...well, kind of. What you don't mention is that it was thought to be ugly and rejected solely on the aesthetic grounds. Which is somewhat different from being rejected because it cannot work.
Now, I'd be first to admit that using LSRR as a substitute for straightforward address extension is ugly. But so is iBGP, CIDR/route aggregation, running interior routing over CLNS, and (God forbid, for it is ugly as hell) NAT.
No. It was rejected because routers tended to melt down into quivering puddles of silicon from seeing many packets with IP options set -- a fast trip to the slow path. It also requires just as many changes to applications and DNS content, and about as large an addressing plan change as v6. There were more reasons, but they escape me at the moment. --Steve Bellovin, http://www.cs.columbia.edu/~smb