Understanding and navigating burn rate: a startup primer – 8: developing stakeholder buy-in
This is my eighth installment on startups and early stage businesses, as viewed from the crucial perspective of resources available and burn rate (see Startups and Early Stage Businesses, postings 67-73.)
At the end of Part 7 in this series I noted the importance of explicitly, clearly “developing buy-in with various stakeholders and classes of stakeholders for how they will be involved and compensated, and when.” There, “involved” means both actively participating and on what terms as a hands-on functional contributor to the venture, and I also cite “involved” as in having a direct voice in the decision making process. For the later I draw an explicit distinction between operational decision making and the knowledgeable process of making here and now decisions as to how specific hands-on tasks would best be performed, and strategic decision making that informs the overall pattern of the organization and that sets the working parameters that more local operational decisions are made within. When I wrote in Part 7 of founder’s decision making control I included disagreement-resolving decision making authority at the operational level. But I did so with an understanding that the founders and any other owners with founder authority own the strategy and strategic vision for their new business venture.
With that note of clarification I proceed on to the topic of this series installment – stakeholder buy-in and with a focus on how this relates to compensation. And I start that by outlining a few key details related to each of the major forms of compensation that might be available to negotiate from.
• Equity is ownership and it can come with or without strategic or even operational voice in the development and planning of the new venture. For outside investors who are simply offered opportunity for financial gain, and here with angel investors primarily in mind, a stake in the venture might simply be analogous to purchasing non-voting stocks in a publically traded company.
• However the details are spelled out as to voice and control that would or would not go with equity share, taking an equity position with a new venture is an investor exercise in risk so it always needs to be grounded in as fully informed a background due diligence as possible – investors need to be informed if they are to invest wisely.
• And income distributed in return for an equity stake needs to be planned and scaled relative to the investment made, based on assessment of risk to capital investment and also on time frames required before any income compensation can reasonably be expected. Yes, this is all an exercise in juggling and estimating/guesstimating unknowns. That simply adds to the risk exposure.
• Equity stake means deferred payment for the stakeholder and deferred expenditure of liquid assets for the business venture.
• Equity stake also serves to increase buy-in and usually increases cash or readily monetizable assets without adding to burn rate.
• The trade-off as I will discuss later in this series is in the investor need for control if for no other reason than to limit their own risk liabilities that they might simply loose their capital investment. (I will look into this in Part 9.)
• Salary and other short term or immediate compensation do not generally have any strings attached beyond the requirement on the part of the venture and its owners that work that this compensation be for, be adequately completed and on schedule.
• This does explicitly cut into monetizable assets and it does contribute directly to burn rate.
• This leaves me with the third. middle ground option whereby agreed to compensation includes both longer term, higher risk-potential equity stake – with its potential for higher returns with business success, and short term monetary compensation that is more secure – you get it as you do the work, but that carries little potential for anything like investment gain even as it comes with reduced risk to the stakeholder.
Developing stakeholder buy-in means finding a balance in types of compensation as determined by the criteria of the above bullet points. The terms agreed to have to work for both the business venture and its founders and any other owners with a strategic voice, and it also has to work for the stakeholder negotiating with them. And just as importantly – it is important that the terms so reached not be so out of line with terms reached with other stakeholders so that if word were to get out as to the details, that would derail other agreements made.
• There is a reason why HR departments hold compensation terms with individual employees as among their most closely guarded secrets.
• At the same time founders and owners have to assume that even with their best efforts, terms of compensation will become known. Think of this as a call to avoid ad hoc in favor of systematically and consistently followed through on, where special case exceptions would be made for specific and well understood and explicable reasons.
As noted above, my next series installment is going to look more closely at equity investors and the cash flow implications of shared control, and at least partial relinquishing of operational and strategic vision. You can find this and related postings in Startups and Early Stage Businesses.