BERNSTEIN LITOWITZ BERGER & GROSSMANN...

2:13-cv-09174-MWF-VBK Document 44 Filed 05/20/14 Page 1 of 107 Page ID #:421

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

28

BERNSTEIN LITOWITZ BERGER & GROSSMANN LLP

BLAIR A. NICHOLAS (Bar No. 178428) [email protected] TIMOTHY A. DELANGE (Bar No. 190768) [email protected] RICHARD D. GLUCK (Bar No. 151675) [email protected] MATTHEW P. JUBENVILLE (Bar No. 228464) [email protected] 12481 High Bluff Drive, Suite 300 San Diego, California 92130 Telephone: (858) 793-0070 Facsimile: (858) 793-0323

-and- GERALD H. SILK [email protected] AVI JOSEFSON [email protected] 1285 Avenue of the Americas, 38th Floor New York, New York 10019 Telephone: (212) 554-1400 Facsimile: (212) 554-1444

Counsel for Lead Plaintiff Arkansas State Highway Employees Retirement System and Lead Counsel for the Class

UNITED STATES DISTRICT COURT CENTRAL DISTRICT OF CALIFORNIA

WESTERN DIVISION

MARK ROBERTI, Individually and on Behalf of All Others Similarly Situated,

AMENDED CLASS ACTION Plaintiff, COMPLAINT

v.

OSI SYSTEMS, INC., DEEPAK CHOPRA, ALAN I. EDRICK, and AJAY MEHRA,

Defendants.

AMENDED CLASS ACTION COMPLAINT CASE NO. 13-cv-09174-MWF-VBK

Case No.: 2:13-cv-09174-MWF-VBK

CLASS ACTION


1 TABLE OF CONTENTS

STATEMENT OF JURISDICTION AND VENUE PER L.R. 8-1 .......................... 1

I. SUMMARY OF THE FRAUD ....................................................................... 2

II. JURISDICTION AND VENUE......................................................................7

III. THE PARTIES ................................................................................................ 8

A. LeadPlaintiff ......................................................................................... 8

B. Defendants.............................................................................................8

I IV. BACKGROUND ........................................................................................... 12

OSI’s Security And Inspection Business ............................................ 13

Government Contracts Were Rapiscan’s Core Business............................................................................................... 14

Compliance With Government Contracts Was Vital To OSI’s Business ...................................................................... 15

OSI’s $173 Million TSA Contract For Body Scanners............................................................................................... 17

The Secure 1000 Single Pose .................................................... 17

Privacy Concerns Regarding The Secure 1000SP, And The Congressional Directive ToFix It .................................................................................... 18

OSI’s $325 Million TSA Contract For Checkpoint Baggage And Parcel Scanners ............................................................. 20

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

A.

B.

C.

D.

E.

1

2

Page

20 II V. DEFENDANTS’ FRAUD ............................................................................. 20

A.

B.

Defendants’ Fraud Regarding Its ATR Software ................................ 21

Defendants Fraudulently Used Unapproved ForeignParts ........................................................................................ 30

VI. DEFENDANTS’ MATERIALLY FALSE AND MISLEADING STATEMENTS AND OMISSIONS ................................... 35

A. Defendants’ Materially False And Misleading Statements And Omissions Regarding OSI’s GovernmentContracts ......................................................................... 35

1. OSI’s $173 Million Contract For AIT Body Scanners.................................................................................... 35

21

22

23

24

25

26

27

AMENDED CLASS ACTION COMPLAINT -i- CASE NO. 13-cv-09174-MWF-VBK

28


2. OSI’s $325 Million Contract For Checkpoint Baggage Scanners..................................................39

B. OSI’s Class Period Financial Statements Were Materially False And Misleading And Not In Compliance With GAAP And Applicable SEC Rules.................................................................................................... 42

OSI Failed To Properly Account For The Material Charges Associated With Defendants’ Fraud ..................................................................... 43

Additional GAAP And SEC Violations .................................... 56

C. Defendants’ Sarbanes-Oxley And Internal Controls Certifications Were False And Misleading.........................................64

Sarbanes-Oxley Certifications .................................................. 64

2. Internal Controls Over Financial Reporting ............................. 67

VII. ADDITIONAL SCIENTER ALLEGATIONS ............................................. 73

A

Defendants’ Fraud Concerned OSI’s Core Operations........................................................................................... 73

B. The Individual Defendants Profited From Their FraudulentScheme..............................................................................75

VIII. THE TRUTH EMERGES ............................................................................. 80

A.

B.

C.

The November 15, 2012 Disclosure Of Manipulated ATR Testing And Potential Loss Of FutureContracts .................................................................................. 80

The May 20, 2013 Announcement Of The Notice OfProposed Debarment ...................................................................... 82

The December 5-8, 2013 Revelations Of Rapiscan’s Ongoing Fraud And Likely Ban On FutureContracts .................................................................................. 84

IX. APPLICABILITY OF PRESUMPTION OF RELIANCE: FRAUD-ON-THE-MARKET DOCTRINE............................88

X. INAPPLICABILITY OF STATUTORY SAFE HARBOR.......................................................................................................89

I XI. CLASS ACTION ALLEGATIONS..............................................................90

I XII. CLAIMS FOR RELIEF.................................................................................92

COUNT I Violations Of Section 10(b) Of The Exchange Act And Rule 10b-5 Promulgated Thereunder Against Defendants OSI, Chopra, Edrick And Mehra ......................................................... 92

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

28

1.

2.

AMENDED CLASS ACTION COMPLAINT -ii- CASE NO. 13-cv-09174-MWF-VBK


1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

COUNT II Violations Of Section 20(a) Of The Exchange Act Against Defendants Chopra, Edrick And Mehra ................................. 95

COUNT III Violations Of Section 20(A) Of The Exchange Act Against Defendants Chopra, Edrick And Mehra ................................. 97

PRAYER FOR RELIEF .................................................................................... 101

JURY TRIAL DEMANDED.............................................................................102

AMENDED CLASS ACTION COMPLAINT -iii- CASE NO. 13-cv-09174-MWF-VBK

27

28


1

STATEMENT OF JURISDICTION AND VENUE PER L.R. 8-1

2

1. The claims asserted herein arise under and pursuant to sections 10(b), 20(a)

3

and 20(A) of the Securities Exchange Act of 1934 (the “Exchange Act”), 15 U.S.C.

4

§§ 78j(b), 78t(a) and 78t-1, along with Rule 10b-5 promulgated thereunder (17 C.F.R.

5

§ 240.10b-5).

6

2. This Court has jurisdiction over the subject matter of this action pursuant

7

to section 27 of the Exchange Act (15 U.S.C. § 78aa) and 28 U.S.C. § 1331. In

8

connection with the acts, conduct and other wrongs alleged in the Amended Class

9

Action Complaint (“Complaint”), defendants, directly or indirectly, used the means and

10

instrumentalities of interstate commerce, including the United States mails, interstate

11

telephone communications, and the facilities of the national securities exchange.

12

3. Venue is proper in this district pursuant to section 27 of the Exchange Act,

13

15 U.S.C. § 78aa and 28 U.S.C. § 1391(b). OSI Systems, Inc.’s principal place of

14

business is in the Central District of California, and defendants Deepak Chopra, Alan I.

15

Edrick and Ajay Mehra reside in the Central District of California. Many of the acts

16

and transactions alleged herein, including the preparation and dissemination of

17

materially false and misleading information, occurred in substantial part in this district.

18

19

20

21

22

23

24

25

26

27

28

AMENDED CLASS ACTION COMPLAINT -1- CASE NO. 13-cv-09174-MWF-VBK


1

Court-appointed Lead Plaintiff, the Arkansas State Highway Employees

2

Retirement System (“Lead Plaintiff,” or “ASHERS”), brings this action pursuant to

3

sections 10(b), 20(a) and 20(A) of the Exchange Act and Rule 10b-5 promulgated

4

thereunder (17 C.F.R. § 240.10b-5), on behalf of itself and all persons other than

5

defendants who purchased or otherwise acquired the securities of OSI Systems, Inc.

6

(“OSI” or the “Company”) between January 24, 2012 and December 6, 2013 (the “Class

7

Period”). Defendants are OSI, its Chairman of the Board of Directors, President and

8

Chief Executive Officer (“CEO”) Deepak Chopra (“Chopra”), its Chief Financial

9

Officer (“CFO”) and Executive Vice President Alan I. Edrick (“Edrick”) and its

10

Executive Vice President and Director Ajay Mehra (“Mehra”) (collectively

11

“Defendants”).

12

Lead Plaintiff alleges the following based upon personal knowledge as to itself

13

and its own acts and upon information and belief as to all other matters. Lead

14

Plaintiff’s information and belief is based on the investigation of Court-appointed Lead

15

Counsel, Bernstein Litowitz Berger & Grossmann LLP (“Lead Counsel”). This

16

investigation included, review and analysis of (i) OSI’s public filings with the U.S.

17

Securities and Exchange Commission (“SEC”); (ii) the reports of securities and

18

financial analysts concerning OSI’s business; (iii) press releases, news articles, and

19

other public statements concerning the Defendants; and (iv) interviews with numerous

20

former OSI employees (identified herein as Confidential Witness (“CW_”)). Lead

21

Counsel’s investigation into the factual allegations contained herein is continuing, and

22

many of the relevant facts are known only by the Defendants, or are exclusively within

23

their custody or control. Lead Plaintiff believes that substantial additional evidentiary

24

support will exist for the allegations set forth herein after a reasonable opportunity for

25

discovery.

26

I. SUMMARY OF THE FRAUD

27

1. This securities fraud action involves OSI and its core business segment,

28 II Rapiscan Systems, Inc. (“Rapiscan”). The allegations of fraud detailed herein are



1

confirmed and corroborated by Defendants own admissions , public statements and

2

announcements from Congress and several former employees of OSI.

3

2. Rapiscan, which accounts for nearly half of OSI’s annual revenue,

4

develops and manufactures X-ray security and inspection systems to detect explosives,

5

weapons, and other contraband. Rapiscan’s largest and most important customer was

6

the United States Government and, in particular, the Department of Homeland Security

7

(“DHS”) and the Transportation Security Administration (“TSA”). These government

8

entities purchased Rapiscan’s security and inspection systems for use at airports, border

9

crossings, shipping ports, military installations and other venues. Accordingly,

10

Rapiscan’s compliance with the strict terms of the government contracts which

11

governed these purchases was, and continues to be, vital to OSI’s overall financial

12

performance, its ability to secure future contracts, and, ultimately, its stock value.

13

3. OSI’s fraud centered on Rapiscan’s contracts with the U.S. Government

14

related to body scanner software and checkpoint baggage scanners. First , in response

15

to public outcry over body scanners that provided “naked body” images of travelers, the

16

TSA demanded that software be installed that transformed the revealing images to

17

generic ones. While Rapiscan’s main competitor – L-3 Security & Detections Systems

18

(“L-3”) – quickly developed the necessary software, Rapiscan could not. In fact,

19

according to CW1, a Senior Test Engineer at Rapiscan from November 2009 to January

20

2013, who worked on the testing of the software, from the beginning the software

21

development project incurred massive delays and OSI knew it could not meet TSA’s

22

June 1, 2012 deadline. CW2, a Director of International Programs, who worked at

23

Rapiscan from April 2006 until July 2013, concurred, stating “[it] would be accurate to

24

say that the company knew all along that it was a difficult process” and that “[a]ll

25

along” he/she heard Vice Presidents at Rapiscan, including Peter Modica, the former

26

Vice President of Product Management and Vice President of Government Programs,

27

“say they did not think we would ever meet the Congressional deadline.”

28



1

4. OSI’s software development suffered from such significant delays, OSI

2

requested an extension of the June 1, 2012 deadline. At the time, the TSA mistakenly

3

believed “that ATR certification was near” and extended the deadline to May 31, 2013.

4

In truth, as CW2 explained, OSI “never even got close to having the issue solved.”

5

Rather than inform the TSA and investors of its known inability to meet the deadline,

6

Defendants knowingly or recklessly made false and misleading statements regarding the

7

status of the software development. Specifically, Defendants repeatedly touted that it

8

was “business as usual,” that the software was “undergoing its final testing,” and that

9

the Company believed that functional privacy software “could lead to more sales in the

10

future.”

11

5. Faced with no known solution, Defendants knowingly manipulated the

12

TSA’s testing process to ensure that their software would pass. Specifically,

13

Defendants “cherry-picked” body scanners with “pristine” sensors for the TSA testing,

14

even though they knew these pristine units were not representative of the units in the

15

field that Rapiscan had previously sold the TSA, which contained aging sensors that

16

would not pass the TSA testing. CW2 confirmed Defendants’ fraud, stating that the

17

Company “basically cherry-picked a few machines that were working better [than

18

others] in order to build a case that they were trying to be compliant.”

19

6. Finally, in late 2012, OSI admitted to the TSA that its software continued to

20

suffer from fundamental flaws and that it would be unable to meet the extended

21

deadline. In response, the TSA delivered OSI a show cause letter related to the software,

22

which alleged that Rapiscan did not disclose issues related to the development process in

23

a timely or complete manner and had attempted to defraud the Government. On

24

November 15, 2012, when investors first learned that OSI deceived the TSA and the

25

markets by “knowingly manipulating” the body scanner test, OSI stock declined 28% on

26

massive trading volume. Analysts articulated what the market recognized: the show

27

cause letter not only called into question OSI’s ability to perform on its existing privacy

28

software contract, but revealed risks that the probe: (1) would “metastasize[] into



1

something bigger, threatening Rapiscan’s reputation”; and (2) “might prejudice the TSA

2

and other agencies against the company’s other products.”

3

7. In response to the fallout, Peter Kant (“Kant”), a Rapiscan Executive Vice

4

President admitted the fraud, conceding that “Rapiscan became aware of [the software

5

issue] months ago ,” but that OSI had failed to disclose it to analysts and investors.

6

Notably, however, OSI continued to conceal from the market the full extent of the

7

pervasive internal issues from which OSI suffered and that they could lead to OSI’s

8

debarment.

9

8. Second, in addition to its fraud with respect to the naked body scanners,

10

OSI knowingly misled the government and investors regarding its self-admitted “bread

11

and butter” business – checkpoint baggage and parcel scanners. From 2010 through

12

2013, the TSA awarded Rapiscan multiple contracts related to checkpoint scanners,

13

including a $67.1 million award in September 2013. Throughout the Class Period,

14

Defendants repeatedly emphasized to the market that Rapiscan was a leader in

15

checkpoint scanners, that the 620 Dual View Baggage and Parcel Inspection System

16

(“620DV”) was one of its most important products, and that contracts related to the

17

620DV were incorporated into OSI’s backlog. Unbeknownst to the TSA and investors,

18

OSI was aware that the contracts related to the checkpoint scanners were at extreme risk

19

of being terminated because OSI was using unapproved Chinese components to repair

20

and manufacture its scanners. To conceal their violations, Rapiscan labeled the Chinese

21

components with the same part number as the originally approved component. This

22

conduct violated multiple provisions of Rapiscan’s contracts, including the prohibition

23

against changing the configuration of a product without prior government approval.

24

When the TSA discovered the issue, it immediately terminated the $67.1 million

25

contract.

26

9. On December 5, 2013, after the market closed, OSI admitted its fraud,

27

announcing that the termination of the TSA contract resulted from Rapiscan being in

28 II default and that OSI was de-booking the order. The market reacted swiftly on



1

December 6, 2013, to the revelation of a second major issue with a Rapiscan contract,

2

and OSI’s stock closed down 9.7%. Thereafter, OSI admitted Rapiscan’s use of an

3

unapproved component and admitted a breakdown in Rapiscan’s quality assurance and

4

contract compliance: “While the component change was vetted by Rapiscan’s internal

5

quality assurance, it did not meet the contractual requirement of obtaining TSA’s

6

approval in advance.” On Monday December 9, 2013, the market learned that, as the

7

result of using the unapproved foreign parts, OSI once again was at risk of debarment.

8

OSI’s stock price fell 26.8%, again on extremely high trading volume.

9

10. Defendants’ fraud sparked harsh reactions from Congress. For example, on

10

November 13, 2012, Representative Mike Rogers, chairman of the House Transportation

11

Security Subcommittee, sent a letter to TSA Administrator John Pistole stating that

12

“[a]ccording to information received by the subcommittee, it appears the manufacturer

13

of backscatter AIT machines [Rapiscan] may have attempted to defraud the

14

Government by knowingly manipulating an operational test of Automated Target

15

Recognition (ATR) software in the field in order to have a successful outcome.”

16

Likewise, on December 6, 2013, Congressmen Michael T. McCaul, Bennie Thompson,

17

Richard Hudson and Cedric Richmond wrote a letter to the TSA requesting documents

18

regarding Rapiscan’s use of unapproved, untested components manufactured and

19

assembled in China and questioning the potential national security risks implicated.

20

11. Defendants’ fraud also materially impacted OSI’s financial statements

21

throughout the Class Period. To date, OSI has recorded at least $5.8 million in charges

22

associated with the ATR contract and at least $2.7 million in charges related to the

23

improper use of Chinese parts. OSI, did not, however, properly account for these

24

charges throughout the Class Period. Under Generally Accepted Accounting Principles

25

(“GAAP”), OSI was required to record charges during the Class Period when they

26

became probable and estimable. As detailed herein, OSI knew from the beginning that it

27

could not fulfill the TSA’s software upgrade requirements and that it was violating its

28

existing contracts with the U.S. Government by using foreign parts and parts that were



1

not pre-approved. If OSI would have properly recorded the charges in any quarter

2

during the Class Period, OSI’s net income would have decreased from between 12% to

3

90%. Numerous other financial metrics were also materially inflated throughout the

4

Class Period, including the Company’s assets, income from operations, income before

5

income taxes, and earnings per share.

6

12. Defendants profited handsomely from their fraud. During the Class Period,

7

Defendants unloaded hundreds of thousands of shares of OSI stock at artificially inflated

8

prices, collectively pocketing more than $23 million in proceeds. Defendants sales were

9

highly unusual and suspicious and conveniently timed at Class Period-high prices.

10

Indeed, Defendants’ proceeds from their Class Period sales were dramatically higher

11

than those from the two-year period immediately preceding the Class Period. Incredibly,

12

since the end of the Class Period, Defendants Chopra, Edrick and Mehra have not sold a

13

single share of OSI common stock.

14

13. As a result of Defendants’ wrongful acts and omissions, and the

15

precipitous decline in the market value of the Company’s common stock, Lead Plaintiff

16

and other Class members suffered significant damages.

17

II. JURISDICTION AND VENUE

18

14. The claims asserted herein arise under and pursuant to sections 10(b), 20(a)

19

and 20(A) of the Exchange Act, 15 U.S.C. §§ 78j(b), 78t(a) and 78t-1, and Rule 10b-5

20

promulgated thereunder (17 C.F.R. § 240.10b-5).

21

15. This Court has jurisdiction over the subject matter of this action pursuant

22

to section 27 of the Exchange Act (15 U.S.C. § 78aa) and 28 U.S.C. § 1331. In

23

connection with the acts, conduct and other wrongs alleged in the Complaint,

24

Defendants, directly or indirectly, used the means and instrumentalities of interstate

25

commerce, including the United States mails, interstate telephone communications, and

26

the facilities of the national securities exchange.

27

16. Venue is proper in this district pursuant to section 27 of the Exchange Act,

28

15 U.S.C. § 78aa and 28 U.S.C. § 1391(b). OSI’s principal place of business is in the



1

Central District of California, and Defendants Chopra, Edrick and Mehra reside in the

2

Central District of California. Many of the acts and transactions alleged herein,

3

including the preparation and dissemination of materially false and misleading

4

information, occurred in substantial part in this district.

5

III. THE PARTIES

6

A. Lead Plaintiff

7

17. Lead Plaintiff ASHERS is a public pension fund established for the

8

payment of retirement and disability benefits for employees of the Arkansas State

9

Highway and Transportation Department. ASHERS purchased OSI common stock

10

during the Class Period, as set forth in the certification previously filed with the Court,

11

and suffered damages as a result of the federal securities law violations alleged herein.

12

By order dated March 17, 2014, the Court appointed ASHERS as Lead Plaintiff in this

13

action.

14

B. Defendants

15

18. Defendant OSI is a Delaware Corporation with its corporate headquarters

16

located at 12525 Chadron Avenue, Hawthorne, California 90250. OSI designs and

17

manufactures security screening, threat detection, and non-intrusive inspection products

18

for various uses including carry-on baggage screening, checked baggage screening,

19

cargo and vehicle inspection, and radiation detection. OSI’s products are used at a wide

20

range of facilities, including airports, railway stations, cruise line terminals, sporting

21

venues, and government and military installations. OSI’s largest customer is the United

22

States Government, including the TSA and DHS. OSI also provides its products and

23

services to various domestic and foreign governments. OSI common stock trades on

24

the NASDAQ under ticker “OSIS,” and during the Class Period was included in various

25

prominent indices including the Russell 2000 and the Russell 3000.

26

19. Defendant Chopra has been OSI’s CEO, Chairman of the Board, and

27 President since the Company’s founding in 1987.

28



1

(a) During the Class Period, Defendant Chopra made materially false

2

statements and omissions in OSI’s public filings, during conference calls and at

3

presentations regarding Rapiscan’s compliance with government contracts, and

4

concealed from investors material information, including that OSI was intentionally

5

manipulating government testing, and was knowingly using foreign and unapproved

6

parts in violation of Rapiscan’s contract with the U.S. Government. Defendant Chopra

7

made additional false and misleading statements regarding OSI’s quality assurance,

8

management and personnel, and corporate compliance. Defendant Chopra’s materially

9

false and misleading statements and omissions during the Class Period related to OSI’s

10

core operations, including: (1) its Rapiscan division; and (2) its contracts with

11

government customers, including the U.S. Government;

12

(b) Pursuant to section 302 of the Sarbanes-Oxley Act of 2002 (“SOX”),

13

Defendant Chopra executed certifications in conjunction with OSI’s false and

14

misleading annual reports on Forms 10-K for the fiscal years 2012 and 2013.

15

Defendant Chopra also executed section 302 certifications in conjunction with OSI’s

16

false and misleading quarterly reports filed throughout the Class Period on Forms 10-Q;

17

(c) Pursuant to section 906 of SOX, and in accordance with sections 13

18

and 15(d) of the Exchange Act, Defendant Chopra signed and certified OSI’s false and

19

misleading annual reports on Forms 10-K during the Class Period for the fiscal years

20

2012 and 2013. Defendant Chopra also executed section 906 certifications in

21

conjunction with OSI’s false and misleading quarterly reports filed throughout the Class

22

Period on Forms 10-Q;

23

(d) Defendant Chopra directly participated in the management and day-

24

to-day operations of the Company and had actual knowledge of confidential proprietary

25

information concerning the Company and its business, operations, growth, financial

26

statements and financial condition. Because of this position of control and authority, his

27

ability to exercise power and influence with respect to OSI’s course of conduct and his

28

access to material inside information about OSI during the Class Period, Defendant



1

Chopra, at the time of the wrongs alleged herein, was a controlling person within the

2

meaning of section 20(a) of the Exchange Act; and

3

(e) During the Class Period, Defendant Chopra, while in possession of

4

material inside information, sold over 177,256 shares of OSI common stock at an

5

average price of $72.57, for total proceeds in excess of $12.8 million.

6

20. Defendant Edrick has been the Company’s CFO and Executive Vice

7

President from 2006 through the present.

8

(a) During the Class Period, Defendant Edrick made materially false

9

statements and omissions in OSI’s public filings, during conference calls and at

10

presentations regarding Rapiscan’s compliance with government contracts, and

11

concealed from investors material information, including that OSI was intentionally

12

manipulating government testing, and was knowingly using foreign and unapproved

13

parts in violation of Rapiscan’s contract with the U.S. Government. Defendant Edrick

14

made additional false and misleading statements regarding OSI’s quality assurance,

15

management and personnel, and corporate compliance. Defendant Edrick’s materially

16

false and misleading statements and omissions during the Class Period related to OSI’s

17

core operations, including: (1) its Rapiscan division; and (2) its contracts with

18

government customers, including the U.S. Government;

19

(b) Pursuant to section 302 of SOX, Defendant Edrick executed

20

certifications in conjunction with OSI’s annual reports on Forms 10-K for the fiscal

21

years 2012 and 2013. Defendant Edrick also executed section 302 certifications in

22

conjunction with OSI’s false and misleading quarterly reports filed throughout the Class

23

Period on Forms 10-Q;

24

(c) Pursuant to sections 13 and 15(d) of the Exchange Act, Defendant

25

Edrick signed and certified OSI’s false and misleading annual reports on Forms 10-K

26

during the Class Period for the fiscal years 2012 and 2013. Defendant Edrick also

27

executed section 906 certifications in conjunction with OSI’s false and misleading

28

quarterly reports filed throughout the Class Period on Forms 10-Q;



1

(d) Defendant Edrick directly participated in the management and day-

2

to-day operations of the Company and had actual knowledge of confidential proprietary

3

information concerning the Company and its business, operations, growth, financial

4

statements and financial condition. Because of this position of control and authority, his

5

ability to exercise power and influence with respect to OSI’s course of conduct and his

6

access to material inside information about OSI during the Class Period, Defendant

7

Edrick, at the time of the wrongs alleged herein, was a controlling person within the

8

meaning of section 20(a) of the Exchange Act; and

9

(e) During the Class Period, Defendant Edrick, while in possession of

10


11


12

21. Defendant Mehra joined OSI as Controller in 1989 and served as Vice

13

President and CFO from November 1992 until November 2002. Defendant Mehra is

14

currently the Executive Vice President and Director of OSI and is the President of

15

Rapiscan.

16

(a) During the Class Period, Defendant Mehra made a materially false

17

statement during a January 24, 2012 conference call regarding Rapiscan’s ATR

18

software, and concealed from investors material information, including that OSI would

19

not complete the ATR testing by the congressionally mandated deadline. Specifically,

20

Defendant Mehra stated:

21

Basically, we are working with TSA. It’s business as usual. We are

22

actually going through some operational testing of our ATR, which is the

23

Automatic Threat Recognition system – basically takes away the image. So,

24

we’re going through that process, working with them, and we expect that

25

they will be looking at potential orders within the next few months ; 1

26

27

28 1 Throughout the Amended Complaint, all emphasis is added unless otherwise noted.



1

(b) Defendant Mehra’s statement concealed from investors that

2

Rapiscan suffered from pervasive internal deficiencies in government contract

3

compliance and administration, quality assurance, management and personnel, and

4

corporate compliance. Defendant Mehra’s materially false and misleading statement

5

related to OSI’s core operations, including: (1) its Rapiscan division; and (2) its

6

contracts with government customers, including the U.S. Government;

7

(c) Defendant Mehra directly participated in the management of the

8

Company, was directly involved in the day-to-day operations of the Company, and had

9

actual knowledge of confidential proprietary information concerning the Company and

10

its business, operations, growth, financial statements and financial condition. Because

11

of this position of control and authority, his ability to exercise power and influence with

12

respect to OSI’s course of conduct and his access to material inside information about

13

OSI during the Class Period, Defendant Mehra, at the time of the wrongs alleged herein,

14

was a controlling person within the meaning of section 20(a) of the Exchange Act; and

15

(d) During the Class Period, Defendant Mehra, while in possession of

16


17


18

22. Collectively, Defendants Chopra, Edrick and Mehra are referred to herein

19

as the “Individual Defendants.”

20

IV. BACKGROUND

21

23. Following the September 11, 2001 terrorist attacks, security and inspection

22

products began to be used at a wide range of facilities, including airports, border

23

crossings, railway stations, seaports, cruise line terminals, sporting venues, government

24

and military installations, and nuclear facilities. On November 19, 2001, Congress

25

passed the Aviation and Transportation Security Act, which created the TSA. Congress

26

later integrated the TSA into the U.S. Department of Homeland Security (“DHS”). The

27

various initiatives that DHS undertook to combat terrorist activities resulted in an

28

increased demand for security and inspection products.



1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

28

A. OSI’s Security And Inspection Business

24. OSI is a vertically integrated designer and manufacturer of specialized

electronic systems and components. The Company operates three divisions:

(1) Security, which provides security and inspection systems, turnkey security screening

solutions, and related services; (2) Healthcare, which provides patient monitoring,

diagnostic cardiology, and anesthesia systems; and (3) Optoelectronics and

Manufacturing, which provides specialized electronic components and electronic

manufacturing services to equipment manufacturers for use in the defense, aerospace,

medical and industrial markets.

25. OSI’s Security division provides security screening, threat detection and

non-intrusive inspection products and services under the “Rapiscan Systems” trade

name. Rapiscan is, by far, the largest and most important of OSI’s divisions, accounting

for nearly half of its annual revenue:

26. Rapiscan’s products and inspection applications use X-ray technology and

computer software imaging to facilitate the detection of materials such as explosives,

weapons, narcotics, currency or other contraband. In addition to basic X-ray, many of

Rapiscan’s products include dual- or multi-energy X-ray technology, which is capable

of determining the atomic number, mass and other characteristics of scanned objects.

27. Certain of Rapiscan’s products, including its body scanners, employ an

advanced X-ray imaging technology known as “backscatter X-ray.” Unlike

conventional X-ray technology, which passes X-rays through the scanned object,

backscatter technology uses a narrow, low-intensity X-ray beam to quickly scan across

the object from every direction. The reflected X-rays are collected by detectors, and

backscatter signals of each point on the object are measured and recorded. Backscatter



technology creates detailed two-dimensional images that enable security personnel to

identify prohibited objects and materials before they become threatening.

28. Rapiscan’s products fall generally into five categories: people screening,

checkpoint baggage and parcel inspection, cargo and vehicle inspection, checked

baggage screening, and radiation detection. A significant portion of Rapiscan’s security

and inspection products are sold for use at airports, although its products are also used

at border crossings, shipping ports, military and other government installations, freight

forwarding facilities, amusement parks, banks, courthouses, government buildings,

sports arenas and other venues.

29. Below is a table summarizing Rapiscan’s products, and the technology

upon which each relies:

Category Technology Use People Screening Backscatter X-ray Checkpoint inspection at airports,

border crossings, stadiums, prisons and government facilities

Checkpoint Single and dual- Checkpoint inspection at airports, Baggage and Parcel energy X-ray prisons, border crossings, Inspection government buildings and postal

facilities for mail screening Checked Baggage Multi-view, dual- Baggage inspection at airports and Screening energy X-ray freight forwarding facilities Cargo and Vehicle High energy X-ray Cargo and vehicle inspection at Inspection airports, border crossings and sea

ports Radiation Detection Gamma counting, People, baggage, parcels, cargo,

neutron detection and vehicle and train inspection spectroscopic identification

B. Government Contracts Were Rapiscan’s Core Business

30. A significant portion of Rapiscan’s business, and thus OSI’s revenue, was

derived from its government customers. Although Rapiscan had international

customers, its single largest customer was the U.S. Government. During the Class

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27


28


1

Period, OSI had numerous significant contracts with various U.S. Government

2

agencies, including:

3

• $173 million contract with TSA for body scanners, including

4

Rapiscan’s Secure 1000 Single Pose;

5 • $325 million contract with TSA related to checkpoint baggage and

6

parcel scanners, including Rapiscan’s 620DV;

7 . $24 million contract with U.S. Customs and Border Protection for

8

multiple Eagle Mobile high-energy X-ray cargo and vehicle

9

inspection systems;

10 . $29 million contract with DHS to develop next-generation cargo

11

screening systems;

12 . contract valued at up to $248 million with the U.S. Army for cargo

13

and vehicle inspection products and Secure 1000 Single Pose units;

14 • $12 million contract with TSA to upgrade previously purchased

15

620DV checkpoint baggage and parcel scanners;

16 • $98 million award under the $248 million U.S. Army contract to

17

provide a variety of surveillance and screening equipment;

18 • contract valued at up to $7 million with the DHS Domestic Nuclear

19

Detection Office related to an exploratory research program; and

20 • $15 million order from U.S. Government security and defense

21

programs to provide field service and maintenance of inspection

22

systems, including Secure 1000 Single Pose units.

23

31. According to Bloomberg , between 2009 and December 2013, OSI received

24

a total of $463 million in U.S. Government contracts and $267 million in DHS work.

25

C. Compliance With Government Contracts Was Vital To OSI’s Business

26

32. OSI had several competitors in the security detection business, including

27

L-3, Smiths Detection, American Science and Engineering, SAIC Security,

28 II Transportation Technology and Nuctech. Two of the most prominent competitors were



1

L-3, which competed with OSI in the body scanner, checkpoint baggage and checked

2

baggage markets and Smiths Detection, which competed with OSI in the carry-on

3

baggage and cargo inspection markets. During the Class Period, L-3 was the leading

4

provider of body scanners, OSI was second, and Smiths Detection was third.

5

Meanwhile, Smiths Detection was the leading provider of checkpoint baggage scanners,

6

and OSI and L-3 were second and third, respectively.

7

33. U.S. Government contracts give the government rights and remedies not

8

typically found in commercial contracts. For example, the contracts contain provisions

9

that allow the government to unilaterally terminate, modify or reduce the value of the

10

contract. If the government elects to terminate, it is able to do so “for default” or “for

11

convenience.” Termination for default is due to the contractor’s failure to perform its

12

contractual obligations. Termination for convenience, however, allows the government

13

to terminate any contract, in whole or in part, at any time if it determines that

14

termination is in its best interest.

15

34. The contracts also typically state that the government can provide notices

16

regarding the contracts that, if not addressed to the government’s satisfaction, allow

17

termination “for default.” Additionally, while the contract is ongoing, the U.S.

18

Government maintains the right to initiate administrative proceedings that can result in

19

the contractor being temporarily or permanently suspended from government

20

contracting. If the proceedings result in findings that satisfy the requisite level of

21

seriousness, a contractor can be temporarily or permanently debarred from U.S.

22

Government contracting.

23

35. Here, OSI’s compliance with the U.S. Government contracts’ substantive

24

terms was extremely important, especially considering that OSI depended heavily on

25

government contracting for significant portions of its revenue. Compliance with

26

contractual terms was vital to ensuring not only that OSI was able to fulfill its

27

obligations under existing contracts, but also to ensure that it could secure future

28

contracts.


TN1


D. OSI’s $173 Million TSA Contract For Body Scanners

36. During the spring of 2009, DHS determined that Advanced Imaging

Technology (“AIT”) systems would be deployed as the primary screening technique in

U.S. airports. AIT, which is also known as whole-body imaging, screens passengers for

metallic and non-metallic threats including weapons, explosives, and other dangerous

objects concealed under layers of clothing.

1. The Secure 1000 Single Pose

37. Rapiscan’s AIT system was the Secure 1000 Single Pose (“Secure

1000SP”). The Secure 1000SP operated in the following manner: First, a person

entered the scanning chamber, posed, and a low-intensity X-ray beam quickly scanned

the person. Then, the reflected X-rays were collected by detectors and a “backscatter

signal” from each point on the person was recorded. Finally, imaging software

processed the data, and created a two-dimensional image for the operator to view.

Metallic objects or other contraband appear darker than the scanned person. A typical

backscatter X-ray image appeared as follows:

38. In September 2009, OSI announced that the TSA awarded the Company a

$173 million Indefinite Delivery, Indefinite Quantity (“ID/IQ”) contract for AIT

systems, including the Secure 1000SP. At roughly the same time, TSA awarded L-3 a

similar contract.

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27


28


39. Rapiscan received various orders for the Secure 1000SP and related

services under the terms of the $173 million ID/IQ, including:

.

On October 1, 2009, OSI announced that it had received a $25 million

order for multiple Secure 1000SP units;

.

On April 29, 2010, OSI announced that it had received a $16 million order

for multiple Secure 1000SP units; and

.

On January 3, 2012, OSI announced that it had received a $15 million

order to provide field service and maintenance of Rapiscan inspection

systems, including Secure 1000SP units.

40. All U.S. Government contracts for AIT body scanners, including those

awarded to Rapiscan, contained terms prohibiting changes to parts or configurations

without prior government approval.

2. Privacy Concerns Regarding The Secure 1000SP, And The Congressional Directive To Fix It

41. On December 25, 2009, a passenger on a commercial airline flight bound

for Detroit, Michigan attempted to detonate explosives concealed in his undergarments.

Following this incident, DHS accelerated its plan to make AIT body scanners the

primary screening technique in U.S. airports. At the time, the TSA worked with OSI to

quickly deploy Secure 1000SP systems at airports throughout the United States.

42. Almost immediately, however, privacy concerns emerged regarding the

Secure 1000SP, and other AIT body scanners. Travelers expressed outrage at the

invasiveness of the machines, including the detail of the “naked body” images

produced, the lack of signage regarding the machines, and the absence of a meaningful

alternative to the scans. Privacy advocates objected to the machines’ storage and

transfer capabilities, and the inadequacy of “privacy filters,” installed on the machines.

43. On July 2, 2010, the Electronic Privacy Information Center sued TSA,

calling the AIT machines the equivalent of a “physically invasive strip search,” and

28 II accusing the TSA of failing to give public notice before making travelers undergo

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27



1

whole-body scans at security checkpoints. The United States Court of Appeals for the

2

District of Columbia Circuit ultimately ruled that the TSA should have allowed for

3

public comments to be submitted and considered before requiring passengers to

4

undergo the revealing scans. The court ordered the TSA to initiate a public-rulemaking

5

process.

6

44. In response, the TSA mandated in late 2010 that software upgrades be

7

installed on all AIT scanners. The software, known as Automated Target Recognition

8

(“ATR”), eliminated the “naked body” images. Rather than a passenger-specific image,

9

the ATR software displayed a generic figure, and any anomalies were indicated by

10

colored zones:

11

12

13

14

15

16

17

The identification of an anomaly then allowed the technician operating the scanner to

18

administer additional targeted resolution procedures, such as a pat-down or a scan with

19

a metal-detecting wand.

20

45. L-3, the only OSI competitor awarded an AIT body screening contract,

21

completed the development and installation of ATR software on all its AIT scanners

22

between July and September 2011. OSI never developed or installed ATR software on

23

its scanners.

24

46. On February 14, 2012, Congress passed the 2012 FAA Modernization and

25

Reform Act (P.L. 112-95), which required the updated, generic imaging ATR software

26

to be installed on all AIT equipment by June 1, 2012.

27

28



1

E. OSI’s $325 Million TSA Contract For Checkpoint Baggage And Parcel Scanners

2

3

47. On September 16, 2010, OSI announced that the TSA had awarded the

4

Company a five-year $325 million ID/IQ contract related to checkpoint baggage and

5

parcel scanners, including Rapiscan’s 620DV.

6

48. The 620DV utilized single and dual-energy X-ray technology to scan

7

briefcases, carry-on baggage, laptops, and small cargo parcels. The 620DV system’s

8

“dual view” produced two separate, perpendicular images of a scanned object.

9

49. Rapiscan received various orders for the 620DV and related services under

10

the terms of the $325 million ID/IQ contract, including:

11

On September 22, 2010, OSI announced that it had received a $35 million

12

order from the TSA for the Rapiscan 620DV under the terms of the $325

13

million ID/IQ contract;

14

On September 7, 2011, OSI announced that Rapiscan received a $12

15

million order from the TSA for the upgrade of Rapiscan’s 620DV systems;

16 • On November 13, 2012, OSI announced that Rapiscan had received a $15

17

million contract from a U.S. Government agency to provide multiple units

18

of its people screening and checkpoint baggage inspection systems,

19

including the 620DV; and

20 • On or about September 26, 2013, the TSA awarded Rapiscan a $67.1

21

million contract for 550 620AV units under the terms of the $325 million

22

ID/IQ contract.

23

50. All U.S. Government contracts for checkpoint baggage scanners, including

24

those awarded to Rapiscan, contained terms prohibiting changes to parts or

25

configurations without prior government approval.

26

V. DEFENDANTS’ FRAUD

27

51. During the Class Period, Defendants knowingly or with reckless disregard

28

made false and misleading statements or omitted material information about Rapiscan’s



1

contracts with the U.S. Government relating to: (1) body scanner software; and

2

(2) checkpoint baggage scanners. These materially false and misleading statements and

3

omissions also misled investors, including ASHERS, regarding the true state of OSI’s

4

relationship with the U.S. Government, the likelihood of debarment from future U.S.

5

Government contracts, and the overall state of OSI’s core business. In truth, and

6

directly contrary to its Class Period statements, Rapiscan suffered from pervasive

7

internal deficiencies in government contract compliance and administration, quality

8

assurance, management and personnel, and corporate compliance. Indeed, Defendants

9

have publicly admitted many of the allegations set forth below.

10

A. Defendants’ Fraud Regarding Its ATR Software

11

52. As detailed above, in late 2010, in response to the public outcry over naked

12

body images, the TSA mandated that upgraded generic imaging ATR privacy software

13

be installed on all AIT equipment. OSI’s competitor, L-3, completed the ATR software

14

upgrade no later than September 2011. Thereafter, on February 14, 2012, Congress

15

mandated that ATR software to be installed on all AIT equipment no later than June 1,

16

2012.

17

53. Aware of the pending deadline and the importance of OSI’s compliance

18

with the U.S. Government’s mandate, Defendants repeatedly made representations to

19

investors and in response to analysts questions, stating that it was “business as usual,”

20

that the new software was “undergoing its final testing” and “we think that could lead to

21

more sales in the future” or “within the next few months.” Unbeknownst to investors,

22

however, it was not “business as usual.” Rather, from the beginning Rapiscan had

23

encountered significant difficulties in developing the upgraded ATR software and

24

Defendants were nowhere close to developing software that would pass TSA testing in

25

the units deployed in airports throughout the country.

26

54. CW1, a Senior Test Engineer at Rapiscan from November 2009 to January

27

2013, worked directly on the testing of the ATR software. CW1 stated that from the

28

beginning the ATR development project incurred massive delays and that Rapiscan



1

“pretty much knew from the start” that it was running far behind schedule and that “[i]t

2

was clear” to individuals that worked on the testing that “the algorithm was behind.”

3

CW1 added that he was aware that the testing was behind as early as the end of 2011

4

and estimated that, “for most of my testing we were about a year behind” the original

5

schedule.

6

55. CW1 stated that the ATR testing project was led by two men: Alex

7

Hudson, a Vice President of Engineering and New Product development and Gerard

8

Hanley, a Technical Director in Government Programs. CW1 provided status updates

9

regarding the progress of the ATR upgrade during test group meetings every Monday.

10

56. CW2, a Director of International Programs, who worked at Rapiscan from

11

April 2006 until July 2013, corroborated Rapiscan’s problems and inability to meet the

12

government deadlines. CW2 stated that he “was aware all along that they were trying

13

and having trouble meeting the criteria” regarding the ATR software. CW2 stated that

14

“I think [it] would be accurate to say that the company knew all along that it was a

15

difficult process. And we continued to have problems. We never even got close to

16

having the issue solved . . . We never were optimistic that we would get this done.”

17

CW2 heard vice presidents at Rapiscan, including Peter Modica, the former Vice

18

President of Product Management and Vice President of Government Programs, “say

19

they did not think we would ever meet the Congressional deadline.”

20

57. CW1 explained that one of Rapiscan’s major problems was that their ATR

21

software was unable to consistently and reliably transform the naked body images to

22

generic images. Rapiscan’s body scanner units, the Secure 1000SP, used

23

photomultiplier tubes (“PMTs”) to create the images. PMTs are an extremely sensitive

24

class of photo sensors that detect light in the ultraviolet, visible, and near-infrared

25

ranges of the electromagnetic spectrum. According to CW1, each Rapiscan Secure

26

1000SP contained sixteen PMTs. CW1 explained that, as PMTs age, they begin to

27 generate more and more “negative voltage,” a phenomenon known as “voltage drift.”

28 Rapiscan’s software development issue arose from this “voltage drift” and Rapiscan’s



1

inability to develop software that could consistently interface with PMTs with “negative

2

voltage.”

3

58. CW1 stated that the ATR software that Rapiscan developed – CW1

4

referred to as “version v4.00.09” – malfunctioned when it encountered high negative

5

voltages. When v4.00.09 encountered negative voltages, instead of displaying a generic

6

image, it displayed a “Blue Man avatar, which indicated to the operator [that] the

7

computer’s analysis of the scan was invalid and [the operator] would have to wand the

8

subject.” This flaw was unacceptable for two reasons: first, it was likely to result in

9

immediate malfunctions in the Secure 1000SPs that Rapiscan had already sold the

10

government and that were already deployed in airports across the country, which

11

contained aging PMTs that were potentially generating negative voltage. Second, even

12

new, pristine PMTs would eventually age, causing software malfunctions in the future.

13

59. Former employees also explained that Rapiscan’s inability to develop

14

functional ATR software was due to severe deficiencies in its quality assurance. CW3, a

15

Field Service Engineer for Rapiscan from 2007 to December 2012, stated that there were

16

“too many bugs” in the software and that quality assurance staff were “not as diligent”

17

as they should have been. CW3 “didn’t think the QA program was what it should be”

18

and “the failure rate” at Rapiscan was unacceptable. CW3 and CW4, a Director of

19

Global Sales Operations, who worked at Rapiscan from 2009 until January 2013, stated

20

that “a lot of reports,” including those related to testing on ATR, were done carelessly.

21

60. OSI’s management lacked commitment to completing the project in a

22

timely manner, further compounding Rapiscan’s ability to timely develop a reliable

23

version of the ATR software. CW1 stated that the engineers developing the software

24

“never had management support” for properly completing the integration. According to

25

CW1, during the summer of 2011, when he and a team of roughly six others were

26

working on the ATR software, “for some unusual reason,” four or five of them were

27

pulled off and reassigned to another, much smaller, military contract. “It was really

28



1

weird. Why are we worried about 20 units when we have 350 units at stake [for the

2

ATR contract]?”

3

61. Recognizing that it was not “business as usual,” that the software was not

4

in final testing, and that the ATR software development program was suffering from

5

significant delays, Rapiscan requested an extension of the TSA’s June 1, 2012 deadline.

6

As he later testified before the U.S. House of Representatives Committee on

7

Appropriations, TSA Administrator John Pistole granted a waiver of the deadline to

8

May 31, 2013, based on the mistaken belief “that ATR certification was near.”

9

62. With no known solution – and feeling the pressure from the fact that L-3

10

had successfully completed its ATR upgrades in 2011 – Rapiscan resorted to knowingly

11

manipulating the TSA’s testing process to ensure that the ATR software would pass.

12

Specifically, Defendants “cherry-picked” three Secure 1000SPs that contained PMTs

13

with the lowest negative voltage to send to TSA for testing. As detailed above,

14

Defendants knew these three “pristine” Secure 1000SPs were not representative of (1)

15

the Secure 1000SPs that Rapiscan had previously sold the TSA, which already

16

contained aging PMTs with negative voltage; and (2) new Secure 1000SPs, which

17

contained PMTs that would inevitably age and begin generating more and more

18

negative voltages. Not surprisingly, the three “pristine” Secure 1000SPs passed the

19

TSA’s certification procedure.

20

63. CW2 corroborated this account, noting “there was some manipulation of the

21

data on the part of the engineers . . . I think the engineers at Rapiscan thought they could

22

do it and worked on it for several years, but they were never able to do it so at the end

23

they were faced with a deadline.” CW2 stated that the Company “basically cherry-

24

picked a few machines that were working better [than others] in order to build a case that

25

they were trying to be compliant.” CW4 stated former quality assurance director Robert

26

Mosley would have been aware of any manipulations and that it would be known “all

27

the way up to the president and even [CEO].”

28



1

64. CW1 confirmed that, even as late as September 2012, v4.00.09 continued to

2

malfunction if it encountered negative voltages. CW1 stated that the problem was

3

documented as Issue #8117 in Rapiscan’s defect tracking database. According to CW1

4

the defect tracking database, Test Track Pro, was accessible to all OSI management: “All

5

management had access to it.”

6

65. Rather than inform the TSA and investors of its known inability to meet

7

the deadline, Defendants continued to knowingly or with reckless disregard represent to

8

the market throughout 2012 that OSI was on track to comply with the TSA’s directive in

9

a timely manner, stating, inter alia: (1) “We are actually going through some

10

operational testing of our ATR . . . and we expect that [TSA] will be looking at

11

potential orders within the next few months”; (2) “ATR [is] . . . undergoing its final

12

testing as we speak”; and (3) “[W]e’re currently in testing, so we’ve completed on our

13

side and the customer’s currently in testing. We’re hopeful that that could happen - that

14

could be completed any time this summer.”

15

66. Months before November 2012, without disclosure to investors, OSI

16

notified the TSA that Rapiscan was so far behind schedule that it would be unable to

17

meet the extended deadline of May 31, 2013 – which was still more than nine months

18

away. OSI explained to the TSA that in order for Rapiscan’s ATR software to be

19

functional, either the 250 Secure 1000SPs in the field would have to be upgraded with

20

pristine PMTs (at significant cost), or Rapiscan would have to continue its efforts to

21

develop ATR software that would work with PMTs that generated negative voltage.

22

Notably, while OSI admitted its limitations to the TSA, the Company did not disclose to

23

investors Rapiscan’s inability to meet the TSA’s deadline until much later.

24

67. Ultimately, on November 9, 2012, the TSA delivered OSI a show cause

25

letter related to the ATR software, which alleged that Rapiscan had not disclosed issues

26

related to the development process in a timely or complete manner. Part of the letter

27

questioned whether, prior to testing, Rapiscan had installed sensors on three Secure

28

1000SP units that did not conform to the sensors approved in the system’s configuration



plan, and if so, whether Rapiscan had informed the TSA of that change in a timely

manner.

68. On November 13, 2012, Representative Mike Rogers, chairman of the

House Transportation Security Subcommittee, sent a letter to John Pistole regarding

Rapiscan, which stated:

I am deeply troubled by recent allegations of contractor malfeasance as it

relates to the Transportation Security Administration’s (TSA) use of

backscatter Advanced Imaging Technology (AIT). According to information

received by the subcommittee, it appears the manufacturer of backscatter

AIT machines may have attempted to defraud the Government by knowingly

manipulating an operational test of Automated Target Recognition (ATR)

software in the field in order to have a successful outcome. In addition to

these concerning allegations, I am extremely disturbed by TSA’s apparent

lack of oversight throughout the testing and evaluation of this technology.

I fully expect to discuss this situation at our previously scheduled

subcommittee hearing on November 15, 2012, entitled: “TSA’s Recent

Scanner Shuffle: Real Strategy or Wasteful Smokescreen?” As such, please

ensure that John Sanders, who will testify on behalf of your agency, is

prepared to answer the following questions:

1. When did TSA first discover that the contractor might have

manipulated an operational test?

2. What impact, if any, could the contractor’s actions have on

aviation security?

3. What actions has TSA taken to deal with the potential

manipulation of an operational test?

4. What level of oversight does TSA provide during the testing

process?

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27


28


1

5. Who was responsible for conducting the operational test and

2

certifying its success?

3

6. At the time TSA decided to move 91 backscatter AIT machines

4

from large airports to small airports, when did the agency believe

5

ATR software would be ready to install on those machines?

6

7. How long will those 91 backscatter AIT machines sit in storage?

7

8. Do you plan to remove the remaining backscatter AIT machines

8

from the field? If so, when?

9

69. On November 14, 2012, OSI admitted that their earlier statements to both

10

the TSA and investors were knowingly false and misleading. Specifically, Kant, an

11

Executive Vice President admitted “Rapiscan became aware of an issue related to

12

software under development months ago and promptly notified the TSA.”

13

70. Analysts confirmed Rapiscan’s knowing manipulation of the TSA’s

14

testing. For example, on November 15, 2012, William Lee and Yair Reiner, analysts at

15

Oppenheimer, stated: “Rapiscan manipulated test results for a software algorithm it was

16

developing to enhance privacy features on its full body scanners. Attempts to defraud

17

the US govt. can in theory bring fines, imprisonment, or a ban on further government

18

contracting.”

19

71. On November 16, 2012, Mike Greene, an analyst at Benchmark, stated:

20

the ATR software tested by TSA this summer required OSI’s ‘photo

21

detectors’ to have a minimal amount of what is called “drift” in order to pass

22

through the testing properly. When manufactured, not all these sensors have

23

the same amount of ‘drift;’ however, this was not a problem in the AIT

24

machines whose images would be viewed by a human. The problem was, the

25

ATR software required sensors with minimal “drift,” so to solve this OSI

26

simply manually selected the best sensors that came off the line for the three

27

AIT units sent for testing.

28



1

72. Also on November 16, 2012, Tim Quillin (“Quillen”), an analyst at

2

Stephens commented:

3

We believe OSIS submitted 3 units to the TSA for operational testing and

4

evaluation in late spring or early summer. At some point, the Company

5

realized that the perfect uniformity of the test units’ x-ray sensors might not

6

be representative of fielded units, which typically have some drift from

7

perfection.

8

73. On January 17, 2013, OSI announced that the TSA had cancelled the

9

contract with Rapiscan for ATR software development. OSI concurrently disclosed that

10

it planned to de-book the $5 million backlog related to ATR development and expected

11

to incur a $2.7 million one-time impairment related to capitalized software development

12

costs. That same day, OSI filed with the SEC a Form 8-K signed by Defendant Edrick,

13

which attached a press release that stated, in relevant part:

14

OSI . . . announced today that Rapiscan Systems, its Security division, has

15

reached an agreement with the U.S. Transportation Security Administration

16

(TSA) regarding the Rapiscan Secure 1000SP Advanced Imaging

17

Technology (AIT) systems and Automated Target Recognition (ATR)

18

software. The agreement relates to the contract underlying the issues raised

19

in a ‘show cause’ letter delivered to the Company by the TSA on

20

November 9, 2012.

21 * * *

22

Under the terms of the agreement, Rapiscan and TSA determined that the

23

Secure 1000SF, would not be ready to meet the next level of ATR software

24

by the congressionally-mandated June 2013 deadline . . . . The agreement

25

results in the mutually-agreed conclusion of ATR software development for

26

the Secure 1000SP, but continues Rapiscan’s overall contract with TSA for

27

AIT systems.

28 * * *



1 . . . The Company had approximately $5 million of backlog with respect to

2

ATR software development as of September 30, 2012, which will be de-

3

booked. The Company expects to report a related $2.7 million one-time

4

impairment and other charge in the quarter ended December 31, 2012. While

5

the Company reached agreement with the TSA regarding the AIT/ATR

6

contract, final resolution of the show cause letter is subject to Department of

7

Homeland Security disposition. The Company is currently working to

8

complete that process.

9

74. On the January 24, 2013 conference call, Defendant Chopra confirmed

10

CW1’s account that management lacked a commitment to complete the ATR project,

11

stating that, the cancellation of the contract would “allow[] [Rapiscan] to stop the R&D

12

spending on this program for which we saw a limited future beyond the TSA. ”

13

75. On May 20, 2013, OSI announced that the Suspension and Debarment

14

Official of the DHS issued Rapiscan a Notice of Proposed Debarment in connection

15

with the November, 2012 show cause letter. That same day, OSI filed with the SEC a

16

Form 8-K signed by OSI’s General Counsel Victor Sze, which stated, in relevant part:

17

OSI Systems, Inc. (the “Company”), and its subsidiary Rapiscan Systems,

18

Inc. (“Rapiscan”), have been notified that the Suspension and Debarment

19

Official of the U.S. Department of Homeland Security (“DHS”) has issued a

20

Notice of Proposed Debarment (the “Notice”) in connection with a “show

21

cause” letter from the U.S. Transportation Security Administration (“TSA”)

22

received by Rapiscan in November 2012 (the “Show Cause Letter”). The

23

Show Cause Letter related to the Rapiscan Secure 1000SP Advanced

24

Imaging Technology system and associated Automated Target Recognition

25

software (the “Products”). The Company understands that the Notice alleges

26

that Rapiscan failed to disclose a defect with the Products and replaced

27

hardware in the Products without being granted proper governmental

28

approval .



1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

28

76. On June 21, 2013, OSI issued a press release announcing that it had

entered into a 30-month Administrative Agreement (“Administrative Agreement”) with

the DHS related to the Notice of Proposed Debarment. That same day, OSI filed with

the SEC a Form 8-K signed by Defendant Edrick, which stated, in relevant part:

The Agreement resolves the May 17, 2013 DHS Notice of Proposed

Debarment and automatic suspension of Rapiscan that became effective

May 20, 2013. Rapiscan can continue its current and future business with

United States federal government agencies.

Pursuant to the terms of the Agreement, Rapiscan has agreed to certain

compliance upgrades and organizational improvements, including

maintenance of a robust compliance program. Rapiscan has also made

certain personnel changes 2 and has created additional positions dedicated

to government contracting compliance and administration, corporate

compliance, and quality assurance. Further, for the duration of the term of

the Agreement, Rapiscan has agreed to the continued review of its

compliance and ethics program, including the retention by Rapiscan of an

independent consultant to perform semi-annual assessments of its

compliance policies, procedures, and practices. Rapiscan has also agreed to

additional DHS reporting requirements.

B. Defendants Fraudulently Used Unapproved Foreign Parts

77. During the Class Period, Defendants also perpetuated fraud against

investors with respect to its purported “bread and butter” business – OSI’s checkpoint

baggage and parcel scanners. As Defendants have now admitted, they used foreign and

unapproved parts in their baggage and parcel scanners in blatant violation of their

government contracts.

2 According to CW2, one personnel change was to replace Rapiscan’s Vice President of Engineering, Alex Hudson, who was responsible for the ATR software project.



1

78. By way of background, on September 16, 2010, OSI announced that it had

2

been awarded a $325 million ID/IQ contract with the U.S. Government for Rapiscan’s

3

620DV checkpoint baggage and parcel scanner. The contract required all parts to be

4

manufactured and assembled in the United States. The contract also required

5

government pre-approval on all parts. As the admitted “bread and butter” of Rapiscan’s

6

business, Defendants knew, or recklessly disregarded, the requirements of its contracts

7

with the U.S Government.

8

79. Thereafter, Rapiscan delivered hundreds of 620DVs to the U.S.

9

Government. Throughout the Class Period in press releases and in response to

10

questions from analysts, Defendants consistently referenced the $325 million contract,

11

and repeatedly referred to checkpoint baggage and parcel scanners, such as the 620DV,

12

as OSI’s “bread and butter.” On September 26, 2013, TSA awarded Rapiscan a $67.1

13

million contract for 550 620AV units pursuant to its September 2010 ID/IQ contract.

14

80. In truth, Rapiscan used unapproved X-ray generators manufactured abroad

15

by Shanghai Advanced Non-destructive Equipment Company, Ltd. (“SANDT”) to

16

assemble and repair the 620DV scanner. Rapiscan’s government contracts expressly

17

prohibited such configuration changes without advanced approval from the TSA.

18

Rapiscan did not obtain the TSA’s approval and, to conceal the violation,

19

inappropriately labeled the unapproved components with the same part number as the

20

originally approved component. As a result, at least 250 620DVs were deployed across

21

the United States containing unapproved components manufactured and assembled in

22

China.

23

81. When OSI replaced some of its employees following the revelation of the

24

ATR software issue, the new team immediately discovered that one of the generators

25

that Rapiscan was consistently using in the 620DVs required TSA approval under the

26

applicable contract, but that the Company had not obtained it. Despite the fact that

27

Defendants knew that the Company was using unapproved parts – and therefore was in

28

violation of its contracts – Rapiscan bid on the $67.1 million 620DV contract.



1

82. CW5, a Vice President of Customer Service for Rapiscan from September

2

2010 to March 2012 stated that, throughout his tenure at Rapiscan, a Chinese company

3

supplied X-ray generators for a number of its products. Specifically, CW5 recalled that

4

Rapiscan worked with an individual named Jerry Tang, who various sources list as the

5

president and owner of Aerosino, a corporation located in Irvine, California. Aerosino’s

6

business includes X-ray non-destructive testing systems, X-ray tubes, X-ray generators,

7

and high voltage power supplies. Aerosino does business with SANDT, the company

8

that manufactured the generators that Rapiscan fraudulently placed into 620DVs.

9

83. Former employees confirmed that Rapiscan routinely changed the

10

configuration of one of its products without gaining approval from the TSA in violation

11

of the contracts’ terms. CW4 stated that “[t]here just were rumors that [Rapiscan] would

12

just go ahead and make the changes they needed, if it was a minor one.”

13

84. Other witnesses noted that Rapiscan’s quality assurance suffered from

14

severe deficiencies. CW3 “didn’t think the QA program was what it should be” and “the

15

failure rate” at Rapiscan was unacceptable. CW4 confirmed that Rapiscan’s quality

16

assurance was “not an independent organization” and reported to operations. Therefore,

17

“if the VP of Operations didn’t like what Quality was saying, he’d override it.”

18

85. OSI’s fraud on the government apparently came to an end when, on

19

November 20, 2013, the TSA issued Rapiscan its second show cause letter in twelve

20

months related to the use of unapproved components in its 620DV scanners. OSI’s

21

fraud on investors, however, continued. In particular, Form 8-K disclosure and

22

reporting requirements mandate that public companies disclose material developments

23

in their business within four (4) business days. Here, Defendants did not disclose the

24

second show cause letter to investors until December 9, 2013, nineteen (19) days later, a

25

clear violation of the Form 8-K disclosure rules.

26

86. On November 27, 2013, Rapiscan privately responded to the TSA’s

27

allegations in the show cause letter. On December 4, 2013, the TSA sent Rapiscan a

28 II notice that it was terminating the $67.1 million award related to the 550 620DV units.



1

87. Again, Congress reacted harshly to the revelation of OSI’s conduct. On

2

Friday, December 6, 2013, several members of the U.S. House of Representative

3

Committee on Homeland Security, including Michael T. McCaul, Bennie Thompson,

4

Richard Hudson and Cedric Richmond, wrote a letter to the TSA stating the following:

5

We write regarding the recent revelation that Rapiscan Systems

6

(“Rapiscan”) violated terms of an existing procurement contract with the

7

Transportation Security Administration (TSA), resulting in the deployment

8

of an estimated 250 Advanced Technology 2 (AT-2) x-ray baggage

9

screening machines with unapproved, untested components across the

10

United States. Further, it is our understanding that these new components

11 – inappropriately labeled with the same part number as the originally

12

approved component – were entirely manufactured and assembled in the

13

People’s Republic of China by Shanghai Advanced Non-destructive

14

Equipment Company, Ltd.

15

We understand TSA has decided to rescind a $67 million order for an

16

additional 550 new AT-2 systems and move forward with a

17 recommendation to the Department of Homeland Security (DHS) for the

18

debarment of Rapiscan.

19

Pursuant to Rule X and Rule XI of the U.S. House of Representatives, the

20

Committee requests the following documents:

21 -The Engineering Change Proposal (ECP) sent by Rapiscan to TSA on

22

October 24, 2013;

23 -The show cause notice sent by TSA to Rapiscan on November 20,

24

2013, stating that Rapiscan was not in compliance with its contractual

25

obligations;

26 -Rapiscan’s response to the notice to TSA on November 27, 2013;

27 -TSA’s notice of award termination sent to Rapiscan on December 4,

28

2013;



1 -Any documents in TSA’s possession pertaining to risk assessments of

2

the potential for sabotage or espionage attempts of AT-2 machines; and

3 -A parts list and description of those parts outsourced to China.

4

88. On December 8, 2013, OSI admitted its fraud. Specifically, OSI admitted

5

that the termination of the TSA contract resulted from Rapiscan’s use of an unapproved

6

component in its AT-2 detection systems. The press release also admitted a complete

7

and systematic breakdown in Rapiscan’s quality assurance and contract compliance:

8

“While the component change was vetted by Rapiscan’s internal quality assurance, it

9

did not meet the contractual requirement of obtaining TSA’s approval in advance.”

10

Quillen, an analyst at Stephens, concluded that use of the unapproved and mislabeled

11

generators was caused by “personnel and compliance shortfalls.”

12

89. Analysts covering OSI confirmed Rapiscan’s use of unapproved Chinese

13

parts long before Rapiscan’s bid on the $67.1 million contract: According to Quillin,

14

“long before the bid, [Rapiscan] had swapped out a component of its checkpoint x-ray

15

systems without concurrently notifying the TSA of the change. Therefore, the x-ray

16

system, as configured, was not officially certified.” Quillin also noted that the issue

17

with the unapproved parts had been going on since “ before OSIS’s previous kerfuffle

18

with the TSA on the testing of its body scanners.” Josephine Millward, an analyst from

19

Benchmark, confirmed that “OSI replaced some of its employees after the body scanner

20

problem and the new team . . . discovered that one of the components in the AT-2

21

systems required advanced TSA approval . . .”

22

90. On December 10, 2013, an analyst from Stephens noted that “[i]t is our

23

understanding that at least 2 relatively senior Rapiscan managers, including its CTO of

24

the past 20 years, were let go after this issue came to light.” CW4 and CW5 stated that

25

they believed that Robert Mosey (Quality Director), Peter Modica (Vice President of

26

Product Management), and Andy Kotowski, Chief Technology Officer (“CTO” and one

27

of the Company’s founders) were the individuals fired.

28



1

VI. DEFENDANTS’ MATERIALLY FALSE AND MISLEADING STATEMENTS AND OMISSIONS

2 A. Defendants’ Materially False And

Statements 3

4

1. OSI’s $173 Million Contract For AIT Body Scanners

5

91. As detailed above, despite the fact that Defendants were aware that

6

Rapiscan’s ATR software suffered from fundamental flaws, they repeatedly represented

7

to investors throughout 2012 that Rapiscan was on schedule to comply with the TSA’s

8

deadline in a timely manner and that the ATR software could lead to further sales of the

9

Secure 1000SP.

10

92. For example, on January 24, 2012, OSI hosted a conference call for

11

investors and analysts to discuss quarterly results. On the call, Defendant Mehra made

12

the following false statement in response to an analyst’s question:

13

Analyst : [W]hat is the TSA telling you now about the potential for

14

additional body scanner orders? There has been a lot of noise about the

15

fears around backscatter.

16

Defendant Mehra : Basically, we are working with TSA. It’s business as

17 usual. We are actually going through some operational testing of our ATR,

18

which is the Automatic Threat Recognition system – basically takes away

19

the image. So, we’re going through that process, working with them, and we

20

expect that they will be looking at potential orders within the next few

21

months.

22

93. On April 17, 2012, OSI presented at the Imperial Capital Healthcare

23

Investor Forum. Defendant Edrick hosted the presentation, and stated, in relevant part:

24

If we look at people screening, everybody knows about the walk-through

25

metal detectors, but the body scanners is what gets most of the attention

26

today. A controversial product, some might say. It’s been a nice product

27

line for us. We tend to have the number one market share overall.

28

There’s only two approved vendors with the TSA; we are one of those two



approved vendors . We’re working on a privacy algorithm called the

Automated Threat Recognition, or ATR, and it’s undergoing its final

testing as we speak . But this is a nice product line for us.

94. On June 6, 2012, OSI presented at the Stephens Spring Investment

Conference. Defendant Edrick hosted the presentation, and stated, in relevant part:

And on people screening, we have the walk-through metal detectors. I’d

consider that probably our most commoditized product within the Rapiscan

portfolio. The body scanners are really what capture the attention of a lot of

folks. There’s two of us who are approved here in the US, and it’s a nice

market for us. But it seems to capture all the attention. . . . We’re working

on a privacy algorithm that, rather than seeing any of our images

independently, you’ll see a generic image, and the threat object will show up

on that. And that’s in testing right now, and we think that could lead to

more sales in the future.

95. Additionally, during the June 6, 2012 presentation, Defendant Edrick

stated:

Yes, talking about our people scanning business going under some upgrades

and what the size could be. Yes, we’re currently in testing, so we’ve

completed on our side and the customer’s currently in testing. We’re

hopeful that that could happen -- that could be completed any time this

summer.

96. On June 7, 2012, OSI presented at the Jefferies Global Healthcare

Conference. Defendant Edrick hosted the presentation, and stated, in relevant part:

Second product line, people screening, which are the walk-through metal

detectors and the body scanners. The body scanners, there’s two companies

approved, we are one of them, to put them into the US. Hardly a day goes by

where we don’t see some controversy or something in the media about these

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27


28


1 . . . . We’re working on some privacy algorithms that are currently in

2

testing, which would then potentially release more new orders.

3

97. On January 24, 2013, following the disclosure of the show cause letter

4

related to the ATR software, but before the disclosure of the notice of debarment,

5

Defendants hosted a conference call for investors and analysts to discuss OSI’s

6

quarterly results. On the call, Defendant Chopra made the following false and

7

misleading statement:

8

Analyst : On the slowdown in the US Security business, was that related to

9

anything with the TSA? Or was that related to Border Patrol? Where was the

10

slowdown? Was there a specific agency that you saw the slowdown?

11

Defendant Chopra: Number one, we can categorically say there is no

12

impact on the US business except for the AIT de-booking. But we believe

13

that it’s just - there’s just how everybody is sort of playing too close to the

14

chest in the US until the budget is done.

15

98. On April 24, 2013, Defendants hosted a conference call for investors and

16

analysts and concealed that OSI was still at significant risk of being debarred from

17

government contracting:

18

Analyst : First question is on the body scanners. Is that issue 100% behind

19

us? Have you gotten the final letters? What’s left, if anything?

20

Defendant Chopra: Well, this is Deepak here, Brian. As we mentioned in

21

the last conference call, we have resolved our agreement with TSA. And we

22

are working diligently with TSA to redeploy these units at other government

23

agencies. And the other thing is that - the other thing that we said on the last

24

conference call with the DHS - there’s no change from the last conference

25

call. We continue to work with them and there is no progress or any

26

conclusion on it.

27

28



1

99. As summarized in ¶¶53-76, Defendants knew or recklessly disregarded

2

that their statements regarding OSI’s ATR software were materially false and

3

misleading because, inter alia:

4 .

Rapiscan immediately encountered significant technical difficulties with

5

developing the ATR software, including that the software malfunctioned

6

when it encountered negative voltages from PMTs;

7 .

from the beginning, the ATR development project suffered from significant

8

delays;

9

• as a result of the technical difficulties and delays, Rapiscan would be

10

unable to deliver functional software in accordance with the Congressional

11

deadlines;

12 ~ Rapiscan knowingly manipulated the TSA’s ATR software testing by

13

“cherry-picking” three Secure 1000SP units with PMTs that contained low

14

negative voltage;

15 • Rapiscan’s quality assurance department suffered from numerous

16

deficiencies, including that it was not independent, and that it produced

17

substandard reports;

18 • OSI management had no intention of deploying the personnel and

19

resources necessary to complete the project in a timely manner; and

20 • a Rapiscan executive admitted that “Rapiscan became aware of an issue

21

related to software under development” months before it disclosed the

22

issue to the market.

23

100. As summarized in ¶¶53-76, Defendants’ statements regarding OSI’s ATR

24

software omitted material facts necessary to make them, in the light of the

25

circumstances under which they were made, not misleading. Specifically, Defendants

26

concealed from investors that OSI suffered from pervasive internal control deficiencies

27

in, inter alia, compliance and administration of government contracts, quality

28

assurance, management and personnel, and corporate compliance. Investors were



1

unaware, throughout the Class Period that, as a result of these deficiencies, OSI was at

2

significant risk of debarment from contracting with the U.S. Government.

3

2. OSI’s $325 Million Contract For Checkpoint Baggage Scanners

4

101. As detailed above, OSI, in violation of contractual requirements with the

5

U.S. Government and the TSA, used unapproved X-ray generators to manufacture and

6

repair the 620DV units throughout the Class Period. To conceal their violation,

7

Rapiscan labeled the components with the same part number as the originally approved

8

component. Accordingly, OSI’s 620DVs sold to the U.S. Government contained

9

unapproved and untested Chinese components. To conceal their fraud from investors,

10

Defendants continuously emphasized the significance of the $325 million ID/IQ

11

contract, and the fact that the 620DV was one of its most important products.

12

102. For example, on April 17, 2012, Defendants hosted a conference call for

13

investors and analysts to discuss OSI’s quarterly results. On the call, Defendant Edrick

14

stated, in relevant part:

15

So if we go through each of those four product areas and we start with

16

baggage and parcel inspection, we do have the number one marketshare at

17

the TSA. We have about 50% of the market. Everybody focuses on aviation

18

here, but we actually sell probably five to seven times as many machines

19

outside of aviation. We sell it into courthouses, office buildings, sporting

20

events, cruise lines, schools, hotels. You name it; it just keeps growing. This

21

has long been the bread and butter for Rapiscan and it’s a very nice

22

product line . In September of 2010, we received a five-year, $325 million

23

ID/IQ which we began fulfilling and we expect we’ll see more orders over

24

the course of the next several years on that as the TSA replaces their

25

checkpoint machines.

26

103. On June 6, 2012, Defendant Edrick made the following statement at the

27 Stephens Spring Investment Conference:

28



1

So if we look at our first area, baggage and parcel inspection, these are the x-

2

ray machines, as mentioned earlier, at the checkpoint. We’re number one in

3

the US, we’re number two worldwide. Everybody tends to focus on the

4

aviation business, but in fact we probably sell five times as many of these

5

machines outside of aviation into courthouses, cruise ships, office buildings,

6

sporting events, hotels. It just keeps expanding.

7

About two years ago, we received a five-year, $325 million ID/IQ to replace

8

the x-ray machines at the checkpoint. So we’re two years into that. We

9

believe there will be some nice orders forthcoming in this next year . The

10

EU has had some mandates which, again, are demanding additional changes.

11

So this is a real nice market for us. It’s really been - it’s long been our

12

bread and butter.

13

104. On June 7, 2012, OSI presented at the Jefferies Global Healthcare

14

Conference. Defendant Edrick stated, in relevant part:

15

We received a $325 million five-year ID/IQ about two years ago for this that

16

we’re about two years into now. ID/IQ is indefinite-delivery, indefinite-

17

quantity award. Very nice thing for us as they’re going through a

18

replacement cycle in the US airports. Nice opportunities here ... this has

19

sort of long been our bread and butter and continues to be a very strong

20

product line for us.

21

105. On December 13, 2012, OSI presented at the Imperial Capital Security

22

Investor Conference. Defendant Edrick stated, in relevant part:

23

We are in the middle of a 5-year, $325 million ID/IQ that should also

24

continue to generate revenues for us for this product.

25

106. On June 6, 2013, at OSI’s presentation at the Jefferies Global Healthcare

26

Conference, Defendant Edrick made the following statements:

27

One of our core products has always just been our package baggage and

28

parcel inspection systems - these are the ones you see at the airports -


1

2

3

4

5

6

7

8

9 JI 10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27


where we are number one. We have a $325 million ID/IQ at the airports. We

continue to sell a lot of these. There are also widely shown in sporting

events. We used them at the - we showcased them at the London Olympics.

We also did the last World Cup; the last - and the last Winter Olympics. So

it is a very, very nice product line, sometimes considered the bread and

butter.

107. On October 23, 2013, Defendants hosted a conference call for investors

and analysts regarding its quarterly results for the first quarter of fiscal year 2014. On

that call, Defendant Edrick stated:

Third, our security bookings were very solid, with a book-to-bill ratio of

security, excluding turnkey, of 1.7 . Our strong bookings and backlog

position us well in our Security and Opto businesses.

108. On the same call, Defendant Chopra stated:

The strong results at the onset of this fiscal year puts us in a very good

position to build upon this momentum for the remainder of the year.

Reviewing the highlights for the quarter, starting with our Security

division – Rapiscan Systems, where revenues increased 17% to $97 million,

with bookings of approximately $112 million .

109. On the October 23, 2013 conference call, Defendant Chopra stated in

response to questions from an analyst:

Analyst : And then I see Rapiscan has been awarded a checkpoint x-ray

systems contract from TSA. Congratulations on that, by the way. It’s good

to see TSA’s confidence in you. Is this currently in your Rapiscan backlog?

Defendant Chopra : That’s true, Jeff.

110. As summarized in ¶¶77-90, Defendants knew or recklessly disregarded

that their statements regarding OSI’s contract for checkpoint baggage and parcel

scanners were materially false and misleading because, inter alia:


28


.

OSI, in violation of contractual requirements with the TSA, used

unapproved and untested X-ray generators that were manufactured in China

to assemble and repair the 620DV scanner;

.

Rapiscan fraudulently labeled the Chinese components with the same part

number as the originally approved component to conceal its violation; and

. the $67.1 million contract for 550 620DV scanners should never have been

included in OSI’s backlog because OSI was in violation of the contract

providing the TSA with grounds to terminate the contract for default, which

the TSA did immediately upon learning of the default.

111. Moreover, Defendants concealed from investors that OSI suffered from

pervasive internal control deficiencies in, inter alia, compliance and administration of

government contracts, quality assurance, management and personnel, and corporate

compliance. Investors were unaware, throughout the Class Period that, as a result of

these deficiencies, OSI was at significant risk of debarment from contracting with the

U.S. Government.

B. OSI’s Class Period Financial Statements Were Materially False And Misleading And Not In Compliance With GAAP And Applicable SEC Rules

112. Defendants’ false statements and omissions related to the ATR software

and the $67.1 million contract for 620DVs caused OSI’s financial statements to be

materially false and misleading in violation of GAAP. 3 To date, OSI has recorded at

least $5.8 million in charges associated with the ATR contract and at least $2.7 million

in charges related to the 620DV contract. OSI, has not, however, accounted for these

charges in accordance with GAAP. As a result, OSI’s financial statements were

3 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. SEC Regulation S-X (17 C.F.R. § 210.4-01(a)(1)) states that financial statements filed with the SEC that are not prepared in compliance with GAAP are presumed to be misleading and inaccurate, despite footnotes and other disclosure. Regulation S-X requires that interim financial statements must also comply with GAAP, with the exception that interim financial statements need not include disclosure that would be duplicative of disclosures accompanying annual disclosures, per 17 C.F.R. § 210.10- 01(a).

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

28



1

materially misstated throughout the Class Period, including the Company’s assets,

2

income from operations, income before income taxes, net income, and earnings per

3 II share.

4

1. OSI Failed To Properly Account For The Material Charges Associated With Defendants’ Fraud

5

113. As set forth in Statement of Financial Accounting Concepts (“SFAC”) 6

No. 1, Objectives of Financial Reporting by Business Enterprises (“SFAC 1”), one of 7

the fundamental objectives of financial reporting is to provide accurate and reliable 8

information concerning an entity’s financial performance for the period being presented. 9

Specifically, SFAC 1 states the following: 10

Financial reporting should provide information about an enterprise’s 11

financial performance during a period. Investors and creditors often 12

use information about the past to help in assessing the prospects of an 13

enterprise. Thus, although investment and credit decisions reflect 14

investors’ and creditors’ expectations about future enterprise 15

performance, those expectations are commonly based at least partly 16

on evaluations of past enterprise performance. 17

114. Moreover, “the fair presentation of financial statements in conformity with 18

generally accepted accounting principles is an implicit and integral part of 19

management’s responsibility.” (AU § 110.03). 20

115. The accrual method of accounting requires that when revenues are 21

recorded, that costs associated with those revenues also be recorded. According to SFAC 22

No. 5, Recognition and Measurement in Financial Statements of Business Enterprises 23

(“CON 5”), OSI was required to record the appropriate level of expenses as it was 24

generating revenue. Paragraph 86 of CON 5 states: 25

Consumption of economic benefits during a period may be recognized either 26

directly or by relating it to revenues recognized during the period:


27

28


a. Some expenses, such as cost of goods sold, are

matched with revenues — they are recognized upon

recognition of revenues that result directly and jointly

from the same transactions or other events as the

expenses.

b. Many expenses, such as selling and administrative

salaries, are recognized during the period in which cash

is spent or liabilities are incurred for goods and services

that are used up either simultaneously with acquisition

or soon after.

c. Some expenses, such as depreciation and insurance,

are allocated by systematic and rational procedures to

the periods during which the related assets are expected

to provide benefits.

116. This method required OSI to record a liability at the end of the period in

which the liability was incurred. A liability is defined in paragraph 35 of SFAC No. 6,

Elements of Financial Statements (“CON 6”), as follows:

probable4 future sacrifices of economic benefits arising from present

obligations 5 of a particular entity to transfer assets or provide services to

other entities in the future as a result of past transactions or events.

117. CON 6 also describes three essential characteristics of a liability:

it embodies a present duty or responsibility to one or

more other entities that entails settlement by probable

4 “Probable is used with its usual general meaning, rather than in a specific accounting or technical sense (such as that in SFAS 5, par 3), and refers to that which can be reasonably expected or believed on the basis of available evidence or logic but is neither certain nor proved...”

5 “Obligations in the definition is broader than legal obligations. It is used with its usual general meaning to refer to duties imposed legally or socially; to that which one is bound to do by contract, promise, moral responsibility, and so forth (Webster’s New World Dictionary, p. 981).”

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

28



1

future transfer or use of assets at a specified or

2

determinable date, on occurrence of a specified event, or

3

on demand,

4

the duty or responsibility obligates a particular entity,

5

leaving it little or no discretion to avoid the future

6

sacrifice, and

7

the transaction or other event obligating the entity has

8

already happened.

9

118. GAAP makes clear via Accounting Standards Codification 450 (“ASC

10

450”), Contingencies that:

11

An estimated loss from a loss contingency shall be accrued by a charge to

12

income if both of the following conditions are met:

13

a. Information available prior to issuance of the

14

financial statements indicates that it is probable

15

that an asset had been impaired or a liability had

16

been incurred at the date of the financial

17

statements . . . and

18

b. The amount of loss can be reasonably estimated .

19

119. SFAS 146, Accounting for Costs Associated with Exit or Disposal Activities

20

(“SFAS 146”), requires that costs associated with the termination of a contract

21

composed of either (a) costs to terminate the contract before the end of its term or

22

(b) costs that will continue to be incurred under the contract for its remaining term

23

without economic benefit to the entity be recognized and measured at their fair value

24

in the reporting period in which the entity terminates the contract in accordance with

25

the contract terms. SFAS 146 requires that such costs be recognized and measured at

26

their fair value in the period in which the liability is incurred or, in the unusual

27

circumstance in which fair value cannot be reasonably estimated, the liability shall be

28

recognized initially in the period in which fair value can be reasonably estimated.



1

120. Statement of Financial Accounting Standards No. 154, Accounting Changes

2

and Error Corrections (“SFAS 154”), which was incorporated in Accounting Standards

3

Codification 250, Accounting Changes and Error Corrections (“ASC 250”), states:

4

A change in accounting estimate shall be accounted for in (a) the period of

5

change if the change affects that period only or (b) the period of change and

6

future periods if the change affects both. A change in accounting estimate

7 shall not be accounted for by restating or retrospectively adjusting

8

amounts reported in financial statements of prior periods or by reporting

9

pro forma amounts for prior periods. Change in accounting estimate - a

10

change that has the effect of adjusting the carrying amount of an existing

11

asset or liability or altering the subsequent accounting for existing or future

12

assets or liabilities. A change in accounting estimate is a necessary

13

consequence of the assessment, in conjunction with the periodic presentation

14

of financial statements, of the present status and expected future benefits and

15

obligations associated with assets and liabilities. Changes in accounting

16

estimates result from new information. (emphasis added)

17

121. In stark contrast to SFAS 154, ASC 250, which incorporated Accounting

18

Principles Board Opinion No. 20 (“APB 20”), Accounting Changes , provides, in

19

relevant part, that:

20

Restating financial statements of prior periods may dilute public confidence

21

in financial statements and may confuse those who use them. Financial

22

statements previously prepared on the basis of accounting principles

23

generally accepted at the time the statements were issued should therefore be

24

considered final except for changes in the reporting entity or corrections of

25 errors.

26

* * * *

27

28



Errors in financial statements result from mathematical mistakes, mistakes in

the application of accounting principles, or oversight or misuse of facts that

existed at the time the financial statements were prepared .

* * * *

If a change or correction has a material effect on income before

extraordinary items or on net income of the current period before the effect

of the change, the treatments and disclosures described in this Opinion

should be followed.

122. APB 20 states that “[a]ny error in the financial statements of a prior period

discovered subsequent to their issuance shall be reported as a prior-period adjustment by

restating the prior-period financial statements. ”

123. With this background, the following table contains a summary of the

charges recorded in OSI’s financial statements related to the cancellation of the ATR

software contract and the cancellation of the 620DV contract between second quarter of

fiscal 2012 and third quarter of fiscal 2014.

124. Defendants’ accounting for these costs was improper and in violation of

GAAP for the following reasons:

. Defendants violated ASC 250, APB No. 20, SFAS 154, SFAS 5, SFAS

146, CON 5, CON 6 and ASC 450, because they failed to record the

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

28



1

charges during the Class Period when they became probable and estimable

2

in violation of GAAP. Indeed, as summarized in ¶¶53-76, Defendants were

3

aware from the beginning of the Class Period that they would be unable to

4

meet the TSA’s directive regarding ATR software in a timely manner.

5

Further, as summarized in ¶¶77-90, Defendants knew or should have known

6

throughout the Class Period – and had actual knowledge as of the quarter-

7

ended December 31, 2012 – that OSI was using unapproved, untested and

8

mislabeled Chinese parts in its 620DV units;

9

. Defendants violated FAS 146 because they failed to concurrently recognize

10

the entirety of the charges. Rather than “spreading” portions of the ATR

11

contract charge over several reporting periods, Defendants were required to

12

disclose and record the full $5.8 million when the charge became probable

13

and estimable – i.e. , during the quarter-ended December 31, 2011.

14

Likewise, Defendants were required to disclose and record the full $2.7

15

million 620DV contract charge once it became probable and estimable – at

16

the very latest once they acquired actual knowledge of the issue in the

17

quarter-ended June 30, 2013;

18 . Defendants improperly classified the charges as “impairment, restructuring

19

and other charges,” instead of the appropriate line item in the Company’s

20

financial statements. Defendants were aware that investors and analysts

21

considered “impairment, restructuring and other charges” one-time costs

22

and that such expenses were not as significant as to OSI’s stock price as

23

metrics such as income from operations, income before income taxes, net

24

income, and earnings per share. By classifying the charges as “impairment,

25

restructuring and other charges,” Defendants were able to consistently

26

report “record financial results” that met or exceeded analysts’ expectations

27

during the entire Class Period, driving the stock price significantly, but

28

artificially, higher; and



. Defendants violated SFAS 154, ASC 250 and APB 20 because they

accounted for the charges as “changes in accounting estimates,” rather than

as errors. No new information has been discovered since Defendants

became aware that these contracts would be terminated that would justify

accounting for these charges as “changes in accounting estimates.” Rather,

these charges should have been accounted for as errors and OSI should

have restated its Class Period financial statements. 6

125. If Defendants would have recorded the $5.8 and the $2.7 million charges

associated with the “show cause” letters in accordance with GAAP, the effect on the

Company’s quarterly financial statements in any one quarter during the Class Period

would have been material:

(a) Quarter-Ended December 31, 2011 (2Q 2012): At the time that OSI’s 2Q

2012 financial statement was issued, Defendants were aware that (1) Rapiscan was

suffering significant technological difficulties in the development of ATR software for

which costs should not have been capitalized; (2) the technological difficulties were

causing severe delays; and (3) Rapiscan would be unable to complete the contract at all.

Accordingly, under GAAP, Defendants should have caused OSI to record a $5.8 million

charge related to costs associated with the ATR contract. Defendants did not record

such a charge. Had they done so, the effect on OSI’s financial statement for the quarter-

ended December 31, 2011, would have been as follows:

6 The fact that OSI’s independent registered public auditing firm, Moss Adams LLP (“Moss Adams”), has not required OSI to restate does not alter the reasonable inference that OSI’s financial statements were false and misleading. Defendants Chopra and Edrick made numerous representations to Moss Adams throughout the Class Period via management representation letters, including that the financial statements were prepared in accordance with GAAP, that the charges associated with the dispositions of the “show cause” letters were recorded in the appropriate periods and that those charges were properly accounted for as changes in accounting estimates. As it is standard practice in the industry, Moss Adams will not perform a separate and unbiased investigation of Defendants’ representations. Accordingly, no inference can be made that the lack of a restatement renders the financial statements accurate and in compliance with GAAP.

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

28



1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

December 31, 2011 - 2nd Quarter 2012 (in thousands, except EPS) Reported Misstatement Adjusted Impact ($) Impact (%) Income from Operations $18,299 $(5,800) $12,499 $(5,800) -31.70% Income before Income Taxes $17,578 $(5,800) $11,778 $(5,800) -33.00% Net Income $12,301 $(5,800) $6,501 $(5,800) -47.15% Basic Earnings Per Share $0.62 $0.33 $(0.29) -47.15% Diluted Earnings Per Share $0.61 $0.32 (0.29) -47.15%

(b) Quarter-Ended March 31, 2012 (3Q 2012): At the time that OSI’s 3Q 2012

financial statement was issued, Defendants were aware that (1) Rapiscan was suffering

significant technological difficulties in the development of ATR software for which

costs should not have been capitalized; (2) the technological difficulties were causing

severe delays; and (3) Rapiscan would be unable to complete the contract at all.


charge related to costs associated with the ATR contract. Defendants did not record

such a charge. Had they done so, the effect on OSI’s financial statement for the quarter-

ended March 31, 2012, would have been as follows:

March 31, 2012 - 3rd Quarter 2012 (in thousands, except EPS) Reported Misstatement Adjusted Impact ($) Impact (%) Income from Operations $18,205 $(5,800) $12,405 $(5,800) -31.86% Income before Income Taxes $17,431 $(5,800) $11,631 $(5,800) -33.27% Net Income $12,575 $(5,800) $6,775 $(5,800) -46.12% Basic Earnings Per Share $0.63 $0.34 $(0.29) -46.12% Diluted Earnings Per Share $0.62 $0.33 $(0.29) -46.12%


28


1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

(c) Quarter-Ended June 30, 2012 (4Q 2012): At the time that OSI’s Fiscal Year

End 2012 financial statement was issued, Defendants were aware that (1) Rapiscan was

suffering significant technological difficulties in the development of ATR software for

which costs should not have been capitalized; (2) the technological difficulties were

causing severe delays; and (3) Rapiscan would be unable to complete the contract at all.


charge related to costs associated with the ATR contract. Defendants did not record such

a charge. Had they done so, the effect on OSI’s financial statement for the quarter-

ended June 30, 2012, would have been as follows:

June 30, 2012 – 4th Quarter 2012 (in thousands, except EPS) Reported Misstatement Adjusted Impact ($) Impact (%) Income from Operations $21,826 $(5,800) $16,026 $(5,800) -26.57% Income before Income Taxes $20,181 $(5,800) $14,381 $(5,800) -28.74% Net Income $15,911 $(5,800) $10,111 $(5,800) -36.45% Basic Earnings Per Share $0.81 $0.51 $(0.30) -36.45% Diluted Earnings Per Share $0.78 $0.50 $(0.28) -36.45%

(d) Quarter-Ended September 30, 2012 (1Q 2013): Again, as detailed above,

Defendants should have caused OSI to record a $5.8 million charge related to costs

associated with the ATR contract. Had they done so, the effect on OSI’s financial

statement for the quarter-ended September 30, 2012, would have been as follows:

September 30, 2012 – 1st Quarter 2013 (in thousands, except EPS) Reported Misstatement Adjusted Impact ($) Impact (%) Income from Operations $10,114 $(5,800) $4,314 $(5,800) -57.35% Income before Income Taxes $9,017 $(5,800) $3,217 $(5,800) -64.32% Net Income $6,339 $(5,800) $539 $(5,800) -91.50%


28


1 September 30, 2012 – 1st Quarter 2013 Basic Earnings Per Share $0.32 $0.03 $(0.29) -91.50% Diluted Earnings Per Share $0.31 $0.03 $(0.28) -91.50%

(e) Quarter-Ended December 31, 2012 (2Q 2013): During the quarter,

Defendants recorded a $2.7 million charge associated with the ATR show cause letter,

and the cancellation of the ATR software contract. Nevertheless, under GAAP, they

should have recorded an additional $3.1 million charge so that the full $5.8 million

charge was incurred. Had Defendants done so, the effect on OSI’s financial statement

for the quarter-ended December 31, 2012, would have been as follows:

December 31, 2012 - 2nd Quarter 2013 (in thousands, except EPS) Reported Misstatement Adjusted Impact ($) Impact (%) Income from Operations $18,678 $(3,100) $15,578 $(3,100) -16.60% Income before Income Taxes $17,293 $(3,100) $14,193 $(3,100) -17.93% Net Income $12,421 $(3,100) $9,321 $(3,100) -24.96% Basic Earnings Per Share $0.62 $0.47 $(0.15) -24.96% Diluted Earnings Per Share $0.60 $0.45 $(0.15) -24.96%

(f) Quarter-Ended March 31, 2013 (3Q 2013): Defendants had previously

recorded a $2.7 million charge associated with the ATR show cause letter, and the

cancellation of the ATR software contract. Nevertheless, under GAAP, they should

have recorded an additional $3.1 million charge so that the full $5.8 million charge was

incurred. Had Defendants done so, the effect on OSI’s financial statement for the

quarter-ended March 31, 2013, would have been as follows:

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26


27

28


1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

28

March 31, 2013 – 3rd Quarter 2013 Operations Income before Income Taxes $18,073 $(3,100) $14,973 $(3,100) -17.15% Net Income $13,529 $(3,100) $10,429 $(3,100) -22.91% Basic Earnings Per Share $0.68 $0.52 $(0.16) -22.91% Diluted Earnings Per Share $0.66 $0.51 $(0.15) -22.91%

(g) Quarter-Ended June 30, 2013 (4Q 2013):

(i) During the quarter, Defendants recorded a $1.5 million charge

associated with the ATR show cause letter, and the cancellation of the ATR software

contract (and Defendants had previously recorded a $2.7 million charge related to the

same). Nevertheless, under GAAP, they should have recorded an additional $1.6 million

charge so that the full $5.8 million charge was incurred.

(ii) Additionally, at the time that OSI’s Fiscal Year End 2013 financial

statements were issued, Defendants were aware that, in violation of its U.S. Government

contracts, Rapiscan had used unapproved Chinese parts in its checkpoint baggage and

parcel scanners, including the 620DV. Accordingly, under GAAP, Defendants should

have caused OSI to record at least a $2.7 million charge related to costs associated with

disclosure of the violation, including replacement of the improper parts and resolution of

an administrative proceeding with the U.S. Government.

(iii) Had Defendants properly recorded the $1.6 million ATR-related

charge, along with the $2.7 million checkpoint scanner charge, during the quarter-ended

the effect on OSI’s June 30, 2013 financial statements would have been as follows:

June 30, 2013 – 4th Quarter 2013 (in thousands, except EPS) Reported Misstatement Adjusted Impact ($) Impact (%) Income from Operations $26,232 $(4,300) $21,932 $(4,300) -16.39% Income before Income Taxes $25,032 $(4,300) $20,732 $(4,300) -17.18%



1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

28

June 30, 2013 – 4th Quarter 2013 Net Income $11,847 $(4,300) $7,547 $(4,300) -36.30% Basic Earnings Per Share $0.59 $0.38 $(0.21) -36.30% Diluted Earnings Per Share $0.58 $0.37 $(0.21) -36.30%

(h) Quarter-Ended September 30, 2013 (1Q 2014): As detailed above, at the

time that OSI’s 1Q 2014 financial statements were issued, Defendants were aware that,

in violation of its U.S. Government contracts, Rapiscan had used unapproved Chinese

parts in its checkpoint baggage and parcel scanners, including the 620DV. Accordingly,

under GAAP, Defendants should have caused OSI to record at least a $2.7 million

charge related to costs associated with disclosure of the violation, including replacement

of the improper parts and resolution of an administrative proceeding with the U.S.

Government. Had Defendants done so, the effect on OSI’s financial statement for the

quarter-ended September 30, 2013, would have been as follows:

September 30, 2013 – 1st Quarter 2014 (in thousands, except EPS) Reported Misstatement Adjusted Impact ($) Impact (%) Income from Operations $10,473 $(2,700) $7,773 $(2,700) -25.78% Income before Income Taxes $9,003 $(2,700) $6,303 $(2,700) -29.99% Net Income $6,394 $(2,700) $3,694 $(2,700) -42.23% Basic Earnings Per Share $0.32 $0.18 $(0.14) -42.23% Diluted Earnings Per Share $0.31 $0.18 $(0.13) -42.23%

(i) Quarter-Ended December 31, 2013 (2Q 2014): During the quarter,

Defendants recorded a $0.9 million charge related to costs associated with disclosure of

the violation, including replacement of the improper parts and resolution of an

administrative proceeding with the U.S. Government. Nevertheless, under GAAP, they

should have recorded at least an additional $1.8 million charge so that the full $2.7



million charge was incurred. Had Defendants done so, the effect on OSI’s financial

statement for the quarter-ended December 31, 2013, would have been as follows:

December 31, 2013 - 2nd Quarter 2014 (in thousands, except EPS) Reported Misstatement Adjusted Impact ($) Impact (%) Income from Operations $22,029 $(1,800) $20,229 $(1,800) -8.17% Income before Income Taxes $20,526 $(1,800) $18,726 $(1,800) -8.77% Net Income $14,573 $(1,800) $12,773 $(1,800) -12.35% Basic Earnings Per Share $0.73 $0.64 $(0.09) -12.35% Diluted Earnings Per Share $0.71 $0.62 $(0.09) -12.35%

126. Defendants knew or recklessly disregarded that OSI’s Class-Period

financial statements were materially false and misleading and not in compliance with

GAAP and SEC Rules because, inter alia:

• Although known, Defendants failed to record the charges associated with

both the ATR software issue and the 620DV contract issue in the reporting

period in which such liabilities became probable and estimable, in

violation of GAAP;

• Defendants failed to concurrently recognize the entirety of the charges,

rather than “spreading” portions of the charges over several reporting

periods, in violation of GAAP;

• Defendants improperly classified the charges as “impairment, restructuring

and other charges,” rather than properly applying the charges to the

appropriate line items in the Company’s financial statements to mislead

investors into not considering these charges in the stock price; and

•

Defendants improperly recorded such charges as changes in accounting

estimates (via prospective application) rather than as errors (via

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27


28


1

retrospective application) in violation of GAAP, given that no new

2

information had been located that would justify such accounting treatment.

3

2. Additional GAAP And SEC Violations

4

127. In addition to the false statements and omissions related to Defendants’

5

failure to properly account for the charges associated with their fraud, OSI’s SEC filings

6

throughout the Class Period contained numerous additional material violations of GAAP

7

and SEC rules and regulations.

8

128. SEC regulations require that certain disclosures supplement a company’s

9

quarterly and annual financial statements to help investors better understand a

10

company’s financial condition. Specifically, SEC Regulation S-K, Item 303, requires

11

that each annual Form 10-K and quarterly Form 10-Q include a narrative explaining the

12

financial statements and the changes in financial condition of the company “ through the

13

eyes of management ”:

14

The presentation of financial statements in conformity with generally

15

accepted accounting principles includes adequate disclosure of material

16

matters. These matters relate to the form, arrangement, and content of the

17

financial statements and their appended notes, including, for example, the

18

terminology used, the amount of detail given, the classification of items in

19

the statements, and the bases of amounts set forth. 7

20

129. The specific disclosure requirement of Item 303 states:

21

Describe any known trends or uncertainties that have had or that the

22

registrant reasonably expects will have a material favorable or unfavorable

23

impact on net sales or revenues or income from continuing operations. If

24

the registrant knows of events that will cause a material change in the

25

relationship between costs and revenues (such as known future increases in

26

27

28 7 Auditing Standards, AU § 431, Adequacy of Disclosure in Financial Statements , ¶02.



1

costs of labor or materials or price increases or inventory adjustments), the

2

change in the relationship shall be disclosed.

3

130. SEC guidance No. 36, Management’s Discussion and Analysis of Financial

4

Condition and Results of Operations (“FRR 36”), further discusses Item 303. SEC Staff

5

Accounting Bulletin (“SAB”) Topic 13B requires disclosure of the company’s policy for

6

each material type of transaction. This provision requires the following disclosures with

7

respect to liquidity, known trends and results of operations in the Management’s

8

Discussion and Analysis (“MD&A”) section of the Form 10-K:

9

MD&A requires a discussion of liquidity, capital resources, results of

10

operations and other information necessary to an understanding of a

11

registrant’s financial condition, changes in financial condition and results of

12

operations. 8 This includes unusual or infrequent transactions, known trends

13

or uncertainties that have had, or might reasonably be expected to have, a

14

favorable or unfavorable material effect on revenue, operating income or

15

net income and the relationship between revenue and the costs of the

16

revenue... The Commission stated in FRR 36 that MD&A should ‘ give

17

investors an opportunity to look at the registrant through the eyes of

18

management by providing a historical and prospective analysis of the

19

registrant’s financial condition and results of operations, with a

20

particular emphasis on the registrant’s prospects for the future .

21

131. Accordingly, OSI was required under GAAP and SEC rules, including APB

22

No. 22, Disclosure of Accounting Policies , to disclose in detail OSI’s significant

23

accounting policies, including the basis for the recognition of revenue, software

24

development costs, and impairment, restructuring and other charges in the footnotes of

25

its financial statements in each of its publicly issued Forms 10-K and 10-Q during the

26

Class Period. The requirement set forth in SAB 104 states as follows:

27

28 8 See Regulation S-K, Item 303 and FRR 36.


1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

28


A registrant should disclose its accounting policy for the recognition of

revenue pursuant to [APB 22]. Paragraph 12 thereof states that ‘the

disclosure should encompass important judgments as to appropriateness of

principles relating to recognition of revenue . . .’ Because revenue

recognition generally involves some level of judgment, the staff believes

that a registrant should always disclose its revenue recognition policy.

132. Critical Accounting Policies and Estimates. The following statements in

OSI’s Class Period SEC filings related to critical accounting policies and estimates were

materially false and misleading or omitted information necessary to make them not

misleading:

Critical Accounting Policies and Estimates

The following discussion and analysis of our financial condition and results

of operations is based on our Consolidated Financial Statements, which

have been prepared in conformity with accounting principles generally

accepted in the United States. Our preparation of these Consolidated

Financial Statements requires us to make judgments and estimates that

affect the reported amounts of assets and liabilities, disclosure of contingent

assets and liabilities at the date of the financial statements and the reported

amounts of revenues and expenses during the reporting period. We base our

estimates on historical experience and on various other assumptions that

we believe to be reasonable under the circumstances. As a result, actual

results may differ from such estimates. Our senior management has

reviewed these critical accounting policies and related disclosures with the

Audit Committee of our Board of Directors.

Use of Estimates

The preparation of financial statements in conformity with accounting

principles generally accepted in the United States of America requires

management to make estimates and assumptions that affect the reported



1

amounts of assets and liabilities and the disclosure of contingent assets and

2

liabilities at the date of the financial statements and the reported amounts of

3

revenues and expenses during the reporting period. Actual results could

4

differ from those estimates.

5

133. These statements were false and misleading when made because

6

Defendants had not disclosed that (1) the ATR software issues had been known for

7

months before November 2012; and (2) the use of unapproved Chinese components in

8

Rapiscan’s checkpoint baggage scanners was known during the second quarter of fiscal

9

year 2013.

10

134. Revenue Recognition/Backlog. The following Class Period statements

11

related to Rapiscan’s backlog (when considered with the Company’s revenue

12

recognition policies) were materially false and misleading or omitted information

13

necessary to make them not misleading:

14

Revenue Recognition

15

The Company recognizes revenue upon shipment of products when title and

16

risk of loss passes, and when terms are fixed and collection is probable. The

17

portion of revenue for the sale attributable to installation is deferred and

18

recognized when the installation service is provided. In an instance where

19

terms of sale include subjective customer acceptance criteria, revenue is

20

deferred until we have achieved the acceptance criteria. Concurrent with

21

the shipment of the product, the Company accrues estimated product return

22

reserves and warranty expenses. Critical judgments made by management

23

related to revenue recognition include the determination of whether or not

24

customer acceptance criteria are perfunctory or inconsequential. The

25

determination of whether or not customer acceptance terms are perfunctory

26

or inconsequential impacts the amount and timing of revenue recognized.

27

Critical judgments also include estimates of warranty reserves, which are

28



1

established based on historical experience and knowledge of the product

2

under warranty.

3

135. Additionally, Defendants falsely touted the Company’s backlog on the

4

October 23, 2013 conference call, less than one month after securing TSA’s $67.1

5

million contract. Specifically, Defendant Edrick, stated:

6

As mentioned on last quarter’s call, we were excited about the prospects for

7

both revenue and earnings growth in fiscal 2014, and we are quite pleased

8

with how this fiscal year has begun.

9 * * *

10

Third, our security bookings were very solid, with a book-to-bill ratio of

11

security, excluding turnkey, of 1.7 . Our strong bookings and backlog

12

position us well in our Security and Opto businesses.

13

136. On the same earnings conference call, Defendant Chopra stated:

14

The strong results at the onset of this fiscal year puts us in a very good

15

position to build upon this momentum for the remainder of the year.

16

Reviewing the highlights for the quarter, starting with our Security

17

division – Rapiscan Systems, where revenues increased 17% to $97 million,

18

with bookings of approximately $112 million .

19

137. These statements were false and misleading when made because (1)

20

Defendants were aware, beginning in the fourth quarter of fiscal year 2013 ( i.e. ,

21

quarterly reporting period ended June 30, 2013), of the use of unapproved Chinese parts

22

in the checkpoint baggage scanners that Rapiscan had intentionally mislabeled in an

23

attempt to avoid detection; and (2) Defendants misled the market by including in the

24

backlog as of September 30, 2013, TSA’s $67.1 million order for 550 620DVs when

25

Defendants knew that such contract would never materialize. As Defendants were

26

aware that the TSA had not approved the parts in use, Defendants were aware that the

27

acceptance criteria of the Company’s revenue recognition policy would never be met .

28



1

138. Goodwill and Intangible Assets. The following statement in OSI’s Class

2

Period SEC filings related to goodwill and intangible assets was materially false and

3

misleading or omitted information necessary to make it not misleading:

4

Goodwill and Intangible Assets

5

Software development costs for software products incurred before

6

establishing technological feasibility are charged to operations. Software

7

development costs incurred after establishing technological feasibility are

8

capitalized on a product-by-product basis until the product is available for

9

general release to customers at which time amortization begins. Annual

10

amortization, charged to cost of goods sold, is the greater of (i) the amount

11

computed using the ratio that current gross revenues for a product bear to

12

the total current and anticipated future gross revenues for that product and

13

(ii) the straight-line method over the remaining estimated economic life of

14

the product.

15

139. This statement was false and misleading when made because, despite their

16

awareness that technological feasibility of the ATR software had not been established,

17

Defendants fraudulently capitalized the ATR software development costs. This allowed

18

Defendants to fraudulently avoid recording these expenses in OSI’s ongoing operations

19

and to create the impression with investors that: (1) OSI would meet TSA’s extended

20

deadline and not be terminated for default (capitalizing the costs indicated that

21

technological feasibility was established); and (2) OSI could delay the recognition of

22

these costs into expenses. Additionally, as OSI recorded the expenses associated with

23

the software development in “impairment, restructuring and other charges,” they were

24

excluded from GAAP net income and earnings per share, metrics closely monitored by

25

analysts and investors.

26

140. Impairment, Restructuring and Other Charges. The following

27 statements in OSI’s 2013 Form 10-K related to impairment, restructuring and other

28



1

charges were materially false and misleading or omitted information necessary to make

2

it not misleading:

3

Impairment, Restructuring and Other Charges

4

The Company consolidates processes and facilities of its subsidiaries to

5

better align with demand by its customers and thereby improve its

6

operational efficiencies. The associated charges, and other non-recurring

7

charges and impairment of assets, are recognized as impairment,

8

restructuring and other charges in the Consolidated Financial Statements.

9 * * *

10

For the past several years we have endeavored to align our global

11

capacity and infrastructure with demand by our customers and fully

12

integrate acquisitions, thereby improving our operational efficiency.

13

These activities included reducing excess workforce and capacity,

14

consolidating and relocating certain manufacturing facilities and

15

reviewing the value of certain technologies and product lines. The overall

16

objectives of the restructuring activities were to lower costs and better

17

utilize our existing manufacturing capacity. During fiscal 2011 through

18

2013, we continued these efforts to further increase operating efficiencies,

19

although we implemented fewer changes than those made in prior fiscal

20

years. Our efforts have helped enhance our ability to improve operating

21

margins, retain and expand existing relationships with customers and attract

22

new business. We may utilize similar measures in the future to realign our

23

operations to further increase our operating efficiencies. The effect of these

24

efforts may materially affect our future operating results.

25 * * *

26

In response to challenging worldwide economic conditions, the Company

27

continued to optimize its cost structure by reducing excess workforce and

28

facilities and consolidating and relocating certain manufacturing facilities.



1

In addition, during fiscal 2013, as a result of a contract settlement with

2

the Transportation Security Agency (TSA) related to the Rapiscan Secure

3

1000SP Advanced Imaging Technology system and associated Automated

4

Target Recognition software and our related agreement with the U.S.

5

Department of Homeland Security (DHS), the Company incurred

6

charges, including the write-off of inventory, removal and storage costs

7

for products previously sold to the TSA and legal costs; and recognized

8

the impairment of related capitalized software development costs.

9 * * *

10

Fiscal 2013 Compared with Fiscal 2012. During fiscal 2013, we incurred

11

$8.0 million of impairment, restructuring and other charges primarily

12

related to headcount reductions and facility consolidation, and in

13

conjunction with our agreement with the Transportation Security Agency

14

(TSA) related to the Rapiscan Secure 1000SP Advanced Imaging

15

Technology system and associated Automated Target Recognition

16

software and our related agreement with the U.S. Department of

17

Homeland Security (DHS) .

18

141. This statement was false and misleading when made because Defendants

19

had not disclosed that (1) the ATR software issues had been known for months before

20

November 2012; and (2) the use of unapproved Chinese components in Rapiscan’s

21

checkpoint baggage scanners was known during the second quarter of fiscal year 2013.

22

142. Defendants have misled and continue to mislead investors by describing

23

and recording these costs in the “impairment, restructuring and other charges” line item

24

of the Company’s income statements. Such expenses have been fraudulently described

25

by Defendants as “ activities included reducing excess workforce and capacity,

26

consolidating and relocating certain manufacturing facilities and reviewing the value

27 of certain technologies and product lines” which are supposedly designed to “increase

28

operating efficiencies.”



1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

C. Defendants’ Sarbanes-Oxley And Internal Controls Certifications Were False And Misleading

143. Sections 302 and 906 of SOX require that a public company’s principal

officers certify their responsibilities for financial reports in each quarterly and annual

filing. Likewise, section 404 of SOX requires a public company to evaluate and report

on the effectiveness of its internal controls over financial reporting annually.

144. During the Class Period, Defendants Chopra and Edrick, in accordance

with sections 302, 906 and 404 of SOX periodically executed certifications stating,

inter alia, that:

. That OSI’s financial statements did not contain any untrue statement or

omissions;

• OSI’s financial statements fairly presented OSI’s financial condition,

including results of operations and cash flows;

• OSI had controls and procedures related to financial reporting in place that

provided reasonable assurances regarding the reliability of financial

reporting and the preparation of OSI’s financial statements in accordance

with GAAP; and

• Defendants Chopra and Edrick had evaluated the effectiveness of the

registrant’s disclosure controls and procedures.

1. Sarbanes-Oxley Certifications

145. Defendants Chopra and Edrick completed certifications pursuant to section

302 of SOX in conjunction with OSI’s Forms 10-K for the years ended June 30, 2012

(filed with the SEC on August 13, 2012), and June 30, 2013 (filed with the SEC on

August 16, 2013). These certifications state that:

1. I have reviewed this Annual Report on Form 10-K of OSI Systems, Inc.;

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


28


1

statements made, in light of the circumstances under which such statements

2

were made, not misleading with respect to the period covered by this report;

3

3. Based on my knowledge, the financial statements, and other financial

4

information included in this report, fairly present in all material respects the

5

financial condition, results of operations and cash flows of the registrant as

6

of, and for, the periods presented in this report;

7

4. The registrant’s other certifying officer and I are responsible for

8

establishing and maintaining disclosure controls and procedures (as defined

9

in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over

10

financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-

11

15(f)) for the registrant and have:

12

(a) Designed such disclosure controls and procedures, or caused

13

such disclosure controls and procedures to be designed under

14

our supervision, to ensure that material information relating to

15

the registrant, including its consolidated subsidiaries, is made

16

known to us by others within those entities, particularly during

17

the period in which this report is being prepared;

18

(b)

Designed such internal control over financial reporting, or

19

caused such internal control over financial reporting to be

20

designed under our supervision, to provide reasonable

21

assurance regarding the reliability of financial reporting and

22

the preparation of financial statements for external purposes in

23

accordance with generally accepted accounting principles;

24

(c)

Evaluated the effectiveness of the registrant’s disclosure

25

controls and procedures and presented in this report our

26

conclusions about the effectiveness of the disclosure controls

27

and procedures, as of the end of the period covered by this

28

report based on such evaluation; and



1

(d) Disclosed in this report any change in the registrant’s internal

2

control over financial reporting that occurred during the

3

registrant’s most recent fiscal quarter (the registrant’s fourth

4

fiscal quarter in the case of an annual report) that has

5

materially affected, or is reasonably likely to materially affect,

6

the registrant’s internal control over financial reporting; and

7

5. The registrant’s other certifying officer and I have disclosed, based on our

8

most recent evaluation of internal control over financial reporting, to the

9

registrant’s auditors and the audit committee of the registrant’s board of

10

directors (or persons performing the equivalent functions):

11

(a) All significant deficiencies and material weaknesses in the

12

design or operation of internal control over financial reporting

13

which are reasonably likely to adversely affect the registrant’s

14

ability to record, process, summarize and report financial

15

information; and

16

(b) Any fraud, whether or not material, that involves management

17

or other employees who have a significant role in the

18

registrant’s internal control over financial reporting (emphasis

19

added).

20

146. Defendants Chopra and Edrick also completed certifications pursuant to

21

section 302 of SOX in conjunction with OSI’s Forms 10-Q filed with the SEC

22

throughout the Class Period, including on January 25, 2012 (2nd Quarter 2012),

23

April 25, 2012 (3rd Quarter 2012), October 24, 2012 (1st Quarter 2013), January 25,

24

2013 (2nd Quarter 2013), May 9, 2013 (3rd Quarter 2013), and October 25, 2013 (1st

25

Quarter 2014 Form). These quarterly certifications contained substantially similar

26

language as the annual section 302 certifications detailed above.

27


28

section 906 of SOX in conjunction with OSI’s Forms 10-K for the years ended June 30,



1

2012 (filed with the SEC on August 13, 2012), and June 30, 2013 (filed with the SEC on

2

August 16, 2013). These certifications stated that:

3

1. The Report fully complies with the requirements of Section 13(a) or 15(d)

4

of the Securities Exchange Act of 1934, as amended; and

5

2. The information contained in the Report fairly presents, in all material

6

respects, the financial condition and results of operations of the Company at

7

the dates and for the periods presented in the Report.

8


9

section 906 of SOX in conjunction with OSI’s Forms 10-Q filed with the SEC

10

throughout the Class Period, including on January 25, 2012 (2nd Quarter 2012),

11

April 25, 2012 (3rd Quarter 2012), October 24, 2012 (1st Quarter 2013), January 25,

12

2013 (2nd Quarter 2013), May 9, 2013 (3rd Quarter 2013), and October 25, 2013 (1st

13

Quarter 2014). These quarterly certifications contained substantially similar language

14

as the annual section 906 certifications detailed above.

15

2. Internal Controls Over Financial Reporting

16

149. In addition to including Defendants Chopra and Edrick’s certifications,

17

OSI’s periodic SEC filings stated, inter alia, that (1) OSI’s internal controls were

18

effective and functioning properly throughout the reporting period; and (2) adequate

19

testing procedures existed that ensured that OSI’s financial statements were fairly

20

presented in accordance with GAAP. For example, OSI’s SEC filing on January 25,

21

2012, contained the following statement:

22

Controls and Procedures

23

(a) Evaluation of Disclosure Controls and Procedures

24

As of December 31, 2011 the end of the period covered by this

25

report, our management, including our Chief Executive Officer and

26

our Chief Financial Officer, reviewed and evaluated the effectiveness

27

of our disclosure controls and procedures (as defined in Rule 13a-15

28

(e) and 15d-15(e) of the Securities Exchange Act of 1934, as



1

amended). Such disclosure controls and procedures are designed to

2

ensure that material information we must disclose in this report is

3

recorded, processed, summarized and filed or submitted on a timely

4

basis. Based upon that evaluation our management, Chief Executive

5

Officer and Chief Financial Officer, concluded that our disclosure

6

controls and procedures were effective as of December 31, 2011.

7

(b) Changes in Internal Control over Financial Reporting

8

There were no changes in the Company’s internal control over

9

financial reporting during the second quarter of fiscal 2012 that have

10

materially affected, or are reasonably likely to materially affect, the

11

Company’s internal control over financial reporting.

12

OSI’s SEC filings on April 25, 2012, August 13, 2012, and August 16, 2013, all

13

contained exactly the same, or a substantially similar, statement.

14

150. Likewise, OSI’s SEC filing on October 24, 2012, contained the following

15

16

17

18

19

20

21

22

23

24

25

26

27

28

statement:

Controls and Procedures

Evaluation of Disclosure Controls and Procedures

We maintain disclosure controls and procedures (as defined in Rule

13a-15(e) or 15d-15(e) under the Securities Exchange Act of 1934, as

amended (the “Exchange Act”)) that are designed to ensure that

information required to be disclosed in our reports under the

Exchange Act is processed, recorded, summarized and reported

within the time periods specified in the SEC’s rules and forms and

that such information is accumulated and communicated to

management, including the Chief Executive Officer and Chief

Financial Officer, as appropriate, to allow for timely decisions

regarding required disclosure.



1

We carried out an evaluation, under the supervision and with the

2

participation of management, including our Chief Executive Officer

3

and Chief Financial Officer, of the effectiveness of the design and

4

operation of the disclosure controls and procedures as of September

5

30, 2012, the end of the period covered by this report. Based upon

6

that evaluation, our management, including our Chief Executive

7

Officer and Chief Financial Officer, concluded that our disclosure

8

controls and procedures were effective as of September 30, 2012.

9

OSI’s SEC filings on January 25, 2013, May 9, 2013, and October 25, 2013, all

10

contained exactly the same, or a substantially similar, statement.

11

151. OSI’s SEC filing on January 25, 2012, also contained the following

12

statement:

13

Changes in Internal Control over Financial Reporting

14

There were no changes in the Company’s internal control over

15

financial reporting during the third quarter of fiscal 2012 that have

16

materially affected, or are reasonably likely to materially affect, the

17

Company’s internal control over financial reporting.

18

OSI’s SEC filings on April 25, 2012, August 13, 2012, October 24, 2012, January 25,

19

2013, May 9, 2013, August 16, 2013, and October 25, 2013, all contained exactly the

20

same, or a substantially similar, statement.

21

152. OSI’s 2012 Form 10-K, filed on August 13, 2012, contained the following

22

statement:

23

Management’s Report on Internal Control over Financial Reporting

24

Our management is responsible for establishing and maintaining

25

adequate internal control over financial reporting (as such term is

26

defined in Rule 13a-15(f) or 15d-15(f) of the Securities and

27

Exchange Act of 1934, as amended). Under the supervision and with

28

the participation of management, including our Chief Executive



Officer and Chief Financial Officer, we conducted an evaluation of

the effectiveness of our internal control over financial reporting based

on the framework in Internal Control—Integrated Framework issued

by the Committee of Sponsoring Organizations of the Treadway

Commission (COSO). Based on that evaluation, management

concluded that our internal control over financial reporting was

effective as of June 30, 2012.

OSI’s 2013 Form 10-K, filed on August 16, 2013, contained a substantially similar

statement.

153. Finally, Defendants Chopra and Edrick’s confirmed, via the signature of

management representation letters to Moss Adams, OSI’s independent registered public

auditing firm, that it was the responsibility of OSI’s management (including Defendants

Chopra and Edrick) to maintain effective internal controls over financial reporting

throughout the reporting periods during the Class Period, and assess the effectiveness of

such internal controls over financial reporting.

154. As detailed herein, Defendants knew or recklessly disregarded that their

statements regarding compliance with SOX, the presence of effective disclosure

controls and effective internal controls over financial reporting were materially false

and misleading because Defendants were aware when they made the statements that

OSI suffered from pervasive internal deficiencies, including in compliance and

administration of government contracts, quality assurance and quality control,

management and personnel, and corporate compliance.

155. In addition, Defendants knew of but ignored numerous additional “red

flags” indicating that the internal controls were not properly maintained, did not provide

for an effective control environment, and did not function properly, including, but not

limited to the following:

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26


27

28


1

a) Defendants did not have sufficient personnel or resources with

2

sufficient knowledge and expertise to ensure the Company’s

3

compliance with governmental contracts;

4

b) Defendants did not have personnel with sufficient knowledge and

5

expertise to ensure the proper administration of governmental

6

contracts by the Company;

7

c) Defendants did not have personnel with sufficient knowledge and

8

expertise to ensure that corporate compliance was maintained by the

9

Company;

10

d) Defendants did not have personnel with sufficient knowledge and

11

expertise to ensure that quality assurance was maintained in the

12

Company’s products;

13

e) Defendants did not have in place a proper process to evaluate the

14

appropriateness and/or effectiveness of the Company’s compliance

15

policies;

16

f) Defendants did not have in place proper policies and procedures to

17

ensure that strict compliance with government contracts was

18

maintained at all times during the contract period;

19

g) Defendants did not have in place proper policies and procedures to

20

ensure that information required to be disclosed on Forms 10-Q, 10-K

21

and/or Forms 8-K, was processed, recorded, summarized and reported

22

within the time period specified in the SEC’s rules and forms; and

23

h) Defendants did not have in place proper policies and procedures to

24

ensure that the changes in the Company’s internal control over

25

financial reporting which had materially affected or were reasonable

26

likely to materially affect the Company’s internal controls over

27

financial reporting were disclosed appropriately and in a timely

28

manner.



156. Defendants knew these “red flags” existed throughout the Class Period. In

fact, Defendants admitted that Rapiscan was aware of an issue related to software under

development months before November 2012 which prevented the Company from

meeting the extended deadline of the software upgrade.

157. Defendants did not, however, voluntarily make this admission. Instead, as

detailed above, it was first reported in a November 14, 2012 Bloomberg article

reporting that Congressman Mike Rogers, Chairman of the House Transportation

Security Subcommittee, had sent a letter to the TSA alleging that Rapiscan “may have

attempted to defraud the government by knowingly manipulating an operational test.”

158. Although Defendants had reassured the market that the testing of the

Rapiscan software was on track, successful and that it was business as usual, the truth

could no longer be hidden. As a result, on November 15, 2012, Defendants issued a

press release, disclosing for the first time , that a “show cause” letter had been received

six days prior, on November 9, 2012. 9

159. Ultimately, OSI admitted that these deficiencies existed.

. In the Administrative Agreement that OSI entered into with the TSA

regarding the ATR fraud, OSI agreed to certain remedial measures,

including:

Al

“creation of additional positions dedicated to government contracting

compliance and administration, corporate compliance, and quality

assurance”;

Al

“certain compliance upgrades and organizational improvements”; and

9 It is obvious Defendants would have not disclosed the receipt of the “show cause” letter absent the Bloomberg article. In fact, Defendants violated the disclosure requirements of Form 8-K by not disclosing such letter within four business days of receipt. In comparison, Defendants disclosed the fact that the Company was notified that the Suspension and Debarment Official of the U.S. Department of Homeland Security had issued a Notice of Proposed Debarment before receiving such notice. Since “show cause” letters are rare and indicate the potential of default on material contracts, Defendants had a duty to disclose the receipt of such letters within four business days under the Form 8-K disclosure and reporting requirements.

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

28



1

o “maintenance of a robust compliance program”;

2 • After the revelation of the ATR fraud, Rapiscan terminated or reassigned

3

certain individuals that worked on the ATR-development program;

4 • In the press release disclosing the 620DV fraud to the market, OSI

5

admitted a breakdown in Rapiscan’s quality assurance and contract

6

compliance: “While the component change was vetted by Rapiscan’s

7

internal quality assurance, it did not meet the contractual requirement of

8

obtaining TSA’s approval in advance”; and

9

.

After the revelation of the 620DV fraud, Rapiscan terminated the

10

employment of at least two senior managers, including its Chief

11

Technology Officer, its Quality Control Director, and its Vice President of

12

Product Management.

13

160. Notably, Defendants continued to hide the truth about the state of the

14

Company’s internal control environment and continue to mislead investors by falsely

15

affirming and disclosing in the Company’s Form 10-K filed with the SEC on

16

August 16, 2013, and again in the Form 10-Q filed with the SEC on October 25, 2013,

17

that “ There were no changes in our internal control over financial reporting during

18

fiscal 2013 [and during the first quarter of fiscal year 2014] that have materially

19

affected, or are reasonably likely to materially affect, our internal control over financial

20

reporting” while knowing this was simply not the case.

21

VII. ADDITIONAL SCIENTER ALLEGATIONS

22

A. Defendants’ Fraud Concerned OSI’s Core Operations

23

161. Defendants’ materially false and misleading statements and omissions

24

during the Class Period centered around two core aspects of OSI’s business: (1) its

25

Rapiscan division; and (2) its contracts with government customers, including the U.S.

26

Government.

27

162. As detailed above, OSI’s largest and most significant division was

28

Rapiscan. Rapiscan’s performance, including the manufacturing, selling and



1

distribution of its products, was material to OSI’s operations and its financial

2

performance, and consistently accounted for nearly half of OSI’s annual revenue.

3

Defendants repeatedly represented to the market that Rapiscan’s products were OSI’s

4

“bread and butter,” and touted that Rapiscan was the OSI division that was “leading the

5

way.” On an April 24, 2013 conference call, Defendant Edrick noted that “[o]ur core

6

business in Rapiscan has been improving the margins.” Analysts agreed, stating that

7

Rapiscan was “OSI’s most important segment .” See Oppenheimer Analyst Report,

8

December 6, 2013.

9

163. Government contracts and compliance with those contracts were central to

10

Rapiscan’s – and therefore OSI’s – success. Rapiscan’s single-largest customer was the

11

U.S. Government and OSI received a total of $463 million in U.S. Government

12

contracts between 2009 and December 2013. OSI’s U.S. Government contracts

13

provided the government rights and remedies not typically found in commercial

14

contracts. If OSI failed to strictly comply with the terms of its agreements with the U.S.

15

Government, the government had many remedies at its disposal, including termination

16

for default, the initiation of administrative proceedings, and temporary or permanent

17

debarment from government contracting. Accordingly, compliance with contractual

18

terms was vital to ensuring not only that OSI was able to fulfill its obligations under

19

existing contracts, but also to ensure that it could secure future contracts.

20

164. Each of the Individual Defendants was a top executive who directly

21

participated in OSI’s management at the highest levels. As a result of their executive

22

positions, each of the Individual Defendants had access to, and are charged with

23

knowledge of, OSI’s business, operations, growth, financial statements and financial

24

condition, including all material facts regarding Rapiscan and its compliance (or lack

25

thereof) with government contracts.

26

165. Various CWs confirmed that the Individual Defendants had access to

27

detailed information about OSI’s government contracts and about Rapiscan. For

28 II example, CW5 stated that Rapiscan’s government contracts were “very closely



1

controlled within [an] inner circle of executives that consisted of Defendants Chopra,

2

Edrick and Mehra, along with Peter Kant and Peter Williamson.” Additionally, CW1

3

stated that “[a]ll management had access to” Rapiscan’s defect tracking database, Test

4

Track Pro. This database was where information related to issues with Rapiscan’s

5

products resided, including Issue #8117 related to the defects in Rapiscan’s ATR

6

software described above.

7

166. Each of Defendants’ materially false and misleading statements and

8

omissions related directly to the manufacturing, selling and distribution of Rapiscan

9

products pursuant to contracts with the U.S. Government. Defendants repeatedly, but

10

falsely, represented to investors that Rapiscan was on schedule to comply with the

11

TSA’s directive regarding installation of ATR software on Rapiscan’s Secure 1000SP

12

people scanners. Moreover, Defendants repeatedly referenced the $325 million ID/IQ

13

contract that Rapiscan had with the TSA related to the 620DV checkpoint scanner, but

14

concealed the fact that Rapiscan was using unapproved foreign parts to construct and

15

repair those machines, in violation of contractual terms. Defendants also concealed that

16

Rapiscan suffered from pervasive internal deficiencies in government contract

17

compliance and administration, quality assurance, management and personnel, and

18

corporate compliance. As a result of these deficiencies, there was a significant

19

undisclosed risk that OSI would not only be unable to satisfy various existing

20

contractual obligations, but also that it would be debarred from government contracting

21

altogether.

22

B. The Individual Defendants Profited From Their Fraudulent Scheme

23

24

167. Defendants Chopra, Edrick and Mehra engaged in substantial selling of

25

OSI common stock during the Class Period while in possession of material, nonpublic

26

information. As the result of Defendants’ materially false statements and omissions,

27

these sales were executed at artificially inflated prices. Several factors are indicative of

28

the highly unusual and suspicious trading, including the number of shares sold, the



1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

gross proceeds, the amount of sales compared with the Individual Defendants’ prior and

subsequent trading history, the historically high prices at which the sales occurred, and

the timing of the sales.

168. Defendant Chopra disposed of 177,256 shares at an average price of

$72.57, for total proceeds of over $12.8 million. Defendant Edrick disposed of 49,495

shares at an average price of $68.33, for total proceeds of over $3.4 million. Defendant

Mehra disposed of 111,628 shares at an average price of $70.21, for total proceeds of

over $7.6 million.

169. The charts below summarize the Individual Defendants’ stock sales during

the Class Period:

Defendant Chopra’s Class Period Sales

Transaction Date Shares Price Value Disposed

05/23/12 20,000 $63.96 $1,279,120 08/13/12 7,784 $71.50 $556,556 08/14/12 10,341 $72.39 $748,585 08/15/12 44,605 $73.56 $3,281,144 08/15/12 35,340 $73.73 $2,605,618 09/04/12 15,196 $73.79 $1,121,313 09/04/12 13,304 $74.10 $985,826 09/10/12 5,198 $74.25 $385,952 09/10/12 4,552 $75.10 $341,855 08/12/13 8,021 $73.67 $590,907 09/03/13 7,827 $72.70 $569,023 09/09/13 5,088 $72.07 $366,692

Total 177,256 $72.57 $12,832,591

Defendant Edrick’s Class Period Sales

Transaction Date Shares Price Value Disposed 03/14/12 2,700 $61.51 $166,070 03/15/12 2,500 $61.27 $153,173 03/21/12 7,300 $61.46 $448,680 03/23/12 5,000 $61.70 $308,500 08/13/12 2,752 $71.50 $196,768 08/14/12 7,500 $73.74 $553,050


28


1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

28

Defendant Edrick’s Class Period Sales

Transaction Date Shares Price Value Disposed 09/04/12 4,883 $74.10 $361,830 09/07/12 8,000 $74.56 $596,480 09/10/12 1,751 $75.10 $131,500 02/05/13 999 $54.95 $54,895 08/12/13 2,819 $73.67 $207,676 09/03/13 1,410 $72.70 $102,507 09/09/13 1,881 $72.07 $135,564

Total 49,495 $68.33 $3,416,693

Defendant Mehra’s Class Period Sales •

Transaction Date Shares Price Value Disposed 03/01/12 23,452 $58.53 $1,372,587 03/06/12 16,000 $59.00 $944,000 08/13/12 4,668 $71.50 $333,762 08/16/12 15,285 $73.83 $1,128,492 08/16/12 13,400 $73.88 $989,992 08/16/12 11,153 $72.97 $813,834 08/16/12 2,500 $73.09 $182,725 09/04/12 5,253 $74.10 $389,247 09/05/12 5,997 $73.91 $443,238 09/06/12 3,750 $73.88 $277,050 09/10/12 1,751 $75.10 $131,500 02/05/13 1,000 $54.95 $54,950 08/12/13 3,758 $73.67 $276,852 09/03/13 1,704 $72.70 $123,881 09/09/13 1,957 $72.07 $141,041

Total 111,628 $70.21 $7,603,151

170. In addition to being substantial in absolute terms, the Individual

Defendants’ Class Period sales were dramatically out of line with prior trading practices

and occurred at times that maximized the Individual Defendants’ personal gain. For

example, the proceeds from Chopra’s Class Period sales ($12.8 million) were 47.4%

higher than those from the two-year period immediately preceding the Class Period



1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

(“Control Period”). Defendant Edrick sold 20% more shares during the Class Period

compared the Control Period and his proceeds were nearly four times higher in the

Class Period ($3.4 million) than the Control Period ($898,000). Defendant Mehra’s

Class Period sales increased over 188% compared to the number of shares he sold

during the Control Period and his proceeds were nearly six times higher in the Class

Period ($7.6 million) than the Control Period ($1.3 million). Incredibly, since the end

of the Class Period (and the drop in OSI’s stock price), Defendants Chopra, Edrick and

Mehra have not sold a single share of OSI common stock.

171. As shown in the graphs below, the Individual Defendants’ insider selling

was unusually concentrated in the Class Period:

Value of Shares Disposed of by Defendant Chopra

Control Period Dispositions Class Period Dispositions i Post Class Period Dispositions

(03/13/10 - 01/23/12) (01/24/12 - 12/06/13) (12/07/13 - Present)

$14,000,000

$12,000,000

$10,000,000

$8,000,000

$6,000,000

$4,000,000

$2,000,000

$0


27

28

Value of Shares Disposed of by Defendant Edrick

Control Period Dispositions Class Period Dispositions 6d Post Class Period Dispositions

(03/13/10 - 01/23/12) (01/24/12 - 12/06/13) (12/07/13 - Present)

$0


1

Value of Shares Disposed of by Defendant Mehra

A Control Period Dispositions Class Period Dispositions Post Class Period Dispositions

(03/13/10 - 01/23/12) (01/24/12 - 12/06/13) (12/07/13 - Present)

2

3

4 $3,500,000

5 $3,000,000

6

7

$2,500,000

8

$2,000,000

9 $1,500,000

10 $1,000,000

11

12 $500,000

13

$0

14

15

16

17

18 $8,000,000

19 $7,000,000

20 $6,000,000

21

22

$5,000,000

23

$4,000,000

24

$3,000,000

25

$2,000,000

26 $1,000,000

27 $0


28


172. Additionally, a majority of the Individual Defendants’ insider selling

occurred during a period of time when Defendants have admitted they knew about the

ATR software issue. Specifically, after the market closed on November 14, 2012, OSI

admitted that it had learned of the ATR software issue “months ago,” but had failed to

disclose the issue to investors. “Months” earlier, between August 13, 2012 and

November 14, 2012, Defendants Chopra, Edrick and Mehra pocketed more than $16.5

million in insider-selling proceeds. For example, during this three month period,

Defendant Chopra sold 136,320 shares worth over $10.0 million at an average price of

$73.55, Defendant Edrick sold 24,886 shares worth $1.8 million at an average price of

$73.80, and Defendant Mehra sold 63,757 shares worth $4.7 million at an average price

of $73.58.

VIII. THE TRUTH EMERGES

173. During the Class Period, Defendants’ false and misleading statements

artificially inflated the price that Class Members paid for OSI’s common stock. When

the truth was revealed to the market in three disclosures, OSI’s share price reacted

immediately and negatively as the artificial inflation was removed. As detailed below,

each disclosure targeted precisely the same topics about which Defendants uttered false

and misleading statements causing the stock price to be inflated. As a result, ASHERS

and other members of the Class suffered economic loss. These losses were a direct

result of Defendants’ fraudulent scheme to artificially inflate the price of OSI’s

common stock.

A. The November 15 2012 Disclosure Of Manipulated ATR Testing And lotential Loss Of Future Contracts

174. On November 9, 2012, the TSA delivered OSI a show cause letter related

to the development of the ATR software. The letter was not made public at the time. In

the letter, the TSA alleged that “Rapiscan did not disclose issues related to the

development process in a timely or complete manner” and questioned “whether, prior to

testing, the Company had installed detectors on three AIT scanners that did not conform

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

28



1

to the detectors approved in the system’s configuration plan, and if so, whether the

2

Company had informed TSA of that change in an appropriate manner.”

3

175. On November 13, 2012, Representative Mike Rogers, chairman of the

4

House Transportation Security Subcommittee, sent a letter to TSA Administrator John

5

Pistole regarding Rapiscan, stating, in part, “According to information received by the

6

subcommittee, it appears the manufacturer of backscatter AIT machines may have

7

attempted to defraud the Government by knowingly manipulating an operational test

8

of Automated Target Recognition (ATR) software in the field in order to have a

9

successful outcome.” The Rogers letter was not made public at the time.

10

176. On November 14, 2012, after the market closed, Bloomberg published an

11

article revealing to the public and investors for the first time that OSI knowingly

12

manipulated the TSA tests. The article stated, in relevant part:

13

Nov. 15 (Bloomberg) - OSI Systems Inc.’s Rapiscan unit, one of two

14

suppliers of passenger-scanning machines in U.S. airports, may have

15

falsified tests of software intended to stop the machines from recording

16

graphic images of travelers, a U.S. lawmaker said ahead of a congressional

17

hearing today.

18

The company “may have attempted to defraud the government by

19

knowingly manipulating an operational test,” Representative Mike Rogers,

20

chairman of the House Transportation Security Subcommittee, said in a

21

letter to Transportation Security Administration chief John Pistole Nov. 13.

22

Rogers said his committee received a tip about the faked tests.

23

177. In the article, Kant, an executive vice president with Rapiscan, revealed

24

publicly for the first time that Rapiscan received a so-called show cause letter from the

25

TSA on November 9, 2012, seeking detailed information about the testing of

26

technology used in the machines. Mr. Kant further admitted that Rapiscan became

27

aware of an issue related to software under development months ago and promptly

28

notified the TSA.



178. On November 15, 2012, investors reacted immediately and harshly to the

revelation that Rapiscan manipulated the TSA testing, could not develop the ATR

software and received a show cause letter from the government. OSI’s stock price

plummeted 28%, from $76.29 to $54.89 on unusually high volume of 4,881,759 shares.

179. Analysts recognized that the show cause letter called into question OSI’s

ability to perform on its existing ATR software contract and threatened OSI’s reputation

and ability to secure U.S. Government contracts in the future. For example, on

November 15, 2012, analysts Yair Reiner (“Reiner”) and William Lee (“Lee”) at

Oppenheimer noted that “[t]he question is whether any potential wrong-doing by

Rapiscan might prejudice the TSA and other agencies against the company’s other

products . . .” and “[t]he risk is that the probe metastasizes into something bigger,

threatening Rapiscan’s reputation, broader TSA business (estimated at 5-10% of

revenue), and US certification of the new RTT product.”

B. The May 20, 2013 Announcement Of The Notice Of Proposed Debarment

180. On January 17, 2013, OSI announced an agreement with the TSA

cancelling the ATR software development contract, but allowing Rapiscan’s overall

contract with the TSA for AIT systems to continue (the TSA planned to deploy the

existing systems at alternate U.S. Government locations). OSI also announced that it

planned to de-book the $5 million backlog related to ATR and to record a one-time

impairment of $2.7 million. OSI also announced that final resolution of the show cause

letter was subject to DHS approval.

181. Thereafter, on January 24, 2013, OSI represented to the market that the

dispute related to the ATR software was largely resolved and there would be no further

effects on its business. Specifically, Defendant Chopra unequivocally stated, “Number

one, we can categorically say there is no impact on the US business except for the

AIT de-booking. But we believe that it’s just -- there’s just how everybody is sort of

playing too close to the chest in the US until the budget is done.”

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

28



1

182. Indeed, on February 13, 2013, Reiner and Lee at Oppenheimer wrote “[i]n

2

terms of the headline-grabbing dispute with the TSA, OSI believes it is substantially

3

resolved, and that a final resolution with the DHS is largely a formality . It also sees

4

no impact to OSI’s overall relationship with the TSA or to OSI’s ability to certify and

5

sell the agency its RTT scanner.”

6

183. Then, on May 20, 2013, OSI revealed that final resolution was not a

7

formality and that there was, in fact, a potential impact on the U.S. business apart from

8

the AIT de-booking. Specifically, OSI announced that the Suspension and Debarment

9

Official of the DHS issued Rapiscan a Notice of Proposed Debarment in connection

10

with the November 2012 show cause letter. That same day, OSI filed with the SEC a

11

Form 8-K signed by Defendant Edrick, which stated:

12

The Show Cause Letter related to the Rapiscan Secure 1000SP Advanced

13

Imaging Technology system and associated Automated Target Recognition

14

software (the “Products”). The Company understands that the Notice alleges

15

that Rapiscan failed to disclose a defect with the Products and replaced

16

hardware in the Products without being granted proper governmental

17

approval.

18

184. Analysts recognized the potential implications if OSI were to be debarred

19

from U.S. Government contracting. Reiner and Lee at Oppenheimer noted: “[t]he

20

process should not impact the ongoing certification process for RTT [checked baggage

21

scanner], but RTT could not be sold to the DHS if the debarment ultimately goes

22

through . . . . RTT promises to potentially double or triple OSI’s opportunity set with

23

the DHS.”

24

185. Investors again reacted quickly to this news, sending OSI’s stock price

25

down 7.6% on May 20, from $66.34 to $61.30 on high volume of 1,539,862 shares. The

26

next day, OSI’s stock price continued to decline, falling $5.04 from $61.24 to $53.25 on

27

high volume of 1,784,211 shares. In sum, following the May 20, 2013 disclosure,

28



OSI’s common stock declined 19.7%, falling $13.09 from $66.34 at the close on May

19, to $53.25 at the close of the market on May 21.

186. On June 21, 2013, OSI issued a press release announcing that it had

entered into the Administrative Agreement with the DHS. That same day, OSI filed

with the SEC a Form 8-K signed by Defendant Edrick, which stated, in relevant part:

Pursuant to the terms of the Agreement, Rapiscan has agreed to certain

compliance upgrades and organizational improvements, including

maintenance of a robust compliance program. Rapiscan has also made

certain personnel changes and has created additional positions dedicated

to government contracting compliance and administration, corporate

compliance, and quality assurance. Further, for the duration of the term of

the Agreement, Rapiscan has agreed to the continued review of its

compliance and ethics program, including the retention by Rapiscan of an

independent consultant to perform semi-annual assessments of its

compliance policies, procedures, and practices. Rapiscan has also agreed to

additional DHS reporting requirements.

187. In response to this positive news that OSI had resolved the Notice of

Proposed Debarment, OSI’s stock price increased 13.6% on June 21, rising $7.65 from

$55.86 to $63.51. Unbeknownst to investors, however, OSI’s issues with government

contracting compliance and administration, corporate compliance and quality assurance

remained.

C. The December 5-8, 2013 Revelations Of Rapiscan’s Ongoing Fraud And Likely Ban On Future Contracts

188. On or about September 26, 2013, the TSA awarded Rapiscan a $67.1

million contract for 620AV checkpoint scanners pursuant to the terms of its September

2010 ID/IQ contract.

189. Shortly thereafter, on November 20, 2013, the TSA issued a second show

cause letter to Rapiscan related to the use of unapproved components in its 620DV

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

28



1

scanners. On November 27, 2013, Rapiscan responded to the TSA’s show cause letter.

2

On December 4, 2013, the TSA sent Rapiscan a notice of award termination. OSI did

3

not immediately disclose, and the market was unaware of, the show cause letter,

4

Rapiscan’s response, and the notice of award termination.

5

190. On December 5, 2013, after the market closed and fifteen (15) days after

6

receiving the second show cause letter, OSI announced that the September 26, 2013

7

contract for the 620AV units was terminated for default . That same day, OSI filed with

8

the SEC a Form 8-K signed by Defendant Edrick, which stated, in relevant part:

9

On December 5, 2013, OSI Systems, Inc. announced that its security division

10

subsidiary, Rapiscan Systems, Inc. (“Rapiscan”) was notified by the U.S.

11

Transportation Security Administration (TSA) that a delivery order placed with

12

Rapiscan on September 26, 2013 for Advanced Technology X-Ray (AT-2) based

13

systems was being terminated for default. As a result, the Company has de-

14

booked this order which had a value of approximately $60 million.

15

191. On this news, OSI’s stock price fell 9.7% on December 6, from $71.72 to

16

$64.75 on volume of 625,492 shares.

17

192. Analysts recognized that the termination for default once again called into

18

question OSI’s ability to perform on existing and future U.S. Government contracts.

19

On December 6, 2013, analysts Reiner and Lee of Oppenheimer commented that the

20

contract loss “sounds rather pedestrian but in the context of the recent dispute with the

21

TSA raises serious questions about the day-to-day management of OSI’s most

22

important segment. ”

23

193. Also on December 6, 2013, Congressmen Michael T. McCaul, Bennie

24

Thompson, Richard Hudson and Cedric Richmond wrote a letter to the TSA (the

25

“McCaul Letter”), stating the following:

26

We write regarding the recent revelation that Rapiscan Systems

27

(“Rapiscan”) violated terms of an existing procurement contract with the

28

Transportation Security Administration (TSA), resulting in the deployment



1

of an estimated 250 Advanced Technology 2 (AT-2) x-ray baggage

2

screening machines with unapproved, untested components across the

3

United States. Further, it is our understanding that these new components –

4

inappropriately labeled with the same part number as the originally approved

5

component – were entirely manufactured and assembled in the People’s

6

Republic of China by Shanghai Advanced Non-destructive Equipment

7

Company, Ltd.

8

We understand TSA has decided to rescind a $67 million order for an

9

additional 550 new AT-2 systems and move forward with a recommendation

10

to the Department of Homeland Security (DHS) for the debarment of

11

Rapiscan.

12

194. The existence of, and contents of, the McCaul Letter were not immediately

13

made public.

14

195. Over the weekend, OSI revealed additional details regarding its fraud and

15

the effect on its ability to conduct business with the U.S. Government. On Sunday

16

December 8, 2013, OSI admitted that the termination of the TSA contract resulted from

17

Rapiscan’s use of an unapproved component in its 620DV scanners. The press release

18

also admitted a breakdown in Rapiscan’s quality assurance and contract compliance:

19

“While the component change was vetted by Rapiscan’s internal quality assurance, it

20

did not meet the contractual requirement of obtaining TSA’s approval in advance.”

21

196. On December 9, 2013, OSI publicly released the December 6 McCaul

22

Letter. Bloomberg followed with an article that stated that “OSI Systems Inc. may face

23

a ban on contracts with the U.S. Department of Homeland Security after the

24

Transportation Security Administration canceled a deal for carry-on baggage screening

25

equipment, lawmakers said . . . TSA has started an effort to debar OSI’s Rapiscan

26

Systems unit, Representatives Michael McCaul, a Texas Republican, and Bennie

27

Thompson, a Mississippi Democrat, said in a letter dated Dec. 6.”

28



1

197. Investors reacted negatively to this news and OSI’s stock price fell 26.8%

2

on December 9, from $64.75 to $43.63, on extraordinarily high volume of 7,954,951

3

shares.

4

198. Analysts commented on the potential implications of the new disclosures.

5

On December 10, 2013, Quillin at Stephens stated that “OSIS’s missteps in its Security

6

business are deeply troubling and suggest systemic management issues . . .” Quillin

7

noted that even if OSI was not debarred, “[t]he greater concern . . . is the reputational

8

harm caused by the missteps with the TSA , which is strong reference customer for

9

international sales efforts. The reputational impact will be difficult and take time to

10

assess.”

11

199. According to Quillin, the issue with the unapproved parts had been going

12

on since “before OSIS’s previous kerfuffle with the TSA on the testing of its body

13

scanners.” Josephine Millward (“Millward”), an analyst from Benchmark, confirmed

14

that “OSI replaced some of its employees after the body scanner problem and the new

15

team had discovered that one of the components in the AT-2 systems required advanced

16

TSA approval after having received the award.”

17

200. Quillin further noted that “[i]t is our understanding that at least 2 relatively

18

senior Rapiscan managers, including its CTO of the past 20 years, were let go after this

19

issue came to light.” CW4 and CW5 confirmed that Robert Mosey (Quality Director),

20

Peter Modica (Vice President of Product Management), and Andy Kotowski (CTO and

21

one of the Company’s founders) were fired.

22

201. The decline in OSI’s stock price following the revelations regarding its

23

business was foreseeable at the time of Defendants’ materially false statements and

24

omissions. Indeed, despite being aware of the consequences their conduct would have

25

on OSI, Defendants knowingly or with reckless disregard made false and misleading

26

statements or omitted material information about OSI’s security-related business.

27

28



1

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

2

3

202. At all relevant times, the market for OSI’s publicly traded common stock

4

was an efficient market for the following reasons, among others:

5

(a) The Company’s common stock met the requirements for public

6

listing and was listed and actively traded on the NASDAQ, a highly efficient market.

7

The average daily volume of OSI’s common stock during the Class Period was 194,463

8

shares. The total number of shares traded during the Class Period was 91,786,667

9

shares. Further, over 90% of the stock was owned by institutional investors;

10

(b) As a regulated issuer, OSI made public filings, including its Forms

11

8-K, 10-K, 10-Q and related press releases, with the SEC;

12

(c) OSI was followed by analysts from major brokerages including

13

Oppenheimer, Stephens, Benchmark, and Roth Capital Partners. These analysts’ reports

14

were redistributed to the brokerages’ sales force, their customers, and the public at

15

large;

16

(d) OSI regularly communicated with public investors via established

17

market communication mechanisms, including the Company’s website, regular

18

disseminations of press releases on the major news wire services, conference calls

19

following earnings releases, presentations at investor conferences, and other wide-

20

ranging public disclosures, such as communications with the financial press and other

21

similar reporting services;

22

(e) The materially false statements and omissions alleged herein would

23

tend to induce a reasonable investor to misjudge the value of OSI’s common stock; and

24

(f) Without knowledge of the misrepresented or omitted material facts,

25

Lead Plaintiff and the other members of the Class purchased or otherwise acquired OSI

26

common stock between the time Defendants made the materially false statements and

27

omissions and the time the truth was disclosed, during which time the price of OSI

28

common stock was inflated by Defendants’ materially false statements and omissions.



1

203. As a result, the market for OSI’s publicly traded common stock promptly

2

digested current information with respect to OSI from all publicly available sources and

3

reflected such information in the price of the Company’s common stock. Under these

4

circumstances, all purchasers of OSI’s common stock during the Class Period suffered

5

similar injury through their purchase of the stock at artificially inflated prices, and a

6

presumption of reliance applies.

7

204. A Class-wide presumption of reliance is also appropriate here under the

8

Supreme Court’s holding in Affiliated Ute Citizens v. United States , 406 U.S. 128, 92 S.

9

Ct. 1456, 31 L. Ed. 2d 741 (1972), because the claims asserted herein are grounded in

10

Defendants’ material omissions. As this action involves Defendants’ failure to disclose

11

material adverse information regarding OSI’s true business conditions – information

12

that Defendants were obligated to disclose – affirmative proof of reliance is not

13

necessary. All that is necessary is that a reasonable investor would have considered the

14

omitted facts important in making the decision to invest in OSI common stock. Given

15

that all the omitted information related directly to Rapiscan and various of its

16

government contracts, and that Rapiscan and government contracting were extremely

17

important to OSI’s overall business, that requirement is satisfied here.

18

X. INAPPLICABILITY OF STATUTORY SAFE HARBOR

19

205. The statutory safe harbor that applies to forward-looking statements under

20

certain circumstances does not apply to any of the materially false statements pleaded in

21

this Complaint. The statements alleged to be false and misleading herein all relate to

22

facts and conditions existing at the time the statements were made, and thus no statutory

23

safe harbor applies.

24

206. Many of the specific statements pleaded herein were not identified as

25

“forward-looking statements” when made. To the extent there were any forward-

26

looking statements, there was no meaningful cautionary language identifying important

27

factors that could cause actual results to differ materially from those in the purportedly

28

forward-looking statements. Alternatively, to the extent that the statutory safe harbor



1

does apply to any forward-looking statements pleaded herein, Defendants are liable for

2

those false forward-looking statements because at the time each of those forward-

3

looking statements was made, the particular speaker knew that the particular forward-

4

looking statement was false and/or the forward-looking statement was authorized and/or

5

approved by an OSI executive who knew that those statements were false when made.

6

XI. CLASS ACTION ALLEGATIONS

7

207. Lead Plaintiff brings this action as a class action pursuant to Federal Rules

8

of Civil Procedure 23(a) and 23(b)(3) on behalf of a class consisting of all persons who

9

purchased or otherwise acquired the securities of OSI between January 24, 2012 and

10

December 6, 2013 (the “Class Period”). Excluded from the Class are Defendants, the

11

officers and directors of the Company, at all relevant times, members of their immediate

12

families and their legal representatives, heirs, successors or assigns and any entity in

13

which Defendants have or had a controlling interest.

14

208. Because OSI had millions of shares of common stock outstanding during

15

the Class Period, and because the Company’s common stock was actively traded,

16

members of the Class are so numerous that joinder of all members is impracticable.

17

During the Class Period, OSI had nearly 20 million shares of common stock

18

outstanding. Disposition of their claims in a class action will provide substantial

19

benefits to the parties and the Court.

20

209. Throughout the Class Period, OSI’s common stock was actively traded on

21

the NASDAQ. While the exact number of Class members is unknown to Lead Plaintiff

22

at this time and can only be ascertained through appropriate discovery, Lead Plaintiff

23

believes there are, at a minimum, thousands of members of the Class. Members of the

24

Class may be identified from records maintained by OSI or its transfer agent and may

25

be notified of the pendency of this action by mail, using the form of notice similar to

26

that customarily used in securities class actions.

27

210. The names and addresses of the record owners of OSI common stock

28 II purchased during the Class Period are available from OSI and/or its transfer agent(s).



1

Notice can be provided to persons who purchased or otherwise acquired OSI common

2

stock by a combination of published notice and first-class mail, using techniques and

3

forms of notice similar to those customarily used in other class actions arising under the

4

federal securities laws.

5

211. Lead Plaintiff’s claims are typical of the claims of the members of the

6

Class as all members of the Class are similarly affected by Defendants’ wrongful

7

conduct in violation of federal law that is complained of herein.

8

212. Lead Plaintiff will fairly and adequately represent and protect the interests

9

of the members of the Class. Lead Plaintiff has retained competent counsel experienced

10

in class action and securities litigation and intends to prosecute this action vigorously.

11

Lead Plaintiff has no interests antagonistic to, or in conflict with, those of the Class.

12

213. Common questions of law and fact exist to all members of the Class and

13

predominate over any questions solely affecting individual members of the Class.

14

Among the questions of law and fact common to the Class are the following:

15

(a) whether the Defendants violated the federal securities laws by the

16

acts and omissions as alleged herein;

17

(b) whether Defendants participated in and pursued the common course

18

of conduct and fraudulent scheme complained of herein;

19

(c)

whether Defendants acted with scienter;

20

(d)

whether the price of OSI common stock was artificially inflated

21

during the Class Period;

22

(e) whether the statements Defendants made to the investing public

23

during the Class Period misrepresented material facts about the business, financial

24

performance, and management of OSI; and

25

(f) to what extent the members of the Class have sustained damages and

26

the proper measure of damages.

27

214. A class action is superior to all other available methods for the fair and

28

efficient adjudication of this controversy since joinder of all members is impracticable.



Furthermore, because damages suffered by the individual Class members may be

relatively small, the expense and burden of individual litigation makes it impracticable

for the Class members individually to redress the wrongs done to them. There will be

no difficulty in the management of this action as a class action.

XII. CLAIMS FOR RELIEF

COUNT I

Violations Of Section 10(b) Of The Exchange Act And Rule 10b-5 Promulgated Thereunder Against

Defendants OSI, Chopra, Edrick And Mehra

215. Lead Plaintiff repeats and realleges each and every allegation contained

above as if fully set forth herein.

216. This claim is brought pursuant to section 10(b) of the Exchange Act and

Rule 10b-5 promulgated thereunder, on behalf of Lead Plaintiff and members of the

Class against Defendants OSI, Chopra, Edrick and Mehra.

217. During the Class Period, Defendants made materially false and misleading

statements and omissions that were intended to, and throughout the Class Period did,

deceive the investing public regarding OSI’s business and operations, including but not

limited to its contracts with the U.S. Government, and the intrinsic value of OSI

common stock; and enable the Individual Defendants to sell shares of their privately

held OSI stock while in possession of material adverse non-public information about the

Company. Defendants, jointly and individually (and each of them), took the actions set

forth herein.

218. Defendants OSI, Chopra, Edrick and Mehra: (a) employed devices,

schemes, and artifices to defraud; (b) made untrue statements of material fact or omitted

to state material facts necessary to make the statements not misleading; and (c) engaged

in acts, practices, and a course of business which operated as a fraud and deceit upon

the purchasers of OSI’s common stock in an effort to maintain artificially high market

prices for OSI’s common stock in violation of Section 10(b) of the Exchange Act and

Rule 10b-5. All Defendants are legally responsible as primary participants in the

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

28



1

wrongful and illegal conduct charged herein, and the Individual Defendants are also

2

legally responsible as controlling persons as set forth in Count II below.

3

219. In furtherance of this unlawful scheme, plan and course of conduct,

4

Defendants OSI, Chopra, Edrick and Mehra, individually and jointly, took the actions

5

set forth herein. Defendants: (a) employed devices, schemes and artifices to defraud;

6

(b) made untrue statements of material fact and/or omitted to state material facts

7

necessary to make the statements not misleading by use of means or instrumentalities of

8

interstate commerce; and (c) engaged in acts, practices and a course of conduct which

9

operated as a fraud and deceit upon the purchasers of the Company’s common stock in

10

an effort to create and maintain artificially high market prices for OSI’s common stock

11

in violation of Section 10(b) of the Exchange Act and Rule 10b-5 promulgated

12

thereunder. Each of the Defendants named in this count was a direct, necessary and

13

substantial participant in the common course of conduct alleged herein.

14

220. In addition to the duties of full disclosure imposed on Defendants OSI,

15

Chopra, Edrick and Mehra as a result of their making affirmative statements and reports

16

to the investing public, these Defendants had a duty to promptly disseminate truthful

17

information that would be material to investors in compliance with the integrated

18

disclosure provisions of the SEC as embodied in SEC Regulation S-X (17 C.F.F.

19

§ 210.1-01, et seq. ) and Regulation S-K (17 C.F.R. § 229.10, et seq. ) and other SEC

20

regulations, including accurate and truthful information with respect to the Company’s

21

financial condition, earnings and expenses, officer and director compensation, and

22

management integrity so that the market price of the Company’s common stock would

23

be based on truthful, complete and accurate information.

24

221. Defendants OSI, Chopra, Edrick and Mehra, individually and in concert,

25

directly and indirectly, by the use, means or instrumentalities of interstate commerce

26

and/or of the U.S. mails, engaged and participated in a continuous course of conduct to

27

misrepresent and conceal adverse material information about the business, operations

28

and future prospects of OSI as detailed herein.



1

222. Defendants OSI, Chopra, Edrick and Mehra employed devices, schemes,

2

and artifices to defraud, while in possession of material adverse non-public information

3

and engaged in acts, practices, and a course of conduct as alleged herein in an effort to

4

assure investors of OSI’s value and performance and compliance with U.S. Government

5

contracts, which included the making of, or the participation in the making of, untrue

6

statements of material facts and omitting to state material facts necessary in order to

7

make the statements made about OSI, in the light of the circumstances under which they

8

were made, not misleading, as set forth more particularly herein, and engaged in

9

transactions, practices, and a course of business which operated as a fraud and deceit

10

upon the purchasers of OSI common stock during the Class Period.

11

223. Defendants OSI, Chopra, Edrick and Mehra had actual knowledge of the

12

misrepresentations and omissions of material facts set forth herein, or recklessly

13

disregarded the truth in that they failed to ascertain and to disclose such facts. Such

14

Defendants’ material misrepresentations and omissions were done knowingly or with

15

deliberate disregard for the purpose and effect of concealing OSI’s violations of U.S.

16

Government contracts, its prospects for future government contracts and its financial

17

results from the investing public and supporting the artificially inflated price of its

18

common stock. As demonstrated by Defendants’ overstatements and misstatements

19

regarding the Company’s core business – Rapiscan – Defendants, if they did not have

20

actual knowledge of the misrepresentations and omissions alleged, were reckless in

21

failing to obtain such knowledge by recklessly refraining from taking those steps

22

necessary to discover whether those statements were false or misleading.

23

224. As a result of the dissemination of the materially false and misleading

24

information and failure to disclose material facts, as set forth above, the market price of

25

OSI common stock was artificially inflated during the Class Period. In ignorance of the

26

fact that market prices of OSI’s publicly traded common stock were artificially inflated,

27

and relying directly or indirectly on the false and misleading statements made by

28

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 Defendants but not disclosed in public statements by Defendants during the Class

Period, Lead Plaintiff and the other members of the Class acquired OSI common stock

during the Class Period at artificially high prices and were damaged thereby.

225. At the time of said 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 OSI, which was not disclosed by Defendants, Lead Plaintiff and other

members of the Class would not have purchased or otherwise acquired their OSI

common stock, or, if they had acquired such common stock during the Class Period,

they would not have done so at the artificially inflated prices which they paid.

226. By virtue of the foregoing, Defendants OSI, Chopra, Edrick and Mehra

have violated section 10(b) of the Exchange Act and Rule 10b-5 promulgated

thereunder.

227. As a direct and proximate cause of 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 II

Violations Of Section 20(a) Of The Exchange Act Against Defendants Chopra, Edrick And Mehra

228. Lead Plaintiff repeats and restates each and every allegation contained in

the foregoing paragraphs as if fully set forth herein.

229. Defendants Chopra, Edrick and Mehra acted as controlling persons of OSI

within the meaning of section 20(a) of the Exchange Act. By reason of their high-level

and/or management positions with the Company, their ownership of OSI stock, their

participation in and/or awareness of the Company’s operations and/or intimate

knowledge of the fraudulent scheme, the misrepresentations and omissions

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

28


2:13-cv-09174-MWF-VBK Document 44 Filed 05/20/14 Page 100 of 107 Page ID

#:520

1

disseminated to the investing public, their participation in the fraudulent acts and/or

2

awareness of such acts, and the false financial statements filed by OSI with the SEC and

3

disseminated to the investing public, the Individual Defendants named in this count had

4

the power and authority to control, and did influence and control, directly or indirectly,

5

the decision-making of the Company, including the content and dissemination of the

6

various statements which Lead Plaintiff contends are false and misleading. Defendants

7

Chopra, Edrick and Mehra were provided with, or had unlimited access to, copies of the

8

Company’s reports, press releases, public filings, and other statements alleged by Lead

9

Plaintiff to be misleading prior to and shortly after these statements were issued and had

10

the ability to prevent the issuance of the statements or cause the statements to be

11

corrected. By reason of such conduct, Defendants Chopra, Edrick and Mehra are liable

12

pursuant to section 20(a) of the Exchange Act.

13

230. In particular, each of these Individual Defendants had direct and

14

supervisory involvement in the day-to-day operations of the Company and, therefore, is

15

presumed to have had the power to control or influence the particular transactions

16

giving rise to the securities violations as alleged herein, and exercised the same. For

17

example, the Individual Defendants were able to and did control the content of the

18

various SEC filings, press releases, investor presentations, and other public statements

19

pertaining to the Company during the Class Period. The Individual Defendants had

20

access to the adverse undisclosed information about Rapiscan’s government contracts,

21

the Company’s business, operations, financial statements, markets, and present and

22

future business prospects via access to internal reports (including, but not limited to,

23

Rapiscan’s defect tracking database, Test Track Pro); conversations and connections

24

with other corporate officers and employees; participation at management and Board of

25

Directors meetings; and reports and other information provided to them in connection

26

therewith.

27

231. As set forth above, Defendants OSI, Chopra, Edrick and Mehra each

28 II violated Section 10(b) and Rule 10b-5 by their acts and omissions as alleged in this



#:521

Complaint. By virtue of their positions as controlling persons, Defendants Chopra,

Edrick and Mehra are liable pursuant to Section 20(a) of the Exchange Act.

232. As a direct and proximate result of the Individual Defendants’ wrongful

conduct, Lead Plaintiff and the other members of the Class suffered damages in

connection with their purchases of OSI’s common stock during the Class Period.

COUNT III

Violations Of Section 20(A) Of The Exchange Act Against Defendants Chopra, Edrick And Mehra

233. Lead Plaintiff repeats and re-alleges each and every allegation above as if

fully set forth herein.

234. This Count is asserted pursuant to Section 20A of the Exchange Act

against Defendants Chopra, Edrick and Mehra, on behalf of all persons who purchased

OSI common stock contemporaneously with the sale of OSI common stock by

Defendants Chopra, Edrick and Mehra during the Class Period, and who were damaged

thereby.

235. During the Class Period, Defendants Chopra, Edrick and Mehra occupied

positions within OSI that made them privy to confidential information about OSI, as

well as OSI’s operations, finances, financial condition and future business prospects.

As summarized in ¶¶167-72, notwithstanding their duty to refrain from trading in OSI

common stock unless they disclosed the foregoing material adverse facts, and in

violation of their fiduciary duties to Class members, during the Class Period,

Defendants Chopra, Edrick and Mehra sold their OSI common stock.

236. Defendants Chopra, Edrick and Mehra knew that they were in possession

of material adverse information that was not known to the investing public, including

Lead Plaintiff and other members of the Class. Before selling their stock to the public,

Defendants Chopra, Edrick and Mehra were obligated to disclose the material non-

public adverse information to Lead Plaintiff and other members of the Class.

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27


28


#:522

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

28

237. Defendants Chopra, Edrick and Mehra sold their shares of OSI common

stock throughout the Class Period at market prices artificially inflated by Defendants’

materially false statements and omissions.

238. As summarized in the charts below, the Individual Defendants’ sales of

OSI’s common stock during the Class Period were made contemporaneously with Lead

Plaintiff’s and other Class members’ purchases of OSI common stock.

239. The chart below summarizes Lead Plaintiff’s purchases of OSI common

stock during the Class Period:

Lead Plaintiff ASHERS’ Class Period Purchases Transaction Date Shares Price Value Purchased

I 3/5/2012 5,600 $59.41 $332,667 3/6/2012 10,000 $59.11 $591,099 3/8/2012 3,200 $59.93 $191,778 4/5/2012 3,200 $60.21 $192,658

4/10/2012 3,700 $57.24 $211,794 4/18/2012 3,500 $62.10 $217,352 6/5/2012 2,800 $61.72 $172,825 8/23/2012 2,000 $73.48 $146,953 9/18/2012 4,200 $75.58 $317,425 9/28/2012 2,600 $78.21 $203,351 11/15/2012 3,400 $57.51 $195,535 8/23/2013 3,200 $71.55 $228,947 8/26/2013 3,900 $72.75 $283,704 9/4/2013 3,300 $72.42 $238,996 9/9/2013 3,775 $72.29 $272,896

9/13/2013 3,750 $73.02 $273,818 10/23/2013 4,025 $76.20 $306,700

Total 66,150 $67.22 $4,378,498

240. As summarized in the charts below, the Individual Defendants’ sales of

OSI’s common stock during the Class Period were made contemporaneously with Lead

Plaintiff’s and Class members’ purchases of OSI common stock. For example, during



#:523

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

28

early March 2012, Defendant Mehra sold OSI stock and Lead Plaintiff purchased OSI

stock:

241. During August 2012, the OSI common stock sales of Defendants Chopra,

Edrick and Mehra were contemporaneous with Lead Plaintiff’s purchase:

Party Transaction Date Shares Price Value

Defendant Chopra Sale 08/13/12 7,784 $71.50 $556,556 Defendant Chopra Sale 08/14/12 10,341 $72.39 $748,585 Defendant Chopra Sale 08/15/12 44,605 $73.56 $3,281,144 Defendant Chopra Sale 08/15/12 35,340 $73.73 $2,605,618 Defendant Edrick Sale 08/13/12 2,752 $71.50 $196,768 Defendant Edrick Sale 08/14/12 7,500 $73.74 $553,050 Defendant Mehra Sale 08/13/12 4,668 $71.50 $333,762 Defendant Mehra Sale 08/16/12 15,285 $73.83 $1,128,492 Defendant Mehra Sale 08/16/12 13,400 $73.88 $989,992 Defendant Mehra Sale 08/16/12 11,153 $72.97 $813,834 Defendant Mehra Sale 08/16/12 2,500 $73.09 $182,725

Lead Plaintiff Purchase 8/23/2012 2,000 $73.48 $146,953

242. During September 2012, the OSI common stock sales of Defendants

Chopra, Edrick and Mehra were contemporaneous with Lead Plaintiff’s purchases:

Party Transaction Date Shares Price Value Defendant Chopra Sale 09/10/12 5,198 $74.25 $385,952 Defendant Chopra Sale 09/10/12 4,552 $75.10 $341,855 Defendant Edrick Sale 09/10/12 1,751 $75.10 $131,500

Defendant Mehra Sale 09/10/12 1,751 $75.10 $131,500 Lead Plaintiff Purchase 9/18/2012 4,200 $75.58 $317,425



#:524

1

2

243. During August 2013, the OSI common stock sales of Defendants Chopra,

Edrick and Mehra were contemporaneous with Lead Plaintiff’s purchase:

244. During September 2013, the OSI common stock sales of Defendants

Chopra, Edrick and Mehra were contemporaneous with Lead Plaintiff’s purchases:

Party Transaction Date Shares Price Value

Defendant Chopra Sale 09/03/13 7,827 $72.70 $569,023 Defendant Chopra Sale 09/09/13 5,088 $72.07 $366,692 Defendant Edrick Sale 09/03/13 1,410 $72.70 $102,507 Defendant Edrick Sale 09/09/13 1,881 $72.07 $135,564 Defendant Mehra Sale 09/03/13 1,704 $72.70 $123,881 Defendant Mehra Sale 09/09/13 1,957 $72.07 $141,041

Lead Plaintiff Purchase 9/4/2013 3,300 $72.42 $238,996 Lead Plaintiff Purchase 9/9/2013 3,775 $72.29 $272,896 Lead Plaintiff Purchase 9/13/2013 3,750 $73.02 $273,818

245. The Individual Defendants’ contemporaneous sales of OSI stock in August

and September 2012 occurred during the period when Defendants have admitted that

they knew about the ATR software issue, but did not disclose it to investors. As

summarized above, on November 14, 2012, OSI admitted that it had learned of the ATR

software issue “months ago.” When the market absorbed the information about the

ATR fraud on November 15, 2012, OSI stock closed at $54.89, down 28%.

246. By reason of the foregoing, Defendants Chopra, Edrick and Mehra directly

and indirectly, by use and means of instrumentalities of interstate commerce, electronic

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27

28



#:525

1

communications mailing, and the facilities of a national securities exchange, employed

2

devices, schemes, and artifices to defraud, and engaged in acts and transactions and a

3

course of business which operated as a fraud or deceit upon members of the investing

4

public who purchased OSI common stock contemporaneously with the sale of such

5

stock by Defendants Chopra, Edrick and Mehra.

6

247. Lead Plaintiff and all members of the Class who purchased OSI common

7

stock contemporaneously with sales by Defendants Chopra, Edrick and Mehra (i) have

8

suffered damages because, in reliance on the integrity of the market, they paid

9

artificially inflated prices as a result of the violations of Sections 10(b) and 20(a) of the

10

Exchange Act as alleged herein; and (ii) would not have purchased the securities at the

11

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

12

artificially inflated by Defendants’ materially false and misleading statements and

13

omissions. At the time of the purchases of the securities by Lead Plaintiff and

14

members of the Class, the fair and true market value of the securities was substantially

15

less than the price paid.

16

248. Lead Plaintiff and members of the Class who purchased

17

contemporaneously with the Individual Defendants seek disgorgement of the Individual

18

Defendants’ profits gained (or losses avoided) for those transactions in OSI common

19

stock that the Individual Defendants executed contemporaneously with Lead Plaintiff

20

and other members of the Class.

21

PRAYER FOR RELIEF

22

WHEREFORE, Lead Plaintiff prays for relief and judgment as follows:

23

(a) Determining that this action is a class action under Rule 23 of the

24

Federal Rules of Civil Procedure;

25

(b) Awarding compensatory damages in favor of Lead Plaintiff and

26

other Class members against all Defendants, jointly and severally, for all damages

27

sustained as a result of Defendants’ wrongdoing, in an amount to be proven at trial,

28

including pre-judgment and post-judgment interest thereon;



#:526

(c) Awarding Lead Plaintiff and the Class their reasonable costs and

expenses incurred in this action, including attorneys’ fees and expert fees;

(d) Ordering the disgorgement of all profits that the Individual

Defendants gained and losses that the Individual Defendants avoided to those Class

members who purchased OSI common stock contemporaneously with the Individual

Defendants’ sales in OSI common stock; and

(e) Awarding such other and further relief as the Court may deem just

and proper.

JURY TRIAL DEMANDED

Lead Plaintiff demands a trial by jury.

Dated: May 20, 2014 Respectfully submitted,

BERNSTEIN LITOWITZ BERGER & GROSSMANN LLP

/s/ Timothy A. DeLange TIMOTHY A. DELANGE

Blair A. Nicholas (Bar No. 178428) [email protected] Timothy A. DeLange (Bar No. 190768) [email protected] Richard D. Gluck (Bar No. 151675) [email protected] Matthew P. Jubenville [email protected] (Bar No. 228464) 12481 High Bluff Drive, Suite 300 San Diego, CA 92130 Telephone: (858) 793-0070 Facsimile: (858) 793-0323

-and-

Gerald H. Silk [email protected] Avi Josefson [email protected] 1285 Avenue of the Americas, 38th Floor New York, NY 10019 Telephone: (212) 554-1400 Facsimile: (212) 554-1444

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

27


28


#:527

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

21

22

23

24

25

26

Counsel for Lead Plaintiff Arkansas State Highway Employees Retirement System and Lead Counsel for the Class


27

28

Date post:	01-Sep-2020
Category:	Documents
Upload:	others
View:	0 times
Download:	0 times

BERNSTEIN LITOWITZ BERGER & GROSSMANN...

Documents