Dr. Earl R. Smith II

Dr. Earl R. Smith II
Managing Partner, The Federal Circle
DrSmith@Dr-Smith.com
Dr-Smith.com

Some of my engagements are with start-up and middle market companies that are experiencing very high growth rates. These companies face a challenge in recruiting high-quality directors. The combination of risk (the exposure of board service is much higher these days) and limits on the types of compensation available, make the search particularly challenging. Such companies are generally limited in their options. The most logical alternative is equity as compensation.

Although the responsibilities of directors have remained the same, much more prudence and diligence is required from directors who face increased scrutiny and access to information at the click of a mouse. Directors need to have the latest inside information on the companies they sit in governance over and understand the latest trends developing in their industry.

Stockholders still expect the same thing. They expect directors to act to enhance the share value of the company. Stockholders expect directors to effectively address social issues while still maintaining profit margins. High growth industries such as technology companies need a governance structure with a balance between directors with experience in corporate finance of a fast growing company and directors with technical expertise related to the company’s business.

With expectations of directors so high, companies often find it difficult to find qualified directors. The function of supply and demand has driven up the cost to companies attempting to attract highly qualified directors. This cost is particularly burdensome to companies during their rapid initial growth phase. Many fast growing companies with limited cash resources elect to offer directors equity in the company as a large part of their compensation. Two factors limit the possibilities:

• Cash flow – cash is a scarce resource in a rapidly growing company
• Leveraged returns – investment of available cash in areas that are supporting continued growth is a priority

Many companies choose to compensate directors with stock or stock options. Stock options do not affect reported earnings and when directors elect to exercise their options, it increases the company’s cash reserves. The company and other large stockholders also see stock options as a tool that aligns director’s interest with the interest of large stockholders. Directors with a strong belief in the company and its products also like the stock option compensation packages. Because options are normally granted at fair market value, directors can leverage their cost and earn a substantial return if the stock rapidly appreciates in value.

Directors are normally reimbursed for normal expenses associated with meeting attendance. Companies will also often reimburse directors for expenses associated with attendance at leadership development seminars on behalf of the company. Leadership development is a paramount issue for companies in the fast growing phase of the business life cycle. Professional governance by highly qualified leaders and advisors can make the difference between a company running out of cash or achieving stock appreciation. Directors willing to forgo some or all cash compensation in favor of the opportunity to serve on a high growth company’s board can often reap great financial rewards, but the pressure and demands placed on directors in leading such a company are tremendous.

Boards responsibilities for a high growth technology company include the following:

• Corporate finance: ensure adequate lines of credit to sustain operations
• Product development: ensuring product testing and appropriate marketing budgets and campaigns are developed
• Corporate image: Directors must be savvy about the technology or product being developed and be seen as leading a cutting edge company
• Corporate logistics: Directors must locate areas for manufacturing the product with highly skilled and sustainable workforce capable of delivering quality high tech products to the market-place

Companies with large shareholders willing to grant stock options to directors with skills needed to grow a high tech company from small product development stage to full-scale manufacturing will often find dedicated, diligent directors with the leadership skills to serve on the company’s board of directors. Stock options and other equity compensation tools can be a great way to compensate skilled directors without cutting cash flow requirements a high growth company must have to sustain operations.

If your company is facing these challenges and you want to know more about possible solutions, send me an e-mail and we will arrange a time to talk.

© Dr. Earl R. Smith II

Related Articles:

• Good Governance – Board Member Selection Criteria
• Good Governance – Keeping Ahead of Fast Company
• Successful Board Assessment Models
• Governance By Visionaries
• Governance for Growth
• Corporate Talent – Coaching and Retaining the Best
• Board of Directors – Major Legal and Moral Responsibilities

Dr. Smith is Managing Partner of The Federal Circle. The Federal Circle partners with teams and existing companies. We help them up their game and win big in the Federal space. We also arrange funding for acquisitions and expansion by acquisition. Our model is based on the belief that, if you select the very best and work with them in a highly professional and focused manner, the results will be truly amazing. He is the author of Amazing Pace: Turbo-charged Business Development – a book that shows how Advisory Boards can dramatically increase revenue. Dr. Smith is also the author of Dream Walk: Parables for the Living – a book of Raven Tales and exploration.

This entry was posted on Thursday, November 13th, 2008 at 10:59 AM and is filed under Governance. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.