Based on 2008 HBR Article from Noam Wasserman “The Founder’s Dilemma”. Summarized and adapted by Menno van Dijk, of ScaleUpNation.
Successful CEO-cum-founders are a very rare breed. Most founders surrendered management control long before their companies went public. (Based on the research in the US) by the time the ventures were three years old, 50% of founders were no longer the CEO. In year four, only 40% were still in the corner office. Fewer than 25% led their companies’ initial public offerings.
Four out of five entrepreneurs are forced to step down from the CEO’s post. Most are shocked when investors insist that they relinquish control, and are pushed out of office in ways they don’t like and well before they want to abdicate. The change in leadership can be particularly damaging when employees loyal to the founder oppose it. In fact, the manner in which founders tackle their leadership transition often makes or breaks young enterprises.
Start-up phase: Founder’s vision and drive
At the start, the enterprise is only an idea in the mind of its founder, who possesses all the insights about the opportunity and about who the potential customers are. He has the ideas about the innovative product, service, or business model that will capitalize on that opportunity.
The founder hires people to build the business according to that vision and develops close relationships with those first employees. It’s the founder who creates the organizational culture, an extension of his or her style, personality, and preferences.
From the get-go, employees, customers, and business partners identify start-ups with their founders, who take great pride in their founder-cum-CEO status. New ventures are usually labors of love for entrepreneurs, and they become emotionally attached to them. Founders refer to the business as “my baby” and use similar parenting language without even noticing. Their attachment is evident in the relatively low salaries they pay themselves.
Scaling coincides with sharing control
Founders realize that their own financial resources aren’t enough to enable their ventures to capitalize fully on the opportunities before them. They convince others to invest in their company. Outside directors will join the company’s board.
As they raise resources in order to capitalize on the opportunities before them, their company might become much more valuable, and the value of their share would soar. But as a consequence, they will have to give up equity, so share control over major decisions.
Even if the company can be fully bootstrapped, sharing control can make sense. The reason is that scaling is a team effort. A team of three or more co-founders sharing the control of the enterprise significantly increases the chance of scale-up success. Successful scale-ups allow employees to share in the equity and adhere to inclusive decision making. Having a Board does help a company to scale.
Scale-up phase: Growing Pains
The first major task in any new venture is the development of its product or service. But when the founders celebrate the shipping of the first products, they’re marking the end of an era. At this point, leaders face a different set of business challenges:
- Strategic Leaps: The founder needs to make smart bets in terms of new product introduction, additional market expansion and internationalization.
- Operational Flywheel: The founder has to build a company capable of producing, marketing and selling large volumes of the product, as well as providing after-sales service.
- Organizational Flow State: The organization has to become more structured. The CEO has to create formal processes, develop specialized roles, and, yes, institute a managerial hierarchy. The venture’s finances become more complex, and the CEO needs to depend on finance executives and accountants.
The dramatic broadening of the skills that the CEO needs at this stage stretches most founders’ abilities beyond their limits. Some venture capitalists invest in a startup only when they’re confident the founder has the skills to lead it during the scale-up phase.
Pass on the baton or up your game
In the scale-up phase, the board demands a CEO who:
- is capable of managing the other executives
- has deep knowledge of the functions the venture has to create
- and has experience in instituting the new processes to knit together the company’s activities.
The board’s task is straight-forward if the founder underperforms as CEO.
Some scale-ups have founders that are already experienced – credible scale-up CEOs. In other cases, founders who want to be CEO for a longer time need to quickly learn new skills. Boards can coach their CEOs to develop and apply these new skills while the company is scaling. If they do, founders can become accomplished enough to maintain control.
Even if the need for change is clear to the board, it isn’t clear to the founder, because the founder’s emotional strengths become liabilities at this stage. Used to being the heart and soul of their ventures, founders find it hard to accept lesser roles, and their resistance triggers traumatic leadership transitions within young companies.
Keeping Founders on Board
Ideally, a board should keep the founder involved after he is no longer the CEO.
After all, you can replace an executive, but you can’t replace a founder. And the unique skills demonstrated to envision the opportunity and achieve product/market fit during the startup phase, are still highly relevant during the scale-up phase.
Many times, keeping the founder on board is easier said than done. Founders can act, sometimes unconsciously, as negative forces. They can resist the changes suggested by new CEOs. But also, those who have now gained control – co-founders, employees, investors, board members – can misuse this for selfish objectives or have misplaced confidence in own capabilities and judgment. The founder can leave deeply disappointed, feeling his legacy being squandered. Sharing and relinquishing control is a courageous act. The responsibility is also on the receiving end to recognize this and maintain appropriate balance and restraint.
Studies of technology start-ups and high growth firms in the US show that about a third of founder-CEOs leave their companies when a professional CEO comes in. About half move to the board of directors (often as chairman). The remainder take a position below the CEO.
Boards can sometimes help founders find new roles. When a founder has an affinity for a particular functional area, such as engineering, the board can offer them the opportunity of focusing on that area and letting the new CEO “take on all the things you don’t like to do.” The more concrete value the new CEO adds, the easier it will be for the founder to accept the transition.
Entrepreneurs need to come to grips with what success means to them. Founders who understand that their goal is to achieve something larger than themselves in terms of impact, value creation, and organizational size, will not view themselves as failures when they step down from the top job, as long as these goals are being achieved. Founders must, as the old Chinese proverb says, “decide on three things at the start: the rules of the game, the stakes, and the quitting time.”
At ScaleUpNation, we believe that scaling is a “dark art” that needs to be understood. Most existing literature is not scientifically tested or generally applicable. The ScaleUpLab is here to change that.