Surround yourself with great, sharing advisors.

Posted on July 10, 2010 by Dave Berkus

This insight addresses the establishment and maintenance of an advisory board, a formal group with no legal responsibilities, but one able to be called upon to act as business, industry and scientific advisors to the CEO.  Usually, such an advisory board is formed carefully by the CEO to fill in the critical areas of need not evidenced in the board of directors or within the company itself.  University professors, industry gurus, lawyers familiar with patent law and former executives of competitor companies are typical recruits to an advisory board. Sometimes, celebrities will agree to sit on an advisory board as a gift to the CEO, providing a bit of glamour for the company at small expense.

There is no limit to the number of individuals for such a board, but there is a practical limit to the amount of cash and / or stock to be allocated to these outside advisors.  The rule of thumb for an advisory board member is to expect a full day each year on site, typically in a strategic planning meeting with numerous members of the staff, and a number of phone calls from senior members of management during the year.  Included in the “package” is the expectation that the advisor’s name will be freely used in the company’s marketing, a bio listed on the website, and occasional calls will come as references to the advisor from potential investors and others looking for deeper insight into the secret sauce of the company or state of the industry than can be provided by many on the inside.

[Email readers continue here…] For this, an advisory board member for a small to medium sized company should expect to receive options equal to ¼% of the fully diluted stock of the company, vesting over two years, and subsequent grants of the same size if renewed in subsequent two year intervals.  Alternatively, some companies pay an advisor a fee of $1,000 per meeting day and optionally much smaller stock grants, if any.  Additional commitments of time by an advisory board member should be compensated as would any consultant, at half and full day rates agreed upon in advance between the CEO and the advisor. There is no rule as to uniformity of pay, as some advisors may be willing to serve at no cost while others are industry consultants used to receiving fair payment for services rendered.

I sit on a board of a company with potentially valuable patents that it is exploiting aggressively. The board has hired an attorney firm to pursue protection of these patents in the courts, but the members of the board felt that it would be wise to add a member to the advisory board who is also a patent attorney to watch over the process and advise the board at its meetings of issues that may not have been covered by the paid attorney or by other member of the board itself.  In this case, payment for the attorney advisory board member was agreed to in the form of common stock options more generous than the average advisory board grant, as the attorney was invited to sit in on all meetings of the corporate board and agreed to do so.  There are many variants of the rule for payment, and many reasons why advisors may be willing to serve. In this instance, the attorney realizes that the potential value of the stock options in the event of major wins in patent litigation would far outweigh any fees which he might have charged.

Advisors fill blind spots in the corporate knowledge base and guide the CEO in areas that the CEO feels are personal weaknesses.  There is usually a formal agreement between the company and the advisor, carefully calling out the time expectation, the forms and amounts of payment, and the indemnifications from liability granted by the company to the advisor in return for confidentiality and non-disclosure of company trade secrets by the advisor.

A particularly strong advisor, especially if well known, may be named chairman of the advisory board, often just a honorary title, since the CEO is usually tasked with the planning of the full day meeting of advisors annually, setting the agenda to match the needs of the member of the corporate board and senior management.

Posted in Surrounding yourself with talent | 1 Comment

An experienced coach has seen your movie before.

Posted on July 3, 2010 by Dave Berkus

               Business coaches come in all sizes and shapes.  You’ll have a relative willing to devote time, a school friend with business experience, professionals who charge for the service, investors with a reason to promote your success and more.

                But by far the best coaches are those that have lived through the process you’re going through and built successful enterprises in your same industry.  Especially if they have sold their companies and live comfortably upon the proceeds, these people are often the most willing to help and the most patient through the process.

                One great source for coaches is among fellow members of a CEO roundtable organization, Young Presidents Organization or similar association where you are comfortable with the coach candidate and know something about his or her style.  Another is through industry associations or civic groups such as Rotary or Lions Club.   Some larger communities have organizations of corporate directors, composed of a combination of service providers and professional corporate directors. I’ve personally been involved with the ABL Organization for well over twenty years and share problems and solutions with a monthly roundtable of smart CEOs from companies of all sizes. 

              If you take smart money from a good angel or venture organization, the lead investor usually becomes your board member and has a vested interest in your success.  If you are lucky enough to create competition among investors for your company, you can select the investor or group with an individual who has experience in your niche and identifies with your vision.

[Email readers continue here…] How do you pay a coach?  If the coach is also a significantly large investor such as a VC fund, the board member-coach will offer a limited amount of time outside of board work at no extra cost, all for the good of the investment.  Professional advisors, consultants, are typically paid by the half day or full day, charging anywhere from $400 per half day at the low end up to $3,000 or more at the high end for a full day of work.  Some charge by the hour, making themsef available much as an attorney, keeping track of hours spent on phone calls and emails with you. And some will willingly work for stock options, an amount to be negotiated based upon time spent and stage of corporate development.  Years ago, I co-wrote my first book, profiling just such a person, trading his time and experience in exchange for equity – and managing to become wealthy in the process by picking and aiding great young companies that grew large and were ultimately sold at a tremendous profit.  We had no term for such work in those days, and created the phrase “resource capitalist” to describe the person and process.  He brought resources to the table from personal experience to a great contact base, and was able to help speed the time to market while introducing the company to great potential buyers at the right time in the process.  His average percentage of a company was 5% in return for spending a day a week as I recall. 

            Jokingly, I used to tell people that I worked for food, with so many free lunches being offered from all sides. But alas, there is no free lunch.  And over the years I have vastly curtailed the practice. However, there surely are experienced executives out there who’ll work for a meal. It is worth asking.

            There must be many more creative ways to pay a coach, especially for early stage businesses.  The one warning: avoid those looking to become partners, asking for larger portions of equity than, say, 5% when they contribute no cash to the enterprise.  There may be times when such a person can truly be a founding partner in a young business and devote enough time and resources to warrant more, but this is taking on a partner in every sense of the word, and should be done carefully and only after spending time with a number of the person’s references and becoming comfortable with the person, ready for the long run.

Posted in Surrounding yourself with talent | 4 Comments

Pay for frequent moves over risky long term leases

Posted on June 28, 2010 by Dave Berkus

          One of the most obvious observations I make with growing company CEO’s is that planning for a new office is done with an optimistic view of the future, incorporating planned space that compromises only slightly the measured needs for the next three or more years as outlined in the financial forecast.

          The result, signing a lease for space enough to handle the growth called for in the plan, is a predictable group behavior I’ve come to label “The tyranny of the new office.”  The company plans a move to a new facility with plenty of space that is probably built out but not planned for use until the company grows to the next stage of need.  Employees move into their new cubicles and offices, spread out far more than in the previous facility.  The excitement and noise of working in too-close proximity to cohorts suddenly becomes an unexpected near silence, as everyone notices that they do not have to raise their voices any more to be heard above the din of noise. 

[Email readers continue here…] The exciting sounds of an office filled to capacity functioning in a growth environment are exhilarating to most that have experienced it.  The distractions are dealt with using iPods and earphones, concentration and tolerance; but they are dealt with by all.  The change to a near silent environment is so startling that, many times, employees express a bit of resentment or even depression, masked by the common statement that “it is so much easier to get work done without the noise.”  It is the excitement of activity that generates more and better output for most, not the isolation of silence.

          But back to “the tyranny of the new office.” Two predictable outcomes almost always follow a move into an office much larger than today’s needs. First, you’ll find subtle moves by employees into the unused, reserved space.  After all, it is there and unneeded for now.  Why not make use of the space until needed?  And second, management sees the open space and often finds it easier to justify acceleration of one or more new hires since the facility is available and infrastructure complete.  Unconsciously longing for a bit more of the excitement from the noise of the previous office, managers often make subtle unrecognized moves to fill the void with new hires earlier than plan.  That’s why the label, “tyranny” even if the word seems out of context.

          If and when asked, I always recommend more frequent moves as opposed to longer term leases.  It seems from experience that both the company and the employees gain from such staggered moves.

Posted in Growth!, Hedging against downturns | 1 Comment

Sign short term leases early on. Move more often as you grow.

Posted on June 20, 2010 by Dave Berkus

Avoid long-term commitments.

           It is statistically true that at least half of the young companies funded by angel or venture investors will not survive three years from funding to demise.  The greatest burden of either a growing company or one needing to retract and reduce expenses is the office lease.  Although payroll is almost always the greatest cost, companies have flexibility as to how to handle both rapid growth and rapid decline in the personnel arena. 

          The most difficult thing to deal with in either rapid growth or retrenchment is the office lease.  A five year lease may be cheaper than a three year lease, and may provide for more free rent and tenant improvements.  Those benefits pale in comparison to the high cost in retaining or buying out a longer term lease.

[Email readers continue here…] From personal experience with many companies in my portfolio and from many board experiences over the years, young companies are unpredictably unstable in their facilities requirements. Flexibility is worth a few percentage points of fixed cost when companies are in high growth mode or are at early stages of proof of market. 

          It is a hassle to move, requiring time and planning.  It is much worse to worry over paying for two leases each month and tying up two large deposits.  Then there is the dread of “The tyranny of the new office” to worry about. But that is a story for the next insight…

Posted in Hedging against downturns | Leave a comment

How do you manage and measure home-based employees?

Posted on June 15, 2010 by Dave Berkus

               Do home-based employees work with the same dedication and productivity as those in office cubicles next to each other?  That depends upon the management as much as the employee.  I have a friend who is a CEO of a recruiting firm who “virtualized” her company after a decade of maintaining a fixed office location.  She organizes morning conference calls, has each employee tweet the others in their department when starting work and ending the day, creates the feel of closeness with employee contests, and rewards her best sales people by assigning them the best leads, creating an environment where the best excel and those unable to cut it in a virtual environment fall out on their own accord for lack of revenue.  But most important, the unpredicted benefit of having very low infrastructure overhead may be the one most important element in saving the company during the strongest and longest downturn in recruiting industry memory because of the recent recession.  Much larger recruiting companies are in trouble, with high fixed costs for facilities that cannot be shed quickly.  This CEO’s decision to try to retain an excellent, motivated staff in a virtual environment is paying off in every way.  The employees are more satisfied, actually work more hours in a day even if spread over a longer period, and uniformly claim a better lifestyle as a result of the move.

                But as you see from the story above, it does take more creative management to make this work. It is a management skill that was not taught nor learned until recent times. A creative CEO will find ways to motivate and compensate for the lone nature of working alone, but using social networking tools to make office workers and home workers feel and behave as a unit.   After all, with this generation of texting, tweeting, IM-based workforce, you’ll find as much of this kind of communication from adjacent cubicles as from distant home offices.

[Email readers continue here…] Let’s pause for a word about dress code and formal accountability for the home office worker.  Employees working at home must dress for work, even if casual, and find a schedule for the start of each work day that is to be counted upon by fellow workers.  It won’t be long before home workers will routinely greet each other via video conference from the home desk.  Although possible today and used by some, it is not a requirement of most employers with home-based workers.  Someone who “comes to work each day” even if to the computer in a separate part of an apartment, is putting on the business hat in a much more formal way that one who drifts to a computer in the room beside a blaring TV, dressed in pajamas and arriving whenever convenient.

                How about the employee unable to self-motivate in a home environment?  With the proper measurements of productivity, it will soon become quite obvious to both the employee and manager that such an opportunity is not right for that person.

                Ask any CEO who has tried letting employees work from home, whether for a day a week or as a rule with occasional office visits.  You’ll find stories of emails time stamped well into the night, work performed at unusual hours and productivity increases.  You’ll also hear a bit of pride in the telling.  A CEO that encourages this once-risky venture and is rewarded with increased performance, is a person fulfilled and willing to tell anyone who’ll listen.

Posted in Depending upon others, Hedging against downturns, Surrounding yourself with talent | 4 Comments

Review regularly and ACT upon results.

Posted on June 7, 2010 by Dave Berkus

                Allowing small problems to escalate into big ones is simple.  Just ignore the signs for long enough and the job is done.  It takes far more energy to review regularly the key performance indicators you’ve established for each individual and yourself.  But a small excursion caught early and corrected saves massive corrective resources later.

                Take for example the manufacturing company with a small quality problem in one component, resulting in a test failure rate above the norm.  You can just reject the components, especially if coming from an outside supplier, or you can get to the root of the problem by examining the cause and reengineering the process or product quickly, saving you and perhaps your supplier time and cost.  Such a culture of quality engineering has an additional benefit in creating a higher bar for all to see, making the public statement that quality is a top priority.

                The same careful management applies to virtually every person and process in the organization.  If there are ways to measure successful output or execution, find them and use them regularly.  If one person or department is not pulling its weight, others notice and if no action is taken, often others are discouraged because of the lack of management interest and control.  The variant of “one bad apple” holds true in corporate cultures that to a degree entrepreneurial managers and young CEOs rarely credit – until a late correction is made and a collective sigh of relief can be heard company-wide.

Posted in The fight for quality | 1 Comment

Does even a taste of ownership make a difference?

Posted on June 2, 2010 by Dave Berkus

                 How about incentives for employees all the way down the line and through the corporation? How do we align them to the goals and strategies of the enterprise?  Obviously for the appropriate individuals, a bonus program aligned to the department’s goals is appropriate. But how about awarding stock options to all employees? 

                Tech companies, particularly early stage and startups, still award options aggressively.  Even with fewer IPOs than a decade ago, the dream of shared wealth certainly is not dead.  We should be aware of the power of that dream, and bake it into our employee incentive plan to attract and retain the best available, even if the reality of instant wealth from exercise of stock options no longer matches the frothy days of a decade ago.

                I discovered the power of employee feelings of ownership early in my management career, establishing an employee stock ownership plan (ESOP), once popular as incentive compensation as well as a tax write-off for corporations and even a way to slowly transfer ownership of a company from the founders to the employees.  These plans are not as popular today because of their complexity and difficulty to manage, lost in favor of simple stock option plans. 

[Email readers continue here…] Each month, at the monthly company lunch for all, I’d greet everyone with “Hello shareholders”, and proceed to show the assembled throng slides of high level financial statements, pointing out progress against plan.  That form of open book management surprises many, but if the employees are stakeholders with a taste of equity, why not underscore the value of that equity by treating them as cohorts?  Yes, sometimes the news is not good.  They should know this, and from you not from the rumor mill. Your fear that the confidential information may get out to the industry competitors should be tempered by the fact that you are not giving out the secret sauce, just the results of the past period’s performance.  All public companies including your public competitors must do this in greater detail each quarter, and it rarely damages their ability to sell into the marketplace. 

               Would bad news drive your best employees out the door?  Perhaps. But it is my experience with many companies that empowered employees, treated with respect and shared knowledge, will go far beyond expectation in remaining loyal to their associates and their employer. 

                And think of the time saved around the virtual water cooler if there are far fewer rumors to pass among your employees.

                So I think you know where I stand on this.  If your company is not a “life style” enterprise and you aim to sell it someday for liquidity, or even aim toward an IPO, then you should have some form of stock ownership or shadow ownership plan for your employees.  I know from my own experience that  no matter how good you think you are at company-building, it is those who surround you with talent that make the difference and add extraordinary value to create an eventual liquidity event.  Whether out of guilt, thankfulness or simply to be fair, you should plan in advance for sharing the profits from a corporate sale with those who helped you to the finish line.

Posted in Depending upon others, Surrounding yourself with talent, The liquidity event and beyond | 1 Comment

Cash is only ONE measure of employee happiness.

Posted on May 26, 2010 by Dave Berkus

                   In 1981, Herb Cohen published “You Can Negotiate Anything”, an excellent guide to great negotiating.  I’ve read and reread the book a number of times and find myself using the techniques often in many areas of my life.  One of his lessons remains clearly on my mind and is a variant of the old “You name the price and I’ll name the terms” challenge that works so well in negotiation. 

                Cohen sets up an example where a senior position job candidate is stuck on a salary twice as high as the CEO is willing to pay, leading to a standoff between the two.  Cohen goes on to point to twenty five non-cash items that the CEO could have used to narrow and eliminate the gap, many of them untaxed perks worth more than face value because of the employee’s tax savings.  They include an expense account, company car, profit sharing, 401k contributions, medical coverage for dependents, free life insurance, educational payments, extra vacation, relocation expenses, paid trips to industry association meetings, or a small override on revenue from new products developed under the candidate’s watch. 

[Email readers continue here…] One of the items on Cohen’s list of twenty five was stock options.  That of course jumps to the top of the list for young, fast growing technology companies.  Many skilled, experienced executives have jumped from mature companies to more risky positions in smaller, fast growing enterprises primarily for the options.  In a previous insight, we explored the common percentage of a company’s fully diluted stock that is often granted in the form of options for new employees.  (See “Equity is the Currency of early stage business.”) 

                Many an executive has made much more than any cash compensation from exercise of “in the money” options after taking the leap to a smaller, fast growing company, attracted by just this form of incentive compensation.  When used in combination with several of the twenty five additional non-cash forms suggested by Cohen, salary alone does not seem to be the barrier most people believe it to be.

If these weekly nuggets are providing a bit of insight for you or your associates, then purchase a copy of BERKONOMICS in book form, with 101 of these insights organized from startup through liquidity event.  Or augment your experience by adding the BERKONOMICS WORKBOOK, containing 101 excercises for entrepreneurs and managers following and expanding upon these insights, applying them to your own business environment.  Both are available from major booksellers, or you can purchase BERKONOMICS books and the unique workbook at a 20% discount for yourself (or for use as gifts to entrepreneurs or your management) directly from the Berkus web store by clicking this link.

Posted in Depending upon others, Surrounding yourself with talent | Leave a comment

Align incentives with your goals.

Posted on May 19, 2010 by Dave Berkus

                 And be generous to your high achievers. 

                    Recently I was asked to review an offer letter for a senior director of business development. The CEO was concerned that he was offering far too much in the form of incentive compensation, with bonuses that could greatly exceed the base salary if all of the bonus items were achieved.  I asked the CEO to imagine what the company would look like if all of those bonus-expensive items were completely achieved in one year.  Upon reflection, he stated that revenues could double the following year, and that the company’s reputation among larger customers would be so greatly enhanced that the company could become the leader in its niche.  My obvious retort: “Then why not offer this candidate the moon if he can achieve this?”  The offer was sent and the CEO was much happier, dreaming of the possibilities, not the incremental cost.

                I love to point out that my top several sales people were making more than anyone else in the company, including their boss.  These outstanding achievers worked for salaries below those of their engineering peers, and had to put it all on the line every day to earn their keep, let alone excel.

                The best way to encourage alignment between your managers and the company’s goals is to create a bonus plan for each, with its payments made based upon the key performance indicators established for them and for their areas of responsibility, all in turn based upon the tactics and strategies contained in the company’s strategic plan. 

                It is amazing how few company CEOs grasp the concept that executives and managers should be compensated not just for doing their named job, but for exceeding expectations while advancing the corporate goals.  To align everyone in the organization in exactly the same direction is a task, one that is a powerful driver for growth.  People should be compensated well for such outstanding contributions.

[Email readers continue here…]  What is the general rule for such a bonus plan? Provide no more than five key performance indicators derived from the strategic plan and fitted to the specific job of the manager.  Set time-based goals for each.  Provide bonus opportunities that add to approximately 50% of the base salary if all are achieved within the year.  Meet and measure progress truthfully each quarter.  Perhaps pay a portion of the bonus upon completion of these meetings.  Do not make the usual mistake of ignoring or passing on the progress of any of these items by just paying a part of the bonus at yearend because no-one carefully reviewed progress, or because circumstances changed and the bonus item could not be completed as written.

                Incentives are powerful tools when used well and reviewed often.  They are a major part of a good manager’s work and should be treated as such by the CEO and all senior managers.

Posted in Depending upon others, Growth!, Surrounding yourself with talent | 1 Comment

Equity is the currency of early stage businesses.

Posted on May 12, 2010 by Dave Berkus

Equity is the currency of early stage businesses.

                 The truth of this statement may be obvious, but the execution of a good incentive program using equity is often mismanaged, damaging the corporate capitalization structure and even affecting the outcome of subsequent investment into the company.

                First, a brand new enterprise is often formed from the efforts of several “partners”, each with an expertise valued by the others.  Equity is divided between the founders and the business begun.  Although this insight does not address this point of ignition, we should note in passing that things always change over time, and formerly strong founder-contributors can become a drag upon a business or loose interest if the enterprise is not quickly successful.  To protect against this, there must be some document in place from the beginning that clearly states the expectation of each founder as to contribution of time and resources to the enterprise.  The document should also contain clear buy-sell clauses, forcing any sale of shares to first be offered to the corporate treasury, then to the other founders in proportion to their holdings, and then if no interest, to outside investors.  It should contain a mandatory sale clause in the event of separation of a founder, so that a major owner who is passive in the enterprise cannot easily vote against measures other active founders endorse. 

                The real insight here is that stock options or phantom stock are the tools of early stage businesses used to attract great talent when there is not enough cash to pay market rates.  There are some rules.  First you must create a stock option plan using your attorney, which must be registered in many states as a security offering. (The fee for registration is well under $100, so this is not an issue.)  Options are usually best with “C” corporations, but granting options for either LLC’s or “S” corporations are not a real problem. 

                Most early stage companies make the mistake of making option grants to new hires at all levels that are too aggressive and distort the capital structure of the company to a degree that damages future professional investment.  Let me try to advance a few rules of thumb to help guide you here.  [Email readers continue here…] An option plan should carve out an addition of about 15% of the “fully diluted” shares.  If there are 85,000 shares issued to the founders, then a plan calling for 15,000 shares in a pool reserved for future hires is appropriate, making the fully diluted shares 100,000.  The board must approve the plan including this number, and shareholders must approve the plan as well.  Each grant to new or existing employees must be approved by the board before issue.

                The price per share for option grants is also an important consideration.  IRS rule 409a specifically calls for an appraisal of the value of the corporation’s stock current to within a year of any grants of options, although there is an exclusion for early stage businesses in which expert members of the organization or board may make such an appraisal if they qualify according to the exemption.  It there is only one class of stock, the same as the founders, and the appraisal of the single class of shares yields, say $2.00 a share, then options must be priced at that amount.  In other words, you cannot create bargain options at below “market rates.”  If you have a preferred class of stock with special protections, that class of shares will be valued at a price higher than the founder common shares, allowing stock options to carry a lower price per share than preferred investors may have paid.  This is important because high quality candidates should be induced to consider coming aboard at lower than market salaries using the tool of “cheap” options, properly priced.

                What percentage of the total company shares should be reserved for what specific job titles?  Inducing a new CEO to come aboard usually means creation of a stock option package of 5-8%. That size of grant would take much or most of the option pool.  A vice president, or CxO candidate, typically is offered between 1% and 1.5%.  Director level employees are typically granted ½%.  All other grants usually are much lower, allowing for the typical 15% pool to last for quite awhile in most companies.

                We will cover board members and advisory board members at a later time. 

                Options typically are earned over time, which we call vesting.  If a grant of 10,000 shares is made on January First, typically there is a four year vesting period in which the employee earns the right to exercise (buy) 1/48th of the shares each month.  Many plans also call for a one year “cliff” in which an employee who is separated from the company before a year is unable to exercise even the shares which would have been vested at that point.

                There is an important consideration that will become an issue with sophisticated candidates for VP and above.  We call these “trigger” provisions, in which selected options negotiated for a select group of senior managers, fully vest to 100% upon any change of control.  This provision allows these select individuals to perhaps profit handsomely in an acquisition by being able to exercise their options in full at the time of sale.  The negative side of this is that the buyer may not want to so enrich these managers that they may not be willing to come aboard the buyer’s organization, even if the existing options are replaced with options from the buyer company.

                If all of this seems a bit overwhelming, we have just scratched the surface of option plans and incentive compensation.  This is an area of expertise that a CEO is required to quickly learn and carefully manage with the help of the corporate attorney and the board.

Posted in Depending upon others, Growth!, Ignition! Starting up, Surrounding yourself with talent | 3 Comments