Forgive me but This post is likely to be a bit of a rant.
I got a call with a founder I recommend this morning. He’s out to raise money, and he received a terms paper from an investor (awesome!), but the investor suggested that the founder and co-founder not take a salary. The investor argued that the founders were “working for the stock,” and that his investment should not have gone to the founding team.
This, ladies and gentlemen, is utter nonsense. Now, if this was an isolated incident, I might write it off as an ignorant investor. And as the fundraising climate shifts, I’m hearing more investors suggest things like, “To extend your runway, you should collect from us, but don’t pay yourself.”
This is literally why you are raising money
The whole point of fundraising is to speed up and reduce your company risk in stages. In the pre-establishment stage, there are a lot of risks because a lot of things are unknown: Will the product work? Can you find clients? Will they pay for the product? And so on and so on.
However, there is another danger for the company: in an early stage startup, the founders cannot afford to lose focus. I must have a big red button on my desk that makes God’s voice shout “Focus!” In startup founders I would recommend. This is the first challenge for most startups.
It makes sense: Opportunities are everywhere, and entrepreneurial people are, well, entrepreneurial. It makes sense that they tend to keep their options as open as possible for as long as possible.
But you know what is one of the biggest distractions? Not being able to afford the next mortgage, rent, car payments, or Huel shipment. As a founder, it is your duty to focus on building the startup so that it is as successful as it can be as quickly as possible.
As an investor in these startups, he for you Duty to help the startup reach this point in the shortest possible time. Telling the founders not to get paid backfires wonderfully on many levels.
One caveat: This does not mean that founders have to pay themselves well above market rates. However, it’s also not helpful if you’re an experienced developer and you’re getting calls from Facebook recruiters offering you a $250,000 salary. On a good day, it’s easy to say no, but guess what? The life of a businessman is hard and there will be many not so good days. On some of those days, throwing in the towel and taking a paycheck can seem so tempting.
Pay yourself what you need and make it enough so you find it easy to say, “Well, I could make more at Facebook, but I’m working on something I believe in here.” In other words: If your market rate is $250,000 a year and you can make your money work by paying yourself $150,000, pay yourself that much and set some milestones that will allow you to pay your salary closer to your market rate. If those milestones are related to revenue or other financial goals, even better.
Try this for size: “I’m raising $3 million now, and as soon as the funding closes, I’ll pay myself a salary of $130,000. Once we hit $300,000 three months in a row, I’ll pay myself a $30,000 bonus and raise my salary to $150,000 per year.” Once we reach $1 million for three consecutive months, I will pay myself a $50,000 bonus and raise my salary to $250,000 annually.”
Here are four more reasons to tell the investor to roll out their term paper as thinly as possible and archive it deep in a filing cabinet that never sees light.
You are not working for equity – you are giving up equity
Investors trying to tell you that you’re working for stocks are being pretty rude.
Yes, as a founder, you have the advantage of giving ownership rights in the company. But when you founded the company, you and your co-founders were, by definition, 100% owned. This percentage of ownership usually only goes in one direction as your company develops. When you raise financing, you issue more equity and dilute yourself.