in accordance with GAAS, and to report the results of

'

those audits (and quarterly reviews) to Dell, its Board of Directors, its Audit Committee, and the

members of the investing public, including Lead Plaintiff and the members of the Class.

677. PwC was aen ed b Dell to provide independent accounting and auditingengaged Y p p g g

' services to Dell. As such, PwC gave Dell accounting advice and provided consultation regarding

Dell's annual and quarterly reports that were filed with the SEC and publicly distributed. By

' virtue of its position as independent accountant and auditor of Dell, Defendant PwC had access

to the files and key employees of the Company at all relevant times. Similarly, as a result of the

auditing and other services it provided to Dell, PwC personnel were frequently present at Dell's

' 261


1

corporate headquarters throughout each year. Therefore, PwC had continual access to and

' knowledge of Dell's confidential internal corporate, financial operating, and bu ing rp business

information. They also had the opportunity to observe and review the Company's business and

accounting practices; and had the ability to test the Company's internal accounting information

and publicly reported financial statements, as well as the Company's internal controls and

' structures.

678. As Dell's auditor and principal accounting firm during the Class Period, PwC was

required to review Dell's quarterly financial statements, as well as the text that accompanied

' those statements. It also was required to audit the annual financial statements and the

accompanying text in the Company's Form 10-K's, and assure the Company's investors that

' Dell's financial reports fairly reflected the financial state of the Company.

679. PwC was also responsible for, among other things, examining the Company's

system of internal controls to identify any material weaknesses or reportable conditions that

' might affect the accuracy or reliability of the Company's financial statements.

680. For Dell's fiscal years 2003 and 2004, PwC was required to perform its audit

' services according o Generall y Accepted Auditing Standards GAASg Y p g " "( ), which include

Statements on Auditing Standards ("SAS") issued by the American Institute of Certified Public

Accountants, or AICPA. 19 As such, PwC was required to issue an unqualified opinion only if the

Company's financial statements were fairly presented in accordance with GAAP.

' 19 GAAS, as approved and adopted by AICPA, relate to the conduct of the individual audit engagements.Statements on Auditing Standards (codified and referred to as "AU § _") are recognized by the AICPA as theinterpretation of GAAS.

' 262


681. Beginning in Dell's fiscal year 2005, the Sarbanes-Oxley Act of 2002 authorized

' the Public Company Accounting Oversight Board (PCAOB to establish required auditingp Y g 8h " " ) q g and

' related professional practice standards to be used by registered public accounting firms. For

Dell's fiscal years 2004 and 2005, PwC was required to perform its audit services according to

PCAOB Standards. The PCAOB adopted as interim standards (on an initial, transitional basis)

' the generally accepted auditing standards described in SAS No. 95, Generally Accepted Auditing

Standards, in existence on April 16, 2003. When initially established, the PCAOB standards

' were the same as existing standards previously required under GAAS.

682. PwC was responsible for reporting the audit results to Dell (including its Board of

Directors and the Audit Committee), and to stand behind its unqualified Independent Auditors'

tReports, which were included in the SEC filings and publicly issued financial statements

distributed to members of the investing public, including Lead Plaintiff and other members of the

Class. See supra Tj 156-159 and Section X (identifying PwC 's clean audit opinions).

' However, either knowingly or recklessly, PwC certified each and every materially false and

misleading financial statement Dell issued throughout the Class Period through its Form 10-K's

by issuing unqualified "clean audit" opinions. Without these materially alse and misleadingg

unqualified "clean audit" opinions, Dell's fraudulent accounting scheme could not have been

perpetrated.

683. As the Company has now admitted, each of the reports PwC certified as being

free from material misrepresentations was in fact replete with misstatements and omissions.

Specifically, as Dell has itself acknowledged, "our previously issued financial statements for

rFiscal 2003, 2004, 2005, and 2006 (including the interim periods within those years), and the

' first quarter of Fiscal 2007, should no longer be relied upon because of certain accounting

263


errors and irregularities in those financial statements." (emphasis added). Furthermore, Dell

' now admits that its internal investigation:

' raised questions relating to numerous accounting issues, most of which involvedadjustments to various reserve and accrued liability accounts, and identifiedevidence that certain adjustments appear to have been motivated by the objectiveof attaining financial targets. According to the investigation, these activitiestypically occurred in the days immediately following the end of a quarter, whenthe accounting books were being closed and the results of the quarter were beingcompiled. The investigation found evidence that, in that timeframe, accountbalances were reviewed, sometimes at the request or with the knowledge of seniorexecutives, with the goal of seeking adjustments so that quarterly performance

' objectives could be met. The investigation concluded that a number of theseadjustments were improper, including the creation and release of accruals andreserves that appear to have been made for the purpose of enhancing internalperformance measures or reported results, as well as the transfer of excessaccruals from one liability account to another and the use of the excess balancesto offset unrelated expenses in later periods.

The investigation identified evidence that accounting adjustments were viewed at' times as an acceptable device to compensate for earnings shortfalls that could not

be closed through operational means.

The errors and irregularities identified in the course of the investigation revealed' deficiencies in our accounting and financial control environment, some of which

were determined to be material weaknesses, that require corrective and remedialactions.

t Dell FY 2007 Form 10-K at 37.

684. PwC issued unqualified "clean audit" opinions for each of the annual reports that

Dell's t now cautions investors not to rely uel s resta ement o cau o yon.p

1 685. As set forth below, PwC ignored several "red flags" during its audits of Dell. Red

flags include any facts giving a reasonable auditor pause to suspect that the financial statements

of the company it is auditing contain material misstatements or omissions. Given the frequency

' and magnitude of these glaring violations at Dell throughout the Class Period (which evidence

264


PwC's willful refusal to see obvious red flags) and PwC's interest in reaping the significant

tam in Dell's financial statements, irewards it received from rubbers p g s, s clear that PwC

' knowingly issued (or issued with extreme recklessness) false and misleading "clean audit"

opinions throughout the Class Period.

' A. PwC Was Not Independent

686. PwC's issuance of unqualified opinions was motivated, in part, by the substantial

payments it received from Dell. If PwC ceased rubberstamping Dell's financial statements, the

' lucrative revenue stream PwC received from Dell year after year would likewise cease.

According to Dell's Proxy statements, during fiscal years 2003 through 2007, PwC earned1approximately $51 million from its engagement with Dell. Of this amount, $36.4 million related

' to services performed by PwC in connection with auditing Dell's annual financial statements,

reviewing its quarterly statements, and reviewing Dell's internal controls. PwC earned an

additional $14.3 million for performing other services for Dell between FY2003 and FY2007.

' According to Dell's proxy filed with the SEC on May 3, 2003, PwC's audit fee "[i]ncludes fees

paid for professional services rendered in connection with the audit of the annual financial

' statements for the review of theuarterl financial statements and for the statutory audits ofq Y rY

international subsidiaries." Dell's proxy filed with the SEC on June 5, 2006 states that PwC's

audit fees include "fees incurred for professional services rendered in connection with the audit

of the annual financial statements for the audit of internal controls under Section 404 of the

Sarbanes-Oxley Act, for the review of the quarterly financial statements and for the statutory

audits of international subsidiaries." The following chart, which is derived from Dell's proxy

' statements, illustrates the allocation between audit and non-audit fees earned by PwC between

FY2003 and FY2007:

265

Case 1:06-cv-00726-SS Document 164-11 Filed 01/11/08 Page 17 of 50i1

Fees paid to PwC for auditingDell's annual reports,

Other fees paid toreviewing Dell's quarterly

PwCreports and auditing Dell's

controls

(in millions of dollars)FY2003 3.5 3.9

' FY2004 3.9 3.1

FY2005 8.4 2.5FY2006 8.7 2.6

FY2007 11.9 2.5

TOTAL 36.4 14.6

' 687. In violation of AU220.01 PwC knowin 1 or reckless ly failed to maintain an§ ^ gY Y

independent mental attitude in all matters relating to services provided to Dell.

688. Dell has been a long-time and significant client of PwC and a major source of

income for PwUs Austin office. In fact, during fiscal years 2003 through 2007, the fees paid by

Dell to PwC were approximately $51 million. Of this amount, approximately one-third related to

fees for services other than the audit of Dell's financial statements. The significant fees paid to

tPwC were peculiarly important to PwC's partners' because their incomes were dependent on

continued business from Dell. These pressures directly led to a conflict of interest for the

auditors on the Dell engagement, and were a significant factor that led to PwC abandoning its

independence, objectivity, and integrity on the audits and reviews of Dell's financial statements.

689. PwC's independence also was compromised by its incestuous -relationship to key

decision-makers at Dell. Specifically, before joining Dell, Defendant Schneider was associated

with PwC for nineteen years, including ten years as a partner.

690. Moreover, PwC did not rotate the partners responsible for conducting Dell's

audits. CS 13 directly observed that, with regard to the Dell account, PwC did not have a p ractice

' of changing partners every few years.

266


B. PwC Had Full And Complete Access To Dell's Information

' 691. PwC has been Dell's independent auditor for over twenty years, going back to

1986, and has certified every single one of Dell's financial reports filed with the SEC during that

time period. By virtue of its longstanding relationship with Dell and the nature of the auditing

and consulting services rendered to the Company, PwC's personnel were regularly present at

' Dell's corporate headquarters throughout the year. As such, they had continuous access to, and

knowledge of, Dell's internal accounting records and confidential corporate financial and

business information through conversations with employees of Dell and through review of Dell's

non-public documents.

692. Based on this access, PwC knew, should have known, or recklessly disregarded

Mfacts concerning the Company's improper financial reporting during the Class Period, including

the statements contained in the Company's 2003, 2004, 2005 and 2006 year-end financial

'h r n. Nonetheless, PwC knowinglystatements and PwC's unqualified audit opinions t o eo o g y or

recklessly issued unqualified audit opinions during the Class Period that falsely assured investors

that Dell's financial reports, "fairly, in all material respects, [reflected] the financial position of

' Dell Inc. and its subsidiaries." Dell 2005 10-K.

C. PwC Failed To Render Accurate Audit Reports

693. PwC issued its audit opinions, dated February 13, 2003, February 12, 2004,

' March 3, 2005, and March 15, 2006 on Dell's financial statements as of and for the 2003 to 2006

fiscal years. See supra 1124142, 336, 458, 574. Each of PwC's opinions was filed with Dell's

annual reports on Form 10-K. In these audit opinions, PwC falsely stated that the disclosures in

' Dell financial statements were presented in conformity with GAAP and that PwC's audit was

' performed in accordance with GAAS. Id.

267


694. Despite PwC's certifications attesting to Dell's compliance with GAAP and its

ownm liance with GAAS in Dell's Form 8-K filed on August 16 2007 Dell disclosedco p gu sc osed that

its previously issued financial statements for fiscal 2003, 2004, 2005 and 2006 (including the

interim periods within those years), and the first quarter of fiscal 2007, should no longer be relied

upon because of certain accounting errors and irregularities in those financial statements. As a

result, Dell was forced to restate the previously issued financial statements for those periods.

695. In each of the audits that required restating, PwC violated GAAS Standard of

Reporting No. 1 that requires the audit report to state whether the financial statements areP g

presented in accordance with GAAP. AU § 508.04. As admitted by Dell's restatement, PwC's

opinions falsely represented that Dell's 2003, 2004, 2005 and 2006 financial statements were

presented in conformity with GAAP when, in fact, they were not, for the myriad of reasons

herein alleged.

696. Pursuant to AU § 508.04, the auditors report must express an opinion on the

' audited financial statements taken as a whole and must contain a clear indication of the character

of the auditor's work. The auditor can determine that he is able to express an unqualified

opinion only if he has conducted his audit in accordance with GAAS. AU 508.07.p Y §

697. PwC did not render an accurate audit report and thus did not exercise due

professional care. Since, as is now admitted by the Company, Dell's financial statements. were

rnot in conformity with GAAP, PwC obviously failed to perform sufficient procedures to audit

Dell's financial statements for fiscal years ended 2003, 2004, 2005 and 2006, in accordance with

GAAS.

'

698. In issuing such audit opinions, PwC turned a blind eye to Dell's improper

accounting practices and control deficiencies, as described herein. Moreover, PwC issued

268


unqualified audit opinions on Dell's 2003, 2004, 2005 and 2006 financial statements, even

r recklessly disregarded, that: the financial statements had notthough. PwC knew, o y g a() o been

' prepared in conformity with GAAP in numerous respects and did not present fairly, in all

material respects, the financial position of Dell and its subsidiaries as of 2003, 2004, 2005 and

' 2006, and the results of their operations and cash flow for the fiscal years ended 2003, 2004,

2005 and 2006; and (b) PwC had not audited Dell's 2003, 2004, 2005 and 2006 financial

statements in accordance with GARS. As set forth in detail in Section VII above, Dell's

violations of GAAP during he Class Period include, among other thing g s:g

a. the improper acceleration of revenue on high volume software productsin violation of SOP 97-2;

b. the improper premature recognition of deferred revenue from the sale ofextended warranties in violation of FTB 90-1;

C. the improper premature recognition of revenue prior to the meeting the' required criteria under SAB 101;

d. the improper classification of certain sales transactions in the incomestatement, such as software sales where Dell acted as agent and the sale of certaincomponent commodities, in violation of EITF 99-19;

e. the improper development and manipulation of accounting accruals andreserves, such as accrued bonuses and vendor funding arrangements, for thepurpose of enhancing the Company's reported operating results in violation ofSFAS 5 and EITF 02-16.

D. PwC Improperly Issued Unqualified Opinions On The Effectiveness Of TheCompany's Internal Controls Over Financial Reporting During The Class Period

699. Under Section 404(b) of the Sarbanes-Oxley Act of 2002, PwC was required to

opine on Dell's management's assessment of the effectiveness of internal controls over financial

reporting beginning with Dell's fiscal year 2005 audit. As Dell now admits, there were material

weaknesses in the Company's controls during the periods PwC issued certifications declaringg

Dell's controls to be effective.

269


700. In 2005 and 2006, PwC knowingly or recklessly issued unqualified opinions on

the effectiveness of Dell's internal controls over financial reporting. See su supra 241-42 336P ^ >

' 458 and 574. In so doing, PwC violated PCAOB Standard No. 2: An Audit of Internal Control

over Financial Reporting Performed in Conjunction with an Audit of Financial Statements. This

' standard defines internal controls over financial reporting as a process designed by, or under the

supervision of, the company's principal executive and principal financial officers, or persons

performing similar functions, and effected by the company's board of directors, management,

' and other personnel, to provide reasonable assurance regarding the reliability of financial

reporting and the preparation of financial statements for external purposes in accordance with

GAAP.

701. The concept of reasonable assurance is built into the definition of internal controls

over financial reporting and also is integral to the auditor's opinion. Reasonable assurance

includes the understanding that there is a remote likelihood that material misstatements will not

' be prevented or detected on a timely basis. Although not absolute assurance, reasonable

assurance is, nevertheless, a high level of assurance.

702. PCAOB acknowledges how important this audit of internal controls over financialg P

jreporting is to investors. PCAOB Auditing Standard No. 2 states:

The auditor should be aware that persons who rely on the information concerninginternal control over financial reporting include investors, creditors, the board ofdirectors and audit committee, and regulators in specialized industries, such asbanking or insurance. The auditor should be aware that external users offinancial statements are interested in information on internal control overfinancial reporting because it enhances the quality of financial reporting andincreases their confidence in financial information, including financialinformation issued between annual reports, such as quarterly information.Information on internal control over financial reporting is also intended to providean early warning to those inside and outside the company who are in a position toinsist on improvements in internal control over financial reporting, such as theaudit committee and regulators in specialized industries.

270


(emphasis added).

703. In Dells Form 8-K filed on August 16, 2007, the Company disclosed that its

' investigation identified control deficiencies during the Class Period that constituted material

weaknesses in its internal controls over financial reporting. A material weakness is defined

' under the PCAOB standards as "a control deficiency, or combination of control deficiencies, that

' results in more than a remote likelihood that a material misstatement of the annual or interim

financial statements will not be prevented or detected."

704. In its Form 10-K dated October 30 2007 Dell identified the following

' deficiencies in their accounting and financial reporting controls:

As a result of our review of the accounting issues identified in the investigation,as well as the other issues identified by management in its internal reviews, wehave identified the following deficiencies in our accounting and financialreporting controls:

' • Control environment — we did not maintain an effective controlenvironment. Specifically:

• We did not maintain a tone and control consciousness thatconsistently emphasized strict adherence to GAAP. This controldeficiency resulted in an environment in which accounting adjustmentswere viewed at times as an acceptable device to compensate foroperational shortfalls, which in certain instances led to inappropriateaccounting decisions and entries that appear to have been largely

' motivated to achieve desired accounting results and, in some instances,involved management override of controls. In a number of instances,information critical to an effective review of transactions and accountingentries was not'disclosed to internal and external auditors.

• We did not maintain a sufficient complement of personnel with an' appropriate level of accounting knowledge, experience and training in the

application of GAAP commensurate with our financial reportingrequirements and business environment.

' The control environment, which is the responsibility of senior management, setsthe tone of the organization, influences the control consciousness of its people,and is the foundation for all other components of internal control over financial

' reporting. The inadequate control environment contributed to the deficiencies inour period-end financial reporting process described below.

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• Period-end financial reporting process we did not maintain effective

' controls over the period-end reporting process, including controls with respect tothe review, supervision, and monitoring of accounting operations. Specifically:

' 0 Journal entries, both recurring and nonrecurring, were not alwaysaccompanied by sufficient supporting documentation and were notadequately reviewed and approved for validity, completeness andaccuracy;

• Account reconciliations over balance sheet accounts were not' always properly and timely performed, and the reconciliations and their

supporting documentation were not consistently reviewed forcompleteness, accuracy and timely resolution of reconciling items; and

' • We did not design and maintain effective controls to ensure thecompleteness, accuracy and timeliness of the recording of accruedliabilities, reserves and operating expenses, primarily related to our

' accrued warranty obligations, goods and services received but notinvoiced, customer rebates and nonproduction operating expenses.

1 Dell FY 2007 Form 10-K at 112-113.

705. At the same time, the Company further stated:

' These material weaknesses resulted in the restatement of our annual and interimfinancial statements for Fiscal 2003, 2004, 2005, and 2006 and the first quarter of

' Fiscal 2007, and resulted in adjustments, including audit adjustments, to ourannual and other interim financial statements for Fiscal 2007. Additionally, thesematerial weaknesses could result in misstatements of substantially all of ourfinancial statement accounts that would result in a material misstatement of ourannual or interim consolidated financial statements that would not be prevented ordetected on a timely basis.

Based on management's evaluation, because of the material weaknesses describedabove, management has concluded that our internal control over financialreporting was not effective as of February 2, 2007. Our independent registered

' public accounting firm, PricewaterhouseCoopers LLP, has audited management'sassessment of the effectiveness of our internal control over financial reporting asof February 2, 2007, and that report appears in this Report.

Id.

706. PwC's knowing or reckless failure to identify the material internal control

weaknesses referenced above is not simply a violation of PCAOB Auditing Standard No. 2 in

1 fiscal years 2005 and 2006. In an audit of internal control over financial reporting, the auditor's

li ',272


evaluation of controls is interrelated with the auditor's evaluation of controls in a financial

' statement audit as b required Consideration of Fraud in a Financial Statement Audit.q Y AU § 316>

' Controls identified and evaluated by the auditor during the audit of internal controls over

financial reporting also addresses or mitigates fraud risks, which the auditor is required to

' consider in a financial statement audit. PwC knowingly or recklessly failed to adequately test

and identify, or respond to, deficiencies in controls designed to prevent and detect fraud during

the audit of internal controls over financial reporting. Under AU § 316, PwC should have

additional) altered the nature, timing, or extent of procedures to be performed during theY g p p g

' financial statement audit in consideration of these deficiencies.

707. PwC knowingly or recklessly violated PCAOB Auditing Standard No. 2 and AU

§ 326.25, which requires that the auditor obtain sufficient competent evidence about the design

and operating effectiveness of controls over all relevant financial statement assertions related to

all significant accounts and disclosures in the financial statements. The auditor must plan and

perform the audit to obtain reasonable assurance that deficiencies that, individually or in the

aggregate, would represent material weaknesses are identified. Based on the material

weaknesses identified in theeriods of restatement and the related restatement adjustments it isp adjustments,

' clear PwC failed to obtain sufficient competent evidential matter on the design and effectiveness

of the internal controls as required by Sarbanes-Oxley beginning in FY2005. Corroborating

evidentiary matter under GAAS includes both documentation obtained during the field work,

' such as invoices, contracts, and independent confirmations, and information obtained from

inquiry, observation, inspection and physical examination. Thus, although Dell admitted that,

"[i]n a number of instances, information critical to an effective review of transactions and

accounting entries was not disclosed to internal and external auditors," as the Company's

273


auditor, PwC had an obligation under GAAS to gather evidence supporting its attestation on

management's assessment of the effectiveness of Dell's controls.

' 708. The same GAAS general standards of fieldwork and reporting that are required in

the auditing of the financial statements are required by PCAOB. As such, PwC's violations of

the general and fieldwork standards, as outlined herein, also pertain to its performance of the

audit of internal controls over financial reporting. Had PwC properly understood and evaluated

management's process and its inherent shortfalls, as well as performed the basic audit

procedures, it would have identified the material weaknesses that led to the restatement.

709. PwC knowingly or recklessly violated 1129 of PCAOB Auditing Standard No. 2,

which provides that an auditor may issue an unqualified opinion only when there are no

' identified material weaknesses. PwC's audit failed to acknowledge or to report material

weaknesses that had been in existence throughout the Class Period and which were later

identified in, inter alia, Dells Form 10-K filed dated October 30, 2007, as follows:

a. PwC violated PCAOB Auditing Standard No. 2, 140; which requires theauditor obtain an understanding of, and evaluate, management's process forassessing the effectiveness of the company's internal controls over financialreporting.

b. PwC violated PCAOB Auditing Standard No. 2, 147 which requires theauditor obtain an understanding of the design of specific controls over financialreporting by applying procedures that included making inquiries of appropriatemanagement, supervisory, and staff personnel, inspecting company documents,observing the application of specific controls, and tracing transactions through theinformation system relevant to financial reporting.

'

C. GAAS required PwC, when auditing Deli to, among other things:

L "maintain independence in mental attitude in all matters relating tothe audit";

' ii. "exercise due-professional care in the performance of the audit andppthe preparation of the report";

274


iii. "obtain a sufficient understanding of [Dell] . . . and its' environment, including its internal control, to assess the risk of material

misstatement of the financial statements whether due to error or fraud, andto design the nature, timing, and extent of further audit procedures";

'

iv. "adequately plan the work and must properly supervise anyassistants";

'V. "obtain sufficient appropriate audit evidence by performing auditprocedures to afford a reasonable basis for an opinion regarding thefinancial statements under audit";

vi. state in its audit report whether Dell's financial statements werepresented in accordance with GAAP;

vii. identify n its audit report "those circumstances in whichfY p s suchprinciples have not been consistently observed in the current period in

' relation to the preceding period"; and

vii. state in its audit report "that informative disclosures are not' reasonably adequate" when it so determined.

710. None of the foregoing provisions were followed prior to PwC issuing "clean

' audit" opinions for Dell's financial statements during the Class Period.

E. PwC Failed To Adequately Plan Its Audit

711. Under GAAS, it is inherent in the planning process (AU § 311) that an auditor

have sufficient knowledge of the company being audited, the industry, the environment, areas of

audit exposure, weaknesses in internal controls and various other important matters in order to

'plan the audit. GAAS AU 311properly P ( § ) states that:

The auditor should obtain a level of knowledge of the entity's business that willenable him to plan and perform his audit in accordance with generally acceptedauditing standards. That level of knowledge should enable him to obtain an

' understanding of the events, transactions, and practices that, in his judgment, mayhave a significant effect on the financial statements.... Knowledge of theentity's business helps the auditor in:

' a. Identifying areas that may need special consideration;

b. Assessing conditions under which accounting data are produced,' processed, reviewed, and accumulated within the organization;

' 275


C. Evaluating the reasonableness of estimates;

d. Evaluating the reasonableness of management representations; and

e. Making judgments about the appropriateness of the accounting principlesapplied and the adequacy of disclosures.

'

712. Moreover, the auditor is required to design the audit with professional skepticism

(AU § 230) in order to provide reasonable assurance of detecting errors, material misstatements

' (AU § 312) or fraud (AU § 316).

' 713. PwC failed to comply with GAAS because it failed to design its audit plan to

provide reasonable assurance of detecting material errors as required by AU § 312. PwC was

' required under GAAS to obtain knowledge of the Company's business, apply analytical

procedures, and assess the risk of material misstatement in planning for its audit.

t 714. AU§ 316.36 emphasizes that the risk of material misstatement of the financialp

'

statements is generally greater when account balances and classes of transactions include

accounting estimates rather than essentially factual data because of the inherent subjectivity in

' estimating future events. The guidance specifically names warranty obligations as a type of

' estimate• subject not only to the unpredictability of future events, but also to misstatements that

may arise from using inadequate or inappropriate data or misapplying appropriate data. PwC

' violated GAAS by failing to adequately consider the risk of material misstatement related to

warranty obligations and Dell's use of other reserves and accruals, both of which were used by

Dell to manipulate earnings resulting in significant restatement adjustments throughout the Class

tPeriod.

715. PwC failed to consider, or overlooked the existence of, the red flags identified

herein, as well as other risk factors. C also failed to properly design or modify its planned

' audit procedures to mitigate those risks. Furthermore, PwC failed to develop an adequate

' 276


strategy for the conduct and scope of the audit of the Company's revenue recognition, warranty

' liabilities and other reserves and accruals.

' 716. PwC audited Dell's financial statements and provided significant additional

services to the Company during the Class Period. Given PwC's extensive involvement with the

Company, it possessed a thorough knowledge of Dell's financial history, accounting practices,

' internal controls, and business operations. Despite this intimate familiarity with Dell's business

practices, in auditing Dell's financial statements, PwC either knowingly or recklessly:

a. Failed to identify areas that needed special consideration (such as softwareand deferred revenue recognition, warranty liabilities and other reserves or

' accruals) or identified such areas and audited them in a manner which was sodeficient that it amounted to no audit at all, while making audit judgments that noreasonable auditor would have made if confronted with the same facts;

' b. Failed to assess the conditions under which accounting data (such as for"period-end adjusting journal entries") was produced, processed, reviewed, andaccumulated within the organization or assessed such conditions and made auditjudgments based upon said assessment that no reasonable auditor would havemade if confronted with the same facts;

' C. Failed to evaluate the reasonableness of estimates and management'srepresentations (such as its estimates of warranty obligations and theestablishment and use of other accruals and reserves) or evaluated them in a

' manner which was so deficient that it amounted to no evaluation at all; and

d. Failed to judge the appropriateness of the accounting principles applied' (such as revenue recognition under SOP 97-2, FTB 90-1, SAB 101, SAB 104 and

EITF 99-19 and the establishment and use of accrued liabilities under SFAS 5 andEITF 02-16), or did so and arrived at judgments that no reasonable auditor wouldhave arrived at if confronted with the same facts.

717. GAAS (AU § 311) states that audit planning involves developing an overall

' - strategy for the expected conduct and scope of the audit. Accordingly, GAAS recognizes that

the nature, extent, and timing of audit planning may vary with the size and complexity of the

' company, experience with the company, and knowledge of the company's business. In thisp Y, Pg

regard, GRAS (AU § 311) provides that in planning the audit, the auditor should prepare a

277


written audit program (or set of written audit programs) for every audit and that this audit

ro should set forth in reasonable detail the audit

program procedures that the auditor believes arep

' necessary to accomplish the objectives of the audit. GAAS further states that, in developing the

program, the auditor should be guided by the results of the planning considerations and

procedures and recognize that, as the audit progresses, changed conditions may make it

necessary to modify planned audit procedures.

718. In preparing this audit program, GAAS provides that the auditor should consider,

among other things (AU § 311):

'

a. Matters relating to the entity's business and the industry in which itoperates;

b. The entity's accounting policies and procedures;

C. The methods used by the entity to process significant accountinginformation;

d. Planned assessed level of control risk;

e. Preliminary judgment about materiality levels for audit purposes;

f Financial statement items likely to require adjustment; and

g. Conditions that may require extension or modification of audit tests.

719. PwC failed to comply with the foregoing provisions of GAAS in that PwC knew,

or was reckless in not knowing P, that Dell's earning manipulationsulations and the internal control

' weaknesses were a material part of the Company's business operations. Further, PwC failed to

utilize this information in planning and performing its audit, or utilized this information in a

manner that no reasonable auditor would have used if confronted with the same facts. Given that

PwC had unrestricted access to all of the Company's books and records, counseled the Company

on a wide variety of tax, accounting and other business matters, and attended meetings of the

' Audit Committee of the Company's Board of Directors to discuss the planning and staffing of its

278


audit and the Company's internal controls, and the management letters which PwC issued on a

regular basis, it is apparent that PwC should have been thoroughly familiar with all aspects of the

Company's financial history, accounting practices, system of internal controls, and business

operations.

' F. PwC Failed To Exercise Due Professional Care

720. Auditors must exercise due professional care in performing the audit and

preparing the audit report. AU § 230.01. Due professional care concerns what the auditor does

and how well he does it. AU § 230.04.

721. PwC did not exercise due professional care because it failed to obtain sufficient

competent evidential matter to support the assertions in the financial statements, maintain an

attitude of professional skepticism, and render an accurate audit report on behalf of Dell.

722. In auditing Dell's financial statements for fiscal years 2003, 2004, 2005 and 2006,

PwC repeatedly violated each of these GAAS requirements. Given the systemic and substantial

rnature of the Dell Defendants' accounting fraud throughout the Class Period, including but not

limited to Defendants' manipulation of Dell's accruals and reserves, PwC was aware of

Defendants' accounting raud but nevertheless deliberate) turned a blind eye to it therebyg Y Y ^ Y

jdestroying any pretense of PwC's due professional care.

G. Numerous "Red Flags" Should Have Alerted PwC To Dell's Materially False And1 Misleading Financial Stitements

723. During the course of PwUs audits of Dell, the existence of certain "red flags"

should have raised questions in the auditors' minds and led them to alter the nature, timing, or

' extent of procedures to be performed during a financial statement audit.

279


724. One of the most egregious red flags deliberately ignored by PwC was the

knumerous adjustments made to Dell's books at the end of quarters. PwC also ignored the

suspicious timing of Dell's accounting adjustments. As admitted in Dell's restatement:

The investigation raised questions relating to numerous accounting issues, most ofwhich involved adjustments to various reserve and accrued liability accounts, andidentified evidence that certain adjustments appear to have been motivated by theobjective of attaining financial targets. According to the investigation, theseactivities typically occurred in the days immediately following the end of aquarter, when the accounting books were being closed and the results of thequarter were being compiled.

(emphasis added).

725. PwC knowingly or recklessly ignored the suspicious timing of adjustments to

Dell's books — which occurred at the end of quarters — when issuing clean opinions to Dell's

annual reports.

726. In conducting an audit, an auditor must obtain sufficient competent evidential

matter through inspection, observation, inquiries and confirmations to afford a reasonable basis

for an opinion regarding the financial statements under audit. AU § 326.01.

727. Had PwC conducted its audits in accordance with GARS, it would have

discovered that Dell's financial statements were materially false and misleading and failed to

comply with GAAP.

728. In October 2002, the AICPA's Auditing Standards Board issued SAS No. 99,

Consideration of Fraud in a Financial Statement Audit, which requires auditors to plan andq p

perform audits to obtain reasonable assurance that the financial statements are free of material

misstatement whether caused by error or fraud. The auditor's consideration of fraudulent acts

under AU § 317 establishes that, for those fraudulent acts that have a direct and material effect

on the determination of financial statement amounts, the auditor's responsibility to detect

misstatement resulting from such fraudulent acts is the same as that for errors. AU § 312.

280


729. SAS No. 99 served as an update to AU § 316 that provided auditors with a1 significant level of detail in order to enhance the auditor's understanding of the nature and

1 characteristics of fraud. This pronouncement provided numerous examples of risk factors or red

flags that the auditor must consider in assessing the risk of material misstatements due to

fraudulent financial reporting.

730. Even prior to the issuance of SAS No. 99, GAAS had identified various red flags

that auditors need to consider in determining audit risk relating to misstatements arising from

fraudulent financial reporting (AU § 316). SAS No. 99 served to expand the factors to consider

and also emphasized the need for increased auditor professional judgment and skepticism in

assessing the risks of fraud or misstatement.

1

731. There were numerous red flags that should have alerted PwC to fraudulent

accounting practices that were rampant at Dell and endemic in the Company's corporate culture.

iPwC knew or should have known of the significant risk of misstatement in Dell's financial

reporting as a result of these risks. Many of these red flags present at Dell, as described in Dell's

own Form 8-K and Form 10-K disclosures as well as by numerous confidential witnesses, are

strikingly similar to the examples cited as "risk factors" in SAS No. 99 AU 316 .g y p ( § ) Some of the

red flags present during the Class Period at Dell include:

a. Profitability threatened by a high degree of competition, vulnerability torapid changes and declining margins;

b. Declines in customer demand;

C. Excessive pressure exists for management to meet the requirements orexpectations of third parties due to the profitability or trend level expectations of

' investment analysts and unduly aggressive or unrealistic expectations created bymanagement in overly optimistic press releases;

d. Indications that management's personal financial situation is threatened bythe entity's financial performance arising from financial interests in the Companyand that significant portions of their compensation are contingent upon achieving

281


1aggressive targets for stock price, operating results, financial position, or cash

' flow;

e. Excessive pressure on management or operating personnel to meetfinancial targets set up by those charged with governance or management,including sales or profitability incentive goals;

f. Assets, liabilities, revenues, or expenses based on significant estimatesthat involve subjective judgments or uncertainties that are difficult to corroborate.

g. Domination of management by a single person or small group withoutcompensating controls, allowing management override of controls such as in thepreparation of improper period-end adjustments;

h. Ineffective oversight over the financial reporting process and internalcontrols by those charged with governance;

i. Inadequate monitoring of controls, including automated controls andcontrols over interim financial reporting;

j. Employment of ineffective accounting, internal audit, or informationtechnology staff;

k. Ineffective accounting and information systems, including situationsinvolving significant deficiencies or material weaknesses in internal control;

1. Ineffective communication, implementation, support, or enforcement ofthe entity's values or ethical standards by management or the communication ofinappropriate values or ethical standards;

m. Management failing to correct known significant deficiencies and materialweaknesses in internal controls on a timely basis;

n. Recurring attempts by management to justify marginal or inappropriateaccounting on the basis of materiality;

a Excessive interest by management in maintaining or increasing theentity's stock price or earnings trend; and

p. Practice by management of committing to analysts, creditors, and otherthird parties to achieve aggressive or unrealistic forecasts.

AU § 316.85.

732. Many-of theses red flags individually, including the suspicious timing of the

adjustments, should have alerted PwC to Dell's fraudulent accounting practices and control

I 282


deficiencies. The accumulation of all these red flags shows just how widespread the risks of1 fraudulent financial reporting were at Dell and that it was endemic to Dell's corporate culture.p g iP

1 The foregoing pattern of red flags provided notice to PwC about Dell management's character

and lack of integrity, i.e., the "tone at the top," which, in turn, should have caused PwC to re-

evaluate its risk assessments. GAAS requires that risk assessments and accordingly , an9 ^ Y

reevaluations of risk assessments, should be made with consideration of applicable risk factors.

AU § 316.12, 316.14. The auditor's response to a risk assessment should be "influenced by thet nature and significance of the risk factors identified as being present." AU § 316.25.

733. PwC violated SAS No. 99 because it failed to adequately plan and perform the1audits to obtain reasonable assurance about whether the financial statements were free of

material misstatement, whether caused by error or fraud. PwC knew or recklessly ignored the

numerous "risk factors" relevant to financial reporting, including events and circumstances that

occurred or existed at Dell during the Class Period, which adversely affected Dells ability to

initiate, record, process, and report financial data consistent with the assertions of management in

the financial statements.

734. Throughout the Class Period, PwC knew that the control deficiencies set forth

above contributed to material fraud in Dell's period-end financial reporting statements, yet PwC

still failed to adequately plan and perform the audit to obtain reasonable assurance about whether

the financial statements were free of material misstatement, whether caused by er ror or fraud

and PwC thereby knowingly and intentionally deceived the investing public.

735. As one of the largest audit firms in the world, PwC was well aware of the

strategies, methods, and procedures required by GAAS to conduct a proper audit. Also, PwC

knew of the audit risks inherent at Dell and the industry in which Dell operated because of the

283


1comprehensive services it had provided to Dell for many years. PwC's intentional failure to

comply with GAAS and PwC's performance on the Dell audits rose to the level of recklessnessp ec essness

and/or was knowingly fraudulent.

H. PwC Failed To Properly Consider And Test For Management Override Of Controls

736. In its Form 10-K filed on October 30, 2007, Dell disclosed the background and

1 results of the special investigation that began in August 2006. As part of those disclosures, Dell

stated:

t The investigation raised questions relating to numerous accounting issues, most ofwhich involved adjustments to various reserve and accrued liability accounts, andidentified evidence that certain adjustments appear to have been motivated by theobjective of attaining financial targets. According to the investigation, theseactivities typically occurred in the days immediately following the end of aquarter, when the accounting books were being closed and the results of thequarter were being compiled. The investigation found evidence that, in thattimeframe, account balances were reviewed, sometimes at the request or with theknowledge of senior executives, with the goal of seeking adjustments so that

' quarterly performance objectives could be met.

737. According to AU § 316, management is in a unique position to perpetrate fraud

because of its ability to directly or indirectly manipulate accounting records andarereP P

fraudulent financial statements by overriding established controls through recording fictitious

journal entries, particularly those recorded close to the end of an accounting period, to

manipulate operating results and intentionally biasing assumptions and judgments used to

estimate account balances.

738. It is clear, based on Dell's own disclosures of and restatement for improper

period-end journal entries to meet financial objectives, that PwC failed to follow the

requirements of AU § 316.58 to mitigate the risk of the override of controls on period-end

journal entries by:

a. Failing to obtain an understanding of the entity's financial reportingprocess and the controls over journal entries and other adjustments;

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b. Failing to identify and select journal entries and other adjustments fortesting;

C. Failing to determine the timing of the testing; and

d. Failing to inquire of individuals involved in the financial reporting processabout inappropriate or unusual activity relating to the processing of journal entries

iand other adjustments.

1.

PwC Failed To Obtain Sufficient Competent Evidential Matter Regarding RevenueRecognition On High Volume Software Products

739. PwC knowingly or recklessly failed to exercise due professional care and obtain

sufficient evidential matter for its audit procedures concerning whether Dell had properly

established Vendor Specific Objective Evidence ("VSOE") of fair value, as required under SOP

1 97-2 to immediate) recognize revenue on multiple element sales transactions. AUY 1^ p § 330.

' Despite the fact PwC knew that Dell's high volume software product revenues were material to

the Company's financial results during the Class Period, PwC simply relied on management

representations and allowed Dell to improperly accelerate the revenue recognized on these sales.

As such, PwC knew, or recklessly disregarded, the consequences of Dell recording the revenue

from these transactions incorrectly.

t740. Moreover, PwC knowingly or recklessly ignored the guidance in the AICPA

Audit Guide: Auditing Revenue in Certain Industries ("AAG-REV"), which states that

"[a]uditors should gather evidential matter to support VSOE for each element in a multiple-

element arrangement." AAG-REV ¶ 2.61. Therefore, in obtaining VSOE for each element,

PwC needed to:

1 a. Examine documentation to support the rice charged for the element whenPit is sold separately; and

b. Review the company's procedures to establish pricing policies forP p g Pelements that have not yet been sold separately, and determine that management

' does not change prices once established.

285


AAG-REV 12.6 1.

' 741. PwC could not have fulfilled and in fact did not fulfill the foregoing auditingg g g

1 duties, however, because VSOE had not been appropriately established. To be sure, there was

no supportable VSOE since, as shown by the restatement, the revenues were deferred and

recognized "over the post-contract support period."

I The Manipulation Of Accounting Accruals And Reserves For The Purpose OfEnhancing The Company's Reported Operating Results

742. PwC knowingly or recklessly disregarded Dell's use of the creation and release of

accruals and reserves that were made for the purpose of enhancing reported operating results

throughout DelI's fiscal years 2003 through 2006. According to the Form 10-K dated October

30, 2007:

The investigation raised questions relating to numerous accounting issues, most ofwhich involved adjustments to various reserve and accrued liability accounts, andidentified evidence that certain adjustments appear to have been motivated by theobjective of attaining financial targets.... The investigation concluded that anumber of these adjustments were improper, including the creation and release ofaccruals and reserves that appear to have been made for the purpose of enhancinginternal performance measures or reported results, as well as the transfer of excessaccruals from one liability account to another and the use of the excess balancesto- offset unrelated expenses in later periods. The investigation found thatsometimes business unit personnel did not provide complete information tocorporate headquarters and, in a number of instances, purposefully incorrect orincomplete information about these activities was provided to internal or externalauditors.

The investigation identified evidence that accounting adjustments were viewed attimes as an acceptable device to compensate for earnings shortfalls that could notbe closed through operational means.

Dell FY 2007 Form 10-K at 37.

743. PwC's knowledge is evidenced by the fact that Dell's improper creation and

release f accruals and reserves was not an isolated incident but rather was pervasivee ease o p throughout

the Class Period, as shown by the 2007 10-K. Additionally, the fraud related to the improper

286


creation and release of accruals and reserves involved virtually every current liability account,

such as warranty iabilities employee benefits accounts payable, litigation, sales commissionstY ^^ P Y ^ g ,

payroll, employee bonuses, and supplier rebates.

K. The Restatements Were Material To Dell 's Reported Results

744. Dell clearly has attempted to disparage the effects of the misstatements through its

' subsequent disclosures. In its Form 8-K filed on August 16, 2007, Dell stated:

The investigation identified evidence that accounting adjustments were viewed attimes as an acceptable device to compensate for earnings shortfalls that could notbe closed through operational means. Often, these adjustments were severalhundred thousand or several million dollars, in the context of a company withannual revenue of between $35 billion and $56 billion and annual net income ofbetween $2.1 billion and $3.6 billion for the periods in question... .

745. In fact, the misstatements were material to Dell's financial statements. Similar to

the auditor's assessment of materials when conducting an audit Dell's restatementsmateriality g e s must be

' viewed from more than simply a quantitative view. AU § 310.10 states that the auditor's

consideration of the materiality is a matter of professional judgment and is influenced by his or

hererce tion of the needs of a reasonable person. Specifically, AUP P P § 312.11 states:

As a result of the interaction of quantitative and qualitative considerations inmateriality judgments, misstatements of relatively small amounts that come to theauditor's attention could have a material effect on the financial statements....

t746. In assessing materiality, AU § 9312.17 requires the auditor to consider relevant

qualitative factors. Some of these factors, along with the considerations as they relate to Dell,

include:

' a. The potential effect of the misstatement on trends, especially trends inprofitability. Dell repeatedly touted the number of quarters that revenue orearnings had increased or exceeded the previous year. Many of thesedisclosures were false and misleading as a result of the misstatements in thefinancial statements;

b. The sensitivity of the circumstances surrounding the misstatement, forexample, the implications of misstatements involving fraud and possible illegal

287


acts, violations of contractual provisions, and conflicts of interest. Dell's owndisclosures repeatedly reference improper adjustments motivated by attainingfinancial targets, improper period-end journal entries and the creation andrelease of reserves/accruals for the purpose of enhancing reported results;

C. The significance of the misstatement relative to known user needs, suchas:

i. The significance of earnings and earnings per share to public-company investors. Dell's restatements served to change EPS by at least$0.01 per share in 10 of the 17 quarters included in the Class Period;and

ii. The effect of misstatements of earnings when contrasted withexpectations. In 5 of 6 quarters in which Dell's restatements served todecrease EPS from what was originally reported, the restatementreduced EPS below Company guidance that was originally shown to

r have been met

747. As a result of the consideration of the qualitative factors of materiality, Dell's

restatements were material to its investors and readers of its financial statements.

L. PwC Has A History Of Violating GAAS And Engaging In Questionable Conduct

748. PwUs inept auditing of Dell was not unique. In fact, PwC has a long history of

shabby work and questionable conduct. For example, in 2004 the PCAOB performed a review

of PwC's auditing work and found deficiencies at nine of its clients. The report was issued in

2006. The PCAOB performed work at PwC's national office and sixteen of its other practice

offices. Not surprisingly, the deficiencies included some of the very issues Dell identified in its

Form 10-K dated October 30, 2007, such as:I• failure to identify GAAP violations;

• failure to obtain sufficient competent evidential matter to support itsaudit opinions;

• failure to consider deficiencies in controls and how that affected riskassessment, and the nature, timing, and extent of some of its procedures; and

' 0 failure to properly test consolidated revenues, and whether revenue wasrecognized in the proper period.

' 288


749. Apart from the foregoing, PwC's suspect accounting and auditing practices have

been called into question by public shareholders and the SEC. By way of example:

• PwC was sued in connection with the collapse of Hibernia Foods PLLC,in which the plaintiffs alleged that PwC ignored signs that Hibernia did not have apromising financial outlook. The Judge in that case denied PwC's motion todismiss and PwC later settled the case for $2.8 million;

• A federal New Jersey jury found PwC jointly liable for grossmismanagement and fraudulent financial reports that bankrupted AmbassadorInsurance Co;

• In 2003, the SEC initiated and settled an enforcement action against PwCfor

Inaccounting connected with SmarTalk TeleServices, Inc. The SEC

found through its investigation that PwC had improperly conducted its audit and' intentionally manipulated its working papers with knowledge of deficiencies in its

client's financial statements to the SEC; and

• In 2003, a PwC partner, Richard P. Scalzo, was permanently barred from' auditing public companies as part of a settlement with the SEC after Tyco

executives claimed that Scalzo and PwC had approved the hidden bonuses andforgiven loans that led to charges of embezzlement against former Tyco

'

executives. In July 2007, PwC reached a $225 million settlement with the class inthe Tyco securities litigation.

'

750. Given PwC's history and the magnitude of the repeated, systemic and obvious

fraudulent conduct permeating. Dell's accounting and reporting, PwC clearly was aware of, or

recklessly disregarded, the accounting fraud at the Company during the Class PeriodY g g

' XI. APPLICABILITY OF PRESUMPTION OF RELIANCE: FRAUD-ON-THE-MARKET DOCTRINE

751. At all relevant times, the market for Dell's securities was an efficient market for

the following reasons, among others:

• Dell's stock met the requirements for listing, and was listed and activelytraded on the NASDAQ, a highly efficient and automated market;

• As a regulated issuer, Dell filed periodic public reports with the SEC;

• Dell regularly communicated with public investors by established marketcommunication mechanisms, including through regular disseminations of pressreleases on national circuits of major news wire services and through other wide-

' 289


ranging public disclosures, such as communications with the financial press and' other similar reporting services; and

:rokerageDell was followed by numerous securities analysts employed by major

firms who wrote reports, which were distributed to the sales force andcertain customers of their respective brokerage firms. Each of those reports waspublicly available and entered the public marketplace.

752. As a result of the foregoing, the market for Dell's securities promptly digested

current information regarding Dell from all publicly available sources and reflected such

information in Dell's stock price. Under these circumstances, all purchasers of Dell's securities

during the Class Period suffered similar injury through their purchase of Dell's securities at

artificially inflated prices and a presumption of reliance applies.

XH. NO SAFE HARBOR EXISTS FOR DEFENDANTS' FALSE STATEMENTS

'

753. The statutory safe harbor provided for forward-looking statements under certain

circumstances does not apply to any of the allegedly false and/or misleading statements pleaded

in this p Complaint. The specific statements leaded herein either were not identified as "forward-P p

' looking statements" when made or were not accompanied by meaningful cautionary statements

identifying important factors that could cause actual results to differ materially from those in the

purportedly forward-looking statements. Alternatively, to the extent that the statuto ry safe

'

harbor does apply to any forward-looking statements pleaded herein, Defendants still are liable

for those false forward-looking statements because at the time each of those forward-looking

'

statements was made, the particular speaker knew that the particular forward-looking statement

was false and misleading, and/or the forward-looking statement was authorized and/or approved

by an executive officer of Dell who knew that those statements were false when made.

XIII. LOSS CAUSATION

754. Throughout the Class Period, the Defendants' false and misleading statements and

omissions concerning ell's financial performance inflated Dell's stock rice. But for theg p p

290


Defendants' misrepresentations and omissions, which concealed Dell's improper revenue

' recognition practices, its improper accounting for warranty liabilities its accelerated recognitionecogm pg ty

of deferred revenue from extended warranties, the misstatement of shareholder equity, Dell's

practice of using "accounting adjustments ... to compensate for earnings shortfalls that could

not be closed through operational means," and the accuracy of Dell's SEC filings, thereby

misstating Dell's reported revenue, operating income, net income, earnings per share, gross

margin, shareholder equity and liability figures, Lead Plaintiff and the Class would not have

purchased Dell's securities, or would not have purchased them at the artificially inflated prices at

' which they were offered.

755. As a direct result of the Defendants' scheme, misrepresentations, and omissions

' of material facts, the price of Dell's common stock was artificially inflated throughout the Class

Period. Because of the Defendants' false and misleading statements, Dell's common stock

closed at an average price of $32.11 per share during the Class Period, reaching a Class Period

' high of $42.57 on December 9, 2004.

756. The Defendants' false statements and omissions were gradually revealed to the1 market beginning in August 2005 after the SEC commenced an invest igation into Dell that wasg g ^ ^ g

not publicly disclosed for more than one year. Each individual disclosure after August 11, 2005

partially corrected misstatements and omissions relating to Dell's financial performance, its

' purported adherence to GAAP, and PwC's compliance with GAAS in the audit of Dell's filings.

757. The declines in the Company's stock price between August 2005 and September

2006, including, but not limited to, the declines summarized below are directly attributable to the

' market's absorption of information correcting the Defendants' fraudulent misrepresentations and

' omissions.

' 291


A. The August 11, 2005 Announcement

758. On August 11, 2005, Dell issued an earnings release announci ng its financialt^ g g


Earnings Release reported that Dell earned $13.4 billion in revenue, $1.17 billion in operating

' income, and $1.02 billion in net income. The Q2 2006 Earnings Release also reported liabilities

of $17 billion and EPS of $0.41 (diluted). The Q2 2006 Earnings Release, although not

ostensibly disclosing fraud, began Dell's deceptive attempt to unwind its fraudulent scheme and

thus partially corrected the Defendants' misrepresentations that Dell was based on a sound

business model, which did not improperly recognize revenue and did not include the

manipulation of the Company's warranty and other reserves. As the market absorbed the

' information contained in the Q2 2006 Earnings Release, the Company's shares declined in value,

falling from $39.58 per share on August 11, 2005, to close at $35.38 on August 24, 2005, a

odecline of 10.6% .

' B. The February 16, 2006 Fourth Quarter FY 2006 Announcement

759. After trading closed on February 16, 2006, Dell announced that, after two

' consecutive disappointing quarters, its fourth quarter FY 2006 results had actually exceeded

analysts' expectations. Despite the superficially positive nature of this news on earnings (43

cents per share, versus a consensus analyst estimate of 41 cents), sales ($15.2 billion versus a

consensus analyst estimate of $14.8 billion) and revenue, Company officials noted that Dell only

achieved these results because of an unusually long first quarter —14 weeks versus the normal 13

week quarter. Indeed, Defendant Rollins explained that the additional week added two to three

percentage points to Dell's growth rate. Thus, instead of an actual growth rate of 13 percent

from the significantly shorter fourth quarter in the prior fiscal year, Dell's normalized growth

rate — an apples to apples comparison, adjusting for the extra week in 2005 — was only 10 to 11

' 292


percent, significantly lower than expected, projected, and historically achieved. Additionally,

' Dell's all-in ortant earnings per share received significant one-time boosts from a taxp g p t^

' adjustment and from $2 billion in share buy backs in the quarter that significantly reduced the

amount of publicly traded shares outstanding. Specifically, Dell announced that during the

quarter, it spent $2 billion to repurchase 66 million shares of common stock, reducing weighted

average shares outstanding by seven percent year-over-year. For the full year, Dell spent $7.2

billion to repurchase almost 205 million shares, which helped artificially add three cents to its

searnin per share. Without these extraneous factors, Dell would have vast ly missed its marksearnings Y

for this quarter. Additionally, Dell's guidance for the first quarter of FY 2007 was disappointing

and far below pre-correction expectations. Specifically, Dell predicted revenue of $14.2 to $14.6

billion, representing only a six to nine percent growth rate over the prior year. This fell far short

of the 16 and 21 percent year-over-year growth that Dell posted in the two immediately

preceding first quarters, respectively.

760. The February 16, 2006 Press Release, although not ostensibly disclosing fraud,

continued Dell's attempt to unwind its fraudulent scheme and thus partially corrected the

Defendants' misrepresentations that Dell was based on a sound business model which did not

' improperly recognize revenue and did not include the manipulation of the Company's warranty

and other reserves. As the market absorbed the information contained in the February 16, 20061 press release, the Company's shares declined in value, falling from a closing price of $31.96 per

' share on February 16, 2006, to a closing price of $30.38 the following day. By the end of

February 2006, Dell's share price was only $29.00 per share.

' C. The May 8, 2006 Announcement

761. On May 8, 2006, after the close of trading, Dell updated its earnings guidance by

announcing that it would miss the streets earnings expectations for the quarter by five cents per

' 293


share. Dell stated that the miss was the result of a decision to cut prices in hopes of accelerating

future revenue growth.

' 762. The May 8, 2006 Press Release, although not ostensibly disclosing fraud,


Defendants' misrepresentations that Dell was based on a sound business model, which did not

'

improperly recognize revenue and did not include the manipulation of the Company's warranty

and other reserves. As the market absorbed the information contained in the May 8, 2006 press

' release, the Company's shares declined in value, falling from their close on May 8, 2006 of

'

$26.43 per share to $23.78 by May 16, 2006, a decline of 10%. Dell's shares continued to lose

value, by June 23, 2006, they had declined to $23.72 per share, and to $21.68 by the end of July,

' erasing more of the share price inflation that was achieved through the inflated results of prior

' years.

D. The August 17, 2006 Announcement

' 763. On August 17, 2006, Dell issued an earnings release announcing its financial

results for the second quarter of fiscal year 2007 (the "Q2 2007 Earnings Release'). The Q2

2007 Earnings Release reported that Dell earned $14.09 billion in revenue $605 million in

'

operating income, and $502 million in net income. The Q2 2007 Earnings Release also reported

EPS as $0.22.

' 764. The Q2 2007 Earnings Release, although not ostensibly disclosing fraud,


Defendants' misrepresentations that Dell was based on a sound business model, which did not

' improperly recognize revenue and did not include the manipulation of the Company's warranty

' and other reserves. As the market absorbed the information contained in the Q2 2007 Earnings

294


Release, the Company's shares declined in value, falling from $22.80 per share on August 17,

o2006, to close at $21.64 on August 23, 2006, a decline of 5.1

' E. The September 11, 2006 Announcement

765. On September 11, 2006, Dell issued a press release stating:

The company said it is unable to file because of questions raised in connectionwith the previously announced informal investigation by the U.S. Securities and

' Exchange Commission (SEC) into certain accounting and financial reportingmatters and the subsequently initiated independent investigation by the AuditCommittee of its board of directors. The company said it plans to file the report as

' soon as possible.

The investigations have indicated the possibility of misstatements in prior periodfinancial reports, including issues relating to accruals, reserves and other balance

' sheet items that may affect the company's previously reported financial results.The company is working with the Audit Committee and with the company'sindependent auditors to determine if any restatements of prior period financialreports will be necessary.

' The SEC requests for information have been joined b a similar request from theq J Y qUnited States Attorney for the Southern District of New York, who has

' subpoenaed documents related to the company's financial reporting from 2002 tothe present.

In light of these developments, the company has suspended its ongoing sharerepurchase program until further notice. In addition, given the delay in its 10-Qfiling, the company has postponed the meeting with analysts that was to be heldon Wednesday, September 13 and will reschedule it to a later date. Dell will beholding its Technology Day on Tuesday, September 12, in New York showcasing

' its latest products and services.

766. The September 11, 2006 disclosure partially corrected the Defendants' prior false

statements that Dell was based on a sound business model that did not improperly recognize

' revenue and did not include the manipulation of the Company's warranty and other reserves.

295


767. In total, between August 11, 2005 and September 8, 2006, Dell's share price

r hare to 21.65 a decline of 45.30/o),declined from $39.58 per s $ ( returning stock prices back to at

' or about the pre-fraud level.

768. This drop represented, at least in part, the unwinding of Dell's fraudulent scheme

and represents a loss in market capitalization — i.e., a total loss to Dell shareholders — of $45.7

' billion.

769. Because Lead Plaintiff and other putative class members purchased shares at

inflatedrices based on Defendants' fraud and still held shares after the rice was deflated i.e.,P P

'

corrected, as truthful information entered the market place, Lead Plaintiff's and the Class' losses

were caused directly by the Defendants' fraud.

' XIV. CLASS ACTION ALLEGATIONS

770. Lead Plaintiff brings this action as a class action pursuant to Federal Rule of Civil

Procedure 23(a) and (b)(3) on behalf of a Class consisting of all those who purchased or

otherwise acquired the common stock of Dell during the period May 16, 2002 through and

including September 8, 2006, and who were damaged thereby. Excluded from the Class are

' Defendants, the officers and directors of the Company and PwC at all relevant times members ofP y ,

'

their immediate families and their legal representatives, heirs, successors or assigns and any

entity in which any Defendants have or had a controlling interest.

771. The members of the Class are so numerous that joinder of all members is

' impracticable. While the exact number of Class members is unknown to Lead Plaintiff at this

time and can only be ascertained through appropriate discovery, Lead Plaintiff believes that the

' proposed Class contains at least thousands of members. Record owners and other members of

' the Class may be identified from records maintained by Dell or its transfer agent and may be

296


notified of the pendency of this action by ' mail, using a form of notice customarily used in

securities class actions.can e s

772. Lead Plaintiff's claims are typical of the claims of the members of the Class as all

members of the Class are similarly affected by Defendants' wrongful conduct in violation of

federal law that is complained of herein.

773. Lead Plaintiff will fairly and adequately protect the interests of the members of

the Class and it has retained counsel competent and experienced in class and securities litigation.

774. Common questions of law and fact exist as to all members of the Class and

predominate over any questions solely affecting individual members of the Class. Among the

questions of law and fact common to the Class are:

• whether Defendants violated the federal securities law by their acts asalleged herein;

^Iasswhether statements made by Defendants to the investing public during the

Period misrepresented and/or omitted material facts about the business,operations, management and the accuracy of the financial reports and SEC filings

' filed by Dell;

• whether these misstatements and omissions caused Dell's share price to be' inflated; and

• to what extent the members of the Class have sustained damages and theproper measure of damages.

775. A class action is superior to all other available methods for the fair and efficient

' adjudication of this controversy as joinder of all members is impracticable. Furthermore, as the

damages suffered by individual Class members may be relatively small, the expense and burden

of individual litigation make it impossible for members of the Class individually to redress the

wrongs done to them. There will be no difficulty in the management of this action as a class

action.

297


XV. CLAIMS FOR RELIEF

' COUNT ONEViolation Of Section 10(b) Of The Exchange Act And

Rule 10b-5 Promulgated ThereunderAgainst Defendants Dell, Michael Dell, Rollins, Schneider and PwC

(collectively, the "Section 10(b) Defendants")

776. Lead Plaintiff repeats and realleges each and every allegation contained above as

' if fully set forth herein.

777. This count is asserted against the Section 10(b) Defendants by Lead Plaintiff on

behalf of itself and all members of the Class for violations of Section 10(b) of the Exchange Act

and Rule l Ob-5 promulgated thereunder.

778. During the Class Period, the Section 10(b) Defendants carried out a plan, scheme

' and course of conduct which was intended to and, throughout the Class Period, did: (i) deceive

the investing public, including Lead Plaintiff and other Class members, as alleged herein; and (ii)

cause Lead Plaintiff and other members of the Class to purchase Dell common stock at

artificially inflated prices. In response to the unwinding and disclosure of the Section 10(b)

Defendants' fraud, the price of the Company's common stock declined precipitously, damaging

Lead Plaintiff and the Class. In furtherance of this unlawful scheme, plan and course of conduct,

' the Section 10(b) Defendants took the actions set forth above.

779. The Section 10(b) Defendants: (a) employed devices, schemes, and artifices to

defraud; (b) made untrue statements of material fact and/or concealed material facts necessary to

' make the statements complete, accurate and not misleading; and (c) engaged in acts, practices,

and a course of business that operated as a fraud and deceit upon the purchasers of the

Company's common stock in an effort to maintain artificially high market prices for Dell

common stock in violation of Section 10(b) of the Exchange Act and Rule 1 Ob-5.

298


780. The Section 10(b) Defendants were primary participants in the wrongful and

illegal conduct charged herein.

781. The Section 10(b) Defendants, individually and in concert, directly and indirectly,

by the use, means or instrumentalities of interstate commerce and/or of the mails, engaged and

participatedated in a continuous course of conduct to conceal adverse material information about

Dell.

782. The Section 10(b) Defendants employed devices, schemes and artifices to

defraud, while in possession of material adverse non-public information and engaged in acts,

' practices, and a course of conduct as alleged herein in an effort to deceive investors into buying

Dell common stock at inflated prices. This included the making of, or the participation in the

making of, untrue statements of material facts and omitting to state material facts necessary in

order to make the statements made about Dell in the light of the circumstances under which they

were made, complete, accurate and not misleading, as set forth more particularly above, and

engaged in transactions, practices and a course of business that operated as a fraud and deceit

upon the purchasers of Dell common stock during the Class Period.

783. The Section 10(b) Defendants had actual knowledge of the misrepresentations and

omissions of material facts set forth herein, or acted with intent or with reckless disregard for the

truth in that they failed to ascertain and to disclose such facts, even though such facts were

available to them. The Section 10(b) Defendants' material misrepresentations and/or omissions

were done intentionally, knowingly, or recklessly and for the purpose and effect of concealing

Dell's operating condition and future business prospects from the investing public and thereby

deceiving investors into buying Dell common stock at artificially inflatedP rices. In view of the

' repeated and pervasive misstatements made during the Class Period regarding the Company's

' 299


business, operations and earnings, it is plain that the Section 10(b) Defendants either had actual

knowledge of the misrepresentations and omissions alleged or were reckless in failing to obtain

such knowledge by deliberately refraining from taking those steps necessary to discover whether

those statements were false or misleading.

784. As a result of the dissemination of the materially alse and misleading informationY g

and failure to disclose material facts, as set forth above, the market price of Dell common stock

Iwas artificially inflated during the Class Period, and upon the discovery and/or unwinding of the

Section 10(b) Defendants' fraud, the market price of Dell common stock declined. In ignorance

' of the fact that market prices of Dell's publicly-traded common stock were artificially inflated,

and relying directly or indirectly on the false and misleading statements made by the Section

10(b) Defendants, or upon the integrity of the market in which the securities trade, and/or on the

absence of material adverse information that was known to or recklessly disregarded by the

Section IO(b) Defendants but not disclosed in public statements by the Section 10(b) Defendants

1 during the Class Period, Lead Plaintiff and the other members of the Class acquired Dell

common stock during the Class Period at artificially high prices and were damaged when the

price of Dell common stock plummeted when the Section 10(b) Defendants fraud was revealed.

785. At the time of the Section 10(b) Defendants' knowing and intentional

misrepresentations and omissions, Lead Plaintiff and other members of the Class were ignorant

of their falsity, and believed them to be true. Had Lead Plaintiff and the other members of the

Class and the marketplace known the truth regarding the problems that Dell was experiencing,

which were not disclosed by the Section 10(b) Defendants, Lead Plaintiff and other members of

the Class would not have purchased or otherwise acquired Dell common stock, or, if they had

r

300


acquired such securities during the Class Period, they would not have done so at the artificially

inflated prices which they paid.

'

786. By virtue of the foregoing, the Section 10(b) Defendants have violated Section

10(b) of the Exchange Act, and Rule l0b-5 promulgated thereunder.

787. As a direct and proximate result of the Section 10(b) Defendants' wrongful

conduct, Lead Plaintiff and the other members of the Class suffered damages in connection with

their respective purchases and sales of the Company's common stock during the Class Period.

COUNT TWOViolation Of Section 20(a) Of The Exchange Act

Against Defendants Michael Dell, Rollins, and Schneider(collectively, the "Section 20(a) Defendants")


if fully set forth herein.

789. This count is asserted against the Section 20(a) Defendants by Lead Plaintiff on

behalf of itself and all members of the Class for violations of Section 20(a) of the Exchange Act.

790. Defendant Dell committed a primary violation of Section 10(b) of the Exchange

Act, and Rule lOb-5 promulgated thereunder, by making false and misleading statements of

material fact, in connection with the purchase and sale of securities, which were relied upon by

Lead Plaintiff and all other members of the Class to their determent as described herein). At the

time these false and misleading statements were made, Dell knew or was reckless in not knowing

the falsity of such statements.

791. The Section 20(a) Defendants acted as controlling persons of Dell within the

meaning of Section 20(a) of the Exchange Act. By virtue of their high-level positions, and their

ownership and contractual rights, participation in and/or awareness of the Company's operations

and/or intimate knowledge of the false financial statements filed by the Company with the SEC

301


and disseminated to the investing public, the Section 20(a) Defendants had the power to1 influence and control and did influence and control, directly or indirectly, the decision-making of

Dell, including the content and dissemination of the various statements which Lead Plaintiff and

the Class contend are false and misleading. The Section 20(a) Defendants were provided with or

had unlimited access to copies of the Company's reports, press releases,ublic films and otherP g

statements alleged by Lead Plaintiff and the Class to be misleading prior to and/or shortly after

these statements were issued and had the ability to prevent the issuance of the statements or

cause the statements to be corrected.

792. In particular, each of the Section 20(a) Defendants had direct and supervisory

involvement in the day-to-day operations of the Company and, therefore, are presumed to have

had the power to control or influence the particular transactions giving rise to the securities

violations as alleged herein, and exercised the same.

793. As set forth above, the Company violated Section 10(b) and Rule l Ob-5 by its acts

and omissions as alleged in this Complaint. By virtue of their positions as controlling persons,

the Section 20(a) Defendants are liable pursuant to Section 20(a) of the Exchange Act. As a

direct androximate result of the Section 20 a Defendants' wrongfulp O g conduct, Lead Plaintiff

and other members of the Class suffered damages in connection with their purchases of the

Company's common stock during the Class Period.

COUNT THREE Violation Of Section 20A Of The Exchange Act

Against Defendants Michael Dell, Rollins, and Schneider(collectively, the "Section 20A Defendants")


if fully set forth herein.

302


795. Lead Plaintiff asserts this claim on behalf of all persons who purchased Dell

common stock contemporaneously with the Section 20A Defendants sales of Dell common

stock. This claim is brought pursuant to Section 20A of the Exchange Act.

796. The Section 20A Defendants were in possession of material non-public

information about Dell its operations, finances financial condition and reporting,accountinP ^ g

practices and business model. The Section 20A Defendants exploited this material non-public

information regarding the Company to make millions of dollars in insider trading profits during

the Class Period. These transactions were made while the Section 20A Defendants had knowin g

possession of material non-public information. The Section 20A Defendants' transactions in

Dell common stock were made contemporaneously with Lead Plaintiff's and other Class

members' purchases of Dell common stock during the Class Period.20

797. All members of the Class who purchased shares of Dell common stock

contemporaneously with sales by the Section 20A Defendants: (i) have suffered substantial

recoverable damages because, in reliance on the integrity of the market, they paid artificially

inflated prices as a result of the violations of Section 10(b) and 20(a) of the Exchange Act as

alleged herein; and (ii would not have purchased the securities at the prices they paid, or at all, if

they had been aware that the market prices had been artificially inflated by the Section 20A

Defendants' materially false and misleading statements and/or affirmative concealment of

material facts. At the time of Lead Plaintiff's and the other Class members' purchases of Dell

20 By way of example, on August 23, 2004, Defendant Michael Dell sold 1,000,000 shares of Dell common stock.On the very same day, Lead Plaintiff, through "UmGlobalTitans 50" (one of several funds that Lead Plaintiffmanages), purchased 61,000 shares of Dell common stock.

303


rcommon stock, the fair and true market value of these securities was substantially less than the

f price paid by Lead Plaintiff and/or these other Class members.

798. Under Section 20A of the Exchange Act, the Section 20A Defendants are liable to

Lead Plaintiff and the Class for all profits gained and losses avoided by them as a result of any

contemporaneous transactions.

' XVL PRAYER FOR RELIEF

WHEREFORE, Lead Plaintiff prays for relief and judgment, as follows:

' A. Declaring this action to be a proper Class action pursuant to Fed. R. Civ. P. 23;

' B. Awarding compensatory damages against all Defendants, jointly and severally, in

favor of Lead Plaintiff and the proposed class for all losses and damages suffered as a result of

Defendants' wrongdoing alleged herein, in an amount to be determined at trial, together with

interest thereon;

C. Awarding ead Plaintiff its reasonable costs and expenses incurred in this actiong P ,

including a reasonable allowance of fees for Lead Plaintiff's attorneys and experts; and

D. Awarding Lead Plaintiff such other and further relief as the Court may deem just

and proper.

XVII. JURY DEMAND

Lead Plaintiff demands a trial by jury as to all issues so triable.

304


Dated: January 11, 2008

Respectfully s 'tted,

Aov

Don L. Davis, Esq.BYRD Davis FuRmAN

707 West 34th StreetAustin, TX 78705-11294(512) 454-3751 Phone(512) 451-5857 Fax

MOTLEY RICE LLC

Ronald L. Motley, Esq. (admitted pro hac vice)Joseph F. Rice, Esq. (admitted pro hac vice)Ann K. Ritter, Esq. (admitted pro hac vice)James M. Hughes, Esq. (admitted pro hac vice)P.O. Box 179228 Bridgeside BlvdMount Pleasant, SC 29464(843) 216-9000 Phone(843) 216-9450 Fax

Counsel for Lead Plaintiff

Ii

1305


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I hereby Ycertif that on this the I 1 th day of January 2008,1 personally delivered theforegoing document to the following:

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I hereby certify that on this the 11 th day of January 2008, I delivered the foregoingdocument via Federal Express — Priority Delivery to the following:

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' Dated this day of , 2008

Don L. Davis

In re Dell, Inc. Securities Litig. 06-CV-00726-Consolidated Amended Complaint For Violations Of

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Transcript of In re Dell, Inc. Securities Litig. 06-CV-00726-Consolidated Amended Complaint For Violations Of