The Chatbot That Talked Itself Into Bankruptcy

Welcome to Memorandum Deep Dives. In this series, we go beyond the headlines to examine the decisions shaping our digital future. 🗞️

This week, Character.AI is working through Chapter 11 bankruptcy in Delaware, more than three years after investors valued the chatbot company at $1B. Disney has offered $20M for a license to some of its technology, and the company has warned that the app could shut down if nobody buys it.

On paper, Character.AI had what most consumer apps chase. About 12M people use it each month, and the average user spends roughly two hours a day talking to its characters. Few apps hold attention like that, yet the company still could not keep itself afloat.

Its collapse runs through a 2024 deal with Google, lawsuits from families of teenage users, and Disney’s hiring of its chief executive and most of its staff. The clearest explanation, though, comes from a movie-ticket startup that went bust in 2019, and its lesson reaches well beyond one chatbot.

Character.AI hit the same wall as MoviePass

In August 2017, a small company called MoviePass began selling a subscription that let Americans see one movie a day for $9.95 a month in theaters. Mitch Lowe, the company’s chief executive, later told NPR that MoviePass grew from about 20k subscribers in 2016 to nearly 3M by the summer of 2018. Each of those subscribers cost the company money, because MoviePass paid theaters the full ticket price every time a member watched a film. The cinema chain AMC said each ticket cost MoviePass around $12 apiece, and that the average member watched about three films a month. A typical member therefore cost MoviePass roughly $36 a month and paid it only $9.95, so the most loyal customers were also the most expensive ones.

The losses grew as more people joined, and in June 2018 the owner of MoviePass told U.S. securities regulators that it had a cash shortfall of about $40M in May. The owner, Helios and Matheson Analytics, said the shortfall grew because more people signed up than it expected. MoviePass then tried to cut its costs by blocking its heaviest users, according to the Federal Trade Commission (FTC), which is the U.S. agency that polices deceptive business practices. The FTC said MoviePass grouped together members who usually watched more than three films a month, and stopped each group from using the service once its combined cost to the company passed a set amount. The cost cutting did not save the business, and MoviePass shut down in September 2019 after it failed to raise new money. MoviePass failed because every extra film its members watched added to its costs, while each member still paid the same monthly fee.

Character.AI is an app where people hold long conversations with characters powered by AI, and it ran into the same problem as MoviePass. Every reply a character writes costs the company money, so the bill grows with every hour people spend talking. The people who love the app most also talk the longest, which makes them the most expensive users to serve. Character Technologies, the company that runs the app, filed for Chapter 11 bankruptcy in Delaware on October 12, and Disney has offered $20M to license some technology from it. Character.AI’s collapse shows that a chatbot can grow more popular and lose more money at the same time, because every conversation adds to its bill.

That cost problem existed from the start, and a company that loses money every month can only survive while investors keep covering the losses or a buyer takes the business over. Three events made both of those harder for Character.AI, starting with a 2024 deal with Google that took away the people who built the app. Lawsuits over harm to teenagers then made the company riskier to own, and in September Disney hired most of the staff who were left.

Every conversation on Character.AI came with a running bill

Noam Shazeer and Daniel De Freitas were researchers at Google before they founded Character.AI in 2021. Investors led by the venture firm Andreessen Horowitz put $150M in at a $1B valuation in March 2023, when the company was reportedly earning no revenue at all. Users spent long stretches on the app, which went on to rank among the top apps for time spent.

Every reply on Character.AI comes from a large language model, which is software trained on huge amounts of text to predict and write the next words in a conversation. Producing each reply is called ‘inference’, and it runs on computer chips that the company has to rent or own. A user who chats for two hours therefore costs far more to serve than a user who chats for five minutes.

Colin Adams, who now runs Character.AI, described the size of that bill in a sworn statement to the bankruptcy court. The technology news site 404 Media reviewed the statement and reported that computing cost $13.8M a month in 2024 and $10M a month in 2025. The company’s revenue from every source peaked at $5.3M a month, so even its best month covered only part of a month’s computing bill.

The Google deal paid the founders and left Character.AI with the costs

The first of the three events came in August 2024, when Shazeer and De Freitas went back to work at Google. Google hired the two founders and paid to use Character.AI’s technology, but it did not buy the company itself. TechCrunch values Google’s licensing deal at $2.7B, a figure Google has not confirmed. The founders went back to Google with large payouts, and investors reportedly cashed out as part of the deal, according to reporting summarized by Fortune and TechCrunch.

The company that stayed behind kept everything that cost money, because it still ran the app for 20M monthly users in October 2024 and still paid the computing bill for their conversations. It also kept the legal risks that came with the app, and two months later a mother sued it over her son’s death.

Lawsuits made a money-losing company harder to save

The mother was Megan Garcia, whose 14-year-old son died by suicide, and in October 2024 she sued Character.AI and named Google too. Other families later brought similar claims of their own against the company and Google.

The lawsuits made Character.AI’s money problem worse because they added costs and made the company riskier to own. One cost came from a safety change in October 2025, when the company said it would end open-ended chat for under-18 users and lost part of its audience. The risk was that anyone who invested would now back a company facing lawsuits on top of a computing bill it could not cover.

In January 2026, Character.AI and Google agreed to settle family lawsuits in Florida, Colorado, New York, and Texas. The terms were kept private, and the agreements still require court approval. Google signed the settlements together with Character.AI and its two founders, all of whom had been named in the same cases. Reuters calls them preliminary settlements with five families, and Bloomberg Law reports that the company settled its pending injury lawsuits. Neither outlet says whether any money from the settlements has reached the families yet.

Disney is buying a license to the technology and not the app

The last of the three events came in September, when Disney hired Karandeep Anand, who was then Character.AI’s chief executive, as its first chief technology officer. Reuters reported that Character.AI’s managers feared the company could not survive losing its engineers, and that Disney went on to hire most of its employees. By the time Character.AI filed for bankruptcy, it had lost its founders to Google and most of its staff to Disney, and its computing bill was still bigger than its revenue.

Chapter 11 is the part of U.S. bankruptcy law that lets a struggling company keep running while it reorganizes or, as here, sells what it owns under court supervision through an auction. Disney made the first offer that Character.AI accepted, at $20M, and that price is now the lowest bid any rival has to beat.

Disney’s $20M would buy a non-exclusive, perpetual license to certain intellectual property and some of Character.AI’s legal claims. The license lets Disney use some of the company’s technology and ideas forever, and because it is non-exclusive, Character.AI can still sell the same permission to others.

The app itself is not part of Disney’s offer, and Adams told TechCrunch that the platform will be wound down if nobody buys it. Character.AI’s lawyer has also said that nobody has yet offered to buy the app and its user data, according to Reuters. On October 14, 40 state attorneys general asked the judge to protect children’s chat data in any sale that follows.

The families who sued Character.AI now face a long wait, because a Chapter 11 filing pauses most lawsuits against the company. The people the company owes are paid from its estate, which is the pool of everything the company owns. The bankruptcy petition estimates that the company holds assets of $50M to $100M, and that it owes debts in the same range. If the families’ settlements are paid from that pool, the families will wait in line with everyone else the company owes. Google’s signature on the settlements could give them a second source of payment, but no public report says whether Google has paid or promised to pay.

The investors may have done well even though the company failed

The strongest objection to calling Character.AI a failure comes from the Google deal. If investors cashed out in 2024 and the founders left with large payouts, as Fortune and TechCrunch have reported, then the people who backed the $1B valuation already got their money. On that view, the bankruptcy sells off what remains of a company whose backers were paid two years earlier.

The objection is right about the investors, because the reported payouts mean the $1B valuation was not simply lost. It does not change the business problem, because Adams’s own numbers show that computing cost more than the company earned, whoever had been paid.

The MoviePass story ended in June 2021, when the FTC settled its case against the company’s operators. The settlement included no money for MoviePass subscribers, and the FTC noted that MoviePass and its owner had both already filed for bankruptcy. The families who sued Character.AI could end up in the same position if their settlements are paid only from the bankrupt company’s estate, and they would be better off if Google pays them. Character.AI expects the sale to close in late November or early December. When it does, will the families be paid by Google, or will they end up like MoviePass’s subscribers, holding a promise from a company that no longer has the money to keep it?