Building and growing a successful start-up in a skeptical/pessimistic market happens not by following a definitive strategy, but by carefully considering key issues, Companies can take certain steps to improve their chances of success by considering the following:
Calibrate Equity Compensation: Companies in a skeptical market will face massive pressure to operate the business effectively. To do so, they must align human capital with business milestones. Compensation packages for early employees in start-ups are typically weighted heavily toward equity, and equity awards are generally set up to vest monthly over four years, with a “cliff” vest during the first year (for more on vesting see Why is Vesting Important for Founders and 5 Important Considerations for Founder Vesting Schedules). Over time, companies will typically supplement initial equity awards with incremental refresher equity grants for continued service. However, with the trend toward companies staying private longer, and with the markets for talent and secondary stock sales becoming increasingly liquid (more on the secondary stock sales below), companies need to examine carefully whether this conventional formula should be adjusted as well. For example, companies may determine that equity grants with vesting schedules longer in duration or tied to significant performance goals may establish better incentives for achieving key corporate milestones. These adjustments may also help companies minimize the dilutive effect of hiring mistakes that inevitably occur when companies are forced to scramble and adapt to unfavorable market conditions.
Implement Stock Transfer Restrictions: Privately held companies in pessimistic markets cannot afford to deal with the distraction of secondary stock sales; sales of stock by employees or existing investors to third-party buyers. Markets and buyers for secondary sales of private company securities have proliferated over the last several years. This may be good news for early employees, but bad news for companies trying to focus on executing against their operating plan. A wave of secondary sales by founders or early employees can be interpreted by potential new investors or partners as a very negative signal. Companies can and should guard against this risk by setting up their corporate governance documents at inception to provide that any secondary stock sale requires prior approval of the company. Such requirements will help keep all stakeholders focused on growing the business and driving long-term shareholder value creation.
Identify the Right Metrics: Companies that withstand challenging market environments and ultimately succeed in executing upon their vision are generally able to do so because they successfully identify metrics for the business that enable company managers to determine when certain things are working (or not), and then address them accordingly. Over time, these metrics evolve — great companies iterate on their business metrics. Critically, the metrics should tie to the real goals of the company because at a basic level, metrics are incentives and the management team will ultimately focus on them obsessively, to the exclusion of other goals.
No company can guarantee success in a skeptical market, but planning for investors’ concerns and incentivizing the right employee behaviors can help turn skeptics into believers.
