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IN RE QUINTEL ENTERTAINMENT INC. SECURITIES LITIG.
October 25, 1999
IN RE QUINTEL ENTERTAINMENT INC. SECURITIES LITIGATION
The opinion of the court was delivered by: William C. Conner, Senior District Judge.
This class action lawsuit is brought by plaintiffs on behalf of all
persons or entities who purchased common stock of Quintel Entertainment
("Quintel") during the period July 15, 1997 through October 15, 1997 (the
"Class Period"). The Consolidated and Amended Class Action Complaint
("Complaint") alleges violations of Section 10(b) of the Securities
Exchange Act of 1934 and Rule 10b-5 promulgated thereunder. The Complaint
also alleges that numerous individual defendants are liable pursuant to
Section 20(a) of the Exchange Act. The action is currently before the
Court on defendants' Motion to Dismiss pursuant to Rules 12(b)(6) and 9
(b) of the Federal Rules of Civil Procedure and the Private Securities
Litigation Reform Act of 1995 (the "PSLRA").
These facts are drawn from plaintiffs' Complaint and are accepted as
true for the purposes of the motion to dismiss. See In re AES Corp. Sec.
Litig., 825 F. Supp. 578, 583 (S.D.N.Y. 1993).
Defendant Quintel is a corporation that, during the Class Period, was
in the business of developing and marketing telephone entertainment
services, consisting primarily of live conversation and pre-recorded
horoscopes, tarot card readings and live psychic consultations. See
Compl. ¶ 12. Quintel also provided voice mail services. ("VM
Defendant Jeffrey L. Schwartz ("Schwartz") was Quintel's Chairman,
Chief Executive Officer, and Secretary/Treasurer during the Class
Period. Defendant Daniel Harvey ("Harvey") joined Quintel in September
1996 and became its Chief Financial Officer in January 1997. Defendant
Jay Greenwald ("Greenwald") was President, Chief Operating Officer, and a
director of Quintel during the Class Period. Defendant Claudia Newman
Hirsch ("Hirsch") was Executive Vice President and a director of Quintel
during the Class Period. Defendant Andrew Stollman ("Stollman") was
Senior Vice President, Secretary and a director of Quintel during the
Class Period. Defendants Greenwald, Hirsch, and Stollman received
compensation based, in part, on Quintel's reported financial
performance. Defendants Mark Gutterman ("Gutterman") and Michael G. Miller
("Miller") were directors of Quintel during the Class Period. Finally,
Defendant Steven L. Feder ("Feder") was both a director and employee of
Quintel during the Class Period. See Compl. ¶¶ 13-20. Defendants
Schwartz, Harvey, Greenwald, Hirsch, Stollman, Gutterman, Feder and
Miller are referred to herein as the "individual defendants."
Quintel's entertainment services, accessed by dialing "900" telephone
numbers, allowed callers to receive live psychic or tarot card readings.
These live services were billed at $3.99 to $4.99 per minute, with the
first two to five minutes free to the customer. Quintel's live
conversation "900" services accounted for about 76% and 67% of Quintel's
net revenues for the fiscal years ending November 30, 1996 and 1997
respectively. See Compl. ¶ 37. Quintel billed and collected for the
"900" number calls through the use of service bureaus and local and long
distance companies. Quintel recognized the revenues from these calls at
the time a customer made a billable call. These recognized revenues were
net a provision for customer "chargebacks," which included refunds,
credits and uncollectible amounts. The reserve for chargebacks was
estimated based on chargeback history updated on a monthly basis. See
Compl. ¶ 39.
Quintel entered into a marketing agreement with AT & T in 1996 (the "AT
& T partnership"), whereby Quintel offered psychic products and
subscription services as an incentive for customers to switch their long
distance service to AT & T. See Compl. ¶ 44.
Three months prior to the Class Period, defendants issued a series of
public statements regarding the growth and financial strength of Quintel.
On April 14, 1997, Quintel, through Schwartz, reported first quarter
fiscal 1997 revenues of $44,059,812, an increase of 175% over net
revenues for the first quarter in 1996. Schwartz also reported net income
of $5,435,397, or $0.29 per share, an increase of 26% over the comparable
period in 1996. Schwartz attributed the increase in revenues to Quintel's
diversification into the marketing of telecommunications products and
services. These financial results were incorporated into Quintel's Form
10-Q filed on April 14, 1997 and signed by Schwartz and Harvey. See
Compl. ¶¶ 45-9.
During a meeting with analysts on April 21, 1997, Schwartz commented
that Quintel's ability to convert a customer from an inquiry to a paid
caller had improved as the result of improved technology in their billing
system. Schwartz and Harvey also explained that the chargeback rate had
been reduced because of the formation of two customer service centers
dedicated to the 900 business. Schwartz also noted that Quintel's
partnership with AT & T was "unique" and "the most exciting partnership
that [AT & T] has entered into since they began their strategic marketing
program." See Compl. ¶¶ 51-4.
Several business publications also quoted defendants as making
optimistic statements about Quintel's growing success. See Compl. ¶¶
Immediately prior to the Class Period, Quintel's common stock was
trading at an all time high of $14.625 per share on July 14, 1997. See
Compl. ¶ 59.
Only July 15, 1997, Quintel's financial results for the second quarter
of fiscal 1997 were set forth in its Form 10-Q, signed by defendants"
Schwartz and Harvey, and in a press release on that same day. The Form
10-Q stated Quintel's partnership with AT & T accounted for 24% of the
increase in the prior year's net revenues. See Compl. ¶ 61. Also, the
provision for chargebacks as a percentage of gross revenues was down from
43% in the prior year's second quarter to 28% for the second quarter of
fiscal 1997. See id.
Soon after the announcement of Quintel's favorable financial results,
the individual defendants sold over 730,000 shares of the Quintel stock
that they owned for a collective profit of about $10 million. See Compl.
¶¶ 13, 15-20, 64-5. Defendant Schwartz sold 165,000 shares during the
Class Period and realized aggregate proceeds of over $2.3 million.
Defendant Greenwald sold 135,000 shares of Quintel common stock and
realized $1,890,000. Defendant Hirsch sold 90,000 shares during the Class
Period for proceeds of $1,260,000. Defendant Stollman sold 50,000 shares
of Quintel common stock and realized $700,000. Defendant Gutterman sold
10,000 shares of Quintel common stock during the Class Period, realizing
$138,880. Defendant Miller sold 112,500 shares of Quintel common stock
for proceeds of $1,576,210. Defendant Feder sold 54,500 shares and
realized $758,020. These sales accounted for approximately 48.8% of
Quintel's trading volume during the seven trading days from July 18, 1997
through July 28, 1997. The total of 730,000 shares sold by the individual
defendants during the Class Period represented a 156% increase over the
total insider sales for the 14-month period prior to the start of the
On August 24, 1997, the Miami Herald published a news article stating
that customers were being wrongfully induced to call Quintel's "900"
numbers by false representations of free psychic readings. See Compl.
¶¶ 66-73. Complaints to state attorneys general were "pouring in" from
all over the country.
In an October 7, 1997 press release, Quintel announced that its
earnings for the third quarter of fiscal year 1997 would decline from
both the second quarter of that year and the third quarter of fiscal year
1996. The decline in earnings was attributed to a higher incidence of
customer chargebacks for its telecommunications entertainment programs.
See Compl. ¶ 74.
On October 8, 1997, Quintel shares fell 1 7/16 to 8 15/16. See Compl.
On October 15, 1997, Quintel announced in a press release and its Form
10-Q the third quarter results for fiscal year 1997. Net income was $0.01
per share, as compared to $0.20 per share for the comparable period in
1996. Net revenues were $44,688,568, compared to $17,493, 179 in the
third quarter of fiscal year 1996. Schwartz commented that: "During and
subsequent to the third quarter we received information from our
providers indicating a substantial increase in the rate of chargebacks,
resulting in an under-reserve for prior periods and causing an increased
chargeback rate for the current period." Compl. ¶ 76.
The October 15, 1997 press release also indicated that AT & T modified
its contract with Quintel during the quarter ended August 31, 1997. AT &
T's limitation of Quintel's marketing efforts led to reductions in
revenue for the quarter.
Quintel filed its Form 10-Q for the third quarter of fiscal year 1997
with the Securities and Exchange Commission ("SEC") on October 16, 1997.
The provision for chargebacks increased from 35% in the third fiscal
quarter of 1996 to 44% in the comparable period of 1997. The third
quarter Form 10-Q attributed the increase of the provision for
chargebacks to information Quintel received during the quarter ending
August 31, 1997 about a significant increase in the rate of "900" service
chargebacks. See Compl. ¶ 79.
The third quarter Form 10-Q also commented upon AT & T's modification
of its contract with Quintel, stating that the adjustment was "commenced
in late July 1997."
On October 15, 1997, Quintel common stock was trading at $7.75 per
share, or less than half of its Class Period high of $15.625 per share.
According to its Form 10-K for fiscal year ended November 30, 1997,
Quintel used several companies to provide billing and collection services
in connection with its telephone entertainment services and "900"
numbers. One of these companies, West TeleServices Corporation ("West"),
provided Quintel with reports that included the amount of money received
for "900" calls in each month and the chargeback initially charged for
each month. Quintel would then use this information to project eventual
chargebacks within a given financial period. As of July ...