Investors Sue Ad Startup Outcome Health for Alleged Fraud

By Rolfe Winkler Features Dow Jones Newswires

Investors in Outcome Health on Tuesday sued the prominent Chicago advertising startup and its two founders, claiming fraud and breach of contract some eight months after investing nearly $500 million in the company.

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Funds managed by an investment unit of Goldman Sachs Group Inc., Google parent Alphabet Inc., and other firms alleged the company and its founders, Rishi Shah and Shradha Agarwal, misled them by knowingly providing false data and financial reports before the firms invested $487.5 million beginning in March.

The investors say they are entitled to get their money back and sought to freeze $225 million of the total that had been placed in a separate account to pay the founders a dividend. "Plaintiffs now hold securities that may be worthless," the complaint states.

The suit, filed in New York State Supreme Court in New York County, cites a Wall Street Journal article from last month that reported how some Outcome employees had misled pharmaceutical customers about its advertising services. Outcome, which streams advertising to video screens it places in doctors' offices, said the funding round valued the company at $5.5 billion, making it one of the most valuable U.S. startups.

"This is the latest negotiating ploy misusing the courts in the interest of enriching Goldman Sachs at the expense of the company, its employees and its customers as there is no merit to the claims," Sanford Michelman of Michelman & Robinson, an attorney representing Outcome, said in a written statement provided by an Outcome spokesman. "These funds are earmarked for operations and repaying lenders, yet these equity investors are improperly trying to put themselves in front of the company's best interests."

The Journal article in October cited in the lawsuit reported that Outcome charged some advertisers for ad placements on more screens than the startup had installed, based on information provided by former employees and advertisers as well as internal documents and other material. Some Outcome employees also provided inflated data to measure how well ads performed, created documents that inaccurately verified that ads ran on certain doctors' screens and manipulated third-party analyses showing the effectiveness of the ads, according to some of these people and documents.

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An Outcome spokesman, Lanny Davis, told the Journal last month that Outcome had put three employees on paid leave and hired the law firm of former U.S. attorney Dan Webb "to review allegations about certain employees' conduct" that were raised internally and by the Journal. Mr. Davis said Outcome "has always upheld the highest ethical standards" and has adopted new policies to comply with customer contracts.

Following the Journal's article, the investors pressed Mr. Shah for access to company data to investigate the claims, according to the lawsuit. The investors "discovered manipulations consistent with those reported by The Wall Street Journal," the lawsuit alleges. The founders "either knew of, or recklessly disregarded" the misleading information, according to the suit.

As part of the funding round, funds run by Goldman's asset management arm invested $100 million in client capital in Outcome. Alphabet's CapitalG unit, Norwest Venture Partners and Emerson Collective Investments, the investment arm of Laurene Powell Jobs, each invested $50 million, according to the lawsuit.

Representatives for Goldman Sachs and Emerson declined to comment. A representative for Google didn't immediately respond to a request for comment.

Investors claim they have been unable to verify that the $225 million set aside for the founders remains in the subsidiary where it was allocated. The lawsuit alleges that shortly after the Journal's story, Mr. Shah, the CEO, took steps to move funds out of the subsidiary. The investors want the funds frozen so they can be used to pay any future judgments.

The $225 million pool of capital is an unusually large amount for startup founders to take out of their company. Most founders don't cash out such large amounts until they sell their companies or stage an initial public offering.

In a joint statement last night, Mr. Shah and Mr. Agarwal said: "We had the right to take out this money, and we did not. Instead, we decided to make the funds available for the company's continued growth towards its mission."

Any efforts by equity investors to recoup the money they put into the company could be impeded by Outcome Health's creditors who have lent the company around $300 million and are owed back their money first.

Write to Rolfe Winkler at rolfe.winkler@wsj.com

(END) Dow Jones Newswires

November 07, 2017 23:47 ET (04:47 GMT)