governance 101: early- and growth-stage tech companies - entrepreneurship 101 (2013/2014)
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This lecture will present foundational considerations for building your board of directors, as well as compare and contrast it to an advisory board. The session will emphasize how to build and adapt the board of directors for high productivity and impact, and describe how to do so at the pace of high-performing startup and growth-stage technology businesses. Lecture takeaways: -Understand the difference between a board of advisors and a board of directors and how the structures relate to each other -Understand the basics of building, managing and evaluating your board of directors -Be equipped to make both incremental and larger changes in how governance is addressed in your businessTRANSCRIPT
Governance 101
Early-‐ and Growth-‐Stage Tech Companies
Dave Litwiller Execu>ve-‐in-‐Residence
March 5, 2014
Important Disclaimer This presenta>on is made with the understanding that the author is not engaged in rendering legal, accoun>ng, securi>es, or other professional services. If legal advice or other expert assistance is required, the services of a competent professional person should be sought.
Copyright, David J. Litwiller 2014 3
Overview
• Board of Directors and Board of Advisors
• Roles and responsibili>es of directors
• Building, managing and evalua>ng the Board of Directors
• Evolving governance at the speed of a rapidly changing business
• Director compensa>on
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My Background • Twenty+ year opera>ng trajectory in early-‐, growth-‐ and
scaled-‐up tech companies in the Waterloo region – R&D; marke>ng and sales; manufacturing; finance and accoun>ng; HR;
general management; acquisi>ons, dives>tures and turnarounds
• Board director of three early-‐ and growth-‐stage companies; two in enterprise SaaS, and one in photonics instrumenta>on
• Board observer to several other technology company boards
• Advisor to many technology start-‐ups spanning soYware through clean energy and medical technology
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Board of Directors vs. Board of Advisors
Directors Advisors
Choice of Members By shareholders By management
Purpose Oversee business affairs Advise as requested
Obliga>ons Under Statutory and Case Law
Yes: CBCA, OBCA, BIA, OESA, others
No
Agenda Sets own Set by management
Power to Hire and Fire Yes: CEO; appoints officers No
Liability Significant and growing Lible
Du>es Fiduciary, care At convenience of management
Compulsory Disclosure of Business Informa>on
Yes No: informa>on can be selec>vely disclosed
Time Commitment 250 to 450 hours per year Flexible, by mutual accord
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Board of Directors (BoD)
Duty of Loyalty (Fiduciary Duty) • To act honestly and in good faith with a view to the best interests of the corpora>on – Unqualified priority to the corpora>on over personal interests or other compe>ng claims
– Act openly and honestly – Disclose significant informa>on within his/her knowledge
– Maintain confiden>ality of the corpora>on’s informa>on
– Exercise independent judgment – Act with one voice outside of the boardroom
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Duty of Care
• To exercise the care, diligence and skill that a reasonably prudent person would exercise in comparable circumstances – Act in good faith – Act ra>onally, reasonably and on an informed basis
– Iden>fy and act upon problems which should have been apparent
– Follow reasonable processes and prac>ces
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Further Obliga>ons
• Inform and Advise Shareholders – Provide shareholders with all material informa>on rela>ng to mabers for which shareholder ac>on is sought
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Standard of Performance • Due Diligence
– Informa>on access and review – Delibera>ve process – Reliance on experts and independent authori>es when appropriate
– Record proceedings
• Business Judgment – Act in a manner reasonably believed to be in the best interests of the corpora>on at the same >me as fulfilling other du>es
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Leading Prac>cal Issues
• Mentoring CEO – Support and appraise – If necessary, remove and replace
• Never running out of cash • Delibera>ng strategic shiYs • Selling the company; building buyer value
– Next round investors, liquidity event • Shareholder communica>on
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Director-‐CEO Rela>onship
Good Directors: • Indicate important ques>ons in advance of mee>ngs to the chair and CEO
• Don’t always demand more data to make a decision
• Forewarn the CEO about the director’s stance on major issues
• Avoid ganging up on the CEO to the extent possible
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BoD Reali>es
• It is work, and people need to be work-‐like
• Liability is significant – Good directors will require D&O insurance
• The board needs to collec>vely be knowledgeable about all salient aspects of the business and its context, even though individual directors’ skills can be more narrow
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BoD Reali>es • All directors need to be engaged, ac>ve contributors, and documented as such
• The risk tolerance of directors needs to match the risk profile and stage of development of the business
• Lible staff or management board support bandwidth; this isn’t like blue chip company governance
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Evolving the BoD -‐ General • Term limits, typically three years
• Current directors and officers rou>nely networking to develop director candidates
• Periodic board self-‐assessment to iden>fy weaknesses and skill gaps as the basis for targe>ng new nominees and beber prac>ces
• Lead director or non-‐execu>ve chairman (not the CEO) to provide improvement feedback to other directors
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Evolving BoD Skills with the Stage of Company Development
Company Stage
Typical # of Directors
Typical Director Mix
Key Skills
Concept 1 1 Founder Business forma>on, F3 funding, early customer and technical discovery
Seed and Start-‐up
3 1 Founder 1 Investor 1 Independent
Recrui>ng, technology, opera>onal set-‐up, angel/VC funding, ecosystem rela>onship development cri>cal to success over next 18 months
Growth 5 2 Founders 2 Investors 1 Independent
Commercializa>on, opera>onal refinement, ins>tu>onalizing know-‐how, scaling, growth finance, working capital management, interna>onal reach
Late Expansion
7 2 Founders 2 Investors 3 Independents
Increasing financial sophis>ca>on, acquisi>on or IPO savvy, governance discipline, reduc>on of surprises
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Changing Nature of BoD Issues Company Stage
Sales AccounAng Legal
Seed • Customer discovery
• Managing by bank statements
• IP: rights, deadlines, chain of >tle & assignment, licenses
Start-‐up • Early sales • Strengthening
value prop • Compe>>ve
strength
• P/T bookkeeper • Monthly I/S and B/S • Tax returns done • Source deduc>ons
made and remibed
• Director resolu>ons to approve equity rights grants
• Complete minute book • Material contract review
Growth • Accelera>ng growth
• Revenue predictability and quality
• Rising efficiency
• F/T CFO • Audited financial
statements • Annual forecasts
with predic>ve value • Variance review
• Records management • Compliance • Risk management • Li>ga>on, real or
threatened, especially employment, partner, and IP
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High Impact Board Prac>ces Company Stage
PracAce Helps
Seed and Start-‐up
• Prospec>ve hindsight • Reference class analysis • Pre-‐commitment • Commitment limits
• Manage risk, coaching, coach-‐ability • Reduce sampling and intui>on errors • Catalyze learning, an>dote groupthink • Counter decision driY & confirma>on bias • Do more with less; pivot effec>vely
Growth • Execu>ve sessions • CEO and management
performance feedback • Agenda effort
• Independence of board • Correct quickly and early • Keep up spirited inquiry in the most
impacnul areas
Late Expansion
• Con>nuous improvement of governance
• Methodical director onboarding
• Evolu>on of the BoD as a self-‐regula>ng body
• Accelerates >me to full individual and group produc>vity, facilita>ng renewal
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BoD Advice (I) • There’s no shortcut for spending the >me and doing a lot of reading and
networking for a director to bring an informed, independent viewpoint about a company’s strategic environment
• Speed, decisiveness and dexterity improve with a somewhat smaller board than larger, IFF, sufficiently broad, experienced, and dedicated directors are available to span the requisite disciplines with a marginally smaller group
• Meet eight >mes per year, in person
• Don’t let the flurry of other business push aside a deep dive each mee>ng into the mabers which are keeping the CEO and CFO up at night, and to understand what alternate data , viewpoints and interpreta>ons exist to richen the discussion on those mabers
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BoD Advice (II) • Require board packages be delivered to directors 72 hours in advance of
mee>ng, with a cover memo iden>fying which items are informa>onal only, and those which will be deliberated and decided
• Structure discussion so that management’s recommenda>ons are clear, yet with room for director input, but stopping short (usually) of unbounded possibili>es
• At every board mee>ng, discuss the quality of informa>on, agenda, >me alloca>on, and delibera>on process with each director contribu>ng 1-‐2 improvements for future mee>ngs
• Conduct brief execu>ve sessions at each board mee>ng to discuss management and board performance without members of management present, as well as who will deliver that feedback
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BoD Advice (III) • Have execu>ve management provide regular feedback on where it has
goben the most help, and the most frustra>on, from the BoD
• In normal circumstances, use 75% of >me in the boardroom looking forward (strategic, market), and 25% looking back (finance, ops)
• Always know the company’s financial runway, be proac>ve raising funds, and become expert in accessing alterna>ves in the financial model and capital structure to improve funding op>ons
• Rotate which board member will take a hard stand on difficult issues as they arise, so that one person does not always take the role of cri>c
• Designate one responsible director for the CEO performance evalua>on process, even though all directors par>cipate
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BoD Advice (IV)
• Know what is in the ar>cles of incorpora>on, corporate by-‐laws and shareholders’ agreement detailing which issues require board approval and which ones require shareholder approval
• If there is debt in the business’ capital structure, have a summary of covenants as an appendix to each board reading package
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Board of Directors Compensa>on As a company moves towards IPO, Board of Directors op>on grants decline. The following chart presents
the low to high ranges of typical Board op>on awards (for independent Directors). Cash compensa>on is not generally employed un>l the IPO run-‐up period. Appropriate levels of cash compensa>on are highly dependent upon firm size and industry.
Extremely Rare
• Tend to be significant advisors or
mentors
• At most 1-2 Directors
Rare
• Tend to be significant advisors or
“names”
• At most 1-2 Directors
1st Independent Director
• Tend to be industry figures
• 2-3 Directors
More Common
• Tend to be industry figures,
related businesses
• 2-3 Directors
Almost Mandatory
• Tend to be industry figures,
“brand enhancers”
• 3-5 Directors
Independent Director Pre-IPO Equity Participation
0.00%
0.50%
1.00%
1.50%
2.00%
Pre-Angel Pre-Round 1 Pre-Round 2 Post-Round 2 IPO Run-Up
Equi
ty P
artic
ipat
ion
(una
djus
ted
for d
ilutio
n)
Source: DolmatConnell & Partners
Board of Directors Compensa>on For an independent director: • Three to four year ves>ng, with the ves>ng term oYen matched to
s>pulated director term limits (typically three years)
• One year cliff for new independent directors, no cliff for incumbent directors
• Monthly or quarterly ves>ng aYer the cliff
• Post-‐service exercise term of one year
• Full accelera>on of ves>ng upon acquisi>on (since directors have a large amount of work in the run up to an acquisi>on)
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Resources and Further Reading
• Board of Directors – Directors’ Du>es in Canada, Barry Reiter
hbp://www.cch.ca/product.aspx?WebID=3688
– Startup Boards, Brad Feld and M. Ramsinghani hbp://www.wiley.com/WileyCDA/WileyTitle/productCd-‐1118443667.html
-‐ Angel and VC-‐Backed Compensa>on, DolmatConnell hbp://www.hr.com/en?t=/documentManager/sfdoc.file.supply&s=iQATS1TdtcHxlqC5L&fileID=1207584777466
• Board of Advisors
– The Four Steps to the Epiphany, Steve Blank hbp://www.stevenblank.com/books.html
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Follow-‐up Discussion
Contact:
dave [dot] litwiller [at] communitech.ca
© David J. Litwiller, 2014 27
Supplementary Slides: Board of Advisors
(BoA)
BoA Roles and Responsibili>es
• Provide independent advice to CEO and management without fiduciary or duty of care obliga>ons
• Advise and lend credence to the company in the areas most significant to success over the coming two years
• Can be any number of members, but typically four to seven
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Three Common Forms of BoAs • Customer
– To gain heightened voice of the customer in the company’s product and business strategy
• Scien>fic or Technical – To help with complex underlying science or technology
• Business – To gain selec>ve input on business issues from advisors without either side taking on the mutual obliga>ons or formalism of a fiduciary board posi>on
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Ideal BoA Member Profile • Expert and nearly invaluable knowledge • World-‐class networks • Abracts outstanding employees • Provides an aura of success in advance of the business achieving it
• Works hard and is responsive • Comfortable lending name and credibility to the business, and advoca>ng on behalf of the company
• Someone you’d love to have as a senior employee but is not affordable or abainable on that basis
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BoA Nomina>on Criteria
• Scien>fic or technical skill • Business strategy and company building • Product development • Customer and sales channel development • Business development and ecosystem rela>onships • Regulatory wherewithal
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BoA Challenges
• Only half of CEOs with BoAs are sa>sfied with them aYer working together
• Typical issues:
– Ongoing responsiveness – Advisors taking the >me to fully contextualize the company’s circumstances
– Interpersonal chemistry – Self-‐interested advisor behaviour
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BoA Success
• Likelihood of construc>vely using a formal BoA: – Highest: Tech start-‐ups requiring $ millions of funding and several years to get to revenue
• Biotech/pharma, med devices, semiconductors, telecom/datacom capital equipment, u>lity-‐scale cleantech, advanced materials
• Enterprises with large regulatory hurdles and risks
– Mid: • Enterprise soYware, consumer electronics, industrial technologies
– Low: • Consumer web services, mobile apps, soYware-‐in-‐plas>c gadgets
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BoA Advice
• In lower investment stake businesses, formal advisors who aren’t also investors can raise more ques>ons about the business for outsiders than they help solve
• Have an hour+ working session at the outset with a nominee BoA member to assess communica>on, thinking style, energy, and mutual fit
• Have a wriben charter or mandate which lays out expected commitments and contribu>ons
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Managing the BoA for Impact and Produc>vity
• The BoA will typically only put out as much as the CEO and management team puts into it: – Be explicit about the expected >me commitment and speed of responsiveness
– Hold mee>ngs regularly, typically two to four >mes per year – Set agendas and send materials beforehand – Ask advisors to present on specific topics for informa>on or discussion to management and the BoA
– Ask advisors for feedback on industry reports and management plans
– Ask for referrals and introduc>ons – Poll for input on point issues 1:1 as they arise – Keep advisors up to date on the company’s progress, such as with a monthly summary e-‐mail
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BoA Advice • Set term limits, typically one to two years
– Interest and impact typically wane over longer periods – Forces everyone to revisit relevance and changing circumstances with
a fast growing business – Removes s>gma of departure, par>cularly when customers or
partners are represented on the BoA – Terms should be renewable if the rela>onship is working out well
• To keep aben>on up, consider compensa>ng not on a retainer basis, but linked to deliverables such as mee>ng prepara>on, abendance and referrals
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Renewing the BoA
• Regularly revisit the top three things that the business needs to achieve over the coming two years – Early stage: De-‐risk value proposi>on or raise funds – Later stage: Drive growth, scale and cash flow
• Ask if the BoA is helping those things happen faster than opera>ng management could on its own – If it is, it is likely the right BoA at the right >me – If not, it is >me to revisit skills gaps, composi>on, and even the ongoing value of a BoA
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