April 15, 2002

Loki: The human toll

-Tina Gasperson -
On April 8, the company that was Loki Software gave up the ghost for good; a quiet
death after a long, loud and ugly sickness. Like family members who are relieved
when the watching and waiting is finally over, no one said anything, no one
tried to stop it anymore -- they just turned and walked away, each to face his own share of the destruction and loss. Now, the man behind Loki is talking, but the "family" isn't buying it.
In Norse mythology, Loki is a god of mischief and evil, veiled in beauty but always out to wreak havoc on his fellow gods. It's as if the spirit of Loki rested upon the software company of the same name, stirring up dissension and bitter factions between the founder and those who worked for him. It was this spirit, real or imagined, that eventually caused the downfall of the darling of Linux gamers. There are a lot of stories to be told -- stories about creditors and customers and partners and deals that may or may not have been.

This is the story of the battle between the employer and the employees. It was ended by the court last week, but in the hearts and minds of the participants, it may not be over for a long, long time.

Monday, April 8, was the final hearing for Loki's chapter 7 bankruptcy filing.
The company that ported Windows games to Linux had previously filed for chapter
13, which allows for reorganization of the company and for time to develop a
plan to pay back creditors. Chapter 7 is different. If you're granted a chapter
7, in the eyes of the law you don't owe anything anymore, to anyone.

That's a big relief for Scott Draeker, the man behind the phenomenon that
was Loki Software. "Things were dire at Loki in December 2000," he says. "On
January 7, 2001, I emailed all employees that effective immediately we could not
guarantee that we would be able to make any future payrolls and that they should
all start looking for jobs."

So they did. In the meantime, Draeker says he tried to pay his employees
whenever he could. "We did hand out money orders whenever possible, as loans
toward unpaid salary." The employees say they didn't know anything about loans.

"We understood that these checks were our salary," says Sam Lantinga, who was
the lead programmer at Loki. "In fact, we weren't told that the checks were
considered loans until later."

And it wasn't until later the employees also found out their employment status
had been changed from W-2 to 1099, they said. W-2 is the norm for employees; the employer
automatically deducts social security and income taxes from the gross wage
amount. With a 1099 status, the worker is no longer a traditional employee but
an independent contractor. The "employer" becomes a customer and is not
responsible for deducting or paying any taxes on behalf of the contractor.

Draeker says he had no choice but to change the employees' status to 1099. "Fast
forward to 2002 and Loki is submitting tax records. How can we handle the loan
payments? They have to be reported, and we learned that any money transferred to
employees must fall under either a W-2 or a 1099. Since there were no
withholdings from the loan payments, they didn't qualify for W-2."

Lantinga found out from the IRS that the employees didn't have to be saddled
with the extra tax burden. "They said that this (being switched from W-2 to
1099) happens fairly often with failed startup companies." He filled out a
substitute W-2 with zero withholding, which left him owing, but not nearly as
much as he would if he were considered a contractor under the 1099 filing.

Eventually, the employees found other jobs, which led to what Draeker calls
the March 31 exodus, when at least five staffers left Loki. In reality, they
were just a few of the almost two dozen programmers and support staff who left
during the months after the January 7 announcement. "I have heard that the
exodus was meant to
put Loki out of business," Draeker says. "The fact that it didn't may have
further embittered the crew that left." When they left, Loki still owed them
salary. But at that point, Draeker says his loyalties had to remain with the
business first, and the remaining employees second. "Like any creditors, these
guys all wanted to be paid first, immediately and in full. From a debtor's
standpoint, however, you can't always just pay everyone immediately. Loki's
first priority became staying in business. Our remaining employees were paid
first and the former employees second," he says.

Some ex-employees were beginning to think they were never going to be
paid. "The 'exodus' was due to not being able to pay our rent," says one former
Loki ex-employee who wishes to remain anonymous. "I was tired of sleeping in
the Loki offices. No one had seen any money for a long time... Of course we
wanted to get paid. We weren't corporations and companies like Activision and
Electronic Arts, who would write off the loss. I don't think it's irrational to
expect your paycheck."

The former staff started filing lawsuits and labor board complaints, according to Draeker. "They had
meetings where they passed out forms and instructions for filing labor board
complaints. Anyone who was pursuing a settlement with Loki was encouraged not
to," says Draeker. In response to this action, which at least one ex-employee disputes, on August 3, 2001 he filed
for a chapter 11 bankruptcy reorganization. "Our
goal was to stay in business and to treat all our creditors equally." He says
that he pursued settlements with those ex-employees who did not file suits or
complaints. "The ones who filed suits received nothing, and those are the ones
complaining the loudest now."

Lance Colvin thinks he's had a right to complain. He was the vice president of
sales and marketing for Loki, having received and accepted an offer letter dated
February 9, 1999. "Congratulations," it reads. "It is my privilege to inform you
that Loki Entertainment Software has decided to extend this offer of
employment as 'Vice President, Sales and Marketing.'" The terms of employment
included a $80,000 yearly salary, 100,000 stock options, and six weeks of
vacation each year. The rub comes further down in the letter. "Finally, as we
discussed, payment of your salary is temporarily suspended. You and I will speak
from time to time to determine when the company is financially able to begin
payment of your salary."

Draeker maintains that because of Colvin's willingness to forego payment,
he wasn't an employee as much as he was an investor in Loki. "Our attorneys
spent a fair amount of time arguing over whether this individual could be
properly categorized as an employee." He says that Colvin should have known
the risks involved with joining a startup as well as the potential rewards.
"It's possible [Colvin] never considered that Loki would always be
hand-to-mouth." Draeker says Colvin testified that he thought Loki
would eventually give him a million dollars.

"This was not, and never has been my understanding," says Colvin, whose
responsibilities at Loki included maintaining the company books and making sure
the bills were paid. "I believe that when questioned about what I expected, I
had cited [a situation] where a friend of mine had been given a million dollars
worth of stock when the company he had assisted was sold. I believe I said I was
hoping for something similar."

Colvin testified to the labor board that he purchased most of Loki's
computer equipment with his own money. He allowed Loki to make charges on his
personal credit card, and he loaned cash as well. Even his mother loaned Loki
$5,000 to make payroll in December 1999. "[Draker's] idea of scraping together
the next payroll was coming to me to see where I could get it -- loan from
family, pressure on accounts that owed us money, etc. He told me once that one
of the reasons I was at the company was for my ability to get my hands on

The transcript of the California labor board hearing records an obvious question
from the hearing officer: "Why did you go without payment for so long?"

Colvin's answer: "Because Scott always told me he'd take care of me. I've known
him for ten years before we went into business together, before he asked me to
work for him and I had faith that the company would make it. And towards
the end of 2000 I discovered that -- that basically he lied to me, that he
really seemingly didn't have any intention of paying and there were -- I
actually made treaties to him throughout the year. I'd send him one email
which said, 'I'm broke, I've been living for two months without expenses which
-- or with no income into my house' and he ignored that. And also because
I have had a substantial interest in the company in the form of equipment
that I've purchased on behalf of the company and so on, I was a little bit
afraid to leave to be honest. I was afraid I'd never get paid and that's
actually what brought up this hearing is because he did refuse to pay me my
wages and my expenses."

The creditor filings showed that by the end of Colvin's tenure at Loki, the
company owed him almost $350,000 in salary and expenses that were incurred on
Colvin's personal credit card. Draeker says that Colvin knew the risk he was
taking, and he maintains that Colvin was more of an investor than an employee.
"This question was never resolved
by the court, but it's clear that this isn't about an employee reimbursement.
This was money he invested."

Draeker calls the ex-employee complaints a personal war against Loki and Draeker himself. In his
response to the hearing officer's question, he testified, "That was the deal
that he made. He was an officer of the company, he is an equity holder of
the company, as are members of his family, and he made the informed
decision not only because of his position with the company but also because
he was keeping the books. He made the informed decision to work at the
company in hopes that there would be a payoff in the future. Now that, you
know, the company has not to date had that success, he has made a claim
trying to retroactively change the terms of the deal he struck because he
doesn't like the result."

Colvin counters: "Actually, the labor board found that I was indeed an employee. [They] found from the evidence I presented at the hearing that Loki owed me
$100,000 in business expenses." He says that Draeker appealed the decision,
claiming again the Colvin was a partner in the company and not an employee.

But Draeker and Colvin both note that Colvin's relationship with Loki was
"terminated." Says Draeker, "When the board fired [Colvin] in January 2001 it
bruised a very fragile ego."

"How he could terminate a partner, I'm not quite sure," says Colvin. He
maintains that Draeker filed bankruptcy in response to the August 6, 2001, labor
board appeal. "Scott filed emergency bankruptcy on August 3. If it was clear
I was an investor, why did he file bankruptcy?"

Colvin and other ex-employees have said that during the time Loki was having
trouble making payroll, the Drakers continued to pull money out of the company.
Draeker disputes that. "Although my wife and I were both salaried, we rarely
paid ourselves. Loki didn't have the money, and I insisted that payroll for the
other employees was the highest priority."

Colvin disagrees. He says Draeker's assertion that he rarely paid himself or his
wife is "an out-and-out lie."

"Kayt [Draeker's wife] was paid nearly every payroll period," says Colvin. He
showed us a memo Draeker emailed to him on April 17, 2000, about the
procedure for paying employees and bills. The relevant portion,
where Draeker is outlining the priority of payment:

"Tier 0 -- The first thing we pay always and without exception: Programmer's
payroll $26k semi-monthly."

"Tier 1 -- Highest priority payments. These are always paid unless and until some
crisis comes along and I am notified first:

"Rent (4,350)
Internet Access (3k month)
Employee benefits (Blue Cross, etc.)
Dennis (10k due)
John Grantham (2,700)
Laurie Hayde (you didn't include her)

"Tier 2 -- Paid once obligations from 0 and 1 are taken care of:

Exec payroll (7.5k)
Proforma (15k over 60 and another 11k going over 4/30)
The Kompany.com (56k due)
Equipment purchases
Fedex (16k)

"Tier 3 -- To be paid in the following order of importance. Can in some instances
come before a Tier 2 payment. I'd like a calendar date when you anticipate each
of these being met:

"Code Sorcery (2,400)
id Software (50k) (forgot that one?)
Bungie (22k)
VA (63k)
Activision (265k)

"BTW: did you pay xxxxx his $5,500 signing bonus? If not, then shouldn't it be
listed here?

"BTW: Exec payroll doesn't include Kayt. She's Tier 1."

There is another email in which Draeker chides Colvin for not paying Kayt along with the Tier 0 programmers.

Yet, Draeker says, "After most of the employees quit on March 31 [2001], it
became much easier to meet our monthly expenses, including payroll for the few
who stayed on, and even some debts. Only then did my wife and I start receiving
our salaries."

Now that the chapter 7 bankruptcy hearing is over, the slate has been wiped
clean for Draeker. Even though the labor board found in favor of Colvin's claim for business expenses, Draeker is not held responsible in the
eyes of the law because of the bankruptcy victory.

And even though Draeker's financial debt has been erased from the law
books, there is still a price to be paid by everyone who has been a part of
the dream that died.

"Looking back at Loki, we created a brand new industry." -- Draeker

"Companies go out of business all the time. Many do it with more grace and
ethics than Loki did." -- Loki ex-employee

"The hard part is moving on with your life. We all read about crimes and random
evil in the news. It's disconcerting to be the intentional target of some of
that. It's like being pursued by a pack of Ahabs who think you're their white
whale. " -- Draeker

"Scott lost his two oldest friends. He left a few people in financial ruin that
will take years to undo." -- Colvin

"I've heard there were boasts about taking my house and putting me and my family
on the street. It's all bark and no bite, but still stressful for my family to
hear. I would ask those folks responsible to at least have the dignity to leave
my wife and kids out of this." -- Draeker

"I'm stuck with a real debt of $100,000 -- not counting loans I had to get
to pay rent and put food on the table." -- Colvin

"We generated nearly $3 million in revenues over three years, won dozens of
awards and accolades, had a huge amount of great press, created jobs and came
within spitting distance of making some folks millionaires. The Loki name was
known around the world. At one time our revenues were in the same ballpark as
Turbolinux and LinuxCare. We created a huge reservoir of Open Source tools and
libraries that will be used for years to come. Next time, I think I can do even
better." -- Draeker

"I am left poorer, but much wiser." -- Lantinga

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