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IN RE CROSS MEDIA MARKETING CORP. SECURITIES LITIGATION

April 20, 2004.

In re Cross Media Marketing Corporation Securities Litigation


The opinion of the court was delivered by: ROBERT PATTERSON, Senior District Judge

OPINION AND ORDER

Defendants*fn1 Ronald S. Altbach ("Altbach"), Alfonso J. Cervantes ("Cervantes"), Chet Borgida ("Borgida"), Dennis Gougion ("Gougion") and Richard L. Prochnow ("Prochnow") move, pursuant to Rules 12(b)(6) and (9)(b) of the Federal Rules of Civil Procedure, to dismiss the claims in a purported class action brought by lead plaintiff's, William Woodruff, Steven Haines and W.D. Wadlington,*fn2 charging violations of Sections 10(b), Securities and Exchange Commission Rule 10(b)(5) promulgated thereunder, and 20(a) of the Securities Exchange Act of 1934. (Pls.' Consol. Am. Class — Action Compl. Violation Sees. Laws, [hereinafter Am. Compl.] ¶¶ 115, 117.) Plaintiffs Consolidated Amended Class Action Complaint for Violation of the Securities Laws (the "Amended Complaint") is based upon investigation by counsel, including: public filings with the Securities and Exchange Commission ("SEC"); press releases and other publications by defendants; and documents pertaining to a Federal Trade Commission complaint*fn3 (the "FTC Complaint") filed against Cross Media and others on April 10, 2002. I. The Allegations of the Amended Complaint

A. The Parties

  Plaintiffs' action is brought on behalf of all persons who, from November 5, 2001 through July 11, 2002 (the "class period"), purchased common stock of Cross Media at a price allegedly artificially inflated by Defendants (Am. Compl. ¶ 1).

  Defendant Cross Media is a direct marketer of various items, including magazine subscriptions, to approximately 30 million customers. (Id. ¶ 3.) In 2001, 81% of Cross Media's revenues resulted from direct marketing of magazine subscriptions. (Id.) Defendant Cross Media, formerly named Symposium, Inc. ("Symposium"), began trading in the public securities markets as Symposium about June 24, 1999. (Id. ¶ 51.) Defendant Altbach was Symposium's CEO and Chairman of the Board. (Id. ¶¶ 50.) On January 28, 2000, Direct Sales International, Inc. ("DSI"), a subsidiary of Symposium, purchased substantially all the assets of Direct Sales International L.P. ("DSI L.P."), a company owned by Defendant Prochnow. (Id. ¶¶ 48-50.) DSI then changed its name to Media Outsourcing Inc. ("MOS"). (Id. ¶ 48.) On December 28, 2000, Symposium changed its name to Cross Media and MOS changed its name to Consolidated Media Services. (Id. ¶ 51.)

  Defendant Altbach, at all material times, has been a Director, Chairman of the Board, and Chief Executive Officer of Cross Media, as well as Chairman of the Board, Chief Executive Officer and President of MOS. (Am. Compl. ¶ 4.)

  Defendant Cervantes was, at all material times, Senior Vice President — Business Development of Cross Media and in charge of investor relations. (Id. ¶ 5.) Defendant Borgida, at all material times, was Senior vice president and Chief Financial Officer of Cross Media. (Id. ¶ 6.)

  Defendant Gougion, at all material times, has been Senior Vice President — Publishing at Cross Media, and a vice president and Chief Operating Officer of MOS. (Id. ¶ 7.)

  Defendant Prochnow, at all material times, has been a "putative `consultant'" to Cross Media under a consulting agreement to advise senior officers of MOS. (Id. ¶ 8.) Prochnow holds a significant amount of Cross Media stock as a result of his sale of substantially all the assets of DSI L.P. to DSI, a newly formed subsidiary of Symposium, the predecessor company to Cross Media. (Id. ¶ 8.) During the class period, Prochnow received substantial compensation from Cross Media. He owns a substantial amount of stock in Cross Media, a note receivable from Cross Media, and options valued at millions of dollars. (Id.)

  Defendant Prochnow has been an employee of Cowles Communications; Budget Marketing Corporation, Inc. ("Budget"); Telephone Response in Marketing Management ("TRAM"); Magazine Sweepstakes ("MS"); and DSI L.P., and he has engaged in "Paid During Service" magazine sales ("PDS") through telemarketers since 1970. (Id. at ¶¶ 40-42.) The companies Prochnow has been associated with had been investigated by the Federal Trade Commission and enjoined from engaging in improper telemarketing practices by the FTC in 1972, 1980, 1988 and December 13, 1996. (Id. ¶¶ 37-47.)

  B. The Fraud Claims

  The Amended Complaint charges each of the individual defendants with, knowingly, or in a reckless manner, being participants in a fraudulent scheme during the class action period which "(a) deceived the investing public regarding the business, finances and value of Cross Media's assets and securities; and (b) caused Plaintiffs and other members of the Class to purchase Cross Media securities at artificially inflated prices." (Am. Compl. ¶¶ 10, 11.)

  The Amended Complaint is based largely on the allegations contained in an FTC complaint filed on April 11, 2002 against Defendants Altbach, Gougion, Prochnow, Cross Media and MOS. The FTC Complaint charges Prochnow, Gougion and MOS (doing business under its own name or predecessor names) with continuing violations since April 1997, of a December 13, 1996 Cease and Desist Order issued by the FTC. (Compl. for Civil Penalties and Injunctive Relief, 02cv917, N.D.Ga., Submitted by Pls. via letter of 8/1/03 [hereinafter FTC Compl.] ¶¶ 38-52.) The FTC Complaint further charges that since 1997, Defendants Prochnow, Gougion and MOS, and since on or about January 28, 2000, Defendants Altbach and Cross Media violated the FTC Telemarketing Sales Rule (16 C.F.R. Part 310) and Section 5(a) of the FTC Act (15 U.S.C. § 45(a)). (Am. Compl. ¶ 20; FTC Compl. ¶¶ 48-64.) A temporary restraining order (`TRO") was applied for and denied. (Defs'. Mem. L. Supp. Their Mot. Dismiss Consol. Am. Class — Action Compl. at 4 n.2.) The action is still pending. (Id.)

  The Amended Complaint alleges that Cross Media and its subsidiary MOS are merely the latest in a series of telemarketing corporations, which began with Cowles Communications ("Cowles"). Since 1970, these corporations have engaged in "Paid During Service" ("PDS") magazine sales by the use of highly misleading, deceptive and illegal telemarketing sales practices which, prior to Cross Media's entry into the field, had resulted in the FTC issuing cease and desist orders (Am. Compl. ¶¶ 37-48). The Amended Complaint further alleges that Defendants touted Cross Media's performance and earnings' expectations although the business had generated substantial revenue and profit through the use of the same illegal practices which previously had been found to be violations of the law. (Id. ¶¶ 52-53, 57, 58.) As a result, "optimistic statements . . . concerning the nature of the business of Cross Media and its expected earnings" made by Defendants during the class period are alleged to be materially false and misleading and to have artificially inflated the price of Cross Media's stock, as "Defendants omitted from their positive statements any mention that positive results could only result from conduct previously determined to be unlawful by federal authorities. . . ." (Id. ¶ 14.) Later in the Amended Complaint, Plaintiffs specify their allegations:
All of these statements . . . were false and misleading, as they omitted disclosure of the sales practices utilized to generate these results; the illegality of those practices; that similar practices had already led to legal action against Prochnow, Gougion and Cross Media's predecessors, . . . that there was a substantial likelihood that the FTC . . . would pursue action against Defendants for continuing to engage in those same practices . . .; or that FTC — enforced cessation of those illegal practices would have a material adverse impact on the Company, its financial results, and its stock price.
(Am. Compl. ¶ 61.)

  Further, the Amended Complaint alleges that, even after the FTC Complaint was filed against Altbach, Gougion, Prochnow, and Cross Media on April 10, 2002, the Defendants made numerous statements to the financial media downplaying the FTC action and, until July 10, 2002, misrepresented that Cross Media was on target to meet its increased earning projections. (Id. ¶ 22.)

  The Amended Complaint focuses on the following communications: press releases released between November 5, 2001 and May 29, 2002 (id ¶¶ 62, 66, 68, 74, 81, 87); Cross Media's announcement of the acquisition of National Syndications, Inc. on January 10, 2002 (Id. ¶ 63); Cross Media's announcement of the launch of Destinations Direct on January 28, 2002 (Id. at ¶ 67); an excerpt from the Company's annual report dated March 27, 2002 (Id. at ¶¶ 69, 70); two transcripts of conference calls by Altbach with investors dated April 10, 2002 (the day after the FTC filed its complaint) (Id. ¶¶ 75-80) and May 9, 2002 (id ¶¶ 82-83); forms 8-K (Id. at ¶ 86) and 10-Q (Id. at ¶¶ 84-85) filed with the SEC; and a June 17, 2002 interview of Altbach with the OTC Journal (Id. ¶¶ 88-90).

  On July 12, 2002, Cross Media made the following announcements: it would have a loss for the second quarter, lower than expected revenues, and the material impact of the FTC Complaint had caused a 20% loss of magazine orders. (Id ¶ 92.) Cross Media's stock closed at $2.71 a share on July 12, 2002. (Id. ¶ 94.)*fn4 On July ...


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