Founders' Dilemmas

Even when armed with the most promising business idea, founders inevitably face a number of challenges from the moment they begin to consider whether or not to form a new company. Wasserman argued that founders must confront a number of “founders’ dilemmas” (see table below) that require difficult decisions with respect to relationships, roles and rewards and must also honestly assess their own goals and motivations for launching the company and make sure that the choices they make along the way remain aligned with those goals.[1]  Based on extensive research into decisions made by founders at the earliest stages of their new ventures Wasserman came up with the following observations and recommendations to guide founders through the process of deciding whether to launch a startup, forming a founding group, allocating duties and responsibilities, establishing reward systems and bringing on the human resources and investors necessary to stabilize and grow the business:

• The first question for a prospective founder is whether or not it’s the right time in his or her career to launch a startup. The founder needs to be sure that he or she has the necessary passion and experience and that the market is ready to be receptive to the proposed product or service.
• In addition to passion the founder needs to critically evaluate whether he or she has the requisite human, social and financial capital to successfully launch the business without the help of others. In order to “go it alone” a founder must be confident that he or she has expertise in multiple business and technical areas, sufficient capital to get through the start-up stage and strong connections in the relevant marketplace.  If any of these elements are lacking it may be necessary to seek out co-founders who can fill in the gaps.
• When looking for additional founders make a conscious effort to achieve diversity in terms of background, age, experience and network connections. This not only broadens the collective skills set of the founding group it reduces the risk that the founders will run into conflicts when setting their roles and responsibilities.  Wasserman cautioned against turning to family and close friends, even if they have the right skills and share the same passion for the ideas and business model, and noted that research confirmed that mixing business with family and friendship too often led to conflict, tension and bad outcomes for both the company and the relationships.
• Make sure that each of the members of the founding team are clear about expectations with regard to their roles, responsibilities and contributions and make sure there is an “exit plan” in place that clearly lays out the process for the departure of any of the founders before a problems arises. It is difficult to talk about “breaking up” before a relationship has really begun; however, the founders need to do it, preferably with input from experienced and independent outside advisors who can raise all the questions that the founders may be reluctant to ask.
• Once the founding team has been formed the next step is to assign roles and responsibilities. While the founders may have roughly equivalent equity stakes in the new company and share similar passions about the projected products and services one of them will need to take on the role of chief executive officer, or “CEO”.  Wasserman recommended that the best candidate is the founder who is most invested in the start-up and notes that this may not necessarily be the founder who came up with the original idea upon which the start-up is based.
• An effort should be made to create a clear division of labor among the members of the founding group so that all required activities are managed and overlap is reduced. Proper and clear differentiation of tasks facilitates accountability; however, Wasserman warned about inflexibility in assigning and changing roles and counseled that the founders need to strike the proper balance between division of labor on the one hand and tapping into the creativity that comes from collective work and collaboration.  Wasserman also cautioned about handing out titles among members of the founding group and it is important for all titles to be accompanied by a clear statement of duties and authority and expectations about how the holder of that title will interact and collaborate with the holders of other titles.
• Selecting a CEO and assigning each of the founders one or more primary areas of responsibility are part of a larger process of developing a decision-making process among the founding team and the founders need to decide which issues will require debate among all of the founders and how those debates will ultimately be resolved. Wasserman noted that founding teams take a variety of approaches: some choose egalitarian systems in which each of the founders has an equal say and a unanimous vote is required and others prefer a more hierarchical approach.  Regardless of which method is used it is important for everyone to understand it in advance and to make sure that managers and employees outside of the founding group are aware of how the founders make their decisions.  Even if egalitarianism is not the rule the founders are well advised to communicate closely about decisions, seek inputs from all of the founders and make sure that all of the founders are aware of the substance of important decisions.
• Even though a decision-making process is in place the founders need to anticipate the possibility of conflicts which if not addressed may ultimately threaten the viability of the entire venture. For example, even though the founders have agreed that all of them will be heard on every key issue one of the founders may begin to feel frustrated and alienated if decisions continue to go against him or her.  Similarly, a founder given a title that implies primacy in a particular functional area, such as marketing, may feel that the other founders are encroaching into his or her domain.  The founders need to have a plan for settling these fundamental disputes, often seeking support and guidance on substance and process from trusted outside advisors who are independent of the founders, and should also continuously assess responsibilities in key areas such as product development, sales, marketing and finance.
• Wasserman recommended that the founders should address the touchy subject of rewards, including the allocation of equity, after they have thoroughly discussed the various issues described above with regard to relationships and roles and everyone has a better idea of how committed each founder will be to the venture and the relative value of each founder’s projected contribution to the new business. Wasserman noted that one of the most common problems among founder teams is an initial allocation of equal equity shares among all the members only to find out later that one or more of the founders is unable or unwilling to carry his or her weight or that his or her contribution is simply not as valuable as what is being provided by the other founders.
• Founders have different appetites and expectations regarding the rewards associated with their involvement with a start-up and those need to be considered. Some founders are more interested in money and seeing the value of their equity stake increased as quickly as possible while others are more concerned about retaining control over the direction of the business and making sure that their voices are heard when decisions are being made.  All of this should be taken into account when allocating equity and assigning rights to the equity interests.
• Founders were encouraged to include vesting provisions in the agreements covering the allocation of equity interests and Wasserman noted that vesting should not be construed as an indication of mistrust but simply as a convenient and realistic tool for making sure that expectations are met and that the founders have an objective means for dealing with unanticipated events such as an egregious failure to perform, a good faith dispute among the founders, the unexpected departure of one of the founders due to illness or death or the demands of outside investors for changes in the leadership group.
• When establishing the reward systems and equity allocations among the founders consideration also needs to be given to what may be needed in the future to fill in gaps in skills of the members of the founding team and build out the business. If the founders know that large blocks of stock will be needed to bring in a more experienced CEO and/or build out a product development team this should be taken into account from the very beginning.  In addition, the founders should anticipate dilution by equity that will be sold to outside investors.

The observations and recommendations above pertain mostly to the pre-founding stage and the process of building and organizing a founding team; however, Wasserman noted that founders need to consider the steps that will have to be taken to find and attract skills and resources that the founding group does not have and which will be needed to grow the business.  The first set of dilemmas beyond the founding group were referred to as “hiring dilemmas” and included questions about what types of people should be recruited and hired to assist the founders and how those persons should be managed during the challenging and turbulent immediately following the launch of a new business.  Specific issues include establishing the duties and responsibilities of new hires and selecting the most effective way to compensate them in light of the risks involved.  A second set of dilemmas will become relevant when the founders need to approach investors to provide capital beyond the financial resources that the founders are themselves able and willing to contribute to the new venture.  Different types of investors will be available at various stages of the development of the company and each of them will have their own demands regarding their equity stake in the company and their ability to exert control over the actions of the founders.

Wasserman argued that it is extremely important for each founder to come to grips with what motivates him or her in taking on the rigors of starting up a new business and investing all the time and effort that will be needed in order to make it successful.  According to Wasserman, the two main types of motivation for founders are “control” and “wealth”.  Founders who are primarily motivated by control can be expected to proceed more slowly and cautiously in allowing outsiders to become involved with the company as co-founders, investors or employees and will seek to guard their ability to maintain control at each stage of the process of developing new products and services, expanding human resources and tapping into outside capital.  On the other hand, wealth-motivated founders are more open to any reasonable strategy for increasing the value of their ownership stake in the company and thus are more likely to aggressively pursue venture capital even at the risk of losing control of the board of directors and support bringing on experienced talent from outside of the original founder group who can accelerate the growth of the company even if that means that the founder’s own equity stake will be diluted.

This post is part of the Sustainable Entrepreneurship Project’s extensive materials on  Entrepreneurship.

[1] The discussion of Wasserman’s observations and recommendations in this section is based on material appearing in N. Wasserman, The Founder’s Dilemmas: Anticipating and Avoiding the Pitfalls That Can Sink a Startup (Princeton, NJ: Princeton University Press, 2012).