As capital pours into promising ventures, interest in the governance of start-ups is rapidly rising. Start-up boards are being formed earlier and more directors with a big-business background want to join them.
But are directors of large listed companies suited to start-ups? Are skills gleaned from billion-dollar companies applicable to emerging ventures yet to turn a profit? Could directors who lack experience in start-ups damage the business by joining its board?
These are important governance questions as Australia strives for a new era of innovation, commercialisation and entrepreneurship. The role of boards in this transformation deserves debate. Good governance helps start-ups build solid foundations; but applying big-company governance to start-ups can crush their nimbleness and creativity.
David Kirk, the former All Blacks rugby captain, is well positioned to comment on differences between large-company and growth-stage governance (companies past the start-up phase, with revenues of $2-$10 million). Kirk is the former CEO of Fairfax Media and chairs the ASX-listed Trade Me Group and Kathmandu Holdings.
Kirk is also co-founder and partner of Bailador Technology Investments, the high-performing Listed Investment Company that joined ASX through a 2014 Initial Public Offering. Bailador has examined hundreds of technology companies since its listing and invested in nine growth-stage companies.
Kirk is a director of four of them and Bailador helps more established technology companies in its portfolio implement and maintain strong governance systems. That gives Kirk an unusual mix of large- and small-company board roles.
He says Bailador is receiving more interest from directors with a big-company background to join tech company boards. “We’ve had a number of enquiries from directors who put themselves forward to join the boards of companies we invest in. Often, they are people who want to invest in early-stage companies and take a seat on the board. It’s a good trend that investors are showing more interest in the governance of earlier-stage companies.”
Kirk warns that directors with a big-company background are not always suited to start-up or growth-stage boards. Governing fast-growth ventures that are typically more volatile and have founders with less general business experience requires specific board skills.
The Governance Leadership Centre asked Kirk about the challenges of start-up and growth-stage boards and how directors who are more familiar with large company boards can make the transition to emerging-company governance.
Here is an edited extract of the interview:
GLC: Are directors who have had a career in large companies suited to start-up and growth-stage boards?
DK: Some are, but directors who are not experienced with start-ups or growth-stage companies may not be ideal for their boards. In my experience, directors who have only ever worked on the boards of large companies tend to be more process driven and compliance focused. They are very conscious of not overstepping their boundary into management and that is appropriate.
The role of a start-up board is much more about helping management grow the business. Directors tend to be more hands-on and a lot more product and customer focused than when governing a large company.
GLC: What skills do effective directors of start-up or growth-stage companies tend to possess?
DK: Effective directors are problem solvers. They are used to working with management teams to find solutions to complex, fast-moving problems. The best directors are very good at helping management find people to join the company, have strong professional and personal networks and understand the ecosystem in which the start-up operates.
GLC: How different is the board’s relationship with management in a start-up or growth-stage company compared with that in a larger company?
DK: The lines between the board and management are often typically more blurred compared with relationships in larger, and especially public, companies. Also, founders of start-ups often do not have strong general business experience; many want to spend their time creating products and solving customer needs, rather than get bogged down in running the business. A good board can help the founder scale the business and build the foundations for sustainable growth.
Knowing when and how to develop the management team is critical. One of the most important judgements a start-up or growth-stage board makes is to determine when the company is outgrowing its existing management. Often the board needs to add to the founding management team and replace team members as the company gets bigger and more complex.
I’ve often thought that technology investing, in particular, is essentially about people management. You need the right people to take advantage of the technology and market opportunity.
GLC: Do you need to have worked in the start-up’s industry to govern it effectively?
DK: Not necessarily. Generalist directors who might have, say, an accounting or legal background, can still provide great value to start-ups, provided they are interested in the business and prepared to learn very quickly. You don’t need deep experience in early-stage investing, but you need to understand the nuances of how fast growth companies typically operate.
GLC: What are some of the nuances that directors should be aware of?
DK: Start-ups and growth-stage companies that are capitalising a lot of development costs can have positive earnings, but be burning through their cash. Good directors get very good at understanding cash flow and cash margins on new sales in early-stage companies. Metrics such as sales-force productivity are critical in assessing the company’s current and future cash flow requirements.
The capital structure can be more complicated in start-ups and growth stage companies than in larger companies. There could be several layers of equity, including convertible preference shares or notes, and venture debt. Start-up directors must understand how the equity and/or debt are structured and how that could change as a company achieves its milestones.
Solvency is another complex issue for start-up boards. Directors need to know what key shareholders are thinking and whether they are prepared to invest more in the company if more capital is needed to support continued growth. The board needs to keep a very close eye on the start-up’s solvency, plan for different scenarios, and ensure the business does not get itself into a position where it risks insolvency.
Another issue is the sustainability of growth. Plenty of start-ups have died because they grew too quickly. Good start-up boards ensure the company is financed for rapid growth and there is a margin for error.
GLC: Should directors of start-ups and growth –stage companies invest in the company and have more “skin in the game”.
DK: Bailador encourages it. Directors who put their own money to work in a start-up or growth-stage company have a stronger incentive for the business to work. The potential of sharing in the upside can be very motivating for directors to get involved and help management.
GLC: Does being on the board of a start-up or growth-stage company help directors in their board roles on larger companies?
DK: Absolutely. There’s a lot you can take from an earlier stage company back to a large-company board. For example, a director who is on the board of a large listed retailer would have much to gain from being on the board of an earlier stage disruptive private retailer (in a different market).
You get to know the company’s industry ecosystem better when you are on an earlier stage company because you are closer to its products and customers. Successful start-ups are very networked and highly connected to their industry. They know their competitors very well, which businesses provide complementary products, and have relationships with lots of people in their space.
In my experience, directors of corporations sometimes do not really know what’s happening in the market because they are too far removed from the company's ecosystem. Directors can gain a lot of industry knowledge from governing a start-up or growth stage company.
GLC: What do you like most about governing growth-stage companies?
DK: I’ve always been interested in building companies. I was a growth manager and demonstrated that in my corporate career. I enjoyed my time working in larger companies, but found the higher up you got, the more removed you became from customers and products. As CEO of a public company, you spend a lot of time dealing with analysts, fund managers, the board and other important constituents, and managing other people, all of which is entirely appropriate.
But I love the thrill of working with growth-stage companies that are identifying opportunities, creating and selling new products, and building big businesses. As a growth-stage company director, you feel much closer to the action and that you are making a bigger contribution to helping the business achieve its goals.