Elizabeth Holmes: Why aren’t more CEOs in prison?
On the heels of Elizabeth Holmes’s conviction for four counts of fraud, the question begs… Why aren’t more startup CEOs in prison for fraud? Before we get into the answer, let’s explore a little about Elizabeth Holmes.
Theranos
Theranos was a technological biomedical startup, not unlike so many tech startup companies before it. Like many startups, Theranos began based out of Palo Alto, California… what some might consider the heart of Silicon Valley. Most startups that begin their life in or around Palo Alto seem able to rope in a lot of tech investors and tech money. Theranos was no different.
Let’s step back to understand who was at the helm of Theranos before we get into what technology this startup purported to offer the world. Theranos was helmed by none other than Elizabeth Holmes. Holmes founded Theranos in 2003 at the age of 19, after she had dropped out of Stanford University. In 2002 prior to founding Theranos, Elizabeth Holmes was an engineering student studying chemical engineering. No, she was not a medical student nor did she have any medical training.
Clearly, by 2003, she had envisioned grandiose ideas about how to make her way in the world… and it didn’t seem to involve actually completing her degree at Stanford. Thus, Theranos was born after having she had gotten her dean, but not medical experts at the school, to sign off on her blood testing idea.
Medical Technology
What was her medical idea? Holmes’s idea involved gathering vast amounts of data from a few drops of blood. Unfortunately, not everyone agreed that her idea had merit, particularly medical professors at Stanford. However, she was able to get some people to buy into her idea and, thus, Theranos was born.
From the drawing board to creating a device that actually does what Holmes claimed would pose the ultimate challenge, one that would see her convicted of fraud.
Software Technology
Most startup products in Silicon Valley involve software innovation with that occasional product which also requires a specialty hardware device to support the software. Such hardware and software examples include the Apple iPhone, the Fitbit and even the now defunct Pebble.
Software only solutions include such notables as Adobe Photoshop, Microsoft Office and even operating systems like Microsoft Windows. Even video games fall under such possible startups, like Pokémon Go. Yes, these standalone softwares do require separate hardware, but using already existing products that consumers either own or can easily purchase. These software startups don’t need to build any specialty hardware.
Software solutions can solve problems for many differing industries including the financial industry, the medical industry, the fast food industry and the law enforcement industry and even solve problems for home consumers.
There are so many differing ideas that can make life much simpler, some ideas are well worth exploring. However, like Theranos, some aren’t.
Theranos vs Silicon Valley
Elizabeth Holmes’s idea that a few drops of blood could reveal a lot of information was a radical idea that didn’t, at her young age of 19, have a solution. This is what Elizabeth Holmes sought to create with Theranos.
Many Silicon Valley startups must craft a way to solve the problem they envision. Whether that be accessing data faster or more reliably to creating a queuing system for restaurants using an iPhone app.
It’s not so much the idea, but the execution of it. That’s where the CEO comes into play. The CEO must assemble a team capable of realizing and executing the idea they have in their head. For example, is it possible to create a device to extract mountains of data from a few drops of blood? That’s what Elizabeth Holmes was hoping she could create. It was the entire basis for the creation of Theranos.
Investors
To create that software and device, it takes money and time. Time to develop and money to design and build necessary devices using R&D. A startup must also hire experts in various fields who can step into the role and determine what is and isn’t possible.
In other words, a CEO’s plan is “fake it until you make it”. That saying goes for every single startup CEO who’s ever attempted to build a company. Investors see to it that there’s sufficient capital to make sure a company can succeed, or at least give it a very good shot. Early investors include seed and angel investors, where the money may have few if any strings and later stage investors such as Venture Capitalists, where there are heavy strings tied to the money in the form of exchanging company ownership in exchange for money.
Later stage investors are usually much more hands-on than many angel or seed investors. In fact, sometimes late stage investors can be so hands-on as to cause the company to pivot a company in unwanted directions and away from the original vision. This article isn’t intended to become a lesson for how VC’s work, but suffice it to say that they can become quite important in directing a company’s vision.
In Theranos case, however, Elizabeth Holmes locked out investors by creating a …
Black Box
One thing that Silicon Valley investors don’t like are black boxes. What is a black box? It’s a metaphor for a wall that’s erected between a company’s product and any investors involved. A black box company is one that refuses to share how a startup company’s technology actually works. Many investors won’t invest in such “black box” companies. Investors want to know how their money is being spent and how a company’s technology is progressing. Black boxes don’t allow for that information flow.
Theranos employed such a black box approach to its blood analyzer device. It’s actually a wonder Theranos got as much investor support as it did, particularly for a CEO that young and, obviously, inexperienced when insisting on a black box approach. That situation is ripe for abuse. At 19, how effective could Elizabeth Holmes be as a CEO? How trustworthy and responsible could a 19 year old be with millions of dollars of funding? How many 19 year olds would you entrust with millions of dollars, after they had dropped out of college? For investors, this should have been a huge red flag.
There’s something to be said for the possibility of a wunderkind in Elizabeth Holmes, except she hadn’t proven herself to be a prodigy while attending Stanford. Even the medical experts she had consulted about her idea clearly didn’t think she had the necessary skills to make her far-fetched idea a reality. A chemical engineering student hopping into the biotech field with the creation of small, almost portable blood analysis machine at a time when commercial blood analysis machines where orders of magnitudes bigger and required much more blood volume? Holmes’s idea was fantastical, yet clearly unrealistic.
However, Theranos’s black box, dubbed the Edison or miniLab, was a small piece of equipment about half the size of a standard tower computer case and included a touch screen display and blood insertion port.
Unfortunately, this black box was truly a black box in all senses of the word, including its actual case coloring. Not only was the Edison’s innards kept a strict company secret, its testing methodologies were also kept secret, even from employees. In other words, no one knew exactly how the Edison truly worked. No, not even the engineers that Theranos hired to try to actually make Holmes’s vision a reality.
Theranos and Walgreens
By 2016, Theranos had secured a contract with Walgreens for Walgreens to use Theranos’s Edison machine to test blood samples by medical patients. Unfortunately, what came to pass from those tests was less than stellar. It’s also what led to the downfall of Theranos and ultimately Elizabeth Holmes and her business partner, Sunny Balwani.
The engineers that Theranos hired knew that the Edison didn’t work, even though they hadn’t been privy to all of its inner workings. Instead, what they saw was those tiny vials of blood trying to run samples on larger blood testing machines like the Siemens Advia 1800.
When the engineers, Erika Cheung and Tyler Shultz, confronted Holmes and Balwani about the Edison machine’s lack of functionality and about being asked to falsify test results, they were given the cold shoulder. Both Cheung and Tyler decided to blow the whistle on Theranos’s fraud. Cheung and Schultz both left Theranos after whistleblowing to start their own companies.
Ultimately, Theranos had been using alternative medical diagnostic technology in lieu of its own Edison machine, which the Edison clearly didn’t function properly and neither did the third party systems with the amount of blood that Holmes stated that it required.
This left patients at Walgreens with false test results, requiring many patients to retest with another lab to confirm the validity of Theranos’s results.
Elizabeth Holmes Fate?
In January of 2022, Elizabeth Holmes was found guilty of 4 counts of fraud. However, the jury acquitted her of all counts involving patient fraud… the patients were, in fact, hurt the most by Theranos’s fraud. The jury awarded monetary rewards to the investors, not to the patients who may have been irreparably harmed by her machine’s failure to function.
Why aren’t more CEOs in prison for fraud?
While the Theranos and Elizabeth Holmes case is somewhat unique among Silicon Valley startups, it is not completely unique. Defrauding investors is a slippery slope for Silicon Valley. Once one company is found perpetrating fraud on investors, it actually opens the door up to many more such cases.
Taking money from investors to attempt to bring a dream to life is exactly what CEOs do. However, Theranos (and Elizabeth Holmes) between 2003 and 2016 couldn’t produce a functional machine.
Most CEOs, given enough time and, of course money, can likely produce a functional product in some form. Whether that product resembles the original idea that founded the company remains to be seen. Some CEOs pivot a year or two in and change directions. They either realize their initial idea wasn’t unique enough or that there would be significant problems bringing it to market. They then change direction and come up with a new idea that may be more easily marketable.
Startups that Bankrupt
In the case of Theranos, other startups that go bankrupt could signal the possibility that CEOs may now be held accountable to fraud charges, just like Ms. Holmes. The Elizabeth Holmes case has now set that precedent. Taking investor money may no longer be without legal peril directly to company executives. If you agree to bring a product to market and are given investor capital to do it… and then you fail and the company folds, you may find yourself in court up on fraud charges.
Silicon Valley investors do understand that the odds of a successful startup is relatively low… which is why they typically invest in many at once. The one that succeeds typically more than makes up for the others that fail. If more than one succeeds, even better. It’s called, “playing the odds”. The more you bet, the better chances you have of winning. However, playing the odds won’t stop investors from wanting to recoup losses for money given to failed startups.
The Elizabeth Holmes case may very well be chilling for startups. It’s ultimately chilling to would-be CEOs who see dollar signs in their eyes, but then months later that startup is out of cash and closing down in failure.
CEOs and Prison Time
Elizabeth Holmes should be considered a cautionary tale for all would-be CEOs looking for some quick cash to get their idea off the ground. If you do manage to secure funding, you should be cautious with how you use that cash. Also always and I mean ALWAYS make sure the progress in building your idea is shown to your investors regularly. Let them know how their investor money is being used. When software is available for demonstrations, show it off. Don’t hide it inside of a black box.
Black boxes have no place in startup investing. As with Elizabeth Holmes, she’s facing up to 20 years in prison. However, her sentence has yet to be handed down, but is expected to be no less than 20 years. Though, it’s possible she may be given the possibility of parole and the possibility of a reduced sentence for good behavior… all of which is up to the sentencing judge.
Elizabeth Holmes opened this door for startup CEOs. It’s only a matter of time before investors begin using this precedent to hold CEO founders to account should an investment in a startup fail.
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Unlimited Vacation: Blessing or Curse?
I don’t usually get into discussing workplace stuff because it’s relatively boring. However, Unlimited Vacation is one perk that is really, really needs discussion. Let’s explore.
Perks and Jobs
I get it. I understand why companies offer perks. They have to offer perks for talent acquisition reasons such as:
- Companies must keep up with competition — If a company doesn’t keep up with what other companies are offering, they lose talent during recruiting
- Companies must offer perks that seem inviting — Again, this is a talent acquisition feather-in-the-cap sort of thing. It’s something the HR team can cross off the checklist of things to entice candidates
- Companies must offer perks that are inexpensive — Companies don’t want to give away the farm to offer a specific perk
What kinds of perks can you typically find in tech companies? You find perks like the following:
- A stocked kitchen — This includes soda, coffee, tea, milk / cream and then for food, this can include fruit, nuts, chips and cereal
- Bagel Friday — This perk includes donuts and bagels on Friday
- Lunches — Some companies offer subsidized and/or free lunches one or several days of the week
Those are all food related, however, other perks include:
- Day Care or reimbursement
- Commute expenses
- Free parking
- Tuition Reimbursement (job related)
- Training / certifications (job related)
- Paid sick days
- Paid vacation
- 401k
- ESPP (if public company)
- Company holidays
These are the HR type of benefits that many companies offer. Many of these have a real dollar based cost to the business. However, there’s a new perk that seems great, but really isn’t for several reasons. That perk is ….
Unlimited Vacation
This ‘perk’ (and I use this term loosely) is now becoming popular in businesses. Why? Because it doesn’t cost the business anything to implement and may actually save the company some money (or so companies think). On paper, the idea seems enticing, in reality it’s a pointless benefit to employees and actually encourages more employees to take vacation which may hinder productivity and deadlines.
Why is this benefit so bad? This benefit is pointless because there is no way any employee can actually use it in its unlimited capacity. If you were to try, you’d be fired and walked from the building. I don’t know of any business that doesn’t require approval for vacation from a manager. Even if you could request excessive amounts of vacation, it’s unlikely your manager would approve it. But, within reason, you can request time off and here’s where it begins to break down for employers.
The only people who can even use this benefit as unlimited are those who are in management positions, who don’t have to report their own vacation usage. In other words, subordinates won’t be able to use it, but managers will (and they will use it frequently).
This is one of those perks that will be abused by those in charge. Those not in charge will be penalized whenever they attempt to use it in any unlimited way.
Vacation Time
In general, asking for vacation time off is tricky. It must always be coordinated with ongoing projects, team commitments (i.e., on-call), other team member time off and holidays and requires manager approval. Even people who end up out sick can interrupt or force rescheduling of vacation time off.
Don’t be tricked by this perk, it doesn’t make vacation time off any more accessible and, in fact it is entirely designed entirely for …
Ripping off Employees
There are two fundamental problems with Unlimited Vacation. The first problem is that the benefit (ahem) is being implemented as a cost saving measure to rip off employees when they leave a company (and is designed to appear to save the company many thousands of dollars). This issue really only affects long term employees. You know, the ones who have devoted several years to your business. But now, you’re going to give them the finger on the way out the door? Smart.
With standard paid time off (PTO), you are allotted a certain amount of hours that accrue over time. Let’s say for every year of service that you complete, you will accrue up to 1 week off (with a maximum of 2 weeks that can be held in total). After 2 years of service, you’ll have those 2 weeks accrued, assuming you never take time off. If you leave the company after 2 years without taking any vacation, you’ll be paid out your accrued PTO balance for the 2 weeks that you didn’t take. That’s two weeks worth of salary you’ll receive upon exit, in addition to any other salary owed.
With Unlimited Vacation, that vacation payday goes away. Since it’s now unlimited, there’s no more time accrued and no more PTO to pay out for any employee. The only thing that payroll needs to keep track of is how much time you’ve used solely for timekeeping purposes. When you exit a company offering Unlimited Vacation, you won’t receive any vacation pay because they are no longer accruing any. This means that when you were formerly paid 2 weeks of PTO, with Unlimited Vacation you now get $0.
Unlimited Vacation is then an HR cost-cutting measure entirely designed to screw exiting long term employees over so companies no longer need to make any vacation payouts.
Here’s where the second problem begins. As employees realize this screw-over job and to make up for the lack of accrued time, this means employees will need to take as much vacation as is allowed without getting fired in the process. Since you can’t accrue, you now need to use.
Accrued PTO vs Unlimited Vacation
Businesses don’t seem to understand the ramifications of this perk on its workforce. The first ramification is that employees with accrued PTO no longer get the exit vacation payday. This is significant when exiting your employer and moving on. But, this only occurs on a termination event. Employees should remain cognizant of this event, but even more employers should remain cognizant of how this will change how vacation is used. As an employer, it means you need to understand how to retain your workforce better.
Here’s the second problem in a nutshell. PTO encourages employees to stockpile their vacation and rarely take it. Up to 50% of the workforce does this. However, Unlimited Vacation encourages employees to take as much vacation as they can legitimately get away with.
With PTO, employees might work and work and work with little time off. With UV, more employees will take more time off, thus working less. This is something that HR and management will need to understand about this benefit. If the point is to get people to take more time off, then UV is the answer. If you’re trying to encourage people to stay at their desks and work, PTO is the answer… but has the end payout.
It really all depends on how you want your staff to work. If you want people at their desks not taking time off, then PTO is your answer. If you want people constantly taking time off, then UV is your answer. Sure, UV saves you on the exit payments, but at the cost of people taking more time off throughout the year. It does one more thing.
The up to 50% of employees who rarely take time off will change their work ethic to include significantly more time off. Since they know can no longer stockpile and get that payday when leaving, they will now be encouraged to take time off to make up for that loss of money. This means that a workforce that you relied on to work excessive hours to make ends meet will no longer continue that trend in your business.
If you think that people will continue the same type of vacation behaviors they used with PTO when on UV, you’re mistaken. People will use what they are owed. If they are encouraged to take time off, they will whenever possible. This means that for the folks who rarely (if ever) took PTO days will now begin scheduling more time off throughout the year. That’s not because it’s unlimited, but because they understand that they no longer get the payout at the end. This compromise ensures they get the equivalent benefit and that means scheduling and taking time off. There’s entirely nothing the HR team can do about this change in vacation usage behavior when on the Unlimited Vacation plan.
It’s a use-it-or-lose it situation. If you never take vacation with PTO, you can justify it with the payout at the end. If you never take vacation with UV, not only do you get no time off, you get no payout at the end. It’s simple math. No payout at the end means using more vacation time to get the equivalent benefit. Employees aren’t stupid and they will realize this paradigm shift and compensate accordingly.
This outcome will happen. You can even watch your employees behaviors after you convert from a PTO to UV system. I guarantee, your employees will notice, understand and modify their vacation schedule accordingly. This may impact your business, so caveat emptor.
Good or Bad?
That’s for each company to decide. More employees taking more vacation is good for the employee and their morale. But, it may negatively impact the productivity of your business. With PTO, people not taking vacation means more productivity. With UV and more vacation time off, this likely means less productivity. It might mean a happier and less stressed workforce, but it likely also means less work getting done.
I’m not saying any individual will take excessive time off. No, I’m not saying that at all. That’s simply not possible. What I am saying is that if 40-50% of your workforce never takes time off under a PTO plan, you will likely find that number reduces to less than 10% of your workforce not taking time off with a UV system. That’s a significant amount more people taking time off throughout the year than on a PTO system.
If you delude yourself into thinking employees who don’t take vacation time off will continue a PTO trend on a UV plan, your HR team is very much mistaken. I can also guarantee that if managers deny vacation requests to keep employees at their desks, this too will backfire and your talent will leave. This will become a catch-22 problem in your business.
As an employer, you spend a lot of money hiring talent. You also spend a lot of money holding onto that talent. Why jeopardize all of that with a policy like UV that won’t really do what what you hoped it would? On paper, it seems like a great cost saving policy. In practicality, it will likely backfire on your company’s productivity efforts and cost you more money in the end, but not for the reasons you think.
Conversion Process
You may find that if you are converting from some other vacation system to unlimited that people do continue their traditional habits. However, that will change over time both as turnover happens and as people realize their loss of PTO payout. Once employees wake up to the realities of the new system, the amount of employees requesting and taking vacation will increase.
A UV policy will make it more difficult on the managers to juggle vacation timing, fairness and who can take what when. This will increase manager load by taking them away from managing projects and deadlines to managing the minutiae of juggling even more staff vacations.
Hourly Employees versus Salary Employees
This type of perk works best in salaried environments. With hourly employees, trying to offer a perk like Unlimited Vacation won’t really work well. This is particularly true of employees working in a call center or similar type environments. With salaried tech workers, this kind of benefit may work for you with the caveats that have been thus far described.
Startup or Established Company
If you run a startup, you should stay away from the Unlimited Vacation policy entirely. It won’t do your business any favors. Sure, it’s more cost effective, but only when long term employees leave. If you’re a startup, you won’t have long term employees to worry about for a while. Your duty is to entice your talent to stay, not leave. If you have a problem with a revolving door of staff, then you have a much bigger problem than a benefit like Unlimited Vacation. The problem for a startup is that a UV plan encourages more people to take vacation more often rather than stockpiling it for use later. Again, more workload for a manager to juggle vacation schedules rather than handling projects and deadlines.
In a startup, a UV policy means more people taking time off. This isn’t what you want when you need all hands on deck to keep the business afloat. You want most people at their desks and readily available at all times. When people take vacation, they expect to be cut off from their job including no email, no pager and no contact. And, rightly it should be. If you’re on vacation, you’re on vacation. PTO plans encourage staff to accrue now and take time off much, much later, perhaps years later. With a UV plan, this encourages more people to take vacation regularly. Not exactly what you need in a startup. PTO works for a startup because employees stockpile and then once the business is off the ground years later, they will then take their vacations. This is why PTOs are actually better for a startup than a perk like UV.
If your business is established with 500 or more employees, then implementing an Unlimited Vacation policy might be worthwhile depending. With larger numbers of staff, there’s more opportunity for someone to cover an employee who’s out. This means if your 40%-50% staff who are stockpiling decide to start taking vacation in increasing numbers, you can withstand this change in your workforce behavior.
It’s up to you to decide how to operate your business, but PTO vs UV is one perk you should thoroughly investigate and then weigh all pros and cons before implementing it. Don’t do it simply because it might (or might not) save you some cash when employees exit. Do it because it’s the right plan for your business’s current operating goals.
How not to run a business (Part 10.1) — Case Study: Startup Funding
Note, for this case study article, I have abandoned the Don’t phraseology to allow studying this topic in detail.
A few months back, I was thinking how I had previously used GetSatisfaction to, of all things, try to get some satisfaction from would-be shyster companies. It wasn’t that I was in need of that type of service by the time as there were plenty of other functional and more effective complaint sites (i.e., Twitter, Ripoff Report, Consumerist), but I was interested in checking in on what’s up with some of those forums where I used to post.
Interestingly, the site had drastically changed. No longer was the once familiar interface there. Instead, the site was now closed. No, no in the sense that they were out of business, but more that when you visited the home page, consumers could no longer start or post to individual company complaint sites. Now it was designed to be used by companies to direct their own customers to getsatsifaction.com when the customer had a comment. Indeed, it was no longer the same GetSatisfaction that I knew. I also knew something was up, but I didn’t know what. Let’s explore.
GetSatisfaction sold to Sprinklr
In April of 2015, GetSatisfaction was bought by Sprinklr for an undisclosed sum of money, apparently on a fire sale. What this meant was that the new owners likely wanted some parts of GetSatisfaction for their own purpose, but not to keep it whole or intact. That’s quite obvious merely visiting the new www.getsatisfaction.com today.
In that sale, the founders of the site (some had been pushed out as early as 2010), received nothing from the sale. Indeed, according to Lane Becker (one of the co-founders), the company was sold to Sprinklr for less than the amount the company had received in initial rounds of funding (~$16 million). Additionally, the original founders also apparently didn’t receive a dime from the sale, but that’s kind of to be expected since they were no longer at the company at the time.
A Case Study
According to Lane Becker, the two initial rounds of funding accepted by the executives at the time led them astray from the beginning. He also states that it wasn’t so much the $6 million in Series A funding, but it was the additional $10 million they also accepted far too early in company’s lifecycle.
So let’s understand the problem in this scenario. While Lane doesn’t elaborate on the above statements, I take them to mean that for the $6 million, they likely signed over at least 20-30% equity in the company. With the extra $10 million, considering the company valuation was $50 million, they were likely required to sign over another 20-30% (pushing them into the high 40s percentage range for equity ownership given over to investors. Once you’ve given over that much of your company to early investors, your company is no longer safe from outside influences. Indeed, for that money that you’ve just accepted, you’ve just paid the highest price of all: loss of control.
This is what I assume happened at GetSatisfaction and why the founders were ousted from the company. After all, when you give over that much equity to investors and when your company doesn’t perform as the investors expected, out you go.
Be Honest with Yourself
What lesson does this teach small business owners? It teaches to not only be shrewd about your business, but you have to be honest about your goals, what you want out of your business and why you are in business in the first place. If you can’t be honest with yourself and your co-founders, you will fall into traps that can end your business before you get started.
In other words, asking for funding doesn’t come without strings attached. In fact, once you pull the trigger on funding, your world as a small business owner is effectively over. Not only do you now need to worry about becoming profitable, you need to do it on someone else’s agenda, not yours. It also means that the outside investors will steer your company, sometimes whether you like the direction or not.
For all of these reasons, you’ll need to be brutally honest with yourself about what you expect in return from your business. Meaning, if you open a business to create and sell lollipops, investors might step in and want you to expand your business into areas where you don’t belong. Such as not only making lollipops, but also taking in contracting business to create lollipops for other candy companies. They might even have you move your manufacturing to China or Asia to ‘save costs’. Worse, they could steer your company into producing t-shirts or electronics or some direction that makes no sense. Mind you, you just wanted to make and sell lollipops. Investors want a much bigger return, so they’re going to hire and find people who will achieve their agendas, not yours.
Investors Gone Bad
Courting investors to your business isn’t a bad thing as long as you know what you’re getting into and you know how to deal with an investor who isn’t the right fit for your business. In other words, don’t accept any offer that comes along because, as GetSatisfaction is a clear example, your company may cease to exist under the wrong investor. Additionally, don’t immediately dip into investor capital to satisfy business needs. You should sit on that cash and wait until you really need it. This gives you time to pay out the investor and take your equity back if the investor becomes overbearing in their demands on your business.
Not all investors are good for your business. As the saying goes, “Nothing comes for free”. If the investor offer seems too good to be true, it likely is. So, you shouldn’t be willing to accept all offers that come along. You need to not only haggle the equity far lower than what they are asking, you also need to dictate just how much and how far the investor has input into the business. This all needs to be put in writing, so you need to have a good attorney on retainer to help you craft such documents. This also gives you the ammo you need to tell the investor to back off.
Protecting Your Business
When you open your new business, you need to understand that it’s a matter of thirds. One third of your time goes to producing your product and keeping it functional. One third of your time goes to managing your business finances, marketing, employees and protecting your business through legal contracts. One third of your time is spent trying to finding outside funding to help you grow your business. Each of these thirds being equally important.
If you fail to devote enough time to any one of these thirds, your business will suffer. So, while it’s important to produce a functional product that users need, you need to be able to protect your business plan from people looking to take advantage of you. Such attacks on your business can come from anywhere. These risks include:
- Technical attacks (DDoS, hacks, breaches, etc)
- Social engineering
- People sending fake invoices to be paid
- People calling asking to pay for fake yellow pages ads
- People sending toner and expecting you to pay
- Legal attacks
- Lawsuits
- Patents and/or Copyright ownership disputes
- Ex-employee
- Contractual breaches
- Unpaid invoices
- Investors attacks over
- Revenues
- Management
- Budget Allocation
- Direction of Company
These above are just a short list of the kinds of attacks that can be levied against your business. These are risks that you can mitigate if you think ahead and plan for each step of your business. For example, you probably shouldn’t accept rounds of funding unless you already have money in the bank. Basically, even though you may not need the money from the investor, having money in the bank means that the extra investment capital may allow you to take your business to the next level even if you don’t dip into the money right away.
On the other hand, if you accept investment capital because you actually need to use it immediately, your business is vulnerable. Unscrupulous investors will swoop in and take advantage of that predicament. They will then be able to scoop up more equity in your company than they are really due. If you’re in such a desperate predicament, you’re not at liberty to haggle with them over this. If you haggle, they walk and your business may fail. This leads to…
Failing Business
If your business is close to failure, this is the wrong time to be looking for investors. Instead, you should be looking for buyers to buy out your business. The right time to look for investors is when your business is just getting started and still has enough funds to stay afloat. The wrong time is when you’re desperate for a cash infusion or else the doors close.
Successful Business
If your business is in a good place financially, then you can shop around for investors. Again, you don’t want to take VC investment just because you can. If your business is doing well on its own, then you can haggle with investors. If an investor is unwilling to budge on the equity requirements, tell them to take a hike. There are other investors for whom you can seek to fit with your business needs.
Unscrupulous investors are everywhere. Sometimes they’re loan sharks, other times they’re just sharks. So, you need to get your business to a place where you have the ability to haggle and walk away if it isn’t the deal you want. Keep in mind that while the investor is doing you a favor by offering you money, you are doing them an even bigger favor by allowing them to invest. If your company succeeds, they will make a huge windfall from that investment. A windfall, I might add, that you can’t put back into your company coffers. You will be required to pay that investor off. So, for every dollar made, for each percentage of equity, you’ll need to compensate each investor. In other words, with a VC, you might as well consider it a loan with a super high interest rate and open ended payback terms.
What those terms mean is that as soon as your business has the cash to pay off the investor, expect for them to ask for it. This could be an inopportune moment for your business.
Business Loans
You should consider bank loans before considering VC money because with bank loans, the only thing due back to the bank is your payment. No equity is involved. Bank loans are typically for lower amounts than what some VCs offer, but it doesn’t have nearly the strings attached.
Crowd funding?
Sites like Kickstarter or Indiegogo are great for raising funding. But, there’s no free meal ticket here either. Not only does your project need to be accepted by the crowd funding site, you have to be willing to offer something to each investor for investing in your project. While that may not be equity in your company, it is usually something tangible (shirt, trip, book, product, etc). Don’t expect to receive millions in crowd funding, either. In fact, if you get $100k out of the deal, you’re doing well. Though, most projects end up getting far lower amounts. So, while crowd funding might help you get a product out the door, it’s not going be enough capital to run your business.
The Takeaway
You must treat your business as the most important thing. You should always put any money you receive towards your business… not towards house payments, car payments, boats, amenities, personal trips or other frivolous personal agendas. I’ve seen too many startups waste money on silly things like purchasing a company limo, or spending for outrageous parties or other wasteful uses… even so far as sending the CEOs kids to college. As a startup, wasteful spending will only lead your business down the tubes. Oh, and don’t expect the investors to stop you in that. They won’t. Though, they will let you spend your way down to nothing and then take your business away from you to liquidate it. I’ve seen this directly happen at least 5 times in my career and twice were companies where I directly worked.
Being a business owner is tough. But, it’s even tougher to make common sense and rational business decisions, especially early on. If you happen to have an up-and-coming star company that’s winning awards and being touted as the ‘next big thing’, don’t assume that means your business is shielded from bankruptcy or will make it big. No. It means that you’ve worked hard to get to that point and you need to work even harder to get to the next level. Again, I’ve personally seen co-founders wildly and lavishly spend on stupid things instead of investing that money back into the company. Or, more specifically, in finding a way to become profitable faster.
The fastest way to kill your startup is by taking excessive capital, giving away too much equity, wasteful spending and seeing all of those dollars as free loot to do with as you please. This is a recipe for failure. This was also the mentality of so many startups in Silicon Valley during the dot-com boom. This thinking is even somewhat prevalent today. Yet, I don’t see many of those co-founders in jail. Stealing millions of dollars to ‘play’ would land you in jail in any other place. However, in Silicon Valley, startup founders seem to be able to get away with this behavior.
When Lane Becker claims he got nothing from GetSatisfaction’s sale, that’s deceptive. He got to start a business in Silicon Valley. He got to operate that business for several years. He got to control millions of dollars in capital. He took home a salary. If he and his co-founders made the wrong decisions for the company, that was his fault and no one else’s. If he didn’t get anything from that business after having been ousted, then he should have made better decisions. GetSatsifaction’s sale to Sprinklr should be taken as a learning experience. Even though Lane may be somewhat bitter about the whole deal, he and his colleagues made the early decisions. We all have to live with our decisions in life. If those decision led to an outcome where he made no money from a company he founded, he has only one person to blame.. himself.
The ultimate takeaway is to educate yourself. Learn how businesses operate. Learn how venture capitalists operate. Learn how angel investors operate. Understand what equity is and how it can affect your business. This is all education. If you don’t educate yourself, you can’t possibly see when a decision is bad or good. If you feel you can’t learn every aspect of your business, then hire people who do understand it. If you don’t understand venture capital, then hire a CFO that does and who can help protect your business from unscrupulous investors and wasteful spending. As I said above, one third if your time should be spent protecting your business.
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