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The CEO Looks in the Mirror
A bi-weekly column with timely, relevant and possibly irreverent insight into the BC technology industry.

Something Ventured:
August 30th, 2002


By Brent Holliday
Greenstone Venture Partners

 

“If you ain't part of the game,

Then how can you find a solution,
Nobody said that it would be fair…

And once you dig in,
You'll find you'll have yourself a good time” – Lenny Kravitz, Dig In

So you want to be a CEO, huh?  You want to run a company.  Seems like the good old days of having the company lend you millions of dollars to buy shares of the Company, rare art and $19,000 shower curtains for your third home are all but over, pal.  These guys at Enron, Tyco, Worldcom and Global Crossing have ruined it for the rest of us.  There is a bulls-eye pattern on CEO suit jackets these days as the furor mounts over public company executive compensation and chummy Boards of Directors that look the other way.

Under this intense scrutiny, the concept of what is a CEO and what is it, exactly, that they are supposed to do every day needs to be explored.  And of course I want to bring this down to a realistic level and talk about the start-up.  After all, not many of my readers are flying around in corporate jets and have fat seven figure severance packages.  Except for you, Darren.

Here is what it means to be a CEO of an incorporated company in Canada (and the U.S.): You serve at the behest of the Board of Directors (they can hire and fire your ass), and your every act has to be in the best interest of your shareholders.  All of them.  Every one of them.  To make matters more complicated, you also have to look out for your employees at all times (because not all employees are shareholders and they have some basic protection under the law).

There are explicit corporate laws to guide a CEO that are true for every incorporated company.  They are the basic guidelines for behaviour. (Here it is for BC, The Company Act http://www.qp.gov.bc.ca/statreg/stat/C/, the much maligned Employment Standards Act http://www.qp.gov.bc.ca/statreg/stat/E/, and for good measure, read up on the Securities Act to understand the laws around investment in your company http://www.qp.gov.bc.ca/statreg/stat/S/)  

If you are a CEO or want to be a CEO, you had better understand those laws.  If you don’t understand them, then be prepared to check every action that you take with a lawyer that does understand them.  But that can get expensive.  Some familiarity will help you save money and time.

Here’s another way to think about this.  As a CEO, you are like Jean Chretien in the Liberal Party (your company).  The card holding Liberals in Canada are your shareholders. You must act in their best interest all the time. The rest of Canadians are your employees.  The law says that you need to look out for them, too, but your real interest is in what the shareholders think.  The Board is the Liberal caucus. They have the ability to force you out.  If you put up a fight, they can ask the Liberal party members to have a shareholder vote and turf you.  The employees (the rest of Canada), thought that they elected you to the position, but in the end have very little power to remove you.

Hey, it’s not a perfect analogy… but you get the point.  A company is like a democracy and there are checks and balances to make sure that the CEO does not try to run a dictatorship. Sort of.

Going way back to the start of the start-up, a very common mistake made is that one person is given the title of CEO, the founders split up the share pie on a napkin and then the company starts to build its product and go to market.  Not much thinking goes into who the CEO needs to report to and what the goals are.  Corporate record keeping, board meetings and annual general meetings are not done and someone cooks up a couple of fake meeting records to satisfy the government.  No one signs an employment contract.  The Articles of the Company and shareholder’s agreement are from a $13.95 kit found at the 7-11.  Does any of this ring a bell? 

If you are lucky enough to get a sophisticated investor out of the gate, or someone experienced in starting and running a company properly OR if, God forbid, you actually spent a couple of thousand dollars with a lawyer, you will get your corporate house in order a lot faster and save tons of headaches down the road.

But back to the CEO for a second.  Without a proper Board (at least 33% independent outsiders… read 1 out of 3 members of your first Board at start-up), the CEO is running recklessly.  With a Board made up of the three founders and Uncle Pete, every decision made by the Board will be full of conflict and subject to intense scrutiny in the event of a shareholder lawsuit.  Boards are supposed to approve things like share issuances, changes to the rules of the company (articles, shareholder’s agreement), financings, loans in and out of the company, wind-up matters and hiring/firing of key management.  Remember that the CEO makes the recommendations to the Board.  It’s all cozy, isn’t it?  Except that if you screw over a shareholder (other founder, investor or other holder of shares of any size) and they sue, they have the ability to expose every decision made (remember those pesky laws I talked about earlier?).  And if the decisions made weren’t in the best interest of the shareholders… you fry.  And even if you don’t fry, you spend countless hours with lawyers and you are not building your company.  Disgruntled shareholders are not good for business.

{In the end, if you have a moral compass that doesn’t always point north, then nothing I say here will make you be a responsible CEO.  Lord knows there are few of you morally challenged folks that will always look for a way to screw the shareholders.  If you are good at what you do, then you probably know all the laws anyway, because you are adept at skirting them.  So you can stop reading now and get back to your scheming.}

Far too many inexperienced CEOs fly by the seat of their pants and have no clue what is expected by them under the law.  Venture capitalists, bankers and other sophisticated investors will find “hair” in your deal with incomplete records and shoddy governance.  In the diligence process, they will find out about any shady or ill-conceived transactions.  They will walk away from things that can’t be un-done or force you to change them as part of the transaction. Actually, they will get you to sign reps and warranties that say that you haven’t done anything wacky even if they do not find it as part of the diligence.  And once invested, they demand proper record keeping and active Boards.  They understand the way a company works and what can and cannot be done according to the law.  So they add new rules (by the bucketload) to guide a CEO in the form of amendments to Company documents.  While many of these terms seem onerous, they have all been developed according to bad previous experiences in companies and, for the most part, these new rules make firmer guidelines for management.  Think of it as narrowing the path that the CEO walks, taking away any chance at waywardness.

I have seen good people with good products not get funded due to bad advice or no advice in the early stages of company formation.  I have seen amazingly smart people do incredibly unusual transactions that make it very tough to invest (I mean, why raise the bar and make it harder to get investment?).  Here’s a tip if you intend to grow your company through investment: don’t do debt deals with angel investors, friends, co-founders or family.  Let them buy shares, according to the aforementioned laws.  Debt gets messy in the early stages when you have no ability to pay people back from cash generated from the business.  It is totally unrealistic to think that the next investor will pay the debt of the previous investor.  Nu-uh.

{If you intend to keep the number of shareholders in your company small (like less than 5) and not attract investors at all and you have read all the way to this point, well, you don’t need to listen to me.  Sorry about the waste of time.  Go have your Board approve some fat dividends to your few shareholders and extract gobs of money from your cash generating business.  Good for you.  Be a dictator.  See if I care.}

For the rest of you thinking of going public, attracting investors and having many shareholders, get your house in order now.  Think like a bigger company and act as a proper CEO, keeping your shareholders happy.  Otherwise you will get bitten down the road, especially as this new economic world gets more and more focused on proper company governance.  You want sweetheart deals from your enterprise, go run a proprietorship.  It’s much cleaner that way.  But a CEO carries responsibility like an albatross around the neck.  Don’t forget that.


What Do You Think? Talk Back To Brent Holliday

 



Something Ventured
is a bi-weekly column designed to supplement the T-Net British Columbia web site with some timely, relevant and possibly irreverent insight into the industry. I hope to share some of the perspective and trends that I see in my role as a VC. The column is always followed by feedback (if its positive or constructive. I'll keep the flames to myself, thanks).

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