Reaction Wheel

Edit, 11/20/2023: If you like this post, it inspired a book co-written by me and Liz Zalman. You can find it here.

One of my portfolio companies raised a round a few months ago and I left their board. So, for the first time in a long time, I am not on any boards of directors. Since I no longer have anyone specific to offend, I have some advice.

You’re running your board in a way that will get you fired.

There’s so much founder advice written by investors out there that I try to avoid giving more. But in the case of boards of directors for VC-backed companies the advice is really skewed towards the positive, and while this is nicely optimistic, it doesn’t tell you what you need to know: boards are dangerous to you as the founder/CEO of your company.

Boards are necessary too, and if you want an excellent overview of boards of directors from people who want to tell you how constructive boards of directors are, read Feld and Ramsighani’s Startup Boards. In fact, you should definitely read it. It’s short, I’ll wait.

OK, you’re back. It’s a good book, right? The only problem I have with it is that there’s a part of it couched so politely I think you won’t take it seriously: chapter fourteen, CEO Transitions. Even calling it “transitions” downplays the subject. Transitions is a euphemism.

CEOs do transition out of the CEO spot, but this transitioning ranges from “convinced an unwilling board that I should go find and hire my own replacement” to “was told if I don’t resign I will be fired” to “escorted out of the building by security.” Transitions of the first kind are fine, but the others are far more common. I imagine you believe that the decision to stop being CEO of the company you started should be your decision, not someone else’s. But the fact is, it often isn’t. Often, it is the board of directors’ decision.

VCs will spout on about how they will help you if they sit on your board, and will tell tales of how much value they added sitting on other boards. True or not, it’s not why they are insisting they be on your board. THEY DO NOT SIT ON YOUR BOARD IN ORDER TO HELP YOU. Here, let me show you this is true. Let’s say you want some help from an investor who is not on the board. What do you do? You call them and they help you. When I invest in a company I tell the founder they can call me any time day or night, weekend or weekday. I may not really want to talk to them at 2am on a Saturday, but if they need me I will. It’s part of the job; it has nothing to do with being on the board.

The VCs are not on your board so they can help you, they can help you without being on the board. They are on your board for one reason: to monitor their investment so they can do something if things aren’t going how they want. Founders have many reasons they start companies, but investors really have only one reason they back them: to make money. That’s why they’re called investors. If someone gives you money based on the things you told them you were going to do, they are going to want to sit down with you every month or two to see if you are doing those things. If you have outside investors you must continually increase the value of their investment, that is the implicit deal you made when you took their money. A board of directors will help you keep your half of that bargain. That’s the reason they are on your board. This, by the way, is more than fair. If you take someone’s money then you, in some sense, work for them. And if you work for them you have to expect they will monitor you and give you feedback.

People argue that boards are for more than that, and there probably exist boards that are. But, anecdote aside, here’s long-time Harvard Business School professor Myles Mace in his book Directors: Myth and Reality:

The business literature describing the classical functions of boards of directors typically includes three important roles:
    a. establishing basic objectives, corporate strategies, and board policies;
    b. asking discerning questions;
    c. selecting the president.

I found that boards of directors of most large and medium-sized companies do not establish objectives, strategies, and policies however defined. These roles are performed by company management. Presidents and outside directors generally agreed that only management can and should have these responsibilities.

A second classical role assigned to boards of directors is that of asking discerning questions–inside and outside the board meetings. Again, it was found that directors do not, in fact, do this. Board meetings are not regarded as proper forums for discussions arising out of questions asked by board members.

A third classical role usually regarded as a responsibility of the board of directors is the selection of the president. Yet it was found that in most companies, directors do not in fact select the president, except in…crisis situations.

The phrase “crisis situations” is critical here. (Mace quote from Bob Tricker’s The Evolution of Corporate Governance, I don’t have Mace’s book.) Boards monitor the company until there is a crisis, and then they do something. But the power a board has is pretty limited. To act when things aren’t going the way they want, they basically have one powerful tool: they can fire you as CEO. The bylaws and whatnot may say different: they may say things like “the board must approve the annual budget,” etc. And I suppose if you don’t allow them to approve the annual budget and they are upset about it they could sue you. But, in practice, they are not going to bother suing you, they are just going to fire you.

Boards firing the CEO happens quite often, especially as a company gets larger and more valuable. As Feld and Ramsinghani point out, “by the time the ventures were three years old, 50% of the founders were no longer the CEO.” (p. 145.) Some firms, like Sequoia Capital, even trumpet their propensity to fire CEOs. The fact that early-stage founders continue to take their money has to be some sort of delusional grandiosity, in my humble opinion. “Well yes, they fire half the CEOs they back, but surely not me.”

Firing the CEO is indeed usually described in public as “transitioning” and the founder often gets to write a press release about how they replaced themselves with someone better suited to take the company to the next level or something like that. This is even sometimes true, though usually after the CEO has been pushed by the board. When this happens, when there is an orderly transition with the previous CEO helping bring in a new one, there can often be a good outcome. But when the CEO is fired, the outcome is usually quite bad. There’s probably some selection bias there, but there’s also the reality that the fired CEO hired most of the team, had many if not most of the important customer relationships, and was the person with the most intrinsic motivation in the first place. Any replacement CEO is almost certainly just a mercenary.

Add to this that if a new CEO is hired, they will probably want to be surrounded by their own people and may view the previous CEO’s lieutenants as suspect if the parting was acrimonious, so many of the existing management team will also go. This means a substantial new round of option grants, diluting the founders and early investors.

I view this all dimly and, as the substantial stockholder in the company you probably are, you should too.

But, as I said upfront, I have some advice. I will caveat this advice by saying that I have given this advice many, many times and most founders simply won’t take it. This is because they usually put people on their board right after those people have given their company millions of dollars. This is powerfully flattering and they view those new investors as their biggest fans.

When there’s real money at stake, even your biggest fans may reconsider. Here’s the advice.

First, and this isn’t part of the advice because it goes without saying, is don’t be an asshole. Don’t cheat, don’t steal, don’t lie, don’t treat people badly. It’s amazing the number of people who don’t get that treating people badly is wrong, turns them against you, and that others can see it; that business is based on trust; etc. The rest of the advice is for CEOs not doing bad stuff because if you’re doing bad stuff you should be fired.

1. Control the board by contract

This is, in practice, impossible. It doesn’t mean you shouldn’t try. When you negotiate your term sheet, make sure it lays out the board composition. If you can have the common shares control a majority of seats, do it. If you can control a majority minus one and appoint an independent—ie. two investors, two common seats, one independent—that’s second best.

But this is never airtight. First, over the course of rounds your new investors will generally want board seats and your previous investors will want to keep theirs. This sometimes means you accumulate more and more investor seats while the number of founder seats stays the same. (Somewhat offset by the fact that as your company raises more money at, presumably, higher valuations, the shares of early investors begin to economically resemble common shares, making the early investors your natural allies in some ways.)

Second, independents, even if chosen by common consent of the preferred and common, tend to side with the investors. This is mainly because they were often suggested by the investors in the first place and you accepted them because the investors could convince higher-powered people to join the board than you could. These people won’t always do what the investors tell them to do, but they usually will. It’s also true that the independents probably have more, and more complicated, commercial ties with the VCs than they ever will with you and disagreeing with the VCs may endanger that for them.

Third, in cases where common controls the board, investor directors can cajole the non-CEO common seats to vote against the CEO. This might be through enticements like promotions (“you’ll be the next CEO!”) or threats (to withhold future funding or whatever). It probably seems unlikely to you that the people you started the company with and spent innumerable hours building it with would turn against you, but I’ve seen it several times in my career. Sometimes it’s because the CEO didn’t treat their co-founders well, sometimes it’s because the co-founders believe the threats (they are usually either bluffs or actually non-sensical: my experience is that VCs can’t hold a grudge correctly); sometimes the co-founders really want to be the CEO for career or ego reasons (even though the investors usually don’t keep these promises: after taking out the CEO, the co-founders are usually next, partly because nobody can ever trust someone who stabbed a friend in the back, even the person who asked them to); and sometimes it is because the co-founders have actually become convinced that the CEO is holding the company back.

People find it hard to believe they will be betrayed (Why? Haven’t we all been betrayed by someone we thought cared for us, at one point or another?) but there’s a lot of money and ego at stake in a startup, and greed and pride will make some people do things you wouldn’t think they’d do.

Control the board by contract if you can, but don’t count on that working.

2. Be the hub of the board

You don’t really want your board members talking to each other without you. Board members have some responsibility for how the company is doing, but they have no way of fixing problems (except, as noted, by firing you.) If a board member voices an issue and you are in the conversation, you can talk about solutions. If a board member has a problem and the only other people in the conversation are other board members, the only fix they have is replacing you. You can’t prevent people from talking, of course, but you’re better off being proactive.

First, don’t give them reason to discuss you without you. Get them to discuss you with you. And do it one on one. You must have a personal relationship with each of your board members, not a group relationship. Take them to lunch or dinner or breakfast one at a time at least once between every board meeting (I have found eating with people to be the best way to break down barriers, YMMV.) Be open to criticism, actually listen to it, and do something about it. There will always be criticism, so better to get it straight. And if you are seen as someone who listens to it there will be much less desire to replace you. (Even if the criticism seems stupid or misguided: fact is, you may simply not notice something you’re doing is suboptimal, but in any case investors are usually enamored of their own advice and if you simply dismiss it they will become disgruntled.)

I’m going to stress, again, to do this one on one. There is a tendency in groups for people to start piling on.

If board members are going to be meeting outside the board meeting, be there. If some of them are flying into town the night before an 8am board meeting, don’t be too busy to go to dinner with them. Organize the dinner. Bring along a couple of your people who aren’t on the board. The point again is not to prevent the board members from talking, but to make sure that when they bring up problems you are there to listen to them, talk about ways to correct them, and promise action.

3. No surprises

There are two parts to this: do not surprise your board members, and do not invite your board members to surprise you.

Do not surprise your board members. This sounds obvious, but founders do it all the time. You probably have too. If you use the board meeting as a time to convey new and important information then you are surprising your board.

The board meeting is not the place to convey important information for the first time. First off, they need to hear important information quickly and board meetings are, at most, once a month. Second, responses to bad news can be all over the place. You don’t want board members over-reacting to bad news (or good news) in front of other board members. I’ll mention this again, because it’s a recurring theme: board members can sometimes reinforce each other in a downward spiral. They might not, but don’t take that chance. If you have news, tell your board members soon afterwards. Not immediately, perhaps—give yourself some time to come up with your messaging—but as soon as possible. And when you do, do it on the phone and one board member at a time. Tell them the news, tell them what you think the company should do about it, and then listen to what they have to say. Especially if they begin ranting or yelling, listen to them. Let them get it out of their system. Better they yell at you than they yell in the board meeting. But also listen to the content of what they are saying. If they are angry, recognize this as a form of emphasis on their part; do not let yourself get angry in return (unless you need to reprimand them for an inappropriate attack.) If they have suggestions try to make them constructive and do something with them. Follow up on these with the person who suggested them before the next board meeting.

In the board meeting you will present the exact same information, but all the board members will have heard it already. You will present your plan to deal with it, as informed by the comments of the board members you previously heard (and you will give them credit, they love being recognized in front of their peers for “adding value.”) You do not need to mention to the board that you contacted each of them and pre-told them the information they are hearing again for the second time. They will each feel like your special confidant. They will also see the other board members reacting calmly to the news and start to think that perhaps you actually have it under control. This will calm them down in the future.

There is a chance that a board member will go off script and start complaining in the board meeting even if they did not in the pre-call. This is erratic behavior and while you can’t do much besides mitigate it in the meeting itself, you need to pull that member aside after the meeting and find out just what the hell is wrong with them. Calling you out in the meeting without warning is inherently aggressive, suggesting there must be some other problem they have with you.

Do not invite your board members to surprise you. If you ask open-ended questions or initiate free-form discussions, you are asking to be surprised. You think you’re just opening the floor for advice from some very smart and talented people. It seems enlightened. It is a mistake. Yes, you may get some valuable advice and feedback, but you could have gotten this outside the board meeting in your one-on-ones. Inviting them to freestyle in the meeting has the possibility of starting a downward spiral: one board member says something you should have done or should do and the others start to chip in until it becomes a pile-on.

As an aside, asking for operating advice from VCs is generally dumb anyway. They’re VCs, not operators. If you want advice on what your company has to look like to be considered valuable, ask the VCs. If you want advice on how to actually do that, you will get plenty of advice that probably has very little applicability. Many VCs were operators once, of course, but the half-life of that knowledge is shorter than you think. As a rule of thumb, VCs probably have decent operating advice for about half the time they were operators. That is, if they were the CEO of a company for ten years before becoming a VC, then they probably have decent advice for about five years after they become VCs. (And remember, a good operator makes a lot more money than a good VC; if they had the knowledge and nerve to run a company, they would run a company.)

The advice here is pretty basic: nothing happens in your board meeting. Your board meeting is scripted. The board members should have seen the information presented before the meeting (and not just because you sent the deck—half of them won’t read it beforehand—you must talk to them.) And you should know beforehand how each board member will react to the information presented. If there are decisions to be made, you already know how each board member will decide, because you told them about the decision to be made and they told you what they will decide. No surprises.

4. Do not make your board members think in the board meeting

Just to reiterate. Board members show up at meetings to monitor their investment and decide if they still want you to be CEO. Take charge of these two things, do not let them take charge of them. Present them with the information they need to know: that the company is doing the things that will make it quickly increase in value. If the company is not correctly doing these things, present them with the bad news but couple it with the actions you are taking to fix the problem. If you present them with a problem you do not have a solution to, they will start to think about solutions for you. These solutions will probably be ones you considered at length and ended up rejecting and you will have to walk them through this process, sounding obstinate. Or, if they can’t think of a solution, they will begin to believe that they should probably have a CEO who can think of solutions.

Present the problem, present the course of action you are recommending, perhaps present some appealing but wrong solutions and tell them why they are suboptimal (this has the added benefit of giving them the illusion that they are helping because they can discuss these few potential solutions and their pluses and minuses.) Of course, you have already told them all this on the phone, one by one, so you know how they will react. They will want to talk anyway, because part of the meeting is them performing for each other, but, again, no surprises.

5. Lean on your first board members

This sounds a little self-serving but, whatever: your first investor board members will probably be very early stage investors. People who invest very early stage for a living have a different viewpoint. They know there is no company without the founders, the founders are 100% of the value of the company. They also know they need to convince the later-stage VC firms to invest if they want to ever make money. This means they want you to succeed and they want you to impress the later stage investors once they join the board. The earliest board members are not going to fire you because they know they can’t replace you. If you’ve ever tried to pitch someone on being CEO of a small and underfunded startup, you know no sane person wants that job. No offense.

In your first several board meetings, when it is just you and your co-founder and your first investor, ignore my above advice and be frank. Ask: what do you need to see in these decks? What are the KPIs we need to present to show you that we are headed in the right direction? What information do you not need, that are just vanity metrics? What other management do you think should be in these meetings and for how long? Have we surprised you in any way in the meeting, good or bad? Etc. That is, have the early investor train you in what a board meeting should look and sound like. A later-stage investor once told me, after a board meeting “I like investing in a company you’ve been on the board of, the meetings always go much more smoothly.” That’s right, my friend, because I spent the last year training the founders not to make you turn your brain on in meetings. Things do go much more smoothly that way.

All this may sound cynical or manipulative. It probably also sounds like a lot of work. It is all of these. But it is also obviously true. I worked for some of the world’s largest companies before I chucked it for startups and while I never sat in on the board meeting of those companies I sometimes helped prepare for them and often heard the blow-by-blow afterwards. The CEOs of these companies did all of these things as a matter of course, even though their boards were basically hand-picked by themselves and had no real skin in the game. The chance that their board would fire them was almost non-existent, yet they managed their boards to even further minimize it. They did this because they had a lot at stake and because they were professionals. You, as a founder, probably have even more at stake, so you should also treat your board professionally. Don’t court disaster with every board meeting because you have fallen for the VC cant of the “value added board.” There is no value added board. There are no value added board members. There are value added people. Some of them are your investors and board members. Definitely talk to those people. But remember that their role as board member is not to add value to you, but to add value to the company, which is a different thing. Do not confuse the person with the board member.