More on "Tough Questions"

In my last post, I advised entrepreneurs seeking VC funding to think carefully about choosing their co-founders. I claimed this decision is often gotten wrong and that, not infrequently, one or more co-founders leave the company with an amount of founder’s equity disproportionate to their contribution (in the eyes of their co-founders). Finally, I noted that, in this situation, the “remaining” co-founders almost always bear the economic brunt. 

How to avoid this? I wish I had a crisp, clean and clear answer. Like a lot of other important questions in life, however, the answers are messy, ambiguous and highly context-dependent. All of us, VC’s and entrepreneurs alike, wish we could just call up “Central Casting” and order “the perfect startup team”. But, of course, we can’t. That said, there are some useful ways to think about this situation, and, below, I’ve set out some guidelines that a VC will likely use in evaluating this aspect of a startup. I hope these will be helpful to entrepreneurs as they’re building out their co-founding teams.

As I mentioned in my last post, founders don’t always pick their co-founders with a beady, cold-eyed, calculating gaze, and with a tough-minded focus on who can actually make the biggest contribution to the Company over its lifetime. Instead, co-founders are often picked because they are friends, or like-minded, or “great people, the kind you’d pick if you were in a foxhole under fire”. For any entrepreneur contemplating starting a company, there is an interesting and helpful analysis of this “choosing-who-to-work-with” phenomenon in a June 2005 Harvard Business Review article entitled “Competent Jerks, Lovable Fools, and the Formation of Social Networks”. If you don’t have access to a hard copy, you can purchase reprints online at: 

.http://harvardbusinessonline.hbsp.harvard.edu/b02/en/common/item_detail.jhtml?id=R0506E 

Starting a company is an act of courage. It’s also tremendously complicated. Almost always, the elements that are “unique” to a particular startup are as important as the elements that are “common” across the universe of startups. As with any set of simple guidelines, the ones below should be considered with a grain of salt. When applying them to your startup, keep your common sense hat on tight at all times. 

1. Incomplete Team vs. the Wrong Team Member? 

A key question any founder seeking VC financing needs to answer is “How complete does my team have to be?” On the one hand, experienced teams with domain expertise covering the principal startup business functions (e.g., product development) are very attractive to VC’s. On the other hand (as I’ve previously posted), teams with the “wrong” people on board are less attractive. A person can be “wrong” for a startup (in this sense) either because (1) he has insufficient business experience, talent or maturity for dealing with the swirling, chaotic world that surrounds every startup, or (2) he is in charge of a business function that no startup needs (e.g., a CFO). So, how should a founder think about this quandary…….? 

As I’ve previously posted (10 Commandments for Entrepreneurs), picking the right VC firm is critically important for any entrepreneur seeking VC funding. VC firms (as well as the individual partners within them) have investing passions for certain markets, as well as areas of market expertise, that will affect their interest in, and appropriateness for, any particular startup. In a similar way, VC firms (and the individual partners within them) have different levels of comfort in dealing with incomplete startup teams (and very early stage deals). When making your list of VC firms to approach, do whatever it takes to find out whether a particular VC firm has the right appetite for a startup at your stage of development. 

As an example, at my firm, Mayfield, we are very comfortable with early stage startups – which almost by definition have “incomplete” teams. Recently, we calculated that over 20% our investments in the past 5 years were companies “incubated” at Mayfield, where the founding team consisted of 1-2 people. Even at Mayfield, however, comfort with incubations or seed financings varies among different Managing Directors (as it will with any VC firm). It also varies – even among the Managing Directors who are comfortable with “seed” stage companies -- according to their workloads. Seed/incubations require lots of work, and don’t always generate a commensurately greater return. So, do your homework. 

I’ll end Guideline #1 with the following rule of thumb (NOT a commandment): for a VC firm that is comfortable with early stage startups, an incomplete startup team is preferable to a team with the wrong team members. 

Why?

First, VC’s pride themselves (some are even good at it) on being good at helping their companies recruit. If a startup has an attractive couple of founders and a terrific business idea, a VC can imagine how additional, world-class team members could be recruited to fill out the team (as you might expect, the more incomplete the team is, the more important will be the judgment about how easy recruiting will be). 

Second, as I wrote earlier, it’s always hard to transition the “wrong” co-founder out of the Company – it’s also economically unattractive to the remaining co-founders. 

2. Is My Org Chart "Contorted"? 

We’ve all seen a “standard” organization chart. It has (1) the CEO at the top, (2) Four to eight Vice-presidents below, each in charge of a business function and reporting to the CEO, (3) Directors in the reporting chain below the Vice-presidents, and (4) a variety of folks with different (and non-standard) titles in the reporting chain below the Directors. 

I would claim that this “standard” org chart is actually a good template to follow in organizing a startup through, say, the first 40 people. I’m not sure if the converse is true, but I can say (without having done a rigorous study) that, in my 25 years of working with startups, there is an interestingly strong correlation between (1) startups with org charts that were “contorted” in some way (compared to the “standard” one) and (2) startups that ended up with some kind of founder trouble. Thus, if there are “odd” lines of reporting, or if there are “odd” titles that don’t fit in a standard org chart, it usually raises a red flag. If you’re having trouble fitting one of your co-founders into a standard org chart, you should think about whether he’s the right person (or, at least, in the right role). 

A few examples may make this clearer: 

(1) almost no startup “needs”, and most startups don’t have, a “Chairman”; the office has no real meaning in a setting where most of the board members represent major stockholder interests (including holders of founders’ stock); rarely, it might make sense to give the Chairman title to an outside board member who brings particular prestige and gravitas to the Company, and who is “active” in helping the Company in some way; otherwise, it’s usually window dressing and no startup should have window dressing; so a startup with one founder as the CEO and another as the “Chairman” feels to the VC like window dressing intended to assuage an ego rather than a tough-minded business decision. My advice to founders: avoid extraneous uses of Chairman. 

(2) Almost no early-stage startup seeking VC funding should ever have one founder as the “CEO” and another as “President” or “Chief Operating Officer”. This is almost always a sign of title inflation (usually to assuage someone’s ego). Almost guaranteed, any startup that has both a CEO and a President/COO has the wrong person in one or the other (or both) of those roles. This sort of title inflation and proliferation is almost always – like most other “contortions” of the standard org chart – a red flag to VC’s. Can easily be taken to indicate that some of the co-founders are more worried about titles (and ego’s) than success. 

(3) In case I haven’t beaten the “excessive” Vice-presidents issue to death, here’s a final note: almost no startup seeking VC funding should ever have anyone with the title of “Executive Vice-president” or “Senior Vice-president”. Maybe when your startup has 1,000 employees, but not when it’s just getting off the ground. In my 25 years of experience, both as a lawyer representing startups, as well as a VC investing in them, this particular kind of title inflation has almost always been a bad sign: either that someone (the one with the high falutin’ title) is overly concerned with ego and resume-building instead of rolling up his sleeves and actually working, or that “room” in the org chart is being “cleared out” for someone else, who though not ready, nevertheless demands it. 

Another thing founders often fail to realize: not every member of the founding team has to be a Vice-president (or higher). It’s OK to have “TBD” in a number of the Vice-president “boxes” in the org chart of a startup (and elsewhere). For example, don’t worry if you have a great Director of Engineering but no Vice-president of Engineering in your startup. Any Director worth his salt should be able to manage a startup engineering team through 6-8 people, particularly if the CEO has technical experience. In this situation, the VC’s question will be: will the combination of the CEO, the Director of Engineering and the company idea be attractive to a great Vice-president of Engineering when hiring one becomes appropriate. 

Moreover, some Vice-president boxes in the “standard” startup org chart should be empty. Example: almost never is it appropriate for a startup to have a Vice-president of Finance/CFO. 

We have, VC’s and entrepreneurs together, created a somewhat “macho” culture around the act of starting a company. As part of this, entrepreneurs are expected to have a “can-do” attitude, high levels of self-confidence, etc., etc. While some of this is actually productive and helpful, it can also – like any ideology carried too far – be counter-productive and unhelpful. A small, but important, example of this is the concern entrepreneurs have about ever putting “Interim” before their title on the org chart. It’s easy to see how an entrepreneur could assume that a VC would view this as a lack of self-confidence, or as evidence of some other “un-macho” attributes.  My advice, however, is to not be afraid of putting “Interim” in front of anyone’s title when it’s reasonable to assume that an early task of the startup is to recruit someone else to that role. This is particularly, but not exclusively, true of the CEO role. VC’s love entrepreneurs with the self-confidence and guts to start a company, as well as the wisdom to realize that they’ll need help. 

3. Can All My “Vice-President” Co-founders Recruit World-class Talent? 

In their early days, most technology startups don’t need more than one, maybe two, people in any business function other than Product Development/Engineering. Even in a startup, a principal (not the only) job of a Vice-president is to recruit. So, not infrequently, the only Vice-president a startup will need is a Vice-president of Product Development/Engineering (and, as noted above, not always even that).

If one has other co-founders with the title of “Vice-president”, one should be very comfortable that they will be able, when the time comes, to recruit high-quality talent to work for them. In this regard, there are two old, hackneyed maxims that founders should nevertheless repeat to themselves when considering their co-founding team: (1) “A” quality people only want to work for other “A” quality people, and (2) while “A” quality people hire other “A” quality people, “B” quality people hire “C” quality people. Given the difficulty (and economic consequences of) “transitioning” a co-founder out of the Company, make sure any co-founder you make a Vice-president is an “A” quality person. Otherwise, you could have a problem.