One of your key roles as an entrepreneur is to create value. However, maintaining and safeguarding that value is equally important. It makes no sense building value in your company if you allow it to falter.
So how can you prevent giving away your company unnecessarily? You need to overcome the following four roadblocks:
1. Naivety with co-founders
When starting a company most co-founders try to operate in the spirit of compromise and fairness. There is seldom any rationale to equity splits determined on day one. However, vesting arrangements between co-founders can help limit value loss.
Vesting protects the business and remaining shareholders in the event that one co-founder exits early to pursue other opportunities. The arrangement means each co-founder has to earn value over time and will have to give up equity if they leave before the vesting period expires.
Action step: Ensure you have a contract or legal document laying out the vesting arrangements and get the best vesting “schedule” that works for you and your company by taking legal advice.
2. Appeasing employees
It is extremely short sighted to award stock options to employees unless you can rationalize the value they bring. This equity recognition should be ring-fenced for proven employees, and options can always be made available for those who create value in the business later. Vesting of options is also something you will want to formalize.
Action step: With your senior team, make a list of key employees who are making a real contribution to your business irrespective of the time they have served. Identify also other key roles you need to fill. Develop an option package strategy that seeks to recruit, retain and motivate key employees to help the growth of the business. You may consider taking a cue from social media sharing startup Buffer, who has an innovative way to determines employee equity splits. The important thing is doing what’s right for your company.
3. Wanting to keep investors sweet
Fundraising with investors is a two-way process. It is important you realize that just as investors are assessing whether or not to back you, you also need to take a view on if this is the right deal for you.
The worst thing you can do is to take a deal just because it gives you temporary cash flow without looking at what you are giving away. Inevitably this will end in tears. Similarly, accepting a deal because you don’t want to negotiate harder and irk the investor is poor game. They are looking out for what works for them, and you must do the same.
Action step: At the beginning of any fundraising process, write down your key objectives for the funding round. This could include the type of investor sought, experience they should bring, and the maximum equity you are willing to give away. Be absolutely honest with yourselves. During the process keep revisiting this to ensure you are not getting carried away in the excitement to get a deal done.
4. Restlessness for a pay day
Many entrepreneurs build their company with the exit in mind. It is the moment you have worked hard for, and hopefully culminates in a value windfall as a reward. But how can you ensure you don’t leave unnecessary value on the table during these crucial negotiations? The best exit process is where the vendor has control. This requires a lot of forward planning and preparation, and above all, patience.
Action step: It is key to ensure you have a strong and capable advisor. It is their job to understand what is important for you from the exit and to try to deliver that. They should advise you to pick the right time to start a process. You will need to work with them to identify the right buyers to market your business to, and to ensure you are comfortable with the strategy for the sale process. Being prepared correctly will put you in the driving seat in negotiations.
Safeguarding the value in your business is extremely important and possible to do. In fact, it’s relatively easy when you think about your business in the right way and get the right structures in place. However, it does require navigating some roadblocks. If you want to make sure you are not unnecessarily giving away value, think about structure and fairness with your co-founder and employees, keep your objective in mind when talking to investors, and be patient when it comes to any exit. You’ll walk away with maximum value.
By Tallat Mahmood