December 28, 2012
Sale of "Damn You Auto Correct!" Website Leads to Fights Over Its Google Analytics Numbers -- Studio 159 v. PopHang, LLC, et al.
[Post by Venkat Balasubramani with comments by Eric]
Studio 159 sold to PopHang and Nextpoint (Break Media) 22 websites, including the popular “Damn You Autocorrect" (DYAC) Website for $2.5 million. $1.5 million was to be paid up front and the remaining $1 million was deferred, payable in six monthly payments after the closing date. Defendants could set off, against the deferred payments, any amounts Plaintiff owed Defendants under the indemnity clause.
Following the sale, traffic predictably declined, and Defendants withheld the $1 million deferred payment. Defendants initially said that Plaintiff breached its representations regarding paid traffic purchase agreements and the state of the traffic to DYAC. Plaintiff sued for breach of contract and asserted that Defendants’ offset was improper (an improper offset allowed Plaintiff to tack on 10% of any improperly withheld amount along with fees and costs – in total, Plaintiff sought $1,070,170.23). In resolving Plaintiff’s motion for a writ of attachment, the court largely expresses skepticism over Defendants’ arguments.
Claim Of Traffic Manipulation: Plaintiff represented in the Agreement that it accurately disclosed the number of page views for the preceding 6 months (as reported by Google Analytics). Plaintiff further represented that:
[it] properly installed [Google Analytics] on the Sites in accordance with industry standard installation instructions and . . . properly maintained the installation of [Google Analytics] on the Sites. Seller is not aware that [Google Analytics] materially overstates the traffic for the Sites for such 6-month period.
Defendants conceded that the Google Analytics numbers were as represented, but contended that Plaintiff artificially boosted the site traffic.
There were two problems with Defendants’ argument. First, the agreement listed all of the “traffic agreements,” and there were no agreements or arrangements that were not listed. Second, Plaintiffs offered a perfectly reasonable explanation for the decline in traffic—a change in management! Finally, there were changes in the site layout following the close. Plaintiff raised the issue in emails with Defendants and “offered to help,” but the offer was not accepted. Defendants also acknowledged in response to the emails that "it did take [them] a while to find what resonated with [them] and the audience for DYAC" and that "the editor [they] put in charge of most of the tumblrs had gone far off the rails, posting images that were neither fun nor funny." [emphasis added]
Issues Relating to Google Accounts: Defendants also raised issues relating to certain Google accounts, including the Google Analytics account and the webmaster tools account. With respect to the Google Analytics account, Plaintiff’s representative stated under oath that she provided Defendants’ representatives access to the account and this access allowed Defendants to download historical data. The court says that Plaintiff’s “alleged refusal to provide access to her [Google Analytics] account is a red herring that goes nowhere and proves nothing.” Defendants also alleged they requested server log data and were told that the logs were allegedly deleted. This claim similarly gets no traction. The court says that the Agreement is silent on server logs, so Plaintiff didn't owe them to Defendants. Additionally, the former CEO of DYAC says that the server logs were overwritten as part of an ordinary business process after the closing. The court also makes the same observation regarding the Google Webmaster account, which was deleted post-closing.
Overstatement of Submissions: Defendants also alleged that Plaintiff misrepresented the number of weekly user submissions. This argument also gets no traction. Interestingly, the Agreement contained a representation that the DYAC site received an average of 150 submissions per day (following closing, this declined to 100 per day). Plaintiff submitted to Defendants before the Closing Date the exact submissions as sent in by readers (including all headers and personally identifiable information) to allow Defendants to verify their authenticity. This effectively rebutted Defendants' claim that there were some improprieties regarding the number of average submissions.
Breach of Obligation to Cooperate: The Agreement contained a provision saying that Plaintiff would “reasonably cooperate” in maintaining the site. She did everything she was asked. She also provided unsolicited advice.
Most likely Break Media is now second guessing its business decision to purchase the site(s) at the price it paid, or is unhappy with its failure to achieve editorial/audience traction as quickly as it thought it would.
Lessons abound in this dispute. For starters, the purchase and sale agreement is worth taking a look at: Purchase and Sale Agreement re DYAC Website (see p. 36 of the .pdf for a breakdown of the traffic figures).
It's not unique to this dispute, but after management changes, revenues (or traffic) often decline. When this happens, any withheld amount is sure to be subject to a claimed offset and become the subject of a dispute. Earnouts based on revenues are a guaranteed recipe for litigation, but withheld payments are equally so. Seller allowed amounts to be withheld but smartly included additional payments based on any amounts that were wrongfully withheld (interest and, more importantly, fees). Also, it was interesting that the agreement permitted buyers to withhold amounts based on a breach of representations, and not just based on indemnification that was triggered by third party claims.
Third party metrics are contractually convenient for a seller. Saying that you've installed Google Analytics and "as far as you know," there are no inaccuracies with the Google Analytics reports (and providing access to the account to the seller prior to the sale) is a great way to insulate yourself against claims of traffic inflation. On the buyer's side, if the traffic does not turn out as planned and you've been disclosed the metrics as part of the sale, you are likely to be out of luck. One option may be to adjust the withheld amount to account for any precipitous decline in traffic.
The seller is always interested in keeping the post-closing obligations soft. The language here worked well for this purpose. On the buyer's side, if you're interested in help from the seller, you should make your expectations clear in the agreement. A vague obligation that seller will cooperate is unlikely to hold up in court, particularly where the seller comes across as reasonable (as it did in this case).
Finally, any peripheral accounts should be dealt with clearly. This includes things like social media (Facebook/Twitter) accounts and accounts dealing with metrics (Google Analytics).
A total guesstimate, but I'm guessing Defendants have expended in the neighborhood of $50K in attorney's fees. A few more (likely necessary) rounds of motion practice and Defendants will have expended an amount equal to a reduction in a purchase price that they would legitimately be entitled to, assuming any misrepresentations are true. When you add to this the fact that someone may be on the hook for the other side's attorneys' fees, this dispute is a great candidate for settlement.
So much to learn from this case!
1) As Venkat mentions, earnouts are a prime source of post-transaction disputes. If the earnout money doesn't leave the buyer's bank account at the time of closing, it's not coming out without a court battle. It would have been much better for the seller to use a third party escrow service who took possession of the $1M on day 1. Even though the escrow service would have held onto the money when the buyer squawked about the traffic, the buyer would have had to make the affirmative representations about seller malfeasance to the escrow company rather than just not paying. By leaving the money in the buyer's account, it was too easy for the buyer to just not pay.
2) I wonder exactly what the buyer thought it was buying. The asset purchase agreement spells out a list of assets, but those are largely worthless except as pure legacy traffic plays (i.e., they will keep getting some traffic from existing links and search engine indexing). Otherwise, humor-style sites have finicky traffic that depends on a particular editor's voice and constant feeding-the-beast. As a result, this is not a situation where you can just plug-and-play a new editor and expect the same results.
3) It's smart to contractually specify a third party traffic measurement service like Google Analytics rather than debate whose numbers should count. Even if the Google Analytics count is wrong (and that assumes there is a platonic "correct" count), it should be predictably wrong.
4) The buyer seems to insinuate that the sellers were goosing the traffic, either by creating fake impressions or buying undisclosed paid traffic. Those are good concerns for a buyer to investigate, and it makes sense to address those issues in the purchase contract. But there's no substitute for really diligencing the traffic sources before acquisition. So where the buyer complains that the server logs are gone, the buyer maybe wanted to get possession of those and review them before closing.
5) I must confess that the $2.5M purchase price for DYAC seemed a little low. There aren't many properties that had its visibility and market awareness. I hadn't previously known it had sold, though, but now I understand why my wife doesn't send me DYAC posts as often. That, and as the seller hints at in explaining the traffic drop, maybe people are getting to be better typists, or Apple is fixing its bizarre word substitution algorithms? One thing I didn't see in the opinion was any reference to the frequent rumors that some of the DYAC submissions are fake.
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