The suit, which is seeking class-action status, charges LookSmart with a breach of contract and violations of California business codes for changing its fee structure for roughly 90,000 small-business customers.
The suit was filed last month in San Francisco Superior Court on behalf of a single plaintiff, Legal Staffing Partners, a North Carolina-based company.
The dispute centers on a fundamental shift in LookSmart's business strategy toward paid listings. For publicly traded LookSmart, which depends on advertising and license fees for its search results, raking in additional revenue from listings is key to its survival in a tough ad climate.
The move earmarks a broader trend in the search industry toward commercialization. Search darling Google, for example,new tools this year for marketers to bid for placement in its advertising search results. Pay-for-performance search company Overture Services has grown exponentially in recent years, major contracts with the likes of Yahoo.
But in early April, LookSmart ruffled some feathers in the small-business community when it abruptly changed from operating as a Web directory, much like Yahoo, to more of a pay-for-performance service like Overture. Like Yahoo, the company had charged marketers a one-time fee to be considered for a directory listing in search results. Now it requires marketers to pay 15 cents every time a Web surfer clicks on their listing in search results. The company licenses its search results to portals including Microsoft's MSN and AOL Time Warner's Netscape.
"The biggest complaint was that LookSmart did this without any warning," said Chris Sherman, associate editor of industry newsletter SearchEngineWatch.com. "The perception in the Webmaster community is that LookSmart didn't handle it very well, and the class-action lawsuit reflects that."
Jeffrey Fazio, the plaintiff's attorney, said his firm Hancock Rothert & Bunshoft served LookSmart with the suit a week and a half ago. The essence of the suit, he said, is based on LookSmart customers not getting what they bargained for.
"This action arises out of the defendant's dissemination of false and misleading statements about the cost of its services," according to the suit, which affects directory listing customers dating back to May 13, 1998.
For these customers, LookSmart "represented that a 'one-time payment' would satisfy all costs associated with its services," according to the suit. "LookSmart breached that agreement when in 2002 it required additional payments for their services in the form of a new 'pay-per-click' program."
The suit seeks an injunction and damages for the amount LookSmart has collected as a result of changes.
LookSmart would not comment for the story. But according to a press release a month after its policy change, the company signed on about 8,000 businesses for its new small-business listings. This is less than 10 percent of its former small-business customers, according to a recent Securities and Exchange Commission filing.
The service is LookSmart's "first performance-based, search inclusion product for small businesses," according to the May press release.
Though the suit represents only one plaintiff, Fazio said he is getting flooded with requests from interested parties.
Noel Hendrickson, president of San Diego-based Advanced Promotion, said he is considering joining the suit because, after three years as a LookSmart customer, he feels cheated. His company represents several small-business customers for whom he secures directory listings in the LookSmart database.
Before April, he and his clients paid a one-time annual fee of $299 for a listing in the directory, which he considers powerful and necessary in Net marketing because it feeds MSN search results. After April, however, those listings are invalid, he said, save for $300 in "free clicks" that LookSmart offered existing customers. Once those clicks run out, a marketer must pay into its account to receive additional clicks.
"You disappear unless you pony up for the 15 cents per click," Hendrickson said. "The problem is if you previously got 100 clicks per month from LookSmart and MSN, now they're telling you (that you) got that traffic in a matter of days. It may be true; I don't know. There's no way to check."
Similar sentiment has been circulating in the Webmaster circles, but whether it will harm LookSmart's business is unclear, industry watchers say.
"To their credit, it is showing signs that they are trying to be more responsive to the concerns of Webmasters," SearchEngineWatch's Sherman said. "It could be too little, too late. On the other hand, this could be a hiccup in the transition to a new model."