This isn't a failure story of KM as such, it's more about the failure of one tool, which was applied inappropriately (rather like in this story)
It comes from here, and it's about the introduction of Yammer at the Local Government Association (LGA) of South Australia.
Yammer was being touted by Deloittes as a productivity tool, but it didn't take off at the LGA.
According to the story
“(Yammer) just wasn’t taken up or appreciated, and users feedback suggest it was yet another place they need to check and keep up to date.” The tool therefore fell by the wayside and Callbutt feels it may not be suited to a single office setting in which everyone knows all their colleagues and can interact with them without a computer or smartphone by simply walking over to their desk to strike up a conversation.
"We could see each other in the tea room," Callbutt said".
Deloiites, of course, is a global company and don't have a single tea-room. They need Yammer. LGA didn't.
The message, as always, is to choose the tools that match the needs. Lead with the need, don't lead with the tool.