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Report on Business Toronto venture capitalists await judge’s decision in lawsuit over Tinder stake

A woman walks past a billboard advertisement for the dating app Tinder on February 18, 2019, in Berlin, Germany. Tinder has emerged as one of the most popular dating apps.

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It’s a Bay Street court case that revolves around a single question: Did three men swipe a fortune from the partners of a Toronto venture-capital fund?

In a six-week trial that wrapped up last week with closing arguments, the former business associates behind technology fund Extreme Venture Partners lobbed allegations of deception and misconduct at each other. The central issue in the case is the sale in 2012 of Xtreme Labs Inc., a software company that held an interest in the developer of Tinder, the massively successful app that popularized online swipe-right dating culture.

Three of the original partners in the fund filed a lawsuit in 2015 against two of the others as well as a former Facebook vice-president turned Silicon Valley investor. The plaintiffs claimed more than $200-million in damages and other remedies and alleged, among other things, that their former partners misled them on the Xtreme Labs deal.

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At the time of the sale in August, 2012, Tinder was in the early stages of launching. Much of the documentation in the case and testimony at trial related to who knew about the investment in Tinder and when and, crucially, whether anyone could have anticipated the app’s eventual success. Tinder now has more than 4.3 million users and had annual revenue of US$805-million last year, according to its owner, Match Group Inc.

The plaintiffs are Extreme Venture Partners Fund and three of its founders, Ravinder (Ray) Sharma, Imran Bashir and Ken Teslia. They say that their former business partners in the fund, Amar Varma and Sundeep Madra, conspired with Chamath Palihapitiya, a high-profile Silicon Valley investor, to purchase Xtreme Labs and its interest in Tinder at a much lower price than either the company or the app were worth.

According to court documents filed by the plaintiffs, Mr. Palihapitiya’s investment fund purchased Xtreme Labs in August, 2012 for $18-million (Mr. Varma and Mr. Madra, who were co-chief executives and shareholders, contributed to the purchase price and remained with the company).

Xtreme Labs was sold just over a year later to San Francisco-based software company Pivotal Software Inc. for about $60-million. That deal carved out certain interests, including the Tinder investment, which was held through Hatch Labs, a joint venture with U.S. holding company IAC, the owners of Match Group. In 2014, the documents say, the Hatch Labs interest was sold to IAC for $30-million.

“We say there was no concealment and it’s just seller’s remorse. They [the plaintiffs] just regret the decision they made to sell early on,” Ira Nishisato, a lawyer for Mr. Varma and Mr. Madra, said in an interview last week. He said his clients did not have “prior knowledge of this Tinder app” or know that it was going to become “wildly successful.”

“No one could possibly have known that in 2012, because Tinder didn’t become commercially successful until 2014 at the earliest,” Mr. Nishisato said, adding, "I think this is a case that raises interesting commercial issues relating to the responsibilities of directors and management and also interesting issues relating to early stage tech startups and the valuation of apps like Tinder.”

The defendants argue that Tinder’s famous swipe feature − which allows users to swipe a finger across the screen on a potential match’s face to indicate a desire to connect − was not added to the app until September, 2012, after the sale of Xtreme Labs. They also say that the app’s widely publicized use by athletes at the 2014 Winter Olympic Games in Sochi, Russia, further increased Tinder’s value shortly before the sale of the Hatch Labs interest.

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During his closing arguments to the judge last week, Won Kim, a lawyer for the plaintiffs, said Mr. Varma and Mr. Madra, who were involved in Extreme Labs’s day-to-day operations, played down how well the company was doing and undervalued it during the sale process to their friend, Mr. Palihapitiya. (Xtreme Labs made mobile apps for a number of large Canadian companies, including Canadian Imperial Bank of Commerce, Cineplex Inc. and Bell Canada; it also designed an app for The Globe and Mail.)

“Tough business, we understand. My clients are the winners of Bay Street. They play this game, but they play it with honour, they play it with respect. And that is the essence of our grievance,” Mr. Kim said, suggesting the defendants played by the rules of Silicon Valley, which “must be a mean place.”

Justice Barbara Conway of the Ontario Superior Court asked him if he was arguing that the defendants deliberately misled the plaintiffs, who were on the board of directors of Xtreme Labs, by telling them in late 2011 that the company’s growth was dramatically slowing and that it faced tough new competition and a war for talent.

“Yes. How [else] do you get your partners to sell a business that’s been growing at over 100 per cent a year?” Mr. Kim replied.

The plaintiffs say the relationship with Mr. Varma and Mr. Madra "was tainted from the very beginning” because of a dispute as they formed the original Extreme Venture Partners fund in 2007. E-mails quoted in court filings reveal disputes over fair compensation and angry complaints from both sides about being treated unfairly.

The plaintiffs also say the defendants did not reveal the true nature of the interest Xtreme Labs had in Hatch Labs. Mr. Sharma testified that he did not know that in the spring of 2012, Mr. Varma attended a Hatch Labs board meeting that included the prominent U.S. businessman Barry Diller, who was then the CEO of IAC, the dominant player in the online dating industry. Mr. Sharma said this would have been a key piece of information.

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In a written copy of closing arguments, the defendants’ lawyers argue that the plaintiffs were "sophisticated business people who knew what information was important and where to get it.

"The plaintiffs’ attempt to characterize themselves as unwitting dupes in the Xtreme Labs transaction is disingenuous.”

Separately, lawyers for Mr. Palihapitiya wrote that the plaintiffs failed to prove a conspiracy and also that they failed to establish they suffered any damages. “Palihapitiya has now patiently withstood the plaintiffs’ public − and merit-less − challenge to his personal and professional integrity for over five years.”

The plaintiffs also claim that the defendants Mr. Varma and Mr. Madra improperly set up a competing investment fund called the Annex Fund. The defendants deny those allegations.

Mr. Nishisato said it will likely take several months for the judge to deliver her ruling, noting that the trial involved large affidavits and testimony from all parties as well as thousands of documents.

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