Stock Touting Behind Motley Fool's Dismissal of Volunteers

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By Dave Kansas
Staff Reporter

The

Motley Fool

has a festering skeleton in its closet.

In March, the Fool discovered that one of its volunteers, working with a stockbroker, was touting

Medaphis

(MEDA)

to Fool readers in potential violation of

Securities and Exchange Commission

rules. But after uncovering the activity through an internal inquiry, the Motley Fool did not disclose the information to the public or the SEC, according to those familiar with the situation. Instead, top executives fired its army of volunteers, reorganized oversight of its stock bulletin boards and chalked the whole thing up to evolutionary change.

The events have left many former Motley Fool volunteers sharply disillusioned. The roughly 150 Motley Fool volunteers helped moderate chat sessions and board postings for the online financial advisory service. Some also contributed market commentaries. To them, the fact that unsavory activity surfaced among the tens of thousands of postings on the Motley Fool is no surprise. But the Fool's decision not to disclose it has riled the volunteers.

Several of these volunteers had pushed for broader disclosure of the potential improprieties, saying such candor was the hallmark of the Motley Fool. But according to those familiar with the late-March discussions about what to do with the results of the internal inquiry, Fool founders Tom and David Gardner, along with Fool CEO Erik Rydholm, declined to divulge the dirty laundry. The reason: fear of SEC scrutiny, according to a person familiar with the thinking at the Fool headquarters.

The Street

made several calls to Rydholm seeking comment for this story. He returned two calls Tuesday afternoon. In one he indicated that he believed the Fool's transition to paid staff "had already been covered" in major newspapers. He requested that

The Street

email him any additional questions. An email was sent Tuesday afternoon, indicating the substance of this story. Calls were placed Tuesday evening and throughout Wednesday. Rydholm did not return those calls, nor did he respond to the email he requested.

The SEC, which generally does not discuss particular cases, declined to comment on any specific issues regarding Medaphis and the Motley Fool.

As the Motley Fool has grown over the past several years, the Gardners have mocked Wall Street for its hidden conflicts of interest. In their best-selling book,

The Motley Fool Investment Guide

, the Gardners wrote about the problems with full-service brokers, saying their "incentives are tied only to a broker's deftness in getting you to buy and sell stock¿the system protects the countless many who neither outperform the market nor have a vested interest in doing so." What these brokers lacked was "accountability."

So where and when was the accountability lost at the Fool?

It began in January, when grumbling started to emanate from one of the dozens of Motley Fool stock boards. These lively communities, stuffed with jocular chatter, have become the hallmark of Fool investing. Individuals, crammed together, post all kinds of information on the boards. Oft-times the postings offer nothing but encouraging phrases like "hang in there" or "we're heading higher."

By mid-January, conversations on the Medaphis boards were becoming tense. The health-care information concern was well off its highs of midsummer 1996, and the investors pleaded for information. The biggest hope: a potential takeover. And feeding that hope was one of the Fool's own people. Throughout January and February and deep into March, a certain official Fool volunteer, Keith Berman, operating under the sign-on name MFMedTec, urged posters to hang tough. An acquisition was coming soon. The chatter became so intense that on Jan. 23 more than 10 million shares traded hands and the

Dow Jones News Service

cited takeover rumors. On Jan. 22 and 23 the stock rose 1 1/2 to 14 3/4.

But the days rolled by, and no acquisition came. The Fool has long held that these bulletin boards are akin to a bar. Folks belly up, have a chit-chat, and caveat emptor. But some posters, irked by the strong-willed mood of MFMedTec, have since likened the host to a bartender -- giving the analogy a dram-shop flavor.

On Feb. 3, MFMedTec wrote a five-paragraph, three sub-section posting, defending the acquisition possibilities for Medaphis. He likened himself to Columbo, saying investors needed to spot "motive, opportunity and intent" in order to find the likely buyer of Medaphis. He went on to write winningly about "Good Ole Ross Perot" and the possibilities that

EDS

(EDS)

could be the buyer. After running down a list of reasons, MFMedTec wrote: "Motive confirmed. You don't have to be Columbo to see this one."

More importantly, those familiar with the Fool's internal inquiry, conducted by the Washington, D.C., law firm

Steptoe & Johnson

, say that IM messages -- messages between AOL users -- between MFMedTec and individual posters went farther than the postings and may have been in violation of SEC rules about stock manipulation. The SEC's rule 10(b)-5 forbids dissemination of false information aimed at moving stocks.

According to two people familiar with the situation, the Fool's probe revealed that MFMedTec had been touting the phantom Medaphis acquisition idea as part of a relationship he had developed with a stockbroker who had an interest in Medaphis.

Fool insiders say that executives decided they had no obligation to disclose potential violations involving IM messages.

Berman could not be reached for comment. Steptoe & Johnson did not return calls for comment.

Upon learning about the problems with Medaphis, the Fool sent out a memo on Sunday, March 23, firing most of the roughly 150 volunteers as part of a "reorganization." The so-called Sunday Night Massacre ejected a crew of dedicated volunteers, some of whom felt that the Gardner Brothers had lost sight of their oft-stated populist mission to arm individual investors.

Meanwhile, the volunteers were in a rage. Word of the internal investigation began to leak into the community of dismissed volunteers. In a seething private chat session on Tuesday, March 25, attended by the Gardners, Rydholm and volunteers, several people urged the Fool to take the potentially damaging information public.

On Wedneday a posting went up on the home page about the staffing change. A person in

The Wall Street Journal

statistics department happened to see the posting. The

Journal

subsequently covered the Fool's move to professionalism, chalking it up as merely an evolutionary step for the growing investment site. Rydholm told the

Journal

that the Fool had encountered no problems with volunteers.

A subsequent private chat on Thursday, March 27, covered much of the same ground from Tuesday, though Tom Gardner did not participate in that chat. The Fools declined to disclose any of the internal findings.

"Many of us felt that the Gardners weren't being accountable," says one person who was on the conference call. "They had talked so much about being open and accountable, and now they were acting just like Wall Street."

In the weeks since the Sunday Night Massacre and the subsequent round of contentious conversations, some participants on the Medaphis boards have gathered evidence against MFMedTec and the Fool. One poster, Eric Carroll, said the Fools were playing "a nasty game" and referred queries to his attorney, John T. Heflin III of the Memphis, Tenn., law firm

Bourland, Heflin, Alvarez, Holley & Minor

. Heflin said he was preparing materials for possible civil litigation against the Motley Fool in connection with the MFMedTec situation.

Today, five months after the first whispers of a Medaphis takeover hit the Fool boards, the company remains independent. Its shares trade at about 6 3/4, down 57% since the January takeover chatter boosted the stock. The boards, once stuffed with furious bickering, now receive only intermittent attention.