Jun 11, 2012
Table of contents:
The Founder’s Dilemmas, by Noam Wasserman is a book of research and case studies conducted into starting up a company from the vantage point of an entrepreneur. The book focuses on the key dilemmas a startup founder will face over the course of starting a company. From dilemmas with co-founders to acquisition and exit dilemmas, Wasserman uses research collected from over a decades worth of surveys with entrepreneurs in the technology and life science industries and case studies from serial entrepreneurs such as Evan Williams of Twitter and Dick Costolo of Feedburner to map out the journey and highlight the key inflection points of starting a company.
The first dilemma of becoming a startup founder is that of your career and when is the right time to take the leap from employment to full-time founder. Wasserman takes a quantitative and qualitative approach by using data from CareerLeader (an international survey of career motivation), Wasserman’s own data collected over a decade, and the case studies of three very different entrepreneurs.
Wasserman looks at a number of different areas of the career dilemma and analyses the various common problems that potential founders face when making the decision to leap into their own venture. Much has been made of the optimum age of starting your own company, much of which I assume is centered around the hype of super successful young founders, but Wasserman shows that age is much less a factor than other, often forgotten about traits.
There are a number of things a potential founder should account for when starting a new venture, and so Wasserman tends to favour the waiting for the right time approach rather than jumping in at the first opportunity. Expertise in an area, strong relationships and connections, managerial and financial experience are all aspects that are key to founding a successful startup that can be gained through previous work experience within an existing organisation.
However, waiting can also come with its own perils. If you work for many years at a prestigious company and you work your way up the corporate ladder to a large salary, impressive title and strong compensation package, it can be extremely difficult to walk away from it into the uncertainty of your own company. You can very quickly go from the secure future of a large company, to the dark depths of the unknown of your own startup.
As you get older you are also far more likely to have other responsibilities such as a spouse, children or financial contracts like a mortgage. Younger founders generally do not have this kind of responsibility and so starting a company favours those without it. It can be much harder to walk away from a guaranteed paycheck when you have a spouse and children to look out for.
And finally, you must dispassionately evaluate your idea across a number of different areas. Is there a market for your idea and have you done the required customer development to test your hypotheses? Many of the ideas that seed successful companies were discovered whilst working in an existing organisation. It can be easy to spot an opportunity when you are immersed within a niche. In comparison, it can be difficult to fully understand the implications of an industry without prior experience.
Wasserman categorises the three key dilemmas into three areas, favorable career circumstances, favorable personal circumstances and favourable market circumstances. It is incredibly rare for a founder to find themself with the perfect opportunity as at least one of the three areas is not present. By either founding a company with a co-founder, immersing yourself into an industry or niche to find an idea or engineering a position of financial security for you and your family through savings and a low personal burn rate, you can find a favourable position to launch your new venture.
The second dilemma a new startup founder faces is building the team to take the idea and create a company. The first decision is whether to found the company solo or find co-founders to help you. Whilst founding a company solo is great for keeping control and avoiding the possible complications of working relationships later down the line, there are other important aspects to take into consideration. Firstly, you must ensure that all the human, social, and financial capital are adequately covered to ensure the new venture will be a success. It’s rare to find that a single person can cover all of these areas. Secondly, founding a company is incredibly hard and so it’s often beneficial to have a comrade to share the highs and the lows with. And thirdly, there are a lot of jobs to do when you are first starting out, usually more than one person can handle. With multiple co-founders you will be able to scale and grow far quicker by spreading the work-load and responsibilities.
Although co-founding a startup can seem like the easier option, who you choose to be your co-founders can often have serious implications. Whilst friends and family seem like a natural choice due to the pre-existing relationships, it is rare for this to ever transfer into a business setting. Due to the natural ups and downs and the need for drastic change within a startup, having close social relationships with your founders can mean important decisions are often neglected in the fear of hurting someone’s feelings. Wasserman’s research suggests that old co-workers make the best co-founders whilst founding with strangers is usually better than founding with close friends or family. Like every aspect of a new startup, there is a wide array of extremely important considerations to think about.
Usually each of the founders will take a C-level title, normally depending on their previous experience. So for example, a strong technical person will take on the role as CTO (Chief Technology Officer). It is often the case that the “idea” person will take on the role of CEO because it is their vision that is leading the company. However, this person will not always be the best person for the CEO role, particularly once the company reaches scale. Often handing out C-level titles is a mistake if somebody isn’t up to the role they have been bestowed from day one.
Decision making is also a contentious area. Often groups of friends with equal equity, talents and backgrounds will share in decision-making. However, this can be slow and ineffective. On the other hand, a strong hierarchical structure, where the CEO has dictatorship type powers will enable the company to move quicker, but will often make more mistakes as a single person can’t process information as well many people taking equal responsibility. There are pros and cons with both dictatorship and egalitarian management structures.
And finally, the company’s board will usually be made up of the founders in the early stages, but once the company grows, and particularly if they receive investment, this structure will have to change. Conflict in authority can arise if internal executives are given board status. It should be clear who is in charge and how this relates to the management team.
The final dilemma in the founding team is how each founding member should be compensated. There are a number of factors to consider when dividing equity between founders including investment, commitment and roles within the startup. Some members will bring a lot early on (capital, the initial idea), whilst other’s contributions will only come to light once the startup gets going. There is also the risk that a founding member will not fully commit, leave for a better opportunity or be forced to quit through a change of circumstances. By using a vesting schedule based on time and milestones, and a dynamic equity split that builds into it the agreed notion that circumstances will change, a startup can protect both the founding team and the company should an unforseen event arise in the future.
After the dilemmas of the founding team, outside relationships and the key personnel you bring into the company will present you with further dilemmas. Hiring employees and bringing in investors are key to filling the gaps in human, social or financial resources your company will need to succeed. However finding the right people, and offering them the right incentives to join your fledgling startup can be a challenge in of itself.
Hiring decisions take on three distinct area as outlined by Wasserman as “The 3 R’s”. These are Relationships, Roles and Rewards. You startup will also go through 3 main stages, Startup, Transition and Mature, and so this will have a direct impact on the decision of The 3 R’s depending on your current position.
During the early startup stages of a company, the majority of all new hires will come from the personal networks of the founding team. This is advantageous because the candidates are likely to be very loyal and fit seamlessly with the culture of the company. During the unknown stages of a startup, it is beneficial to hire people who are generalists and can cover multiple areas and disciplines. And finally, startup companies don’t usually have much cash and so it is far more likely to offer high equity and low cash compensation.
Once the company is transitioning from startup to a large company, The 3 R’s begin to change. Firstly the prior relationships with new hires are either weaker or non existant. This is because all the personal contacts and relationships have been exhausted and so new hires are found either through weak ties or through traditional employee search. The early hires will need to transition from their initial roles as “players” to “coaches” and be able to hire and manage their own specific teams as departments and structure is created. However, some people can’t make the step up to management, or just prefer to not take that next step. And finally the rewards at this stage of the company are usually moderate cash and equity with some level of vesting to ensure key senior members of staff are incentivised to stay at the company.
And finally, once the company has reached a mature stage, The 3 R’s change once again. At this stage, Executive search firms are hired to find new employees. The roles have fully transitioned into a hierarchy pyramid, and employees are rewarded with high cash compensation and employee stock options.
Often a fledgling startup will require investment capital as it grows and before it becomes cash flow positive. Investment capital usually comes from any of the following three sources, friends and family, Angel Investors or Venture Capitalists. Each source of investment come with both positives and dilemmas.
Much like founding a startup with your friends or family, or hiring people with close relationships as your first key hires, taking money from this group of people is fraught with danger. Often the people who love us are investing because they want to see us succeed, not for financial gain or because they have an expertise in the domain. By taking money from your friends and family you are risking your close social relationships and you are not gaining anything in the human or social resources that a startup requires. Getting money from your close relationships is often the most accessible, but for the potentially catastrophic consequences to your social well-being, should be only a very last resort.
Angel Investors are usually wealthy seasoned entrepreneurs who want to reinvest part of their wealth back into the startup ecosystem and help young entrepreneurs with advice and guidance. Angel Investors are more accessible than Venture Capitalists, but also less effective. Usually an Angel will be able to offer guidance to inexperienced entrepreneurs and will have a much wider group of contacts that the founders can tap for hiring or for further investment. It is usually the case that the Angel will make the introduction to a Venture Capital firm. Angel Investors will sometimes require a seat on your company’s board, or at least a more formalisation of the company. Angel Investors won’t have the strict accountability or control that a VC will demand, however, they won’t usually have the influence or resources that can really create a huge company.
Venture Capitalists (VCs) are professional investors who control large sums of money raised from Limited Partners (LPs). VCs are held accountable to the LPs and so are extremely financially motivated to invest money and show a large return. When a VC makes an investment into your company she will be looking to protect her investment from the risk associated with investing in a startup company. This might result in unfavourable founder terms or control over board and company decisions to ensure her investment is well-managed. VCs will be able to provide your company with the best resources, industry contacts, experience and expertise but it comes at the price of lower equity for founders and usually a loss of at least part of the control of the company.
As a company grows, it will move through various different phases that are categorised by very different needs and priorities. For example, the strategy for Crossing the Chasm and then surviving The Tornado are completely different. Startups are usually founded by product-oriented founders who have a strong attachment to creating the first version of their flagship product. However, once the company is ready to transition into a big company with defined processes and an emphasis on sales and customer acquisition, many product Founder-CEO’s can quickly become out of their depth. A second reason why Founder-CEO’s are sometimes needed to be replaced is because they have built up the early executive team from their close circle of friends who might not be up to the job of taking the company through the next stage. It can be extremely difficult for a Founder-CEO to fire a key executive if they have been with the company since the start.
The paradox with Founder-CEO succession however is, sometimes a Founder-CEO needs to be replaced if they are doing a good job as well as a bad job. For instance, a Founder-CEO might have successfully developed the whole product, raised capital and hit every key milestone, but despite this early success it might still be deemed right to find a more experienced CEO to grow the company further. This can lead to a lot of resentment and a difficult succession process from a Founder-CEO who does not want to give up control of their “baby”.
Taking outside investment from VCs is the first step in losing control of your company. At first you lose equity and board seats, but very soon your investors will want to see the best possible return on their investment and so they will try to maximise the company’s chances of success. This often means bringing in a more experienced, or more operations style CEO who can successfully manage a company once it reaches a certain stage. Once a company reaches a stage where the emphasis is on sales rather than development, the board will usually want to replace a product-oriented CEO with a sales-oriented CEO.
The succession can either be initiated by the current CEO or by the board or investors. If the current CEO realises they are not up to the job of growing the company further, they will usually be a lot more cooperative with finding a replacement, and will sometimes retain an executive or board level role in the company. This is usually the case with wealth-motivated founders. On the other hand, for control-motivated founders, losing control of the company they have put such a huge amount of effort into is too hard to bare, and so they will make the process as drawn out as it can be, possibly disrupting the future value of the company.
The dilemma of Founder-CEO succession is one that can seriously effect a startup. Investors are less likely to invest in a company where the current CEO is unwilling to give up control. For the founder, it can be a particularly difficult time, especially if they do not feel they have done a bad job up until this point.
The final dilemma that is covered by this book is one that is evident in each of the previous dilemmas. Does a founder aim for wealth, control or both. If the founder is looking to create wealth, they are far more likely to dilute their own part of the pie in order to achieve a overal more valuable company. This usually leads to giving up equity to co-founders, early hires and using Venture Capital to throw rocket fuel onto the startup’s growth. A control motivated founder is more likely to found alone, hire less experienced members of the team and avoid taking investment, but rather “bootstrap” the company and ultimately grow it slower than they would have with outside investment.
First time founders are more likely to choose either a wealth or control path. For serial entrepreneurs, achieving both outcomes is more likely as these type of founders are usually able to start the company with their own human, social and financial resources.
Conflicts can arise within the startup if different founders are looking to achieve different outcomes. Wealth oriented co-founders might become disillusioned with a control motivated Founder-CEO if they believe he is not up to the job.
The Founder’s Dilemmas is quite different from more traditional startup books such as The Four Steps to the Epiphany because Noam Wasserman is an academic and not an experienced entrepreneur. Wasserman has collected startup quantitative and qualitative data over 10 years to form the foundations of this book, and is able to give a different perspective of what it takes to start a company by drawing conclusions from data, rather than his own experiences.
At first this might seem counter-intuitive as surely only someone who has experienced the trials and tribulations of a startup could advise other people. But Wasserman takes a strictly academic approach to talking about his findings, and relies heavily on case studies from serial entrepreneurs like Evan Williams of Blogger, Odeo and Twitter and Dick Costolo of FeedBurner and Twitter amongst many others.
I think the huge strength of book is that it lays out all of the key decisions that a startup founder will need to make on the founding of a company. By collecting the data and experiences of a large dataset of entrepreneurs, Wasserman is able to pick out the key dilemmas a founder will face and show empirically the outcome of each decision. He is also able to draw conclusions on the motivations of entrepeneurs and what is the best path to achieve that outcome.
Whilst this book is not a war story of entrepreneurship, and it won’t teach you how to successfully build, launch, market or scale a new company, it does offer a huge amount of insight into the journey of a startup. Using empirical data, case studies from entrepreneurs who have faced the dilemmas and an overview of what you should expect over the course of founding a company, The Founder’s Dilemmas is an excellent book to prepare you for the tests that lie ahead. I’m confident that after reading this book, you will be much better informed to make the right decisions in your startup.
Buy The Founder’s Dilemmas on Amazon (Affiliate link).