This is the third in a series of four articles that explain what it takes to be an outstanding member of the Board of Directors of a Start-up and help it succeed. This training was delivered by the Start-up Board Academy over four half-days.
Registration for subsequent sessions here: http://bit.ly/StartupBoD
1. Crisis Management
1.1 What are the most common causes of start-up crisis?
The most common causes:
- Misalignment of founders, shareholders and/or BoD
- Business model that fails and the start-up is not able to pivot
- Clients do not want the product (and the start-up fails)
- Scale-up is difficult (after 1m) either because the start-up is not able to recruit sales persons or difficulties to enter a significant market (e.g. US)
- As the company grows bigger, founder needs to move from CEO to CTO role but this causes friction or s/he doesn’t want to let go
- Want to stick to the original story which was sold to investors and prevents a salutary pivot
- Run out of cash and unable to raise any more financing because of any reason above
Check here for more lessons from failed start-ups.
Crisis will happen all the time, in different forms:
- In early stages, start-ups are wasting lot of energy because they are not formal, not organised enough: they lack leadership, then they lack delegation
- As they grow and add formality, they risk going overboard and risk dying from too much red tape
Board of Directors is present to coach and help through the different crisis.
In such case, Board of Directors needs to help in the right way:
- Do not apply the corporate world view: i.e. no point in putting together a list of things to do like preparing a monthly cash flow statement, when the company cannot afford an accountant anymore…
- Instead, focus on identify with the CEO/founders what not to do anymore and the 1 or 2 things that really matter and on which to put all attention and effort
- Generally the #1 thing: how to generate value for tomorrow, and not 3 years down the line
- Board of Directors needs to bring urgency by not only setting the strategy but also the milestones and short-term goals, and focus on value creation over the next 3 to 6 months
Board of Directors composition for best chance of success:
- 2 founders + 1 external Director who can be the Chairman of the Board; not necessary investors
- Board of Directors brings know-how about how a Board works and support the running of the start-up, no need for the Board Members to be from the industry (vs Advisory Board which brings experience about a sector / industry)
Useful reading: ‘The Hard Thing About Hard Things’ by Ben Horowitz.
- Ben Horowitz is a co-founder and partner of Andreessen Horowitz (www.a16z.com), a stage-agnostic venture capital firm that provides funding to the best new technology companies.
- The book is his honest and real take on entrepreneurship. Read review here
Question from the audience: is it true that it is not the big fish that eats the small fish anymore, but rather the fast fish that eats both the small AND the big fish? How fast are start-ups in Switzerland?
- Switzerland is relatively slow, entrepreneurs are taking things in a relax manner
- Difficult to accelerate (and getting funding for it) with the view of an exit in 3 or 5 years
- Pressure needs to be constant and not every 6 months when the Board gets a report or asks some questions and then nothing happens for another 6 months
- Very different from the US where investor brings a team and help the start-up to grow
- Start-up is about trying things out and finding what works and repeat it (scale), it is not about setting a plan for 5 years and putting figures out of thin air and goals for the next 5 years e.g. in biotech/medtech where start-ups are planning to have a finished product in 2.5y, but are not able to articulate what happens in-between
1.2 Signs of a crisis
How to identify the sign(s) of a crisis:
- Board of Directors needs to have the fingers on the pulse and talk to the team
- Board of Directors often ignores the signs and leave a potential situation develop and escalate into a full-blown crisis
Bottom-line: See the signs early, act quickly!
|Causes of crisis||What to do to identify potential signs?|
|Co-founders non-alignment||Ask founders their vision of the future and understand who wants to go where|
|Investors non-alignment||Big investor coming might also bring disruption
Ask each of them about the vision of the venture for the next 24 months
Is there any interference in each other roles?
|Failing business model||Need to go and meet customers to get their views|
|Customers don’t want the product||Did the founders get out of their laboratory?
Ask for customers validations
|Problem with product/solution||Identify lack of methods, ask about the testing procedures|
|Not able to pivot||Test the coach-ability of people and assess if founders are prepared to listen to other people or subject to ego trips (although a certain dose is required otherwise it’s unlikely to meet success)|
|Not able to scale||Assess the experience of the team: a relatively junior team will bring a problem of scalability -> will need to include senior people (even part-time) but there is some danger if they bring their reflexes from the corporate world|
|Not able to evolve and change roles||Test if the founders can cope with organizational changes|
|Stuck with the wrong strategy too long||Test how start-up is organized: Vision/Plan/team|
|Lack of cash||Check if the cashflow statement and projections are present and valid and whether the start-up has planned ahead|
|Loss of a key player||Identify ways to measure motivation of members of the team on regular basis|
1.3 Crisis management
When the crisis hits, make sure that the Board of Directors:
- Is able to step-back and to take an helicopter view
- Understands crisis importance
- Sets up a crisis team if needed
- Understands the options and related consequences
- Establishes priorities:
- Contain the problem so it does not become bigger
- Implement a work-around to continue provide service/product
- Identify the root cause
- Implement a permanent fix
- COMMUNICATES – Let everyone who might be affected know that there is a problem
- Lets people talk
- Works through the issue
- Thanks everyone involved for making the company stronger
- Learns from it (avoid to repeat the same mistake)
- Is able to revigorate the team after the crisis
1.4 What to do?
In case of a crisis, the Board of Directors will need to keep a cold head but also to act with urgency:
- Rebalance levels of intrusiveness and get involved
- Adjust expectations on timing: immediacy must rule
- Take things in your hands and assign responsibilities
- Communicate with employees, suppliers, clients, shareholders, authorities and regulators:
- Define who is communicating to whom
- Design message based on impact of each audience
- Don’t lie, don’t hide: if you don’t know, you don’t know!
- Communicate regularly
- Consider supplementing management or even appointing interim management if required
1.5 Investor perspectives about start-up crisis
Investors will often have divergences of views with the Founders… which can lead to a strategy crisis. In theory, the strategy is defined by the BoD (where investors sit) and applied by the Management / Executive Committee. In practice, the founders (running the ExCo) have different views than the investors and the strategy is not applied as it should be, resulting in crisis
Case study 1
- Cleantech company with a product for the building industry
- Founder is main sales person but sales are not taking off
- BoD comprising the founder, a technology partner, an investment fund, a Family Office and Angel Investors
- BoD has a very corporate focus, spends time discussing 3-year strategy and selling through international distributors
- BoD locked in various fights and did not see the lack of sales traction and did not focus on fixing the immediate situation
- Company run out of money, and to raise a round at down-valuation
- Factory burn down – end
- BoD was not adding value (members probably not experienced enough for this role)
- BoD lacked sense of urgency for sales – did not identify the main risks
- Delegating sales to distributors cannot solve a sales problem (distributors will only focus on fast moving products – if you product is not selling well, then distributors wont help)
Case study 2
- Mobile game company with a great game concept but no core delivery capability who hired a development team on another continent.
- CEO could not control the development, which ran into delays
- Waterfall development, not iterative, resulting in defects and inability to sell
- Developer team walked away
- BoD got involved heavily to try to fix the development and to renegotiate the deals with publishers
- When investing in a start-up, be careful if Start-up does not have the technical ability and needs to outsource this core competence
- BoD should not get overly involved for too long. If the problem cannot be fixed fast, then either consider cutting loses (identify where you can add values instead of focusing on fixing something that won’t work) or appoint interim CEO
Case Study 3
- Start-up producing a consumer, life-style product with very seasonal sales
- Start-up is hitting over indebtness issue as it runs out of cash as growth is too fast
- BoD got involved to negotiate the debt restructuring and debt negotiations so the CEO can focus on raising 3m chf from a big investor while at the same time signing a partnership with a top athlete to support the marketing.
- Start-up managed to reduce growth to +50-60% per year so it is more manageable
- Great team work with the CEO who had strong leadership – did not need to be told what to do, just needed to be allowed to focus on the two key priorities while the Board took the indebtness issue off him.
- Debt restructuring is hard as you have to play the bad guys – always keep some cash to pay-out creditors behaving irrationally
- Running out of cash is not the end (unless you cannot pay Social Security anymore), always try to negotiate with suppliers: they will prefer a bad deal than no deal and lose everything.
Managing the Insolvency Process
1 Bankruptcy Adjournment
If you think your Balance Sheet is not in good shape, but the activity (P&L) is positive, you don’t have to go bankrupt immediately! You can ask for protection from creditors, so you can restructure your B/S and continue your activity.
A few pre-requisites before asking for bankruptcy adjournment:
- You will need to demonstrate that you can continue your activity without increasing the liabilities
- The amounts at play need to be significant (e.g. in the millions, not the hundreds, as otherwise the Judge won’t even take the time to consider the case), but other factors are also at play e.g. how many jobs are at risk, whether the unemployment rate is low or high in your region, ect…
- You need to have a solid case and present this to the Judge
- You will have to have already negotiated a payment plan and have won over a certain number of creditors, if not the majority…
- You need to show you can do it, so negotiations need to be well advanced and progressing
- In essence, the judge is putting his/her credibility on the line by giving you a grace period, so there needs to be more than just a thin chance…
- Ask your accountant to assess whether you have a chance to be accepted
- If all creditors are suing you, then don’t do it – this can only work if a small number of creditors are suing (e.g. 2 in a bunch of 10, with 8 having already agreed to a payment plan), as the process is not cheap and this impinges the chances of success (you will need to pay for the curator’s fees)
- BoD establishes a plan consisting of cash flow & P&L, situation of each creditor (payment plan, negotiations, abandon and/or postponing of invoices, …)
- BoD informs the Judge who decides based on
- improvement to creditors’ situation
- whether assets are protected
- whether cost budget is assured
- If accepted, you will be given a short period during which you are protected from creditors (they cannot suit you) to sort things out, so you need to be ready to act
- Judge then appoints a curator (can be your accountant) who makes sure the BoD follows the plan and defines a time-line (typically 6-month) over which the situation needs to be fixed
- Curator will help prioritise payments to creditors and under which conditions they are made
- 6-month later, back to the Judge who hopefully recognizes formally that the company is back to health… otherwise case progresses to bankruptcy
2 Bankruptcy Process
The insolvency process needs to be done in the right order and you should avoid making any mistake, as otherwise persons that have lost money will have up to 10 years after they discover a mistake to bring a lawsuit against the BoD.
The process consists of three phases.
Phase 1: from realisation to the liquidation General Assembly
90% of start-ups will go through indebtness at some point in their life (e.g. you are a CHF 1m star-up and you start producing some assets, depending how you value them, you could soon find yourself in indebtness).
When you realise the issue, this needs to be minuted in the BoD meeting minutes.
First option is to do a soft landing and close the company before the situation hits a critical stage. But quite often the founder(s) will push to continue (it’s their baby and they will have lost everything…).
BoD (or CEO /founder if possible as s/he will have more information) then needs to establish the “Bilan de liquidation” – accountants are also involved (they will ask to be paid upfront). It’s generally a good idea to have someone from the management team sit at the Board, so they are around to provide access to data and information.
BoD calls for a liquidation General Assembly to inform all Shareholders. Shareholders will have to decide if they agree to the liquidation; they can refuse, but in this case, they need to discharge the current Board (can’t not be sued anymore), appoint a new Board, and inject new capital.
BoD prepares information for the Judge (Office des Faillites) with a list of assets (incl. debtors) and potential buyers of assets (need to be careful in case you know or have a particular link to the buyer(s) as you could be accused by the shareholders to make the buyer a favor), a list of Creditors, active contractors and future liabilities.
Recommendations during this phase:
- Stop paying any one, except social charges – this is particularly difficult and you might be tempted to pay a key supplier (e.g. website provider or owner of the building) to keep the activity going while you are looking for a solution (new investor, buyer, new big client, etc) – if you have to, then make sure you pay with your own money, not the company’s money ; if you pay with the company’s money, then you are doing someone a favor and this can open the door to a claim from other creditors.
- Pre-inform informally staff, creditors, contractors and clients that you are going to call a liquidation general assembly
- Protocol everything you say, do or send
- Beware conflicts of interest
This phase will last about 60 to 90 days from the moment the BoD realises the situation and the liquidation General Assembly takes place. During this period, the BoD needs to be particularly vigilant of decisions that are taken, in particular avoid any new hire or big order with a supplier – as these could be questioned later on, given the Board will have had knowledge of the situation and still decided to engage the company in significant decisions that could prejudice third party (new employee or supplier).
While you prepare the bankruptcy, the BoD should still look for alternatives (new investor, buyer for part or all of the activity). You need to show you are taking action to raise money, but again you need to be careful and avoid making big decisions.
Phase 2: from the liquidation General Assembly to the meeting with the Judge
Once the shareholders have agreed the liquidation:
- you can inform the Judge and the Registry of Commerce
- you can also inform the employees, suppliers, clients and Creditors and Debtors, that you are going to the Judge to kick-off the insolvency process
Only present the facts. Do not make any promise of any kind to anyone, do not pay anyone outside of legal fees during this phase.
Recommendations during this phase:
- During this phase, you are your own enemy, so be careful about what you say: say what you do and do what you say, nothing more, nothing less – don’t over promise (especially in situations when you want to show that there might light at the end of the tunnel!)
- Get access the company premises and scan all documents you can as you will lose access to all documentation once liquidation is pronounced and the accountancy firm takes over and you will need to have this information to defend any case brought against you in case you are sued later on…
Phase 3: after the meeting with the Judge
Once the Judge has declared bankruptcy, the accountancy firm takes over and will wind down the company.
If you want to read the other articles in the series:
- link to How to be an outstanding Board Member of a Startup 1/4
- link to How to be an outstanding Board Member of a Startup 2/4