Demand Media Backlash Highlights the Dangers of Pre-IPO Spin

Demand Media filed for an IPO last week, which started a lot of close looks at its released financials. I've pointed out some of the questions that arise over its strategy, but other recent reports bring up additional issues that must be a concern to executives at any private company that would consider an IPO. In short, be careful about how much spin you put into your own promotion when your numbers are hidden, because it can return in the most unpleasant ways.

For example, Scott Austin at the Wall Street Journal had a great post called Where Did Demand Media's Profits Go? As he points out, Demand Media's admission of never having been profitable since its start stands in contrast to previous claims:

In an interview with VentureWire in March 2008, [CEO Richard Rosenblatt] said Demand Media was "highly profitable." The Los Angeles Times interviewed Rosenblatt in July 2008 and said the company expected a "healthy profit" and $200 million in revenue for the year, prompting a Gartner analyst in the story to say, "This is fascinating. Is this a potential out-of-nowhere media titan? This would seem to be, yeah."

When a company is private, it is difficult at best to independently verify its self-proclaimed financial status. You can get indications, like checking a credit report to see if the company is current with creditors or some analysis to see if there are any indicators that would contradict a CEO's or CFO's claims. Until the IPO filing is in, though, reality is opaque.

The veil quickly falls away after the S-1 arrives at the SEC. Demand's filing was full of non-GAAP versions of financials that argued for it having made money. The company could point to them, but that would come across as weak. When the CEO says, "We're profitable," that's not the same as saying, "We're profitable if you don't look at X, Y, and Z." It's bad for public relations and leaves potential investors, the media, and business partners thinking that you may be hiding something. That gets particularly sticky as Demand tries to attract new advertisers that can pay considerably more than the pittance individual search ads bring.

It only gets worse when other information seems to reinforce the sense of hiding. Apparently, traffic to Demand sites fell off a cliff according to Quantcast figures. The interesting thing is that Demand is apparently a Quantcast customer, which means the traffic figures are directly measured and not estimated, as a number of other services do. Demand took its figures off public display, but not before James Ledbetter at Slate got a screen shot:

Maybe there was a technical problem, or maybe Demand felt that it needed to stop making such measurement possible as it knew it would head into a pre-IPO quiet period. No matter what the reason, in the light of the apparently false previous statements about profitability and the non-GAAP twisting and turning of the filing, it comes across badly.

It's understandable that executives want to make the best case for their companies. But they must keep an eye ahead and remember that people -- and the Internet -- have long memories. What you say tomorrow will have to match yesterday's statement.

Related:

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• Demand Media IPO Filing Shines Harsh Light on Its Strategy
• Content Mill Demand Media Expands Its Reach -- To More Newspapers
• Google and Demand Media Racing to Patent Automated Content
• Yahoo Buys a Content Mill, So It Can Make Money off Google