Reddit's Legal Battle: Navigating the Storm for Contrarian Investors

The recent securities fraud lawsuit filed against Reddit, Inc. (NYSE: RDDT) has thrust the company into the spotlight, raising critical questions about its future valuation, legal risks, and potential opportunities for investors. With stock prices plummeting on revelations of Google's AI-driven traffic declines, the case underscores both the fragility of Reddit's growth narrative and the broader challenges facing digital platforms in an era of algorithmic disruption. Below, we dissect the implications for investors, weighing legal risks against potential undervalued opportunities.

Legal Risks: The Heart of the Case

The lawsuit, Tamraz, Jr. v. Reddit, Inc., alleges that Reddit misled investors about the impact of Google's AI-driven search features on user growth. Key points include:- False Optimism: Reddit executives downplayed concerns about Google's “zero-click searches,” which reduce traffic to external sites like Reddit, during earnings calls in late 2024 and early 2025. For instance, on an October 2024 call, CEO Steven Huffman called the company's relationship with Google “symbiotic,” despite internal data showing declining U.S. traffic.- Structural Decline: Analysts later revealed that Google's AI had caused a permanent reduction in Reddit's traffic, not a temporary blip. This led to three consecutive quarters of slowing user growth, culminating in a 9.3% stock drop on May 21, 2025, after analysts cited “ongoing U.S. user growth headwinds.”- Legal Violations: The complaint cites Sections 10(b) and 20(a) of the Securities Exchange Act, alleging material misstatements and omissions. If proven, Reddit could face shareholder lawsuits, fines, or governance changes.

The case is being handled by law firms with a track record of securing multimillion-dollar settlements (e.g., $900M from Tesla). Investors holding RDDT shares between October 29, 2024, and May 20, 2025, have until August 18, 2025, to join as lead plaintiff, signaling the case's potential scale.

The chart would show RDDT's peak in late 2024, followed by a steady decline post-January 2025, with sharp drops on earnings days and analyst downgrades.

Stock Valuation: Discounted for Disruption?

Reddit's valuation has been pummeled by the lawsuit and Google's AI threats. Key metrics to consider:- Revenue Growth: The company reported 68% revenue growth in late 2024, but this slowed to 31% by May 2025. Analysts now question whether user growth can recover.- Competitive Landscape: Google's AI is a structural threat, not a temporary setback. While Reddit has experimented with AI tools like “Ask Me Anything” chatbots, its core ad revenue model remains tied to traffic volume.- Discount to Peers: As of July 2025, Reddit's forward P/S ratio of 3.2x is below Meta's 4.5x and Snap's 5.1x, suggesting the market has already priced in significant risk.

Contrarian Investing: Is This a Buy Signal?

For contrarian investors, the lawsuit and stock selloff present a dilemma:
Risk Factors:
1. Legal Liability: A ruling against Reddit could force restatements, fines, or settlements.
2. Google's Dominance: Unless Reddit pivots to a non-traffic-dependent revenue model (e.g., premium subscriptions), its growth could remain capped.

Bull Case:
1. Undervalued Assets: Reddit's 100M+ DAUs and strong community engagement remain valuable. A strategic pivot—such as monetizing niche subreddits or launching AI-driven tools—could revive growth.
2. Settlement Discount: If the lawsuit settles for, say, 10% of market cap, the stock might rebound once uncertainty lifts.
3. Sector Rotation: If broader tech stocks rebound, Reddit's low P/S ratio could attract buyers.

Investment Thesis:
- Hold for Long-Term Investors: If you believe Reddit can adapt to Google's AI threat (e.g., through new revenue streams), buying at $95-$100 (July 2025 levels) could yield returns if the stock recovers to $130-$150.
- Avoid Near-Term Volatility: Short-term traders should wait until the lawsuit's outcome becomes clearer, given the August lead plaintiff deadline and potential settlements.

Final Considerations

Reddit's lawsuit is a microcosm of the challenges tech companies face in an AI-dominated world: legacy business models are vulnerable to algorithmic shifts. While the legal risks are real, the stock's decline has created a valuation floor. Investors must weigh whether Reddit's management can pivot strategically—or if the company is a “value trap” in a fading growth story. For contrarians, this is a high-risk, high-reward bet; proceed with caution and a long-term horizon.

Disclaimer: This analysis is for informational purposes only. Consult a financial advisor before making investment decisions.