Equity Incentives for Capital Intensive Startups

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The term “capital intensive” doesn’t always mean a need for high levels of working capital for equipment and facilities. For a growing number of startups, the capital intensity comes in the form of equity for talent. Your chances for attracting and retaining the top tier people you need for success are much better with some up front equity budgeting by founders and careful annual thinking about the equity pool you’ll need going forward for both new hires and merit-based awards to existing key contributors.

Equity Still Matters
Even though unicorns and IPOs have become more rare and the appeal of stock options for startups may not be what it once was, I maintain Equity Incentive plans remain table stakes for startups who want to attract exceptionally talented people. More than one founder has tried to dissuade me of this but my experience is that equity and ISOs matter, particularly for those people who have little to no variable component to their cash compensation package, such as a software engineer, versus a sales professional whose total cash compensation increases significantly based on performance.

On many occasions I’ve seen equity awards provide the hook to lure people away from larger, more established companies. There is more inherent power and flexibility in equity awards for recruiting and retention than a lot of founders may realize.

Founders’ Considerations
Founders are generally good at thinking through equity allocations amongst themselves and investors but the modeling of options for key employees (especially those yet to be hired) and those to whom you want to give merit grants is something easily overlooked in the early capitalization structure discussion.

Equity Incentives PDF

The size of the initial option pool you need available depends on the executive team you have on hand and those you will need. For example, if among your founders you already have your CEO, COO, CTO and other key executive team members, you may only need a pool of 10-12% of fully diluted shares available to create a suitable equity compensation plan. However, if you are yet to bring on several key members of your executive team, you may need 15-17% or more of fully diluted equity in the equity pool. I’ve seen founders caught off guard because they needed to come up with 5% equity for the CEO they really wanted.

The earlier an equity incentive plan reserve can be built into an equity strategy, the sooner it can be leveraged, usually in the form of winning a star employee through the draw of equity upside (either in addition to cash compensation or in exchange for a lower salary).

Budgeting for Equity: The Organization You Have and The One You Want
In addition to the executive team, you will need to think through your organization as it is and how you ideally want it to be. A good practice is to map out an entire organization chart and then do a bottoms up budget for granting equity throughout the entire organization. Budget out at least two years or to the next anticipated equity raise.

One example – and this is merely an illustration as equity grants have many moving parts and variables – is if you anticipate the need for a great software engineering team, you may allocate for your Engineering VP 1%; a senior engineer 0.5% and a line employee 0.25% (of fully diluted shares outstanding). Go through the same exercise for sales, marketing, operations and other functions. To avoid confusion at the time of future dilutive events, it is always prudent to detail option grants as a specific number of shares versus a percentage.

Again, not only do you want to create a pool of equity for new hires, but for merit awards; particularly if your horizons for major events (such as IPO or an M&A transaction) stretch beyond 3-5 years.

Conclusion
Equity compensation for employees and key stakeholders under a formal Equity Incentive Plan remains an important retention and motivation strategy for early and growth stage companies, particularly those with longer horizons to an exit, IPO or gaining traction in the market.

Founders should take care early on in their history to ensure that they have a well thought out Equity Incentive Plan and pool.

In the war for talent, equity may be your biggest capital expenditure and you can make your dollars go much further with some forethought and follow through.

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Kent Elmer is Managing Partner of TechCXO.  He can be reached at: kent.elmer@techcxo.com.  See Kent’s full bio.

Negotiating Price

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When it comes to negotiating a price in mergers and acquisitions, there are, of course, two very different perspectives: those of the buyers and those of the sellers.

The buyer wants upside, efficiencies, strategic fit and certain parameters met. The seller wants fair value (or maybe a little more than fair value) for their company. Effective negotiators get deals done by bridging the two perspectives. Below are some useful maxims for the respective sides.

The buyer wants upside, efficiencies, strategic fit and certain parameters met. The seller wants fair value (or maybe a little more than fair value) for their company. Effective negotiators get deals done by bridging the two perspectives. Below are some useful maxims for the respective sides.

Sellers

Valuation. What’s my company worth? There are many variables to valuation but you can get in a reasonable range to begin negotiations with the right information. First, there are comparables in your industry. If your firm is private, look at market capitalization and ratios for similarly-sized and positioned companies that are publicly traded.  NOTE: There is a discounted valuation for private companies versus public companies. In the past, public companies were worth significantly more — the valuation gap ranged from 30-50% plus. That dynamic has changed, but it is important to note that a private company discount still exists.
Along with public company valuations, you can also research M&A and other transactions in your sector for similarly-sized companies. Another standard and popular gauge is the historical revenue per employee calculation.

Strategic Assets + Future Value – We’ve talked before about the importance of the Seller’s Story. Specifically, negotiate a price based on the value your company brings to the acquirer; determine how you can accelerate their growth and/or enhance their value, then negotiate off that prospect. That means highlighting strengths be they geographic, unique market niches, key customers, market dominance, service abilities and more.

Buyer’s Disclosure – We often think of disclosure from the seller’s side, but there is also a buyer’s disclosure that can help the seller’s valuation. Buyers use a logical process for acquisition targets and pull together for their investment banker or consultant marching orders to find companies in a certain space or market sector with the specific attributes. The company will have obtained Board approval to seek companies with these attributes. Ask investment bankers callers what these attributes are – you might even ask for a document the I-bankers have prepared for their client. Do this right at the initial stages of inquiry and then build your story along these sought attributes.

Pay Only for Strategic Fit. Avoid price discussions until you thoroughly understand the acquiree’s business; put you best people on the project team until you validate the strategic value proposition and only pay for that. Remember: No amount of back office rationalization or tax benefits can justify an acquisition; the value always comes from expanding and penetrating new markets.

Buyers

Price: Keep it Simple. Adhere to the KISS rule of simplicity when establishing a price range / multiple for acquisitions price. Keep the variables few and simple. This will increase the likelihood that both parties are focused on the good of the combined entity post closing.

Room for Growth. Set a price with room to grow the multiple in order to make the purchase “accretive” to your company’s value. If the acquiring company is valued at say 10 times net income, the target price of the acquisition should be less than or equal to 10 times earnings. That way the acquisition itself helps increase the value of the acquiring company. Acquiring for more than your valuation will result in negative value to the purchaser. Also, price represents perceived value which should represent the ability to disrupt a new market with new advantages; base pricing on the asymmetrical competitive advantages.

Demand (from yourself) a Post-Deal Plan. Due diligence is not complete until a 6 to 12 month post deal plan is in place. Without it, you don’t really understand strategic fit and can’t justify the deal. Post deal plan should center on quick market wins demonstrating new strategy.

Keep Savings for Yourself. Cost savings through shared assets, like software and licenses; shared services like accounting, legal, HR and marketing; and share operations, such as facilities, belong to the buyer and should not be part of the price negotiation. There is always risk in not achieving the savings.

Outsourced CFO Guide

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Companies have increasingly delayed hiring a full-time CFO until they faced a significant financial triggering event. However, with rapidly changing business models and dynamics, companies are keenly aware that expert financial management is a requirement for their business and financial expertise must be represented on their team.

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TechCXO pioneered the on-demand executive model, beginning with the part-time, interim and on-demand CFO.  When should you to think about an outsourced CFO? There are typically three different reasons that a company would consider outsourcing the CFO function: High-Growth/High Stress; Specific Projects; Transition Issues.

Go in depth on how to work through a selection criteria when considering the on-demand CFO model.

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Fundraising: A Primer for the CEO

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For non-finance professionals, much of what a CFO does is a mystery and more than a little daunting.  Cash flow statements, 409a valuations, tax, audit, treasury, stock options, D&O insurance are among the many topics that strike fear in the hearts of CEOs, especially those new to the role.  But more than any other topic in finance, the concept of fundraising is often the most daunting and misunderstood.

How much do we need?

When do we need it?

Where do we get it?

Under what terms?

After 30 years of being a CFO and helping more than 50 companies raise an aggregate of a billion dollars plus in debt and equity, I have some guidelines and advice for how companies should manage their fundraising process.

Patience

When it’s you, your partner and your dog working out of your basement, you have a unique opportunity to think about your business before deciding what it is you need to fund your plan.  This thinking stage evolves into a more detailed plan, usually in the form of a slide deck (20 – 30 slides, no more!) that follows a traditional outline and describes the product, the team, the market, the opportunity and the underlying financial plan.

Based on your assumptions and estimates, you should be able to articulate what it will take to launch the business.  The funding required is typically adequate to fund the company for 12+ months and/or to a specific value inflection point.  The key is to take the time to do your planning and take as little money as possible to support the launch.  Ideally, you should self-fund the business until you’re ready to talk to outsiders.

Friends & Family (F&F)

If you need more time or more money than you can commit to yourself, then the next option is the so-called Friends & Family round.  This is where you hit up your parents, siblings, Uncle Joe and others who are willing to invest in you, no matter what your business plan.

Unless you are lucky enough to come from a wealthy, extended family and because there are generally not many of these people in the first place, F&F rounds tend to be relatively small – no more than $1 million.  The process is quick and simple, but although these people can be very supportive of you, the risk of failure is still very great, and you should be honest about that.  You should know that one’s heart often follows the pocket book.

Angels

A step up from the F&F, individual investors or “angels” are your next best option.  Angels are high-net-worth individuals and often invest in groups to help streamline the process.  Angel rounds can be anywhere from $500k to $3 million and many of these people are experienced entrepreneurs who can add value with their operational acumen or their connections.

The biggest problem with raising angel money is that it is not unusual to have 20 or 50 or even more individuals who have invested.  Because angels are often entrepreneurs themselves and want to know what’s happening in the business from day to day, this can be time consuming and expensive to manage.  The term “herding the cats” is often used to describe the process of managing your well-meaning, but inquisitive angel investors.

Terms and valuation/dilution

It’s worth pausing here to discuss the mechanics of fundraising.  The best advice I can give is to keep it simple and don’t be greedy.  For the F&F and angel rounds, I recommend using a convertible note as a way of keeping it simple.  This avoids the inevitable fight about valuation and ownership until a later date.  Any funds received will be invested as a note payable and will accrue interest until some qualifying event occurs, usually a larger financing round.  Upon closing a qualified financing round, the principal and interest will “convert” into the new security, often with some sort of discount for having taken the early risk.  The simplest form of such a note is a SAFE or Simple Agreement for Future Equity that can often be as little as 1 or 2 pages.

The ownership / dilution issue is the most difficult for an entrepreneur and I’ve often seen companies ruined because the owners could not accept the terms that were offered and end up with $0.  This is your baby and it’s really hard to let go, but you have to be realistic about what investors will expect and what you’ll need to be successful.  The best thing to do is to run a process and have more than one option available so you have some leverage.  I always tell my clients that you don’t get paid on your Series A (or B), rather you get paid when you sell your company or if you are very lucky, when you go public.  So don’t sweat the difference between 5% and 10% ownership.  If you have good, patient investors and are successful, it won’t matter.

Venture Capital

VCs are the first of the so-called institutional investors and will invest in early stage, high risk opportunities.  They will invest anywhere from $2 million to $50 million and often specialize in a specific industry.  This is a broad range and there are VCs who focus on the company formation end of this range (typically Series Seed rounds) and those who focus more on later investments (Series A and beyond).  These firms are staffed by only a handful of partners, the best of whom have already been successful entrepreneurs.  They in turn will have raised money from larger institutions and are responsible for managing and investing huge sums of capital.

From the outside looking in, VCs can seem pretty intimidating with their teams of Harvard MBAs and seemingly unlimited access to capital.  And they are tough to reach.  The best advice to getting the attention of a VC is to use your network and get a “warm” introduction anyway you can.  While many VCs claim to be risk takers, like any good investor, they will be looking for deals with higher rewards and lower risk.  If you’re part of a team that has built successful companies or are in a hot space, then your job is a little easier.

Growth Equity

As the name implies, growth equity players specialize in investing in mid to late-stage companies that have de-risked their business and need significant capital to grow, either by investing in manufacturing, sales & marketing or just building the team.  Unlike VCs who will invest in companies with no revenues or profits, growth equity players are looking for companies with traction, usually $5+ million in sales and if not profitable now, then within sight (e.g. less than 12 months) of achieving profitability.

Strategic investors

So-called strategics are companies in your industry who may be interested in investing in your company to nurture innovation or expand into new lines of products.  On the one hand, a strategic investment can be a great way to gain valuable knowledge about processes or markets and leverage the might of a larger player for things like sales distribution.  However, having a strategic investor can sometimes eliminate a set of buyers because they view the investor as a competitor.

Government grants

There are numerous government initiatives to support entrepreneurs and they vary widely by industry and design.  There are loans, grants or in-kind services that can help you build your business.  Of course this assistance comes with certain strings attached, most notably rigorous reporting requirements that can be challenging for small businesses.  The Small Business Administration (SBA) is a good place to start to research the various options and how they might apply to your company.

Mergers & Acquisition (M&A) 

Unless you go public, M&A is the most likely way to generate liquidity for you and your investors.  This is where all your hard work pays off and you reap the rewards of your success by selling some or all of your company.  You can do this yourself, but I recommend employing a professional such as a business broker or investment banker.

The inflection points & metrics

Inflection points are the key stages in a company’s life cycle where value increases exponentially.  In product companies, examples are the first prototype, the first commercial revenues, market expansion and profitability.  For pre-revenue companies such as biotechs, examples include identifying a lead drug candidate, producing the compound and then the various stages of the FDA approval process through to commercialization.  For any type of company, inflection points might include hiring a crackerjack CEO or doing a deal with a strategic partner.

Metrics are used to help both the company and investors quantify when these inflection points occur.  Companies use metrics such as sales growth, average selling price (ASP), gross margin, earnings before interest, tax, depreciation and amortization (EBITDA) or net income to measure their progress against goals.  It’s critically important to establish the right metrics for your team and report on them in an accurate and consistent fashion.  Knowing your business’ metrics and being able to demonstrate growth and strength in the company is the best way to support a sales process.

Investors often look at the same metrics but will typically use a multiple of revenues or EBITDA (a good proxy for cash flow) as a way of valuing your business.  You should be well-armed with examples of companies that are comparable to yours and how your metrics stack up against your peers.  You can then quantitatively demonstrate the worth of your business in a sales cycle.

Closing the deal

Fundraising takes an inordinate amount of your team’s time and it can often feel that you are neglecting your core business in the chase for dollars.  Experienced teams will know how much they want to raise and where that money will take them before they have to raise more.  They will also cast a wide net, run a process with multiple interested suitors and enlist the help of friends and advisers to augment their team and make introductions.

The process can be nerve wracking and at times, disappointing.  But there’s nothing more gratifying to entrepreneurs than closing a deal that can help them execute on their dream.

Best Audit Ever

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BEST AUDIT EVER: FOUR GUIDELINES

TechCXO partners are fond of saying credible numbers lead to credible management.

Audits may not be sexy but a smooth annual audit shows your board, lenders and auditors that you have your financial processes and systems in place, which builds confidence. These four guidelines will help you extend that confidence.

1. Control Your List – Auditors want the world in terms of information. That’s the nature of the job. Often, they’ll ask for things that aren’t material to your business, which creates busy work for you. For example, if you’re a $10 million company, you don’t want auditors asking to review $1,500 contracts. You can take control of your Prepared by Client Schedules (PBCs) by discussing what is material and what isn’t. Also, part of your fees should include preliminary work. Compare the work done the year previous to see what can be started early.

2. No Surprises — Busy Season is Busy Season. Your auditors have zero flexibility this time of year and delays will cost you money. An audit for a regional firm may cost about $200 per hour. At 300 hours for an audit, that’s $60,000. Make all the pre-closing entries you can ahead of time. Even if you don’t have numbers for all 12 months, you have 11 month’s worth. Start working on audit schedules now. If you can’t close your books on time, you can’t complete your schedules and your audit field work is delayed – that will cost you. Have your Prepared by Client Schedules done; and more importantly, have internal management’s
review of PCBs done, before the auditors show up to avoid surprises.

3. Hard Close – Year-end means additional entries. A company may buy property all year long and never enter into a fixed asset ledger. All of a sudden those two dozen computers purchased throughout the year are “hand grenaded” into depreciation entries. Build in some buffer time for these year-end tie-ups. Make sure sub ledgers tie and reconciliations are in order. This is a good time to establish a robust monthly closing process.

4. Expensing Options – FAS 123R requires companies to expense options. That means you have to create a value for your options which results in operating expenses. Make sure you understand your pricing model, how it is computed and you have reviewed it internally. Your auditors need to buy off on variables such as volatility and risk and it all needs to be supported – complicated audit, preferred stock, stock options accounting, be sure to allow time. Get valuation done every year as part of the audit.

CFOs and Sales

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Should CFOs Advise Sales?

Yes, we did say it: most companies should have the CFO – if they are experienced and strategically-capable — advise the Head of Sales. Here are four reasons why:

1. Margins: It’s not what the dollars you get, it’s the dollars you hold – most salespeople (TechCXO Sales Executives excluded) aren’t keeping their eye on margins. They are doing what they are supposed to do – convert leads, sell, hit goals. Often that will include loose contracts that include deep discounts, even if their hot-selling product has little competition. A CFO may forbid discounts for products with little or no competition. Conversely, since cash is important too, a CFO may deeply discount inventory for clearance, promotions, or incentives. When the focus is on margins and profitability, logic – and profitability — reigns.

2. Pricing: Pricing and profitability go hand-in-hand. In a previous article, we noted that a 1% improvement (increase) in your price will generally create an 11% increase in operating profit. If a profit goal requires an overall 2.5 percent price increase, for example, CFOs can create systems that optimize individual product prices based on multiple dimensions (including geography, distribution channel and brand) rather than raise every price on the list by 2.5 percent. A CFO can also quantify power and risk, in that the company can increase price most where there is the highest power and lowest risk, and be most cautious where power is low and risk is high.

3. Customers: Companies consistently coddle its larger, better-known customers for prestige, perceived branding advantages and other reasons, even if it is actually small and midsize customers that are the most profitable. For example, some of your customers may be taking too many deliveries or requiring too much service; or order sizes may be too small to justify delivery costs. Perhaps the mix of products is wrong to keep the deliveries cost-efficient. A CFO who understands customers at the item level can overcome flat or down revenue with vastly improved profit margins via the right mix of customers.

4. Business Discipline: Sales are exciting. So exciting, in fact, that the CEO and Head of Sales can get caught up in some strange behavior such as a string of non-standard quotes. Enough “custom selling” will start to compromise the strategic plan, operating plan and actual decision making. After the third non-standard quote, the whole market may be wondering if the company is setting a new street price. CFOs need to forecast, refine and simplify to attempt to build predictability into the business. With ad hoc processes, controls are lost along with the ability to ask: Is this trend showing us something about the business? Is our message right or wrong ? What is the market telling me? Do I have the right sales team? Forecast-Refine-Simplify-Repeat offers an organization institutional discipline.

Managing Cash: Look Here

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Look Inside, Outside and Across

Try to run your car while neglecting the engine’s oil and the results are predictable. The same is true for running your business without proper attention to managing cash. Where should you focus your attention? Three areas: Inside. Outside. Across.

#1 Inside. Start with the “inside” of your company when managing cash.  First, you want to have a firm grasp of all revenue and cash assumptions in the forecast. Do this by going right to the source: the sales organization. With tools like salesforce.com and other CRM-related software, there’s really no excuse for surprises or gaps between revenue forecasts and cash. The CFO and VP – Sales should be talking weekly about incoming orders and forecast realization. Consider too, moving to rolling forecasts as opposed to only annual plans. Weekly, monthly, quarterly rolling forecasts will give you a closer, more dynamic look at the organization. Don’t, however, discard your in depth 12-month look at the organization.

This is the third of a four-part series from TechCXO focused on Managing Cash and Optimizing Profits. See Part 1: Math Behind Growth. See Part 2: Should CFOs Advise Sales?

Second, in tough sales seasons, the sales organization might be more inclined to create special terms. That may be OK, but the CFO should be on top of all of the financial and credit terms the sales team extends to prospects, and should have the power to approve or reject exceptions to standard terms.

Third, manage commissions wisely. A good rule of thumb is to hold back the last third of sales commissions until the money is in hand and not just housed in accounts receivable.

#2 Outside. Your second area of focus is “outside”, meaning tight management of receivables and vendors. When receivables go outside of your Net 30 Day terms, start calling customers on day 31, not day 40. Call consistent payment laggards even a little earlier.  You will be setting expectations for how you expect to be paid.  You also want to be prepared to be tough with stopping shipments and services for customers who are slow to pay. This is particularly important with newer customers.

While you may not be granting much grace in your receivables, you may want some grace extended to you from your vendors. Depending on your relationships with key vendors, you may need to stretch typical Net 30 days to more like Net 60 days. Be warned, however, staying under Net 60 in your accounts payable will keep you off your vendors’ radar, but you don’t want to go out to 75 days. Your reputation runs a major risk of getting dinged, and there could be pricing implications… word spreads fast.

#3 Across. By “across”, we mean that you leverage every tool possible across available financial vehicles. For example, we
always recommend to any company with cash balances of six figures and above to have sweep accounts, as in “sweep” your cash into an interest-bearing overnight account.

Another caveat: while it’s good for your cash to be working for you, don’t keep your primary cash accounts too close to zero.  Banks need to make money and they are always watching. Have a chat with your banker, to make certain that you are in sync. They may be more than glad to execute a sweep account if they manage your “available” cash for you . You’ll need a track record of a healthy cash account just for aesthetics and if the need arises to get some additional capital. Investors and creditors like to see healthy cash amounts.

Why Your CFO Might Be the Most Overlooked Growth Strategist in the Room

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If you think your CFO’s contribution to increased profitability is only from cutting costs, think again — you may be looking past your biggest pro-growth asset.

A New Attitude: CFO as “Growth Strategist”

A CFO’s job is to spend money. That’s right… spend money. The association with finance executives and cutting costs has twisted the true function of your top finance executive. The CFO pays employee wages, pays vendors, pays taxes, pays rent, pays benefits, pays utilities. They are constantly spending money. And yet the association with CFOs as an agent for growth and profitability is almost non-existent. That’s a mistake.

Since the CFO is the biggest spender in your company they also know where the money is best spent. Here are three ways to leverage a CFO or finance executive’s capabilities to increase margins:

1. Understanding the Math behind Growth – In a typical company a 1% improvement (increase) in your price will generally create an 11% increase in operating profit. Let’s repeat that: a 1% improvement in price will create an 11% increase in profit.
By contrast, a 1% improvement in variable costs gives you a 7% increase in profitability and a 1% improvement in fixed costs gives you only a 3% profitability bump. We naturally turn to CFOs to help improve costs but do we bend their ear about pricing? What
about discount incentives or pricing inventory for clearance, promotions, or incentives?

An experienced and strategically-minded CFO should have a seat atthe table when setting prices, discounts and contract-terms for your company.

2. Add Value First, Reduce Costs Second -This dovetails with the math of point #1. Instead of just seeking to take costs down by 10% (you shouldn’t stop trying to do that), also look to add value that will justify a sales price increase of 10%. What services an features can be added inexpensively? Added value equals higher margin gain. Customers will expect you to pass costs savings onto them anyway so look first at adding value, benefits, margins, such as more expensive warrantees before reducing costs.

3. Looking Under the Right Rocks (for Costs) – Most organizations will look to attack costs where they “feel” things are the most wasteful. Bad idea. You need to prioritize the search for cost improvements by tackling the largest dollar chunks in the product/service production and delivery stream. For example, if you produce a $100 product that costs $10 for assembly and $50 for key components, but you know your assembly has excess costs in it, don’t waste time in the $10 assembly system – go immediately to key components. Maybe you can shop for new component vendors or change the contract structure.

You can engineer-out more dollars attacking big items than you can in sweating out more efficient operations.

How Much Should You Pay Your Board? A Guide to Board Compensation for Startups and Private Companies

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Board compensation for directors of large, publicly traded U.S. companies has passed a threshold of $325,000 per year in total fees. What’s less clear is how directors at private companies and startups are compensated — a key consideration in your Board Management and compensation committee.

Elements of Board Compensation

Total compensation for all public and private company board directors can have any number of elements that may include:

  • cash retainers
  • per-meeting fees
  • full-value stock awards
  • stock options
  • signing equity grants
  • ownership grants, and
  • deferred compensation.

Large Company Board Comp vs. Small Public Companies and Startups

The differences in directors’ packages at publicly traded S&P 500 and Russell 3000 companies versus private companies and startups are significant. For example:

  • Cash Retainers and Per-Meeting Fees – Publicly traded companies generally have richer cash payments and annual retainers of $200,000 or more. In contrast, private companies and startups may either pay a per-meeting fee or a much smaller retainer. (See chart 1)
  • Equity vs. Cash – Equity represents the majority of total fees for public company directors — about 60% of total compensation versus 40% cash on average. Some startups may forego cash payments altogether and instead attract board directors with “real equity” in the form of stock options or restricted stock/units.
  • Forms of Equity – Public companies primarily provide equity in the form of full-value stock awards (i.e., fully vested stock, deferred stock, restricted stock/units) and, perhaps, small stock option grants. Private companies and startups, whose stock is generally not liquid and whose value realization depends on an event, such as an IPO or the sale of a company, will grant restricted stock or stock options.

According to Chris Thomajan, TechCXO’s Managing Partner in Boston, and author of The Board of Directors Management Guide for Startups, compensation for private companies and startups is considerably lower, as those directors face less risk and fewer disclosures and regulatory hurdles than their public counterparts.

“Early-stage companies should expect to pay $5,000 per meeting or $25,000 per year to your directors. That number increases the closer a company gets to an IPO and can be in the range of $40,000 per year for pre-public or public companies,” said Thomajan. “It’s worth noting that investor directors — your VCs — do not get compensated at private companies.”

Early-stage companies should expect to pay $5,000 per meeting or $25,000 per year to your directors. That number increases the closer a company gets to an IPO and can be in the range of $40,000 per year for pre-public or public companies

Investor directors — your VCs — do not get compensated at private companies.

Board Management eBook (PDF)

Non-Executive Board Members’ Median Compensation

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Company
($ in Revenue)

 Cash/Retainers Per Meeting Fees* Full Value Stock Awards Stock Options  “Real Equity” or Long-Term Incentive Equity Grants
Large Cap Public $200,000 $2500* $190,000 1%
Mid Cap Public $80,000+ $2000* $140,000 1%
Small Cap Public $70,000 $1500* $120,000 2%
Private $251M – $500M $50,000 $5000 1.2x cash retainer
Private $51M – $250M $40,000 $5000 1.2x cash retainer
Private Up to $50M $30,000 $5000 1.2x cash retainer
Startups $25,000 or ** $5000 0.1%-.5%

All the Ways Board Members Receive Compensation

Board members receive compensation in the form of cash, equity, stock options, and, for startups, ownership equity grants. According to an FW Cook report, the average mix of compensation of cash to equity is 40% cash and 60% equity. Technology firms skew higher with equity representing more than 70% of total compensation.

  • Cash Compensation / Retainers – This is direct cash paid to each eligible director for their service. Most companies prefer a retainer-only structure versus paying a retainer plus meeting fees. As many as 85% of mid-size to larger companies prefer to have only retainers. Startups, however, may tend to prefer the cash plus meeting fee model.
  • Meeting Fees – Just as the name implies, board members are paid for a pre-set number of meetings per year (see averages below), and additional payments for more meetings may exist. Startups may only pay either a small retainer ($25,000 on average) or a per-meeting fee of approximately $5,000.
  • Equity Compensation / Stock Awards & Stock Options – Overwhelmingly, mid and large-cap companies grant an “equity retainer,” which is a full-value stock award annually. Most do not issue stock options to directors. However, some sectors, such as technology, provide both full-value stock awards and stock options.

Pay Differences Between Board Directors Based on Role

If you are an independent board member of a private company or you are a lead director or committee chair, more compensation can be expected in the form of additional retainers and/or meeting fees.

“Distinctions are certainly made for the specific role of a director. The chairman of the board or someone with relevant scientific or financial expertise, like an audit committee, might be paid more than a regular director,” according to Thomajan.

Independent Directors at Startups

Chris Thomajan, who has sat on more than a dozen boards, many of which are for biotechnology firms, is a strong advocate for attracting independent board directors as quickly as possible.

Unlike a company’s officers, such as a CEO, and their investors who sit on your board, independent directors are typically paid a combination of cash and equity for his/her services.

There are several ways to structure the cash compensation, but in general, the director is either paid a flat fee per meeting or a flat fee per year (paid quarterly) that assumes a certain level of commitment. He also said that while there is a cost to bringing on non-investor board members, the potential benefits far outweigh those costs.

“Independents can be an invaluable source of industry knowledge, but perhaps more importantly, can inject some much-needed objectivity into an environment that can become insulated,” Thomajan said. “Independent directors also expect to receive equity grants along with their cash compensation. The amount and frequency of such grants also vary by the stage of the company. However, an early-stage company should expect to grant 0.1% to 0.25% of equity with a vesting period of two to three years. Additional annual grants are also expected.