Twitter Can’t Duck Claims It Misled Investors About Growth

SAN FRANCISCO (CN) – Twitter misled investors when it failed to inform them about falling daily active user trends and how that affected the company, a federal judge ruled Monday.

The investor class led by Doris Shenwick claims Twitter’s former CEO Richard Costolo misled them by saying on an earnings call in February 2015 that Twitter’s monthly active user trend “has already turned around,” even through user engagement was falling. The class includes shareholders who purchased Twitter stock between Feb. 6, 2015, and July 28, 2015.

According to the class, the true metric for measuring user engagement is the number of daily active users on Twitter’s site and confidential insiders agree that monthly active users indicate little about user engagement. To truly measure whether people are using an app, you have to track whether people are using it daily, they claim.

U.S. District Judge Jon Tigar said that if Twitter had disclosed that daily active user numbers were declining or remained flat, it would have alerted investors to the fact that Twitter’s monthly active users wasn’t accelerating the way Costolo claimed.

“The omission was therefore misleading,” Tigar wrote in his 42-page ruling partially denying Twitter’s motion to dismiss the case.

Tigar also found the class made a strong claim regarding positive statements Twitter made about ad engagement – whether users clicked on ads promoted by Twitter – as a measure of people’s overall Twitter use. The class claims Twitter’s statements touting ad engagement were misleading since again, daily active users and not ad clicks were Twitter’s primary user engagement metric.

“Defendants’ response boils down to the following: even if DAU [daily active users] were the key user engagement metric, ad engagements is another user engagement metric and it was not misleading to accurately report ad engagement trends,” Tigar wrote. “The court disagrees. It was misleading for defendants to rely on favorable ad engagement trends to describe or predict user engagement when DAU, Twitter‘s primary metric, was flat or declining.”

Tigar said this was particularly true since confidential witnesses testified “that ‘there is no direct correlation between advertising engagement and MAU [monthly active users] or DAU,’” and that ads could be increased to compensate for fewer monthly active users and daily active users.

“Therefore, even if ad engagements could provide some insight into user engagement, Twitter‘s reliance on that metric was misleading,” Tigar said.

But Tigar also ruled Twitter did not mislead investors by failing to disclose more detailed information about monthly active user growth, including whether those numbers grew because of “low quality users” like robot accounts.

“First, Twitter never claimed that its MAU growth was wholly or even mostly organic. On the February 5 Earnings Call, for example, Costolo attributed the Q1 2015 turnaround in MAU to – a combination of seasonality or return to organic growth and the set of product initiatives [Twitter] created to drive growth,” Tigar wrote. “The fact that Twitter did not also explain that some of its MAU growth was not organic does not make Costolo’s statement misleading. Second, defendants disclosed the existence of these ‘low-quality’ users.”

He added, “A lack of detailed information on the numbers of these types of users during the class period does not itself make defendants’ statements about MAU growth misleading.”

Tigar also agreed with shareholders that “it would be ‘absurd’” for Costolo and chief financial officer Anthony Noto not to have been aware of declining daily active user trends or not to have understood how that metric interacts with the number of monthly active users.

“Here, defendants emphasized the importance of daily use and told investors that user engagement trends were positive. Because defendants made those factual statements without disclosing adverse DAU trends, and indeed, while refusing to acknowledge the importance of DAU when asked for a measure of user engagement, ‘a strong inference arises that [they] knowingly misled the public’ what was really happening with user engagement at Twitter in 2015,” he wrote.

As such, the class plausibly alleged that Twitter executives were motivated what he called “an attempt to live up to overly optimistic promises,” a theory that supports their claim that Noto and Costolo knew that they were misleading investors, Tigar wrote.

Attorneys for Twitter and the class did not respond to emails seeking comment Monday.

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