A ray of hope in a time of political gridlock

The day that the 114th U.S. Congress departed for their summer break, they left behind pending bills to fight the Zika virus, restrict firearms to anyone on the terrorist watch list and a toxic legislative atmosphere worse than one year ago, if that could even be possible.

But on that same day a Senate Committee hearing took place that went against the raw partisanship displayed during the legislative session that could have positive implications for the long-term economic health of the American economy.

The Senate Small Business and Entrepreneurship Committee held a hearing to “examine current trends and strategies in the venture capital ecosystem…options that startup companies have to raise capital throughout different stages of business development” and steps that could be taken by government and the business community to make more investment capital available to startup businesses. Witnesses from leading venture capital firms that finance digital giants like Uber, Airbnb and biotech startups were invited to testify.

Decline in Business Startups in the US.  The background for this discussion is the US economy’s slow and uneven growth since the Great Recession of 2008. The number of business startups declined 2 % in the United States, according to research released this week by Babson College’s Global Entrepreneurship Monitor 2015 U.S. Report, which is discouraging since small businesses are viewed as primary sources of economic growth and job creation.

Another worrying trend is the growing percentage of investment capital that is going to fund high value startups and some valued at $1 billion or more, while funding for smaller high-growth startups has significantly declined.

Competitive pressures from globalization has also played a role. The rancorous debate on foreign trade during the the Presidential primaries has underscored the depth of public concern. Fears that technological innovations could result in the loss of scores of jobs to automation was another factor. According to one witness, a study conducted by Oxford University estimated that nearly half of American workers were at risk of losing their jobs to a machine. Both factors have become key issues in the 2016 US elections for President, the Congress and in states across the country.

Senators from both sides of the aisle spoke of the challenges facing entrepreneurs and startups in states like Michigan, North Dakota, Washington, and Colorado. While all senators would be happy to have the next Facebook open for business in their state, their focus was on local industries. For example, Senators Cory Gardner (R) of-Colorado and Heidi Heitkamp (D) of North Dakota discussed the difficulties that entrepreneurs have to get capital financing to start small high-growth businesses in agriculture, retail, product manufacturing and service industries in rural areas and in economically distressed regions of the United States.

Providing Incentives for Starting & Funding High-Value Small Businesses.   What happened next was extraordinary. There was no partisan skirmishing, only agreement that there is a problem. The lawmakers did not criticize the financial industry but asked the witnesses for ideas on what could be done to increase the availability of investment capital for small high-growth companies throughout the United States.

The witnesses responded with suggestions for revisions to the JOBS Act, which helps to make it easier for startups to raise equity, and to pass the HALO Act, which excludes startup accelerator’s demo days from federal laws on general solicitation requirements that are barriers between startups and angel investors. They also recommended modernizing federal, state and local regulations in order to provide incentives for entrepreneurs to start businesses and financial firms to provide them with investment capital.

They underscored the importance of taking steps to support the growth of innovation eco-systems nationwide, including encouraging STEM and startup business skills training for future entrepreneurs. Other recommendations included more government support for basic research to keep the United States a global leader in biotech and in other critical scientific areas and patent law reforms to reduce risks from “patent trolls”.

One recommendation that stood out was to have accessible retirement plans for self-employed persons. The fall of pension plans and the rise of the “gig economy” has placed a larger burden on workers to plan for retirement. Entrepreneurs will also retire someday and there are no guarantees that the high risk ventures they dedicate their lives to will be financially successful.

There was a real give-and-take conversation between the Committee and the witnesses. I recommend reading the written testimony for more details.

The Congress will reopen for business in early September. Some of the Committee members will be campaigning for reelection or supporting their party’s presidential candidate in one of the most divisive national elections in recent history.

Will the same bi-partisan atmosphere be there when the Committee reconvenes later this year to revisit these issues? I hope so. The country’s future could depend on it.

Corporate governance decisions that can’t wait

I was reminded of how important corporate governance is for start-up founders and small business owners after listening to a friend’s woes about the conflict between him and his grown siblings over their deceased parent’s estate.

They were the picture perfect family that you could imagine being invited to the U.S. White House for tea with the President and the First Family. All of the children were great students, superb athletes and had supportive parents who ran a very successful family business and were deeply involved in local community affairs. The parents and children were devoted to each other and had a large circle of friends.

The crack in the foundation was the lack of an updated will and estate plan that would provide a governance structure for the children to follow after the deaths of their parents. Their parent’s will had been drawn up when they were children and didn’t reflect any changes in their family’s asset. To further complicate matters, the parents didn’t speak with them about the will and estate planning before they died. The siblings assumed that their parents had updated both documents. This perfect family had a perfect mess on their hands.

A business, like a family, needs a governing system that is transparent and involves all key stakeholders in order to manage assets, plan, and make decisions as well as manage day-to-day operations. A 2013 PwC survey of business owners showed that smaller and medium sized businesses were less likely than larger businesses to address corporate governance issues. The examples of two companies that failed to address corporate governance issues detailed below should give anyone who thinks these issues can be put off a moment of pause.

Succession Planning Gone Awry

The highly public and bitter board level dispute for control of media magnate Sumner Redstone’s majority holdings in Viacom and CBS demonstrates the perils facing a company that procrastinates on succession planning. Mr. Redstone and his daughter Shari, who is vice chair of both companies, have gone to court to oust long-time Viacom CEO, Philippe Dauman and a Viacom board member from a seven-member trust that will have control of Redstone’s holdings after he dies or becomes incapacitated for health reasons.

Charges and counter charges are flying back and forth. The key issue that could decide the dispute is whether 93 year-old Sumner Redstone was mentally competent when he made the decision to sack his CEO and a Viacom board member from the trust. The dispute has divided the Redstone family, who are also senior shareholders. In the meantime, Viacom is a paying a big price for this board level conflict. Its share price has been dropping and long-time key executives that have been instrumental in making Viacom a media giant are leaving.

The lack of a succession plan for when Sumner Redstone steps down or is forced out by health issues or death is at the heart of this destructive dispute. Redstone himself has been the single most important barrier. He has had on-and-off relationships with members of the family who were seen as heirs apparent, including daughter Shari and son Brent who left after major disagreements with his father. Redstone was a mentor and personally close to Viacom CEO Dauman until he recently changed his mind and aligned with Shari to force Dauman out. Redstone’s stubborn resistance to stepping back from a leadership role is not new. In 1986, Redstone told the Boston Magazine that he planned to run the company until the day he dies. Thirty years later Redstone still appears to have this goal. Whether the courts or mortality will intervene first to support or spoil Redstone’s plans will be seen. In the meantime, Viacom has a divided and distracted leadership. Not a good combination to have in the highly competitive media business.

Group Think in the Board Room Results in Bad Decisions

Big companies are not the only candidates for corporate governance failures. Smaller and medium size companies are just as susceptible. One of the most memorable in recent years is Fab.com, the once fast growing online retail site that offered limited numbers of highly sought after items at low prices, that encouraged impulse buying, or flash sales. The problem for Fab.com was not a lack of succession planning, but a board decision-making process that allowed group think to prevail without fully vetting a dissenting board member’s views on a major business decision on whether to expand globally. That mistake, according to Goldberg, ultimately led to the demise of the company.

Before this, Fab.com was on a roll. Sales were exploding, investment capital poured in and the company began a hiring spree and several acquisitions. The high water mark was when Fab.com’s valuation reached the $1 billion. But there was trouble ahead. Fab.com was still operating at a loss. Staying profitable in the online retail sector is extremely challenging with competitors like Amazon and new entrants popping up in the marketplace.

The bright outlook for Fab.com started to dim. Sales estimates were not being met while the costs for staff, warehouses and logistics to finance its expansion burnt through enormous amounts of cash. Investor started putting in less money over concerns about profitability and strategy. Key staff started to leave. A corporate restructuring and big lay-offs were not able to stem the flow of red ink. The one-time Unicorn was eventually sold off for $15 million.

The experiences of Fab.com and the ongoing drama at Viacom provides lessons learned on the importance of corporate governance to SMEs to becoming successful and sustainable businesses. These include:

Have independent voices on your board of directors or advisory board – Whether a publicly or privately held company, it is essential to have directors or advisors that have no commercial relationship with your company (related party transactions). Independent directors are less likely to be influenced on major decisions by self-interest or dissuaded from taking a dissenting view on board decisions. The Founder should not appoint clones of himself/herself that would hesitate to question proposals introduced by executive management, but appoint individuals that would thoroughly address all sides of a major decision, avoid group think and put the best interests of the company first (Founders/CEOs should use the same practice for hiring executive managers). Independent voices, and even those of the often annoying contrarians, are important to maintaining the integrity of the board decision-making process. Effective leadership teams in the boardroom or in the C suite are built on the basis of trust. Founders and CEOs have a responsibility for building an atmosphere of trust between them and their boards and executive management team. Without it, the path to success and sustainability is long if not impossible to achieve.

Refresh and diversify your board of directors or advisory board – Having intelligent, qualified and committed people who can offer fresh ideas is a critical asset for any company to manage risk and grow. Diversity is also important. Appointing women, ethnic minorities, and younger and older adults can offer a range of valuable perspectives. The criticism that more white males and fewer women and ethnic minorities are appointed to boards is undoubtedly valid. However, the qualifications for board membership should not be based solely on demographics, but on a person’s ability to think critically, be creative and possess the requisite financial and business skills. A perfectly diverse board of directors or advisory board that fails to challenge executive management and rubber stamps all of its proposals is a step backward.

Plan for the future – address leadership succession now – The time to start succession planning is when your company has a viable product, intellectual property, staff and investors, and growing sales. Your company has become more than a one or two-person operation and has a prospective future that must be protected against potential risks. The proverbial dilemma poised if a founder or controlling shareholder dies or is incapacitated must be planned for. Letting this possible scenario go unaddressed could result in an unwanted disruption and undermine confidence in the company held by investors and employees.

Hiring CEOs and pay compensation – Having a CEO that can effectively lead the company is essential to managing risk and being successful. Do you hire an external candidate or someone from the founder’s group? The answer is that it depends. The argument for an external candidate is that he/she would be more objective than a founder and focus on the best interests of the shareholders. Still, there are a number of founders that hold CEO positions and have superb leadership and management skills. Compensating a CEO and other key staff adequately and incentivizing them is another challenge. Finding the right candidate with a combination of skills, passion for the company and its products and strategic vision is perhaps a company’s most important corporate governance decision.

The last time I checked, my friend and his siblings were still battling in the courts. So are the disputants in the Viacom case. Fab.com is not the online powerhouse it once was. I am sure that today the main actors in those dramas are kicking themselves for not addressing the governance issues that could have prevented these unnecessary problems.