Upgrading Skype and Silver Lake to Evil

By Felix Salmon
June 24, 2011
Joseph Galante published a story claiming that Skype investors in general, and Silver Lake in particular, were firing senior executives just before the company is sold to Microsoft, so that they don't get their full share of the proceeds from the sale.

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Last week, Bloomberg’s Joseph Galante published a story claiming that Skype investors in general, and Silver Lake in particular, were firing senior executives just before the company is sold to Microsoft, so that they don’t get their full share of the proceeds from the sale. This seemed pretty evil to me, but it wasn’t long before anonymous Skype investors started showing up on various blogs (SAI, TechCrunch, GigaOm) pouring cold water on the allegations, saying that the firings were all the doing of Skype’s CEO, Tony Bates, and had nothing to do with Silver Lake at all.

The stories were very consistent with each other, and all of them seemed to be based on anonymous sources (except for GigaOm’s, which was based on the word of an unnamed “company spokesman”). Because of this, it’s impossible to tell whether there are multiple investors all credibly saying the same thing, or just one investor doing the rounds of the blogs and trying to push back against Galante’s story.

But now Galante is back, with the story of Yee Lee, who left Skype after a significant chunk of his options had already vested — and still didn’t get any money from them.

After a month of back-and-forth with Skype’s human resources department, Lee learned that even his “vested” options were worthless. It turns out the investor group, led by private equity firm Silver Lake Partners that bought Skype from EBay (EBAY) in 2009, had secured a so-called repurchase right that gave them authority to buy back the shares at the grant price. “I’ve never heard of a company taking away vested options,” says compensation expert and Bloomberg News consultant Graef Crystal. “It invalidates the meaning of the word ‘vested.’ “

There are many more details in this blog post from Lee, which includes the letter he was sent by Ricardo Velez, Skype’s associate general counsel. I’m reasonably good at hacking my way through legalese, but this is downright incomprehensible — and clearly designed to be so.

bollocks.tiff

Lee provides a copy of his 11-page stock option grant agreement, which is equally opaque. Here’s the relevant bit, buried halfway down page 3, at the end of a long clause which seems mainly interested in what happens when there’s an IPO.

If, in connection with the termination of a Participant’s Employment, the Ordinary Shares issued to such Participant pursuant to the exercise of the Option or issuable to such Participant pursuant to any portion of the Option that is then vested are to be repurchased, the Participant shall be required to exercise his or her vested Option and any Ordinary Shares issued in connection with such exercise shall be subject to the repurchase and other provisions in the Management Partnership agreement.

That one sentence, which is borderline unreadable and which makes no sense outside a deep understanding of the Managing Partnership agreement, an entirely separate document, was enough to render Lee’s vested options worthless.

Why on earth would Skype behave in such an evil way? Back to Galante:

Silver Lake declined to comment. When asked about Lee’s situation, Skype spokesman Brian O’Shaughnessy said, “You’ve got to be in it to win it. The company chose to include that clause in the contract in order to retain the best and the brightest people to build great products. This individual chose to leave, therefore he doesn’t get that benefit.”

O’Shaughnessy seems to have been the source for the GigaOm blog post, and with this on-the-record quote he’s rendered himself utterly unreliable. Silicon Valley companies attract employees by giving them options which vest over time. Skype — uniquely, I think, although anybody else owned by Silver Lake should be taking a long cold look at their option grants right now — decided to more or less invalidate that vesting schedule with a highly opaque clause which was clearly designed to be incomprehensible to anybody without extremely good lawyers. The statement that the clause was designed “to retain the best and the brightest people” is clearly a lie, since Skype’s best and brightest had no idea it even existed, and Skype made no attempt to call their attention to it.

I no longer think that what Skype did here is pretty evil: I now think it’s downright evil, and destroys the balance of trust on which Silicon Valley has been built. What’s more, I simply don’t believe that Skype did all of this itself, without detailed input from Silver Lake. Here’s Lee again:

Working with Silver Lake was my first opportunity to witness up-close-and-personal how a PE firm does its business of restructuring a company that they’ve just taken over. And it was breath-taking. The firm inserted itself into every level of the company. At one point in my tenure at Skype, Silver Lake had representatives or consultants on the Board, in C-level executive roles, in technical leadership and operating roles, and all the way on thru the organization to the person actually running our software deployment schedule… So Silver Lake put its fingers really deeply into Skype’s pie and they started rearranging things.

You can agree or disagree with the practice of re-organization, but I personally had never been part of a restructuring that ran so deep in a company. During the year I was at Skype, the company:

lost a CEO

hired and fired a CTO

hired and fired a CFO

gained a CEO, CMO, CIO, and CDO

created an entirely new product development org structure

eliminated every Project Manager role

fired, re-interviewed, and re-hired Product Managers

created a two new business units

combined two business units into one

dissolved one business unit

opened a new office and hired several hundred people

the list goes on…

All of this makes any Skype investor saying “it’s not us, it’s the CEO” sound naive at best and, more likely, downright disingenuous. Unless and until such an investor wants to go on the record defending Silver Lake here, I’m going to believe Lee, and assume that it’s Silver Lake who’s largely to blame for the utter breakdown of employer-employee relations at Skype. I don’t know where they got these techniques from, but they’re very alien to Silicon Valley and indeed the rest of the business world. And they do no good at all for the reputation of private equity companies more generally.

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