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Sept. 27 (Bloomberg) -- A News Corp. unit that used lessons gleaned from gangster films to motivate employees and crush rivals is the latest arm of Rupert Murdoch’s media empire to be swept up in a probe that began with hacking and bribery allegations.
Already the subject of inquiries in America and the U.K. of police payoffs and illegal voice-mail access by its British newspapers, News Corp. has been asked by U.S. investigators for documents relating to its News America Marketing Group, which places in-store ads in supermarkets and retailers worldwide, according to a person familiar with the matter.
The U.S. government last month asked a lawyer at Williams & Connolly LLP for documents from a 2009 trial between News America and a New Jersey advertising company, Floorgraphics Inc., according to the person, who declined to be identified because the request was confidential. New York-based News Corp. in July hired Brendan Sullivan, a criminal defense lawyer at the Washington law firm, amid claims of illegal hacking at the now- defunct News of the World tabloid.
Along with the request for files, prosecutors asked this month to meet with lawyers for Robert Emmel, a former News America employee who alleged in court papers the division violated racketeering laws and engaged in “predatory and anticompetitive schemes.”
The expanding review by U.S. prosecutors of potential wrongdoing at News of the World, which represented only 1 percent of annual revenue for News Corp., has now touched a subsidiary that generated four times that much, and about 12 percent of the parent company’s profit for fiscal 2011.
Flouting Antitrust Laws
That unit, rivals claimed in court papers, has expanded by flouting antitrust laws, and in one case, computer hacking. Evidence presented in one trial showed that News America’s CEO, also publisher of the New York Post, used popular films such as “‘A Bronx Tale” and “The Untouchables” to teach employees how to instill fear in potential clients.
“There is a pattern of anticompetitive behavior by News Corp.,” said Melanie Sloan, executive director of Citizens for Responsibility and Ethics in Washington, a government watchdog group. “We’ve seen it in Britain, and we’ve seen it in America.” Suzanne Halpin, a spokeswoman for News America, declined to comment on the U.S. request for information.
News America places in-store ads and shelf promotions for consumer goods marketers such as H.J. Heinz Co. and The Quaker Oats Co. in 55,000 retailers and distributes coupon booklets in 1,600 Sunday newspapers.
The News Corp. unit, which had originally been a printer and distributor of coupons inserted in local newspapers, almost doubled in size following the 1997 acquisition of Heritage Media Corp. and its Actmedia Inc. unit, then the largest provider of in-store promotions.
Under the direction of Chief Executive Officer Paul Carlucci, who was put in charge of News America in 1997 by News Corp. chairman Murdoch, the unit has thrived.
By 2004, News America accounted for $390 million of the $450 million spent on in-store promotions in the U.S., according to claims in one lawsuit. The division is the “dominant player” in the in-store marketing field, said Steven Frenda, managing director for strategy and development at the Path to Purchase Institute, a Skokie, Illinois-based trade group.
News America generated almost $1.2 billion, or about 3.7 percent, of the parent company’s revenue of $32.8 billion in fiscal 2010, the last year for which such figures are available.
In a 2008 deposition, Carlucci said his division’s profit margin was about 33 percent. In subsequent years, that number has fallen, according to the company and research from Jessica Reif Cohen of Bank of America Corp.’s Merrill Lynch unit.
For fiscal 2010, the unit was on its way to producing about $349 million of News Corp.’s $2.5 billion in net income before a $500 million legal settlement flipped the number to an operating loss of about $151 million.
Pattern of Conduct
Competitors attribute News America’s success to what they claim in court filings is a pattern of illegal conduct. The Wilton, Connecticut-based unit has been sued by six rivals since 1997 in lawsuits that ended in two adverse jury verdicts and settlement payments topping $650 million. The company has threatened competitors, lied to its own clients, and made improper payments to supermarket chains to retain business, according to the lawsuits.
News America has repeatedly been accused of illegal “tying,” or pressuring advertisers who want only in-store programs to hire it for its newspaper coupon business, according to court records.
‘The Only Company’
“News set out to be not just the largest company -- it wants to be the only company that can put the sign in the aisle,” Julian Solotorovsky, a lawyer for Insignia Systems Inc., a Minneapolis-based marketer that placed promotional signs on supermarket shelves, told jurors at the start of a trial in February.
The lawsuits reflect mere “business disputes,” said Halpin, News America’s spokeswoman. “A number of our competitors have been unable to compete with NAM on a level playing field -- in the marketplace,” she said in a statement, referring to her company by its initials. “So they resorted to litigation as a business strategy.”
News Corp.’s share price has fallen by almost 10 percent since news broke on the July 4 weekend that employees at News of the World had arranged to hack into the voicemail of private citizens, paid police for story tips and used access to sensitive personal information to intimidate politicians.
The U.K. disclosures led to the shutdown of the 168-year- old newspaper and abandonment of News Corp.’s bid for control of British Sky Broadcasting Group Plc, a pay-television broadcasting service.
In addition to three U.K. police probes and an inquiry by Parliament, U.S. prosecutors this summer began investigating whether employees of the U.K. newspaper unit hacked into the voicemails of victims of the Sept. 11, 2001, terrorist attacks. Prosecutors have yet to uncover any evidence to support that claim, according to a person familiar with the matter.
U.S. investigators also are examining whether employees of News of the World paid bribes to U.K. officials in violation of a federal anticorruption law, said a person familiar with a letter sent by investigators to the company.
The Floorgraphics case that has piqued the interest of U.S. investigators, according to the person familiar with the recent document request, began in 2004 when the company sued News America, saying its rival was seeking to drive it out of business. At the 2009 trial, George Rebh, co-founder of Floorgraphics, which places ads on the floors of supermarkets, testified that Carlucci threatened him in 1999 after he refused to sell his company to News America.
‘Will Destroy You’
“If you ever get into any of our businesses, I will destroy you,” Carlucci said, according to Rebh’s testimony. Then, referring to Murdoch, Carlucci added, “I work for a man who wants it all,” Rebh testified.
Carlucci has denied making such statements.
From then on, Floorgraphics claimed, News America made improper payments to gain retailers’ business, spread misinformation about Floorgraphics’ success in installing ads and defaced some of its floor ads, creating the potential of slip-and-fall lawsuits that would deter retailers from doing business with Floorgraphics, according to testimony at trial. By 2009, Floorgraphics, now based in Hamilton, New Jersey, had gone from 85 employees to fewer than 25.
“News America never ‘defaced or scraped up’ Floorgraphics’ products,” Halpin said, calling all the allegations “false.”
A News America lawyer acknowledged to the jury in the case that “some person” had used a company computer to hack into Floorgraphics’ password-protected customer website.
Lawyers for Floorgraphics presented evidence that one or more people using the News America computer system had hacked into the rival’s website 11 different times over a four-month period.
The case settled six days into the trial when News America agreed to purchase Floorgraphics’ assets for $29.5 million.
Also that year, News America suffered its biggest legal defeat in a trial against Valassis Communications Inc., a Livonia, Michigan-based marketer that competed to sell coupons in Sunday newspapers. After a Detroit jury ordered News America to pay $300 million, the companies settled that and two other suits for a total of $500 million.
At the Valassis trial, witnesses testified that News America leveraged its near monopoly of in-store promotions to take free-standing insert business away from its rival.
With a strategy called “Project Pre-empt,” the News Corp. unit gave advertisers discount prices for merchandising programs that included coupon-inserts and in-store shelf ads. Prices were much higher for advertisers wanting only in-store shelf-ads.
Debra Lucidi, a former Sara Lee Corp. procurement staffer, told jurors her Downers Grove, Illinois-based company wanted to split its coupon program, placing free-standing inserts with Valassis and in-store promotions with News America.
At first, News America refused to unbundle its bid, she testified. When the company finally gave her a price for the in- store portion alone, Lucidi said she was shocked at how far the prices had spiked. She testified News America seemed to be “strong-arming” her company in a bid to keep it from doing any business with Valassis.
“Feels like they are raping us, and they enjoy it, and there is no desire to work with us in partnership to grow our business,” a colleague told her in an e-mail, she testified.
Executives from companies including ConAgra Foods Inc. and Lancaster Colony Corp.’s T. Marzetti unit said they felt “penalized” or “held hostage” by News America, according to evidence presented in court. When Michael Murphy of Unilever NV and Glenn Barry of Nestle SA wouldn’t buckle to News America’s alleged pricing pressure, the News Corp. unit complained to the men’s bosses in letters questioning their judgment, according to trial evidence.
Representatives of Nestle, Lancaster Colony, Unilever, Sara Lee and ConAgra didn’t return calls or declined to comment.
Halpin said that Project Pre-empt succeeded in passing along cost savings to customers, who “welcomed the lower rates.” She said News America rebuffed an alleged bid by Valassis to launch a price-fixing scheme, leading to a Federal Trade Commission lawsuit against Valassis for collusion.
In a 2006 consent order, Valassis agreed not to collude.
“It was only after NAM refused to participate in its scheme that Valassis sued NAM,” Halpin claimed.
Even with the lawsuits, Murdoch was pleased with Carlucci’s performance, according to evidence presented at the Valassis trial. Murdoch rewarded him in 2005 with a second job as publisher of the New York Post.
Bloomberg LP, the parent of Bloomberg News, competes with News Corp. units in providing financial news and information.
News Corp. rose 46 cents to $16.80 at 12:19 p.m. New York time in Nasdaq Stock Market trading.
One of the earliest lawsuits against News America was filed 14 years ago by Theme Promotions Inc., a San Francisco agency that specialized in joint supermarket promotions pairing well- known brands such as Coca-Cola and Orville Redenbacher popcorn.
Theme claimed in 1997 that News America tried to punish it because it distributed coupons through Valassis.
Theme founder Gerry Gersovitz said in an interview that his conflict with News Corp. started in 1996, when Dominick Porco, a senior News America executive at the time, left a voicemail for him, saying Theme’s insistence on doing business with Valassis would “leave us no choice but to pursue the dark and dirty road.” Porco didn’t return a call seeking comment.
At the 2005 Theme Promotions trial, Chris Mixson, then executive vice president at News America, told jurors that his employer wanted “all” of its clients’ coupon-insert business. “‘All’ means exactly what it says: ‘all’,” he testified, according to court papers. Halpin said it was Theme that reneged on a partnership deal with News America.
“It is a function of business to seek additional market share,” she said. Theme prevailed at the trial, winning a $3.5 million verdict.
Ended in Settlements
Other cases against the News Corp. subsidiary ended in settlements and, in one instance, a News America victory.
In February, it took one day at a trial in Minneapolis before News America agreed to pay $125 million to settle its fight with Insignia. Insignia claimed that News America had lied to manufacturers about its business, paid retailers to boycott the company, removed Insignia signs from stores and bundled coupons and in-store promotion to force Insignia out of the market.
There was no finding of liability by the jury, Halpin said.
News America also agreed in a 2008 consent decree with the Minnesota attorney general not to make misrepresentations about its competitors. Halpin said there was no finding of wrongdoing by the state, which had joined the Insignia case.
Another company, Boston-based Pop Radio LP, won a 2005 court ruling after claiming News America violated a non-compete clause in a contract involving the in-store broadcast of ads. The case settled and News America was allowed to sell a competing product, Halpin said.
Menasha Corp., a Neepah, Wisconsin-based marketer that sold on-shelf coupon dispensers in supermarkets, also accused News America of trying to force it out of business. A judge dismissed the case in 2003, saying Menasha hadn’t alleged enough facts. Nancy Whitton, a spokeswoman for Menasha, declined to comment. The company no longer sells on-shelf dispensers.
“They feel they’re untouchable,” said Michael Klabunde, president of Connect Communications Inc., a Minneapolis-based marketing company who said News America threatened in 2005 to “crush” his company if it didn’t withdraw a successful advertising program from Kroger Co.’s Ralphs supermarkets. “It’s arrogance.”
Halpin denied Klabunde’s account and said News America offered to help him distribute his advertising product. Keith Dailey, a spokesman for Cincinnati-based Kroger, said the grocer had a contract requiring exclusivity with News America.
‘Culture’ of Wrongdoing
Anthony Barkow, the executive director of the Center on the Administration of Criminal Law at New York University School of Law, said U.S. investigators may examine whether there’s a “culture” of wrongdoing at News America. In several cases, its competitors sought to show that Carlucci encouraged a corporate culture modeled on Hollywood films.
Under questioning in a 2008 deposition, Carlucci said he’s rallied workers by showing clips from “The Untouchables,” a film about Al Capone and the federal agents who pursued him. Carlucci also testified that he told sales agents to heed the actions of Sonny LoSpecchio, a New York crime boss played by Chazz Palminteri in the film “A Bronx Tale.”
“Sonny asked a question to his young mentoree: Would you rather be feared or respected?” Carlucci told his sales agents, according to evidence at the Valassis trial. “Our clients have a fear. They have a fear of being left on the shelf.”
‘Incorrect or Exaggerated’
Halpin called such accounts “incorrect or exaggerated” and said Carlucci had shown clips from other films including “Singing in the Rain.”
Carlucci insisted in a deposition that he didn’t show the part of the “teamwork” scene in which Capone, as played by Robert DeNiro, beats an underperforming adjutant with a baseball bat. The “Untouchables” clip was an example “of how not to promote teamwork,” Halpin said.
The current federal probe of News America may depend in part on Emmel, who is described by his lawyers as a whistleblower.
In response to a News America lawsuit which claims that Emmel stole data from the company, he filed a counterclaim, accusing his ex-employer of “extensive billing and revenue- sharing fraud” against customers, “predatory and anticompetitive schemes against competitors,” and “fraudulent inflation of its reported earnings unbeknownst to its shareholders.”
He’s also taken his complaints to U.S. regulators, none of whom have so far acted on them publicly.
As a witness in the Floorgraphics trial, Emmel told jurors that Carlucci offered to “outplace” any “bed-wetting liberals” who were concerned “about doing the right thing” in dealing with competitors.
Emmel said his former employer hadn’t paid advertising earnings it was required to share with Harris Teeter, a grocery store chain. Catherine Reuhl, a spokeswoman for Harris Teeter, declined to comment.
Emmel declined to detail his allegations in an interview, saying a judge has barred him from doing so. He sought personal bankruptcy protection after a judge ruled in favor of News America in the contract case. An appeals court reversed the ruling in June. The litigation is pending.
“All of Mr. Emmel’s claims against News America Marketing are meritless,” said Halpin, adding that Emmel was fired in 2006. “There have been three very public lawsuits about these matters, and at no time during any of these legal proceedings was any evidence produced to support Mr. Emmel’s claims.”
News Corp. Standards
The take-no-prisoners conduct alleged by Emmel and News Corp.’s rivals isn’t what Murdoch’s company promises shareholders in its business standards of conduct.
There, News Corp. pledges the “company will compete fairly for business, respecting the rights of other parties.”
At their parliamentary hearing in London this summer as part of the U.K. hacking scandal, Murdoch, 80, and his son James retreated from the claim News Corp. had made several years earlier, when a News of the World reporter and a private investigator were sent to jail for hacking.
At the time, the company blamed the incident on a rogue reporter who was allegedly willing to do anything to dig up information on Britain’s royal family.
At the July hearing, following disclosures that hacking was widespread at the tabloid, Murdoch and his son apologized for the behavior of News of the World employees. Rupert Murdoch told lawmakers that his company aspired to the highest ethical standards, and that illegal behavior would not be tolerated.
Gersovitz, the founder of Theme Promotions, said he doesn’t buy that.
“His company tries to win by any methods, whether they are legal or not,” he said.
--With assistance from Margaret Cronin Fisk in Southfield, Michigan. Editors: Patrick Oster, David E. Rovella
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