Skype’s evil ways, cont.

By Felix Salmon
June 27, 2011
story is refusing to die, with Yun Lee's revelations bringing out the same anonymous investor-group sources defending Skype's actions.

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The Skype/Silver Lake story is refusing to die, with Yee Lee’s revelations bringing out the same anonymous investor-group sources defending Skype’s actions. But if the defenders are comfortable in their anonymity, it seems only fair for me to share an anonymous email I got this morning from “Skype Insider”.

Remember the history of what happened here. First it was alleged that Skype was firing senior executives just before the Microsoft deal closed, thereby ensuring they don’t get their full payout. Then Lee came along and said that employees who left voluntarily were denied their vested equity in the company — which, as Graef Crystal has noted, does grievous harm to the plain-English meaning of the word “vested”. Dan Primack explains how Skype pulled this stunt by changing its options agreement after it was acquired by Silver Lake:

A source familiar with the situation says that many former eBay employees who remained with Skype have options that more resemble typical Silicon Valley (i.e., vested=yours). Moreover, the majority of Skype employees are in Europe, where the structure also is different.

But for U.S.-based employees who joined after Silver Lake and crew took over, you had to “be in it to win it.” In other words, these particular Skype employees wouldn’t get paid until the private equity firms also got paid.

We’ll get to the attempted defenses of Skype’s actions in a minute. But up until now we’ve been dealing with two classes of screwed-over employees: executives who got most but not all of their payout because they were fired just before the deal closed; and people who were hired after Silver Lake bought the company and who found that their vested options were worthless.

But according to my source, it’s actually worse than that. There’s a third class of employees, who were treated particularly badly: executives who were fired for cause, “based upon various trumped up justifications”, in the words of my tipster, thereby losing all their vested equity.

This is a particularly nasty move for Skype to pull, because such executives are naturally going to be reluctant to go public with their story. Any journalist would immediately ask Skype for comment, and the company would quickly start explaining, either on or off the record, just how bad the executive in question was. And no one wants to be the subject of that kind of public debate.

Importantly, if you were a Skype employee fired for cause, your options could be clawed back even if you had the old-school options contract. Former eBay employees who had had vested equity for years could suddenly find themselves with nothing.

Do I know for a fact that Skype did this? No — but I’d certainly be interested in hearing from anybody this happened to, in strictest confidence. And it’s consistent not only with the Skype-is-evil meme, but also with the message that Skype’s defenders are pushing. Here’s Henry Blodget:

Private equity firms have a different view of option compensation than VC firms, the Skype investor said. Specifically, private-equity firms recruit executives with a very specific mission: To fix the company and then sell it, a process that often takes several years. In private-equity’s view, executives only deserve a piece of the equity pie if they see that mission through.

Essentially, only one group of employees matters in PE-backed deals, and that’s the ones still standing when the exit arrives. You’ve “got to be in it to win it”, which means that anybody who’s not “in it” is, by definition, a loser, to whom the company owes nothing.

And the investors are quick to blame the losers here. See for instance Sarah Lacy:

As standard as getting to keep vested options if you quit before an investment is closed is in the venture capital world, it’s equally as common that you have to stay through the close of acquisition to keep them in the private equity world. Indeed, our source says the Skype contract is a boilerplate agreement for all the companies Silver Lake invests in. And all of this was in the paperwork the employee signed. He just didn’t read it carefully, at his own admission, because he assumed it was like other option contracts of venture-backed companies. That’s not really Silver Lake’s fault.

Actually, as Mike Arrington and Dan Primack and I have all tried our best to point out, the notorious clawback was not something which Yun Lee or anybody else could find by reading paperwork carefully: it’s impossible to read the clause in question and understand what it’s saying, since it references “the repurchase and other provisions in the Management Partnership agreement” — a completely separate document which Lee might not even have been given access to. (Arrington reckons he probably wasn’t.)

As for this suddenly-important distinction between venture capital and private equity, has Lacy forgotten that the public face of the Skype acquisition was not anybody from Silver Lake at all, but rather Marc Andreessen, a venture capitalist? Indeed, Arrington’s coverage of the deal had Andreesen Horowitz leading it, with Silver Lake a mere tagalong participant. And Silver Lake is hardly KKR or TPG: if you pop along to the CrunchBase profile page for the firm, you’ll see its headquarters are on Sand Hill Road, the boulevard synonymous with venture capital. Yes, Silver Lake is technically private equity rather than VC — but it does its best to hang out with VCs, co-invest with VCs, and generally inveigle itself into the VC world as much as it possibly can. Lacy’s sources might be very keen right now on the idea that they have “a different mentality and a different culture” to VCs. But the average Silicon Valley employee can easily be forgiven for failing to grok this distinction.

And this just doesn’t withstand scrutiny at all:

If the amount is so small, why not just give him the vested shares? Because this is their standard contract, Silver Lake can’t without opening themselves up to lawsuits from all the other buyout deals where employees have to live by the same agreed-upon contract.

Er, no. Silver Lake had no obligation, under the terms of the contract, to claw back Lee’s shares. Remember the letter sent to Lee? It’s very explicit on this front:

Pursuant to Section 8.01 of the Partnership Agreement, Skype has the right (the “Call Right”), which it intends to exercise, to repurchase up to all vested shares underlying your Options at a per share price equal to the exercise price applicable to the shares being repurchased.

Skype had a right to claw back the options. It made a positive decision to exercise that right. It had no obligation whatsoever to exercise its Call Right, and everybody’s actions would have been perfectly consistent with the signed documents if Lee had held on to his vested equity.

The fact is that there’s no good reason at all for Skype to be behaving this way — and there’s also every reason to believe that Skype’s decision to turn evil was entirely a function of Silver Lake’s corporate culture.

In any case, all of Silicon Valley is now to understand that the relationship between Silver Lake and the employees of its portfolio companies is a fundamentally adversarial one, where incentives are actually opposed rather than aligned, and everybody needs to lawyer up before doing anything. That kind of attitude goes down badly everywhere, but especially in Northern California. And that’s the fundamental reason why this story is refusing to die.

Oh, and one last thing, from my tipster:

Employees did not actually receive stock options at all, but rather shares in a Cayman Limited Partnership, Skype Management Partnership, LP. This complex partnership arrangement was concocted solely to avoid the possible application of employee-favorable laws in California and Luxembourg.

You fancy a lawsuit against Skype and/or Silver Lake? You’ll have to show that California courts have jurisdiction first. Since Skype isn’t even an American company, and the shares were in the Caymans, that’s not going to be easy.

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