IPO Participation: Kickback of the 90s?


A hushed but heated debate is brewing in cable'ssenior engineering circles about the ethics of participating in vendor-company IPOs.Atissue is a philosophical debate about whether engineers carry a different set of ethicalobligations than other executives do, because engineers are hired to steer a companythrough a maze of complicated technical issues and toward a high road of truth,sensibility and efficiency.

"I don't think that one can reasonably argue thatthere is no conflict of interest when a vendor has given someone a significant amount ofstock, or options on a significant amount of stock, or some other way to buy itcheaply," said Jim Chiddix, chief technical officer for Time Warner Cable.

Several vendors went public last year, including BroadcomCorp., Com21 Inc. and Terayon Communication Systems. Others, like ICTV Inc., are expectedto issue initial public offerings this year.

And some have extended or will extend an opportunity forcable executives -- engineers included -- to potentially reap financial windfalls as"friends of the company."

Those potential windfalls are suspect as kickbacks thatcould taint future technical decisions, according to some senior cable engineers.

Broadcom's IPO was perhaps the most notable, and themost ethically "gray," because cable companies don't directly buy itsproducts.

However, as the dominant supplier of chips that makedigital set-tops and cable modems work, Broadcom is at the center of most, if not all,standards-setting activities. Because of that, some cable engineering executives regularlyvote on techniques that eventually get spun into Broadcom's silicon.

After issuing a hugely successful IPO early last year,Broadcom's stock price quadrupled, "meaning that had I participated, Iwould've made enough money in one day to buy a large house -- in Aspen," saidone senior cable engineer, who requested anonymity.

In fact, Broadcom approached a reporter at this publicationwith an offer to invest up to $5,000 as a friend of the company. The offer was declined.

While "friends-and-family" stock pricingisn't illegal, it is well within a gray area that raises serious ethical questions,some MSO executives said.

"An interesting question is whether this is all just areflection of our society today, where things are 'wrong' only if they'reliterally illegal," said another MSO engineer, who asked not to be identified.

In private discussions over the past three months, theindustry's technical leaders stopped just short of finger-pointing, as they stackedtheir own value systems up against the potential of becoming very wealthy thanks to avendor IPO.

At times, the conversations became rancorous: One seniorMSO executive described what he called "this great ethical debate" as one thathad created "a lot of hurt feelings," and as one that "didn't need anyfurther scrutiny."

At the other end of the spectrum is Chiddix, who isadamantly against the "slippery slope" introduced when engineers participate invendor-company IPOs.

"It's easy to rationalize, I suppose,"Chiddix said, "especially in a world where every day, we hear about instant SiliconValley millionaires."

But if engineers want a piece of that action, they shouldquit their jobs and head West, he said. "If we have decision-making authority at thecable companies for which we work, we have to take that seriously."

Chiddix and all of the engineers who agreed to be quoted byname in this article said they did not participate in the Broadcom IPO.

However, sources close to the issue said they wereconcerned that some executives who denied participating in the IPO had "changed theirstory" from earlier, private conversations.

IPO "friends-and-family" information is heldbetween the issuing company and its initiating broker, making it difficult for employersto discern when employees have participated.

Those who view IPO stock grants and"friends-of-the-company" deals as potential kickbacks said they find thesituation all the more unsettling because of inherent longevity.

"The really insidious thing about stock gifts is thatthey provide incentives for the recipient to keep on doing good things for the vendor, tokeep the stock rising," said one top five MSO executive, who asked for anonymity. Bycontrast, "a straight cash kickback pretty much relies on guilt and fear to ensurethat the recipient helps the giver."

The ethics debate began three months ago, at a regularlyscheduled meeting of the DOCSIS-certification (Data Over Cable Service InterfaceSpecification) board at Cable Television Laboratories Inc. Many of the same engineers whowere offered the Broadcom "friends-and-family" IPO opportunity sit on thatboard, which votes on cable-modem-vendor issues.

When members of the DOCSIS board were asked to pick betweenBroadcom and another vendor company for an extension to the DOCSIS standard, an unnamedMSO whistle-blower "expressed serious concern" about potential conflicts ofinterest, confirmed Dorothy Raymond, chief legal council for CableLabs.

The discussion, which Raymond described as"spirited," pointed to the need for a written resolution, which she prepared indraft form and circulated in November.

The document stipulates that CableLabs MSO members thatparticipate on decision-making forums recuse themselves from voting in certain instances."We're using three things," she said. "A fixed dollar amount or apercentage of their [investment] portfolio -- whichever is least -- and, as a thirdmeasure, their judgment and good sense."

Raymond said she thinks that simple disclosure will solvemost of the problems. After disclosure, if CableLabs feels that it would be improper foran individual to vote, then that individual will be asked not to vote, she said.

Joe Badaraco, a John Shad professor of business ethics atHarvard Business School, said that perhaps the involved engineers should've lookedharder at the black and white of the situation.

"It sounds to me as though they should've eithersaid 'no' [to the IPO offer] or gotten off the [DOCSIS-certification] board --not worn two hats at the same time," Badaraco said.

Still, disclosure is a good starting place, Badaraco ceded."If everybody who looked to this board for standards knew precisely what thefinancial interests of the members were, then that would make it a little lesstroublesome," he said.

That works for Tony Werner, executive vice president ofengineering for Tele-Communications Inc. Werner, who is not on the DOCSIS-certificationboard, said he viewed IPO participation as "not a problem, so long as there isdisclosure -- so long as it's known where people stand and why."

Disclosure is fine, but not really necessary, noted DavidFellows, a cable engineering veteran who most recently stepped down as interim chieftechnical officer for Road Runner.

"Broadcom certainly didn't get any specialtreatment" from the DOCSIS-certification board, Fellows said. "Three times, theycame to us and asked us to tweak the spec to make their lives easier, and three times, wesaid no."

True, said Henry Nicholas, CEO of Broadcom. "Theycould've helped, but they didn't. As a result, I had to shell out $100,000 tocut a new mask [for a chip]," Nicholas said.Nicholas confirmed that Broadcom offeredkey cable engineers an opportunity to buy 10,000 shares, valued today at just over $1million. He declined to name executives who were extended the offer, nor those whoaccepted the offer.

He did say that at the time of the offer, "We wantedto make sure it was fully disclosed, and that they checked with the companies that theyworked for before proceeding."

One engineer who was offered the shares and declined themsaid it struck him "as a cheap way for [Broadcom] to buy engineers and keep themloyal [to Broadcom]."

But Nicholas bristled at being singled out among manysimilar IPO offers. "Broadcom is one in a million. It should not be used for thissort of comparison," he said.

"If you look at technology-company IPOs, the majorityof them over the last few years lost money," he said. As for Broadcom's IPO of$24 per share -- which subsequently shot up to $158 as of last Thursday -- Nicholas asked,"Who could've predicted that?"

Nicholas said he felt that it was reasonable and notunethical to offer shares to cable engineers who participated on a "technicaladvisory board" that helps Broadcom to stay at the forefront of broadband technicalissues. "[Engineers] are generally not in a procurement position," Nicholasadded.

Still, senior MSO engineers were quick to point out thatalthough most engineers do not conduct procurement negotiations, most do make productrecommendations based on their own research and evaluations.

"No, I don't haggle price, but yes, I do decidewhich boxes we're going to use and why," said one top-10 MSO engineer, who askedfor anonymity.

Badaraco said the issue of IPOs and the personal financialgains associated with them will be an interesting ethical issue to watch over the next fewyears.

"Whether or not IPOs are the kickbacks of the'90s is certainly an interesting question," he said, adding, "Iwouldn't be surprised if there were lots of these sorts of incidences shapingup."