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The Credit Card DebateYes, plenty of entrepreneurs use plastic to get their businesses started, but most see it as a temporary solution, not a long-term strategy by Karen E. Klein People thinking about starting up their own companies are nearly always on the receiving end of some stern advice: Don’t use credit cards to fund your business. But the truth is that most entrepreneurs do rely on plastic in the early—and sometimes later—stages of forming their business. A March, 2007, survey done by the National Association of the Self-Employed (NASE) showed credit cards were second in popularity only to savings as the preferred method of startup funding and ongoing funding for micro-business owners—those with 10 or fewer employees. When asked what they used for funding, 58% of the 469 survey respondents said “savings,” and 10% said “credit cards” for startup; 36% said “savings,” and 21% said “credit cards” for ongoing operations funding. The other choices, including money from friends and family, and bank or home equity loans, came in lower on the list of possible responses to both questions. Of course, there’s a valid reason would-be entrepreneurs are warned against putting their startup funding on credit cards. “The worst thing in the world is to have your business fail and be stuck personally with $50,000 in debt at 21% interest,” says Joe Knight, a co-author of the book Financial Intelligence (Harvard Business School Press, 2005). Credit Can Be a Good CushionThe good news is that with some restraint and wisdom, credit cards can function as part of a sensible startup funding package. “When entrepreneurs take those first trembling steps, most have to take them alone. Credit can help them do that. And it can help them bridge the gap when they know that orders or sales are coming in, or a private investor is going to come through,” says George Whitehead, business development director for the National Endowment for Science, Technology, and the Arts, a public-private partnership that invests in early-stage companies in Britain. “All kinds of unexpected things happen to small businesses. Credit can act as a cushion.” But it’s a cushion that should be used sparingly and with caution, says Gene Fairbrother, president of Dallas’s MBA Consulting and lead small business consultant for the NASE. “It’s real easy to pull out that plastic. If you’re going to do it, you need to know what maximum level of debt you feel comfortable with and stop there. It’s like going to Las Vegas: You need to decide how much you can afford to lose before you start gambling. Otherwise, things can easily get away from you.” Don’t make the mistake of thinking you can rack up debt on a business credit card and then walk away from it if your business venture doesn’t work out, Fairbrother says. “Even though you get a credit card with your business name on it, make no mistake that you will personally guarantee that debt. It’s like getting a bank loan: Your personal assets are going to be on the line if you’re a startup entrepreneur.” U.S. bankruptcy reform legislation passed in 2005 also makes it more difficult to retire debt from a failed venture, he notes. What the Experts Are SayingSo how can an entrepreneur use credit cards successfully to get a company off the ground? Here are some expert suggestions: • “A year prior to your starting a company, gather every credit card offer that comes your way, so you have a lot of credit pre-approved and accessible to tap into,” says Janice Machala, founder of business and financial services firm Paladin Partners, of Kirkland, Wash. “It’s much easier to get a credit card with high limits when you have a paying corporate job and look more stable.” Research card agreements and get the best deal possible. “We get calls all the time from people whose interest rate went from 9% to 18% because they were two days late on a payment,” Fairbrother says. “Some companies even go into your credit report and if your score is lower than a certain amount they can take your rate from 12% to 32%.” If you read the fine print and compare agreements, you can find the lowest rates and most favorable terms. “Google ‘credit-card rates’ and you’ll find a gazillion Web sites that match up credit cards based on their annual fees, interest rates, and other parameters, he says. • Check your credit report annually and request your FICO score at least twice a year. “This is the most important determining factor in your ability to get loans, credit cards, and financing,” Fairbrother says. Look for ways to improve your score, and you’ll be able to get better credit-card deals. • If you plan to “float the note”—juggle your debt using credit cards with short introductory periods of no interest or low interest—you’ll need to set up a spreadsheet and track your expenses meticulously. “If you use good cash planning, and you’re careful to pay cards off at the right times, this can work. One guy I know juggled $50,000 for nine months nearly interest-free, and by then his company was on its feet,” Knight says. In order to be successful, you have to know exactly when the initial interest rates go up, and how large a cash advance you can get on what card. Some card companies charge fees or points for cash advances, which means you may need to start putting expenses on a new card before the current card you’re using raises its rate, Knight says, rather than plan to pay off one card with a big chunk of money from a new card. • Don’t leave your day job and expect to live on credit cards until your business breaks even. “Some people use credit because they’ve quit their jobs to live the dream. But a lot of them have jumped too quickly without fully understanding what they’re stepping into,” Whitehead says. “Look into whether you can work a half-time job while you’re building up your business, gaining market understanding, and writing a business plan (BusinessWeek.com, 1/7/08). That way, you’re not stopping that lifeblood of income coming in too quickly.” • If you are starting a company with a partner or two, make sure each of you takes on an equal share of credit-card debt. “Sit down and strategize about who’s going to guarantee each card. If you don’t share responsibilities, time, burden, and personal guarantees with your partners, you’re asking for a big dispute eventually,” Knight says. • Manage your risk and go into your venture with eyes wide open. The sad truth is that early-stage businesses are quite likely to fail. “If you and your family are really going to be hurt if you lose that money, then you shouldn’t invest it,” Whitehead says. “This rule applies to angel investors as well as entrepreneurs. The horrible dilemma for an entrepreneur is deciding when to take a risk and when to quit.” Talk to your family and establish some parameters before you start racking up risky, high-interest debt. • Be careful not to make so many credit-card applications that you’ll be hurt later. “If you are going to go for a bank loan at some point in the future, you have to keep your FICO score reasonably high. If you make too many credit-card applications, that can lower your score,” Fairbrother says. • Use Knight’s “double-half rule” in your financial planning: Getting to return-on-investment in your business will take twice as long as you think, and you’ll bring in half as much revenue as you’ve projected. • Think of credit cards as a temporary solution, not a long-term strategy. “Consider the other sources of funding available, and consider them far earlier than you think you need to,” Whitehead advises. “The reason a lot of people rely too heavily on credit cards and find themselves in this desperate state of overstretching is because they underestimate the lead time they’ll need to close a sale or an investment deal or get a loan application completed and cash in the bank.” Start looking at more sophisticated sources of funding, such as bank loans or private investors (BusinessWeek.com, 3/12/07), from day one of your business. “It will take longer than you think to make that next step—probably six months or more,” he says. Karen E. Klein is a Los Angeles-based writer who covers entrepreneurship and small-business issues.

Developing Early Stage Companies

Corporate Governance                                                                

Contrasting Board s of Directors and Advisory Boards

September 2008                                              

Introductory comments

1.       A CEO should sit on one outside Board of Directors or Advisory Board to get first-hand insight about what her Board will expect of her.

2.       Development-stage companies should start with an Advisory Board

a.       Six-month to one- year commitments

b.      Advisory Board composition can churn a bit

c.       Staggered terms-of-office to create expectation of controlled turnover

d.      Identify multi-term candidates early during their first period of service

e.      Logistics:  A long drive or out of town demands may hurt attendance and continuity

f.        Advisory Boards allow you to delay seating a regular Board of Directors under you can attract great long-term candidates or raise institutional capital

g.       Institutional capital will control Board of Directors composition – consider having one or two independent Advisory Board member carryovers for continuity and influence

h.      Modest stock option positions for outside advisory board members is appropriate - generous option acceleration provisions alleviate concern about abbreviated tenure

i.         Personal investment from Advisory Board members is a double-edged sword

j.        Advisory Board members provide access to functional expertise before the second generation, fully staffed, highly scalable management team can be built

k.       CEOs make great Advisory Board and Board members – they know the feel of the wheel and the pressure of the office

l.         Advisory Board members are not leadership coaches or psycho-therapists – using them in that way can compromise their independence

m.    Be wary of friends and family having positions of influence – they can compromise independence and candor

n.      Advisory Board members can train the CEO for the real thing

o.      Advisory Board members will help potential investors perform due diligence and address concerns about the early-stage management team, and turn staffing issues into proactive leadership development action plans

p.      Advisory Board members have limited, if any, fiduciary responsibility, and generally won’t require D&O insurance

q.      Give Advisory Board members modest assignments (e.g., Introductions to investors or potential hires; Review of the marketing plan before it’s sent to the rest of the Advisory Board members) 

3.       Board of Directors composition

a.       Smaller is better early on - Five is better, seven is maximum

b.      Limit visitation rights for non-Board members – it dilutes influence from those who have actual responsibility

c.       Board of Directors composition should be more stable - institutional knowledge and memory makes a difference - (“We tried that before and this is what we learned.” or “We’ve been talking about that for quite a while, so let’s get to it.”)

d.      Baseline composition - Company CEO, one or two financiers, two outside CEOs / CXOs (marketing, technology)

e.      In later stages, add a financial expert to serve as audit committee chair

f.        Independent Board members tend to elevate the conversation from numbers to strategies

g.       The only management representative on the Board of Directors should be the CEO – it’s not a staff meeting

h.      Identify a couple of years in advance the ideal composition of the Board of Directors and move deliberately toward seating that group

i.         Building a Board is a collaborative process; beware of forced compromise and undue influence.  Starting the process with agreed criteria enhances the integrity and control of the selection process

4.       Select Advisory Board members and Directors rigorously

a.       Network actively to identify uniquely qualified candidates

b.      Create a compelling pitch, like you’re raising capital – two, 10 and 30 minute  version

c.       Criteria for membership is similar to executive selection criteria and might include:         

                                                               i.      Leadership,

                                                             ii.      Management,

                                                            iii.      Scalability,

                                                           iv.      Industry expertise,

                                                             v.      Cultural fit - temperament, candor, empathy,

                                                           vi.      Functional expertise,

                                                          vii.      Potential for making introductions,

                                                        viii.      Ability to persuade recruits, potential investors and business partners

d.      Be wary of opportunistic appointments; you want people who are willing to work

e.      Don’t overestimate the value of pedigree or profile

f.        Selection criteria should include what’s-in-it-for-them

5.       Meetings and conversations - Administration of Advisory Board and Board of Director interface

a.       Send draft slides at least five calendar days before meetings

b.      Meeting Part 1 – Management Session

c.       Meeting Part 2 – Executive Session (Board members only).  Create two-part meeting structure before you need it.  You will need it.

d.      Transparency rule number one - open access between Management and Board members

e.      Transparency rule number two – no out-of-band communication without CEO prior knowledge and post-conversation debriefing to avoid a runaway condition or loss of trust

I love the Seattle startup scene. I think we have a really

unique culture that makes us a special place to build

companies. Part of it is the natural beauty of our surroundings

but part of it is the culture of our people.

Seattle’s a terrific place to recruit people to. We have wonderful

recreation, a great economy, many choices for types of lifestyle.

Are we affordable? Some would say “not so much.” But in fact

given the salaries of high tech workers and the wealth that’s been

created from so many successful startups, we are probably not too

bad from an ability to live well perspective.

Seattle has a wonderfully collegial startup environment. It isn’t “I win,

he loses.” It’s “If you win, that’s good for all of us.” People are willing

to share their experiences for how they did something or learned a

lesson on something not to do.

I’ve been working with two founders on a stealth company that we’re

not ready to share with the world quite yet. However, we have been

bringing many serial entrepreneurs into the fold to show them what we’re

doing and to get feedback on the idea, technology, business model. It’s

been a wonderful experience as these very busy people (many of them are

out getting funding for their own company right now or deep in product

development cycles or with pressures of VCs to answer to over revenue

commitments…) have been so giving and willing to see the product, offer

advice, and make introductions. And with no expectation of what they

might get out of it.

I think why we’re unique is our sheer collective joy and enthusiasm for company

founding and in working together to make our state a world class startup

culture. I hear this reiterated from serial entrepreneurs I have met here who have

moved via acquisition or lifestyle choice from Atlanta, Boston, San Diego, Texas, and

Silicon Valley. They all share how open we have been to them and their endeavors.

What does this mean? Use the community to recruit cofounders and exec team members

and employees. Use fellow CEOs for introductions to angels and VCs. Find companies who

might have similar customers and get them to endorse your technology or introduce you

to the decision makers you need to reach. One CEO had his VP Sales sit down with a client

of ours and lay out their sales pipeline and current customers and brainstorm what would

be the ideal beta sites to have him help my client recruit. What gold there was in that

conversation and door opening. He just wanted to see another company behind him get

further up the curve faster than he did.

Maybe it’s all the coffee shops and gathering spots we have. Maybe it’s free WiFi at

Tully’s. Maybe it’s a better work life balance culture that supports civic mindedness

and doesn’t yell “what’s in it for me.” All I know is that I am grateful to be part of this

tremendously vibrant startup community.

Many founders of technology companies are technologists and not sales ormarketing people. If this is you then you should take a course or a program on strategic sales. Why? Because pretty much everything you do in running a company is about selling. And most of you are not naturally good at this. First, you raise money for your company. What’s this? It’s about selling equity in your dream. You have to talk to a LOT of people to get one person to invest.You have to actually ask for the order. This means closing someone by asking them to write you a check. This is really hard to do. Most founders forget to ask people to write the check-they have to be asked, they don’t naturally do it.  At first it might not seem that hard because you talk to people you know. But once you start meeting with angels and VCs it becomes a lot harder and you hear NO a lot, or worse you hearing nothing back after the meeting. Once you have money you will hire people. What’s this about? It’s about selling potential employees on your dream. It’s about making your company more compelling than Amazon or Google or Microsoft (name any big company that’sgoing to pay people more than you can afford to pay them). It’s also a marketing event as how potential employees view your company creates buzz in town about how good (or bad) you are.  Then you have press and analysts to sell so they write good things about you.Then you have to get initial customers and who better to get those customers than the founder who has unwavering belief in what their company’s about. Once you start selling then you raise more money and then you do more press and then you hire more people and meet with bigger and more customers. See, most everything you as the founder do is about selling. Get good at it!

Entrepreneurship is something so exhilarating to see in action.

Entrepreneurs are in a class by themselves as it relates to positive

outlook, optimism, and enthusiasm. Every entrepreneur believes

what they’re doing will change the world or at least make some

lives better. Everything is possible for an entrepreneur and that

makes me think anything is possible too! When I come away after

meeting an entrepreneur with a new idea or product I too feel

invigorated and like anything is possible.

Entrepreneurship is all about tomorrow and what’s possible.

It makes you feel as if the world can be made a better place

and that the world will be changed and improved. That always

is a message of hope and optimism. New companies are the

future and the growth of our country-more new jobs come from

small businesses than any other sector of our economy. That is

worth supporting in any fashion possible, even it is means giving

an hour to an entrepreneur with a new idea when you don’t

have the time to do so. Who knows who the next Google or

Facebook or MySpace founder will be?

Entrepreneurs want to tell the world about what they’re doing

and why it’s the best idea ever. The best ones also want to hear

why the idea isn’t maybe as good as it could be and will listen

to constructive feedback. However, they’re still passionate and

unwavering in their belief of their idea and won’t let obstacles

get in the way or let naysayers stop them from achieving their

goals. Where others see roadblocks they see bumps

in the road to hop over. That’s why I love entrepreneurs. It is

all possibility and not letting anyone get them down. It’s so

hopeful and exciting and worth being part of in some way.

We meet/talk with a lot of entrepreneurs who are raising money.

In these conversations, in the executive summaries and

investor PPTs there is often missing a breakdown on use of

investor funds. It is important for an investor to understand

exactly how you will be spending their money. Are you going

to scale a sales force? Is the capital to build release 1.0 of your

product? Is it for marketing and company launch? What is the

breakdown of headcount versus other spending?

What we suggest is to focus on milestones and what can be

accomplished for each round of money that’s being raised.

Show investors what your operating plan looks like for each

functional area of the company. They will be more comfortable

if they see what your plans are for each quarter of a fiscal year

and how you’re measuring each area of the company: development,

sales, marketing, bus dev, G&A. If there’s an assumption of what you

can accomplish if you raise $1M show that. If there’s another set of

milestones you can accomplish with $2M then show the incremental

between $1M and 2M. If you only end up raising $500K instead of

$1M what would that look like?

Milestones are also helpful in assessing how the business is progressing

and can focus your discussions with your board. If you find that your

milestones are not reasonable then remap what is achievable based on

what you learn along the way. Good information that materially changes

your operating plan is to be expected and investors will appreciate that

you’re building a “learning organization.”

We meet/talk with a lot of entrepreneurs who are raising money.

In these conversations, in the executive summaries and

investor PPTs there is often missing a breakdown on use of

investor funds. It is important for an investor to understand

exactly how you will be spending their money. Are you going

to scale a sales force? Is the capital to build release 1.0 of your

product? Is it for marketing and company launch? What is the

breakdown of headcount versus other spending?

What we suggest is to focus on milestones and what can be

accomplished for each round of money that’s being raised.

Show investors what your operating plan looks like for each

functional area of the company. They will be more comfortable

if they see what your plans are for each quarter of a fiscal year

and how you’re measuring each area of the company: development,

sales, marketing, bus dev, G&A. If there’s an assumption of what you

can accomplish if you raise $1M show that. If there’s another set of

milestones you can accomplish with $2M then show the incremental

between $1M and 2M. If you only end up raising $500K instead of

$1M what would that look like?

Milestones are also helpful in assessing how the business is progressing

and can focus your discussions with your board. If you find that your

milestones are not reasonable then remap what is achievable based on

what you learn along the way. Good information that materially changes

your operating plan is to be expected and investors will appreciate that

you’re building a “learning organization.”